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Paulson’s Gold Fund Said to Fall 10.5% in 2011 as Metal Rises

Dec. 23 (Bloomberg) — John Paulson, the billionaire money manager mired in the worst slump of his career, lost 10.5 percent in his Gold Fund this year even as the metal heads for its 11th straight annual gain, according to people familiar with the fund’s performance.

The fund, which invests in mining stocks and other gold- related securities, remains the best performer in Paulson’s $28 billion fund family this year. His Paulson Advantage Fund, which seeks to profit from corporate events such as takeovers and bankruptcies, has fallen about 35 percent. The performance numbers for the two funds are from Dec. 28, 2010, through Dec. 20, 2011, and may not reflect returns for all shareholders, said the people, who asked not to be identified because the information is private.

Armel Leslie, a spokesman for Paulson, declined to comment on the firm’s returns.

Paulson & Co., based in New York, has lost money this year on investments including Citigroup Inc., Bank of America Corp. and Sino-Forest Corp., the Chinese forestry company accused by short-seller Carson Block of overstating timberland holdings. Paulson, 56, cut the so-called net exposure in his main hedge funds to 30 percent last month and reduced bullish bets across all his funds.

Net exposure is calculated by subtracting the percentage of a hedge fund’s short positions, or bets on falling securities, from its longs, or wagers on rising stocks and bonds.

Gold BUGS Index

Gold has climbed 13 percent this year, holding onto gains after peaking at $1,891 an ounce on Aug. 22. The 17-company NYSE Arca Gold BUGS Index fell 11 percent as investors fled equities amid the turmoil caused by the European sovereign-debt crisis.

Paulson was the largest holder of American depositary receipts in AngloGold Ashanti Ltd., the third-biggest gold producer. Paulson also owned shares or ADRs of Gold Fields Ltd., NovaGold Resources Inc., Randgold Resources Ltd., Agnico-Eagle Mines Ltd., Iamgold Corp., Barrick Gold Corp. and International Tower Hill Mines Ltd.

To contact the reporter on this story: Katherine Burton in New York at kburton@bloomberg.net

To contact the editor responsible for this story: Christian Baumgaertel at cbaumgaertel@bloomberg.net

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Bloomberg News, nothing the FBI and Secret Service can do about it.”

In April, the Department of Justice dismantled one of the largest known criminal botnets, a network of infected computers programmed to send data automatically from their hard drives to a server controlled by hackers. The department declared the break-up of Coreflood, as the botnet was known, a major victory.

The Russians

It said almost nothing about the criminals who ran it. Researchers at Dell SecureWorks, the Atlanta-based security firm that aided the investigation, said the kingpins behind Coreflood are three Russians last known to be living comfortably in Rostov, a mid-size city on the Don River.

“Our relationship with the Russians is always a work in progress,” Strom said.

No one personifies Russia’s place at the top of the cyber underworld more than Gribo-demon, a Russian programmer, around 30 years old, U.S. investigators estimate. He is one of the few cybercriminals who is the focus of a his own FBI special operation. Gribo-demon is the author of SpyEye, a sophisticated malware package first released in late 2009 and upgraded several times since then.

Once downloaded on a machine, the malware can be used by hackers to take remote command of key functions. Using SpyEye, a cyberthief can hijack an online banking session in real time, transfer funds to accounts they or their mules control, and adjust the balance displayed so nothing seems amiss.

Seems Legit

The transaction looks legitimate because, in computer terms, it is. All the bank can tell is that it was made from their customer’s computer, using their correct password. A basic version of SpyEye costs around $2,000, according to the hacker sites.

“SpyEye provides military-grade intrusion capabilities for the price of a TV,” said Gunter Ollmann, vice president of research at Damballa Inc., the Atlanta-based security firm that tracks major cyberthreats.

Gribo-demon’s real innovation stems from what he didn’t do: keep SpyEye to himself. Hackers used to write their own code. Good tools were trade secrets. Gribo-demon instead licenses SpyEye, mimicking Microsoft and Oracle, a business model that arguably opened cybercrime to the masses.

The model was pioneered by a competitor and fellow Russian who created popular malware called ZeuS, according to security experts. ZeuS first appeared in 2008. Both programmers provided clients with customer service, offering an array of enticing modules to add functionality for an additional price.

