The U.S. continues to hammer Chinese tech

It’s another week, and another bevy of hits on Chinese tech by the U.S. government. Let’s get up to speed, plus a request for startup lawyer recommendations. TechCrunch is experimenting with new content forms. This is a rough draft of something new — provide your feedback directly to the author (Danny at danny@techcrunch.com) if you […]

It’s another week, and another bevy of hits on Chinese tech by the U.S. government. Let’s get up to speed, plus a request for startup lawyer recommendations.

TechCrunch is experimenting with new content forms. This is a rough draft of something new — provide your feedback directly to the author (Danny at danny@techcrunch.com) if you like or hate something here.

Venture capital’s leading advocate NVCA pushes for narrower restrictions on foreign investment

Let’s start with the most exciting subject in the world: the federal rulemaking process.

Last year, Congress approved sweeping reforms of CFIUS, the Committee on Foreign Investment in the United States, providing it with new powers including the ability to review deals made by foreign investors for minority investments (aka the kinds of equity rounds typically received by startups). That reform has put a crimp on SoftBank’s Vision Fund, which has been trying to get around the rules, and has also led to a massive decline in the amount of Chinese venture capital flowing into the Valley.

As the implementation of that reform meanders its way through the federal rulemaking process, one huge challenge is defining what the term “emerging technologies” means. Since the purview of CFIUS will extend to any technology defined under that term, its definition is critically important, but there is just one problem: no one knows what the hell that phrase even is.

So yesterday, the National Venture Capital Association, the leading advocacy org for the asset class, submitted its stance on the debate. In a filing with the Bureau of Industry and Security, the NVCA argues for a relatively narrow interpretation of emerging technologies.

The organization is specifically concerned about controls on technologies like AI/ML and gene editing through CRISPR, because these “horizontal technologies” are very under-defined and thus restrictions on investment could lead to tough challenges for many startups. For instance, startups that fall under these categories could be prevented from taking foreign investment, or sharing information with other startups. In short, it could kill American leadership in these industries.

It’s an important point, but it is also part of a wider challenge — for startups and the government — that no one knows what “AI” means any more than they know what “emerging technologies” mean. Every startup might have (or claims to have!) AI, and that could mean that highly restrictive rules from the Bureau could apply pretty much to everyone, undermining the original intent of reform legislation.

This is a process not worth paying attention to, except that if it were to go stupidly wrong (and this is DC after all), we might suddenly find that the thousands of AI startups in the Valley suddenly become “definitely not AI” startups posthaste.

Don’t expect to ride Chinese subway cars in America anytime soon (except if you live in Boston)

America’s subway cars are widely dilapidated, as riders in systems in Boston, New York, DC, and SF can attest. Replacing those subway cars is a challenge, particularly since no American company manufactures them. Among the largest manufacturers is the China Railway Rolling Stock Corp., which has won deals to replace some of Boston’s aging subway cars.

Now, there is a renewed nationwide push to demand tougher cybersecurity standards on railcars as a way to prevent Chinese companies from receiving these contracts. As the Washington Post noted this week, DC’s Metro officials have rewritten its contract specifications, adding terms to require that all hardware and software go through cybersecurity verification from third-parties.

Further, Congress itself is getting involved in the matter. Per the article:

Both the U.S. Senate and House have sought to block further Chinese penetration of the transit vehicle market. Each chamber has inserted language in annual transportation appropriations bills to impose a one-year ban on new purchases of mass transit rail cars or buses from Chinese-owned companies if the procurement uses federal funding. The ban is not yet law, as final action has been put off until this year.

Cybersecurity is of course a legitimate concern, but so is lowering the cost of subway car replacements. By removing Chinese bidders from this market, Congress is effectively raising the price of subway car replacements for every city in the nation (and do you think they will pay for that increase?)

Huawei export license not renewed

Huawei has had a bullseye on its back for much of the last two years, and now it faces another restrictions.

The company hosts a research and development center in Silicon Valley quaintly called Futurewei, where it designs next-generation telecommunications tech. As reported in the Wall Street Journal, the unit has recently seen its export license for some of its technologies pulled by the Commerce Department. That move means that Futurewei won’t legally be allowed to transfer its know-how back to Huawei in China. What becomes of the lab, which the Journal reports has a budget of $16 million, is anyone’s guess.

These little policy actions are starting to add up though. While the administration at one point pulled the entire license for ZTE and nearly killed it, it seems to have now fallen into a pattern of just creating enough frictions in the market to make operating a Chinese company in the U.S. annoying and unprofitable. Which, with some deep irony, is exactly how the Chinese have blocked American companies for years.

Okay so what?

