ZTE Warns on Profits

Chinese vendor ZTE Corp. (Shenzhen: 000063; Hong Kong: 0763) revealed today that it expects a year-on-year decrease in profits for the first six months of 2006, a revelation that sent its share price down by HK$1.45, nearly 6 percent, to HK$23.85 on the Hong Kong stock exchange Tuesday.

In a filing to the exchange, prompted by speculation of its financial performance in a Chinese financial journal, ZTE didn't specify the extent of the profit reduction, saying only that final figures are still being determined. Its net income in the first three months was down 85 percent year on year to 33.4 million renminbi ($4.2 million).

ZTE's admission means the company will record two consecutive years of first half profit reduction. In 2004 its net income for the first six months was RMB724 million ($90.6 million) from revenues of RMB10.2 billion ($1.28 billion), but that fell nearly 9 percent in 2005 to RMB660 million ($82.6 million) from revenues of RMB10.3 billion ($1.29 billion). (See ZTE Makes International Headway.)

ZTE also responded in the filing to claims by a financial analyst, as reported in the China Securities Journal, that higher international operating costs would dent the vendor's cashflow. The analyst predicted the firm is on course to increase international revenues (from outside China) by 60 percent in 2006, but that overseas costs would rise by 95 percent.

ZTE says such claims are speculative and unfounded, and that it can't "accurately anticipate the growth rate of its international business for the full year of 2006 based on information currently available."

However, it made clear that international sales are rising in real terms and as a percentage of overall revenues. ZTE says its international revenues in the first half of 2005 were RMB3.14 billion ($393 million), accounting for 30.5 percent of the total, up from 17.6 percent a year earlier.

In 2006, first half overseas revenues are set to grow, year on year, by between 35 percent and 5 percent, putting them at between RMB4.24 billion ($530 million) and RMB4.71 billion ($589 million).

The vendor has announced a number of new international deals this year, most notably in India, where it has some significant political and regulatory hurdles to overcome, and Eastern Europe. It also has a R&D program ongoing with Orange (NYSE: FTE). (See India Leery of Foreigners, ZTE, ZTE Builds in India, ZTE Wins in Morocco , ZTE Supplies OTE, ZTE Wins Hungarian, and FT, ZTE Team on R&D .)

The company also played down suggestions that ZTE's revenues will be weighted towards the second half of 2006 due to higher international sales that tend be come in later in the calendar year. It said its financial performance is "subject to factors including domestic capital expenditure by telecommunications carriers" as well as overseas growth.

According to a Light Reading Insider report published last year, ZTE aims to generate half of its annual revenues from international sales by 2008 without making any significant acquisitions. (See Insider Analyzes China's Big Three.)

Finally, the vendor spanked the analyst's Chinese 3G carrier capital expenditure outlook. The analyst said 3G network infrastructure capital expenditure (excluding terminals) by China's carriers is set to hit RMB330 billion ($41.25 billion) over a three-year period following the award of 3G licenses, and that ZTE is expected to pick up about 20 percent of that business. ZTE says the Chinese government hasn't published its 3G plans yet, so any such projections were unfounded.

— Ray Le Maistre, International News Editor, Light Reading