Beta Testing

The ZeuS author, known as Slavik, even Beta-tested new versions with elite users, according to Don Jackson, a SecureWorks researcher. Slavik disappeared in late 2010, but not before he handed the ZeuS source-code to Gribo, who incorporated some of its features into his own product, Jackson said.

Security experts say it’s hard to overestimate impact of Slavik’s and Gribo-demon’s handiwork. In September, the Tokyo- based cybersecurity firm Trend Micro publicized a dossier on a 20-something Russian cyberthief who goes by the name Soldier, tracing his activities in the underground forums over several months. Using SpyEye, soldier stole $3.2 million from U.S. customers of three banks in just six months — about $17,000 a day — Trend Micro said.

Going Price

The hacker used bank-account information scraped from more than 25,000 victims’ computers, in some cases renting other cyberthieves’ networks of infected computers. He created counterfeit checks with banking data and mailed them to money mules throughout the United States. They cashed them, then forwarded the funds untraceably to Russia. He even used stolen credit card numbers vacuumed from the victims’ hard drives to buy pre-paid postal-service labels for the packages.

“From start to finish, this guy leveraged every bit of data,” said Alex Cox, an investigator for Netwitness, a cybersecurity division of EMC Corp., which has also been tracking Soldier’s activities.

The most remarkable thing about the theft — and this is, to experts in the field, the most worrisome development of the past few months — was that Soldier didn’t need any special expertise with computers. All he needed was a shopping list.

“He’s not a lone hacker,” said Trend Micro’s David Perry. “He didn’t write any code.”

Shopping List

Strom said the FBI is also tracking Soldier and is confident they’ll get him. “These guys are very sophisticated, but often times they slip up,” Strom said.

Strom and other investigators have one significant advantage: the hackers have a habit of turning their skills on one another. The FBI’s DarkMarket sting started with a hacker war between a hacker, calling himself Iceman, who ran CardersMarket, and JiLsi, the DarkMarket administrator, whose real name was Renukanth Subramaniam, the FBI said.

“We took advantage of that animosity,” Strom said, eventually persuading JiLsi to turn over the site to the FBI and giving the bureau control over all communications involving DarkMarket’s 2,500 members. As a result, Subramaniam was sentenced to more than four years in prison in the U.K.

Maza, the elite Russian forum, was recently hacked and its database dumped online. It presented a priceless opportunity for law enforcement. The forum’s database held membership lists, e- mail addresses, IP addresses, and passwords — the kind of information the world’s top cyber thieves try very hard to keep secret. The main suspect in the Maza attack is the administrator of a rival site, Hex Nightmare said.

Learned a Lot

“We learned a lot of lessons with DarkMarket, and we’ve passed that experience on not only to other offices within the FBI but to our counterparts overseas,” Strom said. “We’re definitely taking the fight back to them.”

Hex Nightmare agrees the FBI may eventually make more progress. When Slavik, the author of the ZeuS malware, disappeared in 2010, he was at the height of his fame. Theories about his disappearance abound on the underground: Slavik was killed; he now works as a cyberspy for the Russian government. Hex Nightmare has her own: “I think Slavik thought it was a good time to get out.”

To contact the reporter on this story: Michael Riley in Washington at michaelriley@bloomberg.net

To contact the editor responsible for this story: Michael Hytha at mhytha@bloomberg.net .

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Iphone Maker Foxconn’s Entry Into Solar May Cut Industry Margins

Dec. 24 (Bloomberg) — Foxconn Technology Group’s decision to start making solar power modules may speed the rate at which margins are narrowing for Chinese manufacturers, another blow for an industry already coping with a plunge in prices.

The Taiwanese company that’s the world’s biggest contract maker of electronics including Apple Inc.’s IPhone started work on a solar-module plant in China’s eastern province of Jiangsu near the headquarters of Suntech Power Holdings Co., the largest silicon-based module manufacturer.

“Foxconn plans to build new factories with undreamed-of scale and lower cost,” Jenny Chase, who leads a team of six solar analysts at Bloomberg New Energy Finance, said yesterday. “It will push capacity higher and prices lower.”