With the massive decline of Chinese investment in Silicon Valley and further export restrictions, it is clear that the Trump administration wants to sever any link between the two countries in the technology industry. While it is still early, it is clear that they have been pretty clearly successful, no doubt helped by the retrenchment of the Chinese economy as growth has slowed on the mainland .

For founders in the U.S., the complications and tough choices have actually declined substantially. A certain universe of LPs and VCs have left the market, and the Chinese market is pretty clearly marked off-limits and is probably best ignored for the time being. The toughest questions might be around partnership deals with the likes of Tencent, but those have not been as heavily targeted by authorities so far. So the China story may well disappear in the coming months as the two countries head in their own directions.

Share your feedback on your startup’s attorney

My colleague Eric Eldon and I are reaching out to startup founders and execs about their experiences with their attorneys. Our goal is to identify the leading lights of the industry and help spark discussions around best practices. If you have an attorney you thought did a fantastic job for your startup, let us know using this short Google Forms survey and also spread the word. We will share the results and more in the coming weeks.

What’s next & obsessions

I’m continuing to explore this theme/thesis of (societal) resilience tech that I discussed yesterday. Lots of you gave feedback on the idea and further avenues to explore.

I want to specifically thank a reader named Beau, who sent me multiple paragraphs, a dozen book recommendations, and a whole list of articles on the subject to get me up to speed. I super appreciate the thoughtfulness, and look forward to sharing more of that list in the coming days.

I love hearing from readers, so if you have thoughts, opinions, articles or books, share them with me: danny@techcrunch.com.

Reading docket

What I’m reading (or at least, trying to read)

Trump wants to just tariff the hell out of China

Another day, another whopper of a tariff. The Trump administration has been busy finalizing the rulemaking process to put 25 percent tariffs on $200 billion of Chinese goods, which will almost certainly affect the prices of many critical technology components and have on-going repercussions for Silicon Valley supply chains. That followed the implementation of tariffs […]

Another day, another whopper of a tariff. The Trump administration has been busy finalizing the rulemaking process to put 25 percent tariffs on $200 billion of Chinese goods, which will almost certainly affect the prices of many critical technology components and have on-going repercussions for Silicon Valley supply chains. That followed the implementation of tariffs on $50 billion of goods earlier this year.

Now, President Trump, as reported by reporters on Air Force One this morning, has said that he is prepared to triple down on his tariffs strategy, saying that he is ready to add tariffs to another $267 billion worth of Chinese goods. Although the president has a flair for the dramatic in many of his policies, the China tariffs are one arena in which his rhetoric has matched the actions of his administration.

Each set of these tariffs has been vociferously opposed by tech industry trade groups, but their concerns seem to have had little effect on the administration’s final thinking. Jose Castaneda, a spokesperson for the Information Technology Industry Council, called this next wave of potential tariffs “grossly irresponsible and possibly illegal.”

Yet, despite the constant threat of more tariffs, CFIUS reforms, and the ZTE debacle, China continues to dominate trade with America. Numbers released by the Department of Commerce this week showed that America’s trade deficit with other nations reached five-year highs in July, surpassing $50 billion for the month, with the China trade goods deficit hitting $36.8 billion. These numbers may well have triggered the president’s latest comments.

They may also have been triggered by the recent anonymous op-ed in The New York Times, in which a Trump “senior administration official” said that “Although he was elected as a Republican, the president shows little affinity for ideals long espoused by conservatives: free minds, free markets and free people…. In addition to his mass-marketing of the notion that the press is the ‘enemy of the people,’ President Trump’s impulses are generally anti-trade and anti-democratic.”

Anti-trade or not, it is clear that the package of tariffs and other policy reforms have done little to dampen the trade deficit or trigger a broad restructuring of the supply chains underpinning American brands.

In my discussions at the Disrupt SF 2018 conference the past few days, one persistent theme has been the durability of certain Chinese cities — particularly Shenzhen but not exclusively — to weather these trade storms. Because of the depth of expertise, fast turnaround times, extreme flexibility and cheap costs of hardware supply chains, there are sustainable advantages that the U.S. can’t hope to fight with a couple of measly tariffs — even on $500 billion worth of goods.

Indeed, as one prominent venture capitalist put it to me, hardware investing is now significantly easier for those with the right knowledge of the Chinese ecosystem. Just a few years ago, a couple of millions in capital could get a startup a working prototype. Now, startups can raise $1-2 million in some cases and get a working product into sales channels. The Chinese ecosystem around hardware has just continued to improve with alacrity.

For Trump, a much more robust policy will be needed to move the trade numbers in the other direction. Better funding for universities to produce the right talent. Pushing for a region in the U.S. to become the “Shenzhen of America” through a combination of private and public funding. Greater preferential treatment around taxes for keeping manufacturing in the U.S.

And maybe tariff the hell out of them.

