By Jim Wolf
WASHINGTON, Oct 8 (Reuters) - U.S. telecommunications operators should not do business with China's top telecom gear makers because potential Chinese state influence on the companies poses a security threat, the U.S. House of Representatives Intelligence Committee said in a report on Monday.
The report follows an 11-month investigation by the committee into Huawei Technologies Co Ltd and ZTE Corp . The companies have been fighting an uphill battle to overcome U.S. lawmakers' suspicions and expand in the United States after becoming key players in the worldwide market.
The House Intelligence Committee's concerns are bound to set back the companies' U.S. prospects and may also lead to strains in ties between the United States and China, the world's two biggest economies.
Committee Chairman Rogers, at a press conference to release the report, said the panel was stopping short of urging a U.S. boycott of mobile phones and other handheld devices made by Huawei and ZTE.
The panel's warning pertains only to devices that involve processing of data on a large scale, Rogers said in reply to a question.
Employee-owned Huawei is the world's second-biggest maker of routers, switches and other telecommunications equipment after Sweden's Ericsson . ZTE ranks fifth.
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The committee warning comes as Huawei considers a possible initial public offering, sources said, as part of an effort to overcome suspicions that have all but blocked its U.S. efforts, including business tie-ins.
Huawei spokesman William Plummer rejected the committee's allegations in a statement emailed to Reuters.
"Baseless suggestions otherwise or purporting that Huawei is somehow uniquely vulnerable to cyber mischief ignore technical and commercial realities, recklessly threaten American jobs and innovation, do nothing to protect national security, and should be exposed as dangerous political distractions from legitimate public-private initiatives to address what are global and industry-wide cyber challenges," he said.
For its part, ZTE released a copy of a letter it sent to the committee last month, stating it "profoundly disagrees" with allegations that it is directed or controlled by the Chinese government.
"ZTE should not be a focus of this investigation to the exclusion of the much larger Western vendors," it said.
ZTE's Hong Kong-listed shares fell as much as 3.4 percent early on Monday.
It was not immediately clear whether the committee warning would curb mobile phone sales that Huawei and ZTE do with customers such as Verizon and Sprint .
The panel's report faulted both companies for failing to fully satisfy the committee's requests for documents to allay its security concerns, including detailed information about formal relationships or regulatory interaction with Chinese authorities.
U.S. companies weighing purchases from Huawei should "find another vendor if you care about your intellectual property; if you care about your consumers' privacy and you care about the national security of the United States of America," Rogers said in comments broadcast Sunday night on the CBS News program "60 Minutes."
The panel said it had received credible allegations from unnamed current and former Huawei employees suggesting Huawei may be guilty of bribery and corruption, discriminatory behavior and copyright infringement.
Such allegations will be referred to the Justice Department and Department of Homeland Security for investigation, the panel said.
"U.S. network providers and system developers are strongly encouraged to seek other vendors for their projects," it said.
It cited what it called long-term security risks supposedly linked with the companies' equipment and services. It did not provide any hard evidence to back up its concerns, at least not in the unclassified version of the report.
A classified annex provides "significantly more information adding to the committee's concerns," the report said. "The information cannot be shared publicly without risking U.S. national security."
Based on classified and unclassified information, Huawei and ZTE, which are both based in Shenzhen, China, "cannot be trusted to be free of foreign state influence and thus pose a security threat to the United States and to our systems," it said.
Huawei and ZTE are rapidly becoming "dominant global players" in the telecommunications market, the report said. It noted that telecoms are intertwined with computerized controls for electric power grids; banking and finance systems; gas, oil and water systems and rail and shipping.
ZTE's US telecom infrastructure equipment sales last year were less than $30 million.
In contrast, two of the larger Western vendors alone had combined U.S. sales that topped $14 billion, ZTE told the committee, an apparent reference to Espoo, Finland-based Nokia Siemens Networks NOKI.UL and Paris-based Alcatel Lucent .
"It seems self-evident that the universe of companies examined by the Committee is so small as to omit most of the equipment actually employed in the U.S. telecom infrastructure system," ZTE said in a Sept. 25 letter to the panel.
"MEANS, OPPORTUNITY, MOTIVE"
Huawei and ZTE may not be the only companies that present a risk to U.S. infrastructure, the committee's report said, but they are the two largest Chinese-founded, Chinese-owned companies seeking to market critical network equipment in the United States. Beijing has the "means, opportunity and motive" to use them to its own ends, it added.
Top executives of both told a committee hearing on Sept. 13 that their companies would never bow to a hypothetical Chinese government effort to exploit their products for espionage, saying such a move would be corporate suicide.
"Huawei has not and will not jeopardize our global commercial success nor the integrity of our customers' networks for any third party, government or otherwise," senior vice president Charles Ding testified at the time.
The committee is calling on an interagency government group that reviews national security implications of foreign investments to block acquisitions, takeovers or mergers involving Huawei and ZTE.
In addition, it said Congress should give thorough consideration to legislation seeking to expand the role of the interagency group, known as the Committee on Foreign Investments in the United States, to include purchasing agreements.
U.S. intelligence officials have publicly denounced China as the world's most active perpetrator of economic espionage against the United States.
Huawei has marketed its network equipment in the United States since last year. It has sold to a range of small- to medium-sized carriers nationwide, particularly in rural areas. It has marketed mobile phones through a broader range of U.S. carriers for the last four years.
(Reporting By Jim Wolf; editing by John Wallace)
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Keywords: USA CHINA/HUAWEI ZTE