Prices for solar cells have skidded 62 percent this year as Chinese companies led by Suntech boosted production and won market share from European and Japanese rivals. Foxconn’s gross margin of 5.6 was less than half Suntech’s in the third quarter, according to data compiled by Bloomberg.

Chase said Foxconn’s Ebitda margin ranges from 2 percent to 5 percent compared with as much as 30 percent enjoyed by the companies purely manufacturing solar products.

“Foxconn is good at operating with low margins in electronics and can replicate the success it has there to the solar industry,” Lian Rui, a senior analyst for the research company Solarbuzz, said by phone from Shanghai. It “will make the competition fiercer and drive margins down further.”

Foxconn’s Plans

Foxconn will begin trial production in May, the government of Funing county, where the plant is, said in a website statement on Dec. 22. The company’s Hon Hai Precision Industry Co. unit will invest $30 million as registered capital to set up Fuyu Energy Technology (Funing) Co. in the county, according to a Dec. 20 filing to the Taiwan exchange. The unit will make solar cells. No details about the plant’s capacity were given.

Two calls to the office of Edmund Ding, spokesman for Taipei-based Hon Hai, during regular business hours yesterday weren’t answered.

Suntech’s gross margin declined to 13.3 percent in the third quarter from 17.9 percent a year earlier. JA Solar Holdings Co., based in Shanghai, had a negative 4.3 percent gross margin in the third quarter compared with 22.5 percent last year.

Solar Margins

Asian solar companies enjoyed high margins in the industry as shipments surged last year. The average gross margin for the 10 Asia-based solar companies in Bloomberg Industries’ Large Solar Index was 24.6 percent last year. Trina Solar Ltd. had a gross margin of 33.2 percent and Yingli Green Energy Holding Co. 31.5 percent, the Bloomberg data shows.

Foxconn’s gross margin was 5.6 percent in the six months through June 30, down from 6.8 percent in the second half of 2010, Bloomberg data also shows.

The average price for solar modules has declined 47 percent this year to $0.94 a watt, according to Bloomberg New Energy Finance. Three U.S. companies led by Solyndra LLC filed for bankruptcy this year. In Germany, Q-Cells SE, once the world’s biggest solar maker, is looking for a partner after its earnings and margins plunged.

“Foxconn’s entry into the solar industry has been rumored for a long time,” Chase said. “The company’s formal entry at a time when ingot, wafer and cell makers are not making their cash costs must be bad news for the incumbent companies.”

To contact Bloomberg News staff for this story: Feifei Shen in Beijing at fshen11@bloomberg.net

To contact the editor responsible for this story: Reed Landberg at landberg@bloomberg.net

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Israel Didn’t Know Tech Gear Was Sent to Iran Via Denmark

Dec. 23 (Bloomberg) — The clandestine arrangement worked smoothly for years. The Israeli company shipped its Internet- monitoring equipment to a distributor in Denmark. Once there, workers stripped away the packaging and removed the labels.

Then they sent it to a man named “Hossein” in Iran, an amiable technology distributor known to them only by his first name and impeccable English, say his partners in Israel and Denmark.

Israeli trade, customs and defense officials say their departments didn’t know that the systems for peering into Internet traffic, sold under the brand name NetEnforcer, had gone to a country whose leaders have called for the destruction of the Jewish state. Israel’s ban on trade with its enemy failed, even though a paper trail on the deals was available in Denmark.

The transactions illustrate how ineffective governments have been in blocking a global trade in new, intrusive surveillance technologies that authoritarian regimes can use as weapons for repression. Such gear from Western companies — including tools that intercept e-mails and text messages, record Internet activity and map cell phone locations — has been used to track and torture dissidents in countries including Iran, Bahrain, Syria and Tunisia, a Bloomberg News investigation this year showed. It’s unclear who Hossein’s customers were, or how the technology may have been used in Iran.

‘Dirty Trade’

“The fact that the most murderous regimes are using Western technologies for surveillance highlights the fact that the current framework for controlling this dirty trade is not working,” says Brett Solomon, executive director of Access, a New York-based nonprofit that promotes online freedom. “How long are the innocent people of Syria and Iran to wait before Congress and the EU turn words into law?”