Washington hit China hard on tech influence this week

After months of back-and-forth negotiations, Washington moved rapidly this past week to fend off the increasing transcendence of China’s tech industry, with Congress passing expanded national security controls over M&A transactions and the Trump administration heaping more pressure on China with threats of increased tariffs. We’ve been following the reforms to CFIUS — the Committee […]

After months of back-and-forth negotiations, Washington moved rapidly this past week to fend off the increasing transcendence of China’s tech industry, with Congress passing expanded national security controls over M&A transactions and the Trump administration heaping more pressure on China with threats of increased tariffs.

We’ve been following the reforms to CFIUS — the Committee on Foreign Investment in the United States — since the proposal was first floated late last year. The committee is charged with protecting America’s economic interests by preventing takeovers of companies by foreign entities where the transaction could have deleterious national security consequences. The committee and its antecedents have slowly gained powers over the past few decades since the Korean War, but this week, it suddenly gained a whole lot more.

Through the Foreign Investment Risk Review Modernization Act of 2018, which was rolled into the must-pass National Defense Authorization Act and passed by Congress this week, CFIUS is gaining a number of new powers, more resources and staff, more oversight, and a charge to massively expand its influence in any M&A process involving foreign entities.

Lawfare has a great summary of the final text of the bill and its ramifications, but I want to highlight a few of the changes that I think are going to have an outsized effect on Silicon Valley and the tech industry more widely.

One of the top priorities of this legislation was to make it more difficult for Chinese venture capital firms to invest in American startups and pilfer intellectual property or acquire confidential user data.

Congress fulfilled that goal in two ways. First, the definition of a “covered transaction” has been massively expanded, with a focus on “critical technology” industries. In the past, there was an expectation that a foreign entity had to essentially buy out a company in order to trigger a CFIUS review. That jurisdiction has now been expanded to include such actions as adding a member to a company’s board of directors, even in cases where an investment is essentially passive.

That means that the typical VC round could now trigger a review in Washington — and in the fast timelines of startup fundraising, that might be enough friction to keep Chinese venture capital out of the American ecosystem. Given that Chinese venture capital (at least by some measures) has outpaced U.S. venture capital in the first half of this year, this provision will have huge ramifications for startups and their valuations.

The second element Congress added was requiring that CFIUS receive all partnership agreements that a company has signed with a foreign investor. Often in a transaction, there is a main agreement spelling out the overall structure of a deal, and then side agreements with individual investors with special terms not shared with the wider syndicate, such as the right to access internal company data or intellectual property. By requiring further disclosure, CFIUS will have a more holistic picture of a deal and any risks it might add for national security.

It’s important to note that Congress was keen on balancing the need for investment with the need of national security. Through oversight provisions, including allowing CFIUS decisions to be contested in the DC Court of Appeals, Congress has designed the reform to be fairer, even as it takes a harder line on certain transactions.

It will take many months for the provisions to come in full force, so some of the effects of this bill won’t be felt until the end of next year. Nonetheless, Congress has sent a clear message of its intent.

Congress’ national security concerns in financial transactions are also crossing the Atlantic. British Prime Minister Theresa May and her government are spearheading new controls over foreign investment transactions, and the EU has also launched more screenings to ensure that transactions are in the best interests of the continent. All of these legislative moves are a response to Chinese foreign direct investment, which has skyrocketed in Europe while almost disappearing in North America.

President Trump signed tariffs on China earlier this year. Now, the administration wants to more than double them.

That disappearance is a function of the on-going trade dispute between the U.S. and China, which crescendoed this past week. The Trump administration said it is considering increasing tariffs from 10% to 25% on $200 billion worth of Chinese goods, significantly heightening the tariffs it had put in place earlier this year.

That threat got a swift response from China overnight, with the Chinese Commerce Ministry saying that it would put tariffs on $60 billion worth of American goods in retaliation if the U.S. followed through with its threat.

So far, the tech industry appears to have been more insulated from the back-and-forth than expected, although the increasing scope and intensity of tariffs could change that calculus. Apple updated its quarterly filing this week to include a new risk around trade disputes, saying that “Tariffs could also make the Company’s products more expensive for customers, which could make the Company’s products less competitive and reduce consumer demand.” Legal boilerplate for sure, but it is the first time the company has included such a provision in its filing.

The tariffs drama is going to continue in the weeks and months ahead. But this week in particularly was a watershed for U.S. and China technology relations, and a busy week for tech lobbyists and policy officials.

For startups, most of this news basically boils down to the following: the U.S. is one market, and China is another. Cross-investing and cross-distribution just aren’t going to be easy as they were even a few months ago. Pick a market — one market — and focus your energies there. Clearly, it’s going to be tough times for anyone caught in the middle between the two.