On May 15, 2020, the US Department of Commerce announced a rule further targeting Chinese telecommunications company Huawei and its chip-making subsidiary HiSilicon for allegedly engaging in "stepped-up efforts to undermine" last year's addition of Huawei and 114 of its affiliates to the Entity List.

This action is the latest in a series of escalating trade restrictions that especially impact the global semiconductor industry. Increasingly, US and non-US companies alike are facing difficult choices about their supply chains and their customers.

The new interim rule, which took immediate effect May 15, 2020, amends the so-called Direct Product Rule for determining when foreign-made items may nonetheless be subject to the US Export Administration Regulations (EAR). The Direct Product Rule restricts exports and reexports of some foreign-produced items that are the direct products of certain controlled US-origin technology, software, a complete plant or any major component of a plant.1

The new rule extends the Direct Product Rule so that the EAR regulates a broader class of foreign-produced items when there is knowledge that the foreign-produced item will be exported, reexported or transferred (in-country) to an entity on the EAR's Entity List, as set forth in a new footnote, Footnote 1, that triggers this enhanced control. The new rule applies the new footnote only to Huawei and its listed affiliates.

This new rule means that the Entity List prohibitions will extend to cover two additional categories of foreign-produced items destined for Huawei and its listed affiliates, or to other Entity List entries that might be subject to Footnote 1 in the future:

  • Paragraph (a) items: Foreign-produced items produced or developed by the targeted entities that are the direct product of certain electronics-, computer-, and telecommunications-related technology or software that is subject to the EAR and specified in Export Control Classification Number (ECCN) 3E001, 3E002, 3E003, 4E001, 5E001, 3D001, 4D001 or 5D001; of technology subject to the EAR and specified in ECCN 3E991, 4E992, 4E993 or 5E991; or software subject to the EAR and specified in ECCN 3D991, 4D993, 4D994 or 5D991.
  • Paragraph (b) items: Foreign-produced items that are (1) produced by any plant or major component of a plant located outside the United States, when such plant or component is itself a direct product of US-origin technology or software specified in the ECCNs listed above, and (2) direct products of software or technology produced or developed by the targeted entity whose Entity List entry bears the new footnote.

Under the new rule, equipment that is essential to the "production" of an item to meet the targeted entity's design specifications is a "major component of a plant located outside the United States."2

Although this rule is effective as of May 15, the Commerce Department released it as an interim final rule and is accepting public comments through July 14, 2020.

The new rule also contains a savings clause that temporarily permits shipments of certain products—otherwise within the scope of the new rule—as a transitional matter implementing the new restrictions. This clause permits shipments of:

(a) Paragraph (a) items "that were on dock for loading, on lighter, laden aboard an exporting or transferring carrier, or en route aboard a carrier to a port of export or to the consignee/end-user, on May 15, 2020, pursuant to actual orders for exports, reexports and transfers (in-country) to a foreign destination or to the consignee/end-user"; and

(b) Paragraph (b) items that started "production" before May 15, 2020, so long as they have been exported, reexported or transferred (in-country) before September 14, 2020.

The Commerce Department described the changes to the Direct Product Rule as now controlling the following:

(i) Items, such as semiconductor designs, when produced by Huawei and its affiliates on the Entity List (e.g., HiSilicon), that are the direct product of certain U.S. Commerce Control List (CCL) software and technology; and

(ii) Items, such as chipsets, when produced from the design specifications of Huawei or an affiliate on the Entity List (e.g., HiSilicon), that are the direct product of certain CCL semiconductor manufacturing equipment located outside the United States. Such foreign-produced items will only require a license when there is knowledge that they are destined for reexport, export from abroad, or transfer (in-country) to Huawei or any of its affiliates on the Entity List.

On the same day the new rule was announced, the Commerce Department issued a separate rule further extending the Temporary General License (TGL) authorizing certain dealings with Huawei and its subsidiaries by US persons by an additional 90 days until August 13, 2020. According to the Department's press release, this extension "follows public comments received from numerous companies, associations, and individuals about the TGL" and "provides an opportunity for users of Huawei devices and telecommunication providers—particularly those in rural U.S. communities—to continue to temporarily operate such devices and existing networks while hastening the transition to alternative suppliers." The press release also indicates that this may be the last extension of the TGL and recommends that entities relying on TGL authorizations "begin preparations to determine the specific, quantifiable impact of elimination if they have not done so already" and "should be prepared to submit license applications to the Department to determine which, if any, activities will be authorized in the event that their TGL authorization is eliminated."

Huawei, for its part, has issued a statement strongly criticizing the new rule and accusing the US government of bad faith. Chinese media have reported that China is preparing retaliatory measures against US companies. Notably, in April 2020, 12 Chinese government departments jointly promulgated the Measures for Cybersecurity Review, effective June 1, 2020, which, while not overtly discriminating against foreign companies, are likely to have a significant impact on US and other non-Chinese companies that supply network products or services to Chinese critical information infrastructure operators.

The new Commerce Department rule continues a long-running escalation of US–China technology competition that significantly impacts the semiconductor industry in particular. In the near term, chipmakers and others that sell to the targeted Huawei entities must carefully assess their non-US operations to determine the extent to which they are producing items that are direct products of the specified US-origin software, technology and/or equipment. More broadly, however, US and non-US companies that operate in the semiconductor industry should prepare to implement internal compliance measures to address changing US export control regulations that are changing with unprecedented frequency, including the newly-extended Direct Product Rule. These regulatory developments, including retaliatory measures may compel companies to make difficult, long-term decisions about their supply chains and their market priorities.

Footnotes

1 Specifically, the Direct Product Rule prohibitions apply to foreign-made items if they (1) are the direct product of technology, software, a complete plant or any major component of a plant that requires written assurance as a supporting document for a license or as a precondition for the use of License Exception Technology and software under restriction (TSR) (these are items controlled for national security reasons only on the EAR's Commerce Control List), and (2) are themselves subject to national security controls on the Commerce Control List.

2 Under the EAR, "production" refers to all production stages, including product engineering, manufacture, integration, assembly (mounting), inspection, testing and quality assurance.

Originally published May 19, 2020

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