Yet there are ways to stem the flow of such technology, which can be used as a weapon but isn’t regulated like one. Many companies selling surveillance equipment that connects to the Internet have the ability to monitor their own customers, and governments could require them to do so while tightening export laws.

Anything connected to the Internet “can phone home and provide some sort of location data,” says Jon Oltsik, senior principal analyst at Milford, Massachusetts-based Enterprise Strategy Group, a technology consulting firm. Companies often stay in touch with their products to send software updates, and can also examine customers’ Internet addresses to determine where the equipment is, he says.

The method has already proved effective, stymieing Syrian efforts to circumvent the U.S. embargo during a crackdown that has killed more than 5,000 people.

‘Is Ignorance Bliss?’

San Diego-based Websense, Inc., a maker of Internet- filtering software, routinely scans the Internet addresses of prospective buyers, as well as its 40,000 existing customers, in order to prevent its products from going to embargoed countries or falling into the wrong hands, says Michael Newman, the company’s general counsel and interim chief financial officer.

In October, Websense blocked sales to two potential buyers, who listed their physical addresses in Switzerland and the United Arab Emirates, but who asked for the product to be downloaded to Internet addresses that the company traced to Syria.

“Companies should be taking these steps,” Newman says. “The question is, how much are you trying to know? Or is ignorance bliss?”

Spotting Locations

Such steps could have helped Blue Coat Systems Inc., a Sunnyvale, California-based maker of Web security and filtering products. Telecomix, a group that promotes online freedom, earlier this year uncovered computer logs that showed the company’s machines being used in Syria to filter Internet sites.

Blue Coat says its products were illegally shipped to Syria by a distributor and it had been unaware they were there. Spokesman Steve Schick declined further comment on the Syria sales, citing an ongoing investigation by the Department of Commerce.

Had Blue Coat been paying attention to the Internet addresses when connecting with its deployed machines, it would have spotted the suspect locations, says Peter Fein, a Chicago- based member of Telecomix.

“Claiming a lack of knowledge is no excuse anymore,” says Solomon, of Access. “Technology can be used as a weapon and should be treated with the same care and sold with the same due diligence.”

Violent Repression

In this growing industry, with sales estimated at $3 billion to $5 billion, the potential for human rights abuse is profound. The 10-month investigation by Bloomberg News documented use of Western surveillance technology in political crackdowns and violent repression by governments across the Middle East and North Africa.

In Bahrain, authorities used European equipment to intercept phone calls and text messages of activists, who were confronted with details of their communications while being arrested and tortured. Amid Syria’s uprising, construction moved forward on a $17 million Internet surveillance system built with U.S., French, German and Italian technology.

“Stopping this trade is a shared responsibility across government and business,” says Meg Roggensack, an adjunct professor at the Georgetown University Law Center in Washington, D.C., and a senior advisor to Human Rights First, a non-profit organization based in New York and Washington. “It is extremely urgent. This is playing out in real time with real consequences for real people.”

Restricting Trade

Western governments are now trying to better regulate the trade. The European Union restricted sales of the technology to Syria after Bloomberg News exposed the project in that country. A bill introduced in the U.S. House of Representatives on Dec. 8 would bar sales of surveillance technologies by American companies to repressive regimes.

The U.K.’s Business Minister, Judith Wilcox, said the government was examining a block on the sale of mobile-phone surveillance software to Iran and Syria after Bloomberg News reported a British company sold location-tracking technology to Iran this year for use by the regime’s law enforcement.

Yet efforts to date have stumbled. After the U.S. Congress in 2010 prohibited government business with any company selling equipment to Iran that would restrict the flow of information or speech of its citizens, no companies were identified. Under current EU rules, each member state makes its own export decisions, which allows regulatory gaps.

Trusting Distributors

“Right now, we’re not even trying,” says Marietje Schaake, a Dutch member of the European Parliament who is pushing for EU-wide standards. “The digital arms trade needs more scrutiny and regulations.”

Even when they impose bans, governments struggle to track surveillance sales. Often, technology vendors rely on distributors to sell their products, and simply trust that it isn’t falling into hands that will abuse it.

