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Optical/IP

3Com Taps Huawei in Enterprise Battle

3Com Corp. (Nasdaq: COMS) is on its way back into the enterprise networking business -- and it's done so with an interesting and significant twist. After the market closed on Wednesday, it announced a joint venture with Chinese networking powerhouse Huawei Technologies Co. Ltd. (see 3Com, Huawei Form Joint Venture).

The news is significant because Huawei is a dominant player in Asia and is in the midst of a legal dust-up with Cisco Systems Inc. in Texas. Huawei is currently being sued by Cisco for allegedly stealing intellectual property and infringing Cisco patents (see Has Huawei Got Cisco's Number? and Cisco/Huawei Brawl Begins). Huawei has already pulled some of these products out of the U.S. market.

For $160 million in cash, 3Com will have access to Huawei’s enterprise networking business assets, including LAN switches, routers, engineering, sales/marketing resources and personnel, and licenses to its related IP. The name of the joint venture will be 3Com-Huawei in English and Huawei-3Com in Chinese.

Under the terms of the deal, 3Com will have the right to sell Huawei IP switches and routers under the 3Com brand name everywhere in the world except China and Japan, where the products will be sold under the name of the joint venture. In China and Japan, the joint venture will sell both the former Huawei networking product line, as well as the existing 3Com product line based on an OEM agreement between the joint venture and 3Com.

Huawei clearly is a leader in China, a market that Bruce Claflin, CEO of 3Com says the company is looking to address aggressively. Huawei also offers a wide array of Layers 2 and 3 IP switches from the wiring closet to the core. Last year the company generated $2.7 billion in revenue, most of that business done in China.

“One of the most exciting things about this is the potential for success in China,” said Claflin on 3Com’s quarterly conference call tonight. “China is the most attractive market in the world and will continue to grow rapidly in the coming years.”

Commenting on the giant elephant in the room -- Cisco -- 3Com tried to downplay the role of the lawsuit. But clearly, partnering with Huawei in the midst of the legal battle is not likely to charm Cisco executives.

“We are aware of the Cisco lawsuit, and we have seen first-hand Huawei’s intellectual property and source code,” said Claflin. “We are confident that the products shipped from the joint venture will be unique and will respect other company’s intellectual property. All our practices when we put product out, we will do with complete confidence with respect to IP.”

3Com has also been rumored lately to be shopping for a Layer 3 switch company in the U.S. While Claflin stated that there was nothing in the Huawei deal that precludes the company from future mergers and acquisitions activities, Steve Rust, director of corporate development, intimated during an interview after the call that an acquisition wouldn't happen any time soon.

“In the near term, we will have our hands full,” said Rust. “But down the road we will use resources and tools to add to the product line either through R&D within 3Com, R&D in the joint venture, or through partnerships or acquisitions.”

Claflin has been named chairman of the board of directors in the joint venture, and Ren Zhengfei, president and CEO of Huawei, has been appointed chief executive officer. Huawei will own 51 percent and 3Com will hold a 49 percent ownership in the joint venture. In two years 3Com will have the option to take over majority control of 51 percent.

While analysts don't expect 3Com to become the dominant player in the enterprise switch and router market, the partnership will disrupt competition in these markets. In the short term, companies like Enterasys Networks Inc. (NYSE: ETS), Extreme Networks Inc. (Nasdaq: EXTR), and Foundry Networks Inc. (Nasdaq: FDRY) will likely be hit the hardest.

"As a supplier of both routing and switching, 3Com should be uniquely positioned as one of the few vendors for customers seeking an alternative to Cisco," says Erik Suppiger, an analyst with Pacific Growth Equities Inc. in a research note published this morning.

Analysts don't expect Cisco to be immediately affected by 3Com's reentrance into the enterprise switching and routing market. But in the long run, 3Com's access to low-cost engineering through the joint venture will allow it to significantly undercut Cisco in pricing, which could impinge on Cisco's high margins, says Mark Sue, an analyst with CE Unterberg Towbin.

"The ongoing lawsuit with Huawei, and now this partnership with 3Com, are likely to remain nagging issues for Cisco, in our view," he says.

— Marguerite Reardon, Senior Editor, Light Reading

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