The shipments of Internet-inspection equipment from Israel to Iran illustrate the enforcement loopholes.

Allot Communications Ltd., a Hod Hasharon, Israel-based firm whose stock trades on Nasdaq and the Tel Aviv Stock Exchange and which reported $57 million in sales last year, sold its systems to a Randers, Denmark-based technology distributor.

Workers at that company, RanTek A/S, repackaged the gear and shipped it to Iran, according to four former employees of Allot and RanTek. The shipments were legal under Danish law.

Skirting a Ban

A sale as early as 2006 is corroborated by an export license application filed by RanTek, though the name of the customer in Iran was redacted by Danish authorities who provided the document to Bloomberg News.

The former employees identified the buyer as the technology distributor, Hossein.

The sales skirted a strict Israeli ban that prohibits “trading with the enemy,” including any shipments that reach Iran, Syria and Lebanon.

“This covers everything,” says Gavriel Bar, manager of the Middle East department at Israel’s Ministry of Industry, Trade and Labor. “Imports, exports, direct, indirect. An Israeli company is not allowed to trade with Iran in any way.”

Israeli lawmaker Nachman Shai called for a parliamentary investigation today, and the country’s Defense Ministry said it had begun to examine the report. Allot shares fell 5.1 percent to $15.84 at 11:04 a.m. in New York, after earlier plunging as much as 13 percent.

Three former sales employees for Allot say it was well known inside the company that the equipment was headed for Iran. Allot officials say they have no knowledge of their equipment going there and are looking into RanTek’s sales.

‘Breach of Contract’

“We do not authorize any sales to Iran,” says Jay Kalish, executive director of investor relations at Allot. If its products were shipped there by RanTek, it would be a “breach of contract,” he says.

Kalish says it’s challenging to track where its products go after they’ve been sold. Customers often don’t connect digitally to Allot, making electronic tracking difficult. The company has hundreds of distributors and their products have even appeared for sale on eBay, he says.

Allot said in a statement today that its policy is to comply fully with Israeli and non-Israeli laws, including all applicable export laws and regulations.

The product sold by Allot, NetEnforcer, conducts “deep- packet inspection” of networks. The technology has commercial uses, such as helping a mobile network operator prioritize certain types of traffic or eliminating spam.

Deep-Packet Inspection

But deep-packet inspection has also been used to snoop into e-mails in countries including Tunisia, even allowing officials to change the contents, Bloomberg News found. It can also prevent activists from using the Web anonymously, leading to arrest and torture in countries such as Iran, says Ben Wagner, of the European University Institute near Florence, Italy, who has studied the technology.

“I cannot conceive a way that DPI could be exported to Iran without a concern,” he says.

Allot’s Kalish says the equipment sold through RanTek was best suited for managing a company’s Internet traffic and lacked the capacity for wide-scale Internet surveillance.

RanTek officials didn’t respond to e-mails and phone calls seeking comment.

The lax controls on the Israeli technology shipments, which didn’t require export licenses, contrast with tighter restrictions on weapons sales, which do need licenses.

Companies such as Allot are almost on an honor system to comply with the rules, says Rifat Azam, a professor of international business law at the Interdisciplinary Center, a private university in Herzliya, Israel.

Reputational Risk

In the absence of strong laws and policing, bad press and the threat of reputational damage has spurred companies to curb dealings with repressive regimes.

Area SpA called off construction of the Internet surveillance system in Syria only after Bloomberg’s story was picked up by Italy’s major newspapers and sparked a protest by Syrian and Internet-freedom activists outside the company’s headquarters near Milan. The coverage also spurred an online petition by Access that gathered more than 10,000 signatures calling for a stop to the Syria project.

Paris-based Qosmos SA, which had supplied deep-packet inspection probes for Area’s Syria system, said when contacted for the story that it had already decided to pull out. Qosmos’s head of marketing, Erik Larsson, later added that the company would exit all work in interception and focus on other uses of the technology, such as market research and network management.

Suspending Business

“We don’t want to be in that business because we don’t have the control and there’s not enough regulation,” he said. “If you’re using it to track down opponents and torturing them and killing them, then the technology is in the wrong hands.”

In the case of Iran, Dublin-based AdaptiveMobile Security Ltd. had sold and proposed systems for blocking and filtering text messages. When asked about the Iran business for a Bloomberg News story, the company said it plans to cease doing business in Iran when its contract is up in 2012, because continuing in the country’s current political climate could damage its reputation.

Measures that governments could take include examining the trade records of foreign customers. Such checks of public records in Denmark would have exposed the shipments of Israeli goods to Iran.

For now, self-regulation by companies may be critical to any recipe for change.

In a Dec. 8 speech, U.S. Secretary of State Hillary Clinton said lawmakers’ efforts to employ sanctions and control surveillance exports will only go part of the way.

Remote Shut-Down

“In the 21st century, smart companies have to act before they find themselves in the crosshairs of controversy,” she said.

Websense says self-policing kept it from falling afoul of Syria sanctions in October. The company also can refuse to provide updates, shutting down a product within weeks if it moves to a location where Websense doesn’t want it or if the company finds it’s being used for repression, Newman says.

It took such steps in 2009, for example, when it learned that two of its customers in Yemen were using its products to carry out government censorship of the Internet, says Newman.

In a digital arms race that pits repressive regimes against their citizens, says Access executive director Solomon, anything that loosens the tyrants’ grip on electronic communications might just save lives.

— With assistance from Jonathan Ferziger in Tel Aviv, Vernon Silver in Rome and Frances Schwartzkopff in Copenhagen. Editors: Marcia Myers, Melissa Pozsgay

To contact the reporter on this story: Ben Elgin in San Francisco at belgin@bloomberg.net

To contact the editor responsible for this story: Melissa Pozsgay at mpozsgay@bloomberg.net Marcia Myers at mmyers20@bloomberg.net

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European Crisis Holds Seeds of Dealmaking as Valuations Drop

Dec. 16 (Bloomberg) — U.S. and Asian companies seeking acquisitions in Europe may accelerate dealmaking next year after a slowdown in the second half, beckoned by a slumping euro and share prices depressed by the sovereign debt crisis.

Led by Johnson & Johnson’s $21.3 billion bid for Switzerland’s Synthes Inc., announced takeovers in Europe by overseas companies rose by about 58 percent to $252 billion this year, data compiled by Bloomberg show. While acquisitions have declined since July, companies including General Electric Co., China’s HNA Group Co., and Japan’s Fast Retailing Co. have signaled an appetite for further takeovers in the region.

“There are well-positioned acquirers globally looking for bargains,” even if economic pressure has slowed recent European dealmaking, said Gregg Lemkau, head of mergers and acquisitions for Europe, the Middle East, Africa and Asia-Pacific at Goldman Sachs Group Inc. “One of the drivers in Europe has been historically low valuations and a relatively soft currency.”

Europe may offer the best bargains in more than 15 years. The MSCI Europe Index, a measure of 450 stocks, trades for 10.4 times reported earnings, showing equities in the region are cheaper than they’ve been 98 percent of the time since 1995, according to Bloomberg data.

The euro, meanwhile, has fallen by about 13 percent against the dollar since the sovereign debt crisis began two years ago, making conditions even more favorable for U.S. buyers. Potential Japanese acquirers have the advantage of a yen that has gained about 10 percent in the past six months against a benchmark basket of currencies including the euro.

Acquiring Technology

While few companies are clamoring for access to the European market itself, “in many cases, what overseas buyers are really acquiring in Europe is technology, or access to emerging markets,” said Giuseppe Monarchi, head of European M&A at Credit Suisse Group AG.

J&J’s planned purchase of Synthes will give the U.S. health-care products maker devices used to treat bone fractures and trauma, while Hewlett-Packard Co.’s $10.3 billion takeover of the U.K.’s Autonomy Corp. in November handed it data-sifting enterprise search technology helpful to cloud computing. In buying Luxembourg-based Skype Technologies SA for $8.5 billion in October, Microsoft Corp. absorbed the world’s biggest provider of Internet telephone service.

Emerging Markets

European companies have also tended to be more aggressive than their U.S. counterparts in expanding in markets like Africa and the Middle East, spending about $90 billion on deals in those regions since 2000, Bloomberg data show. That compares with about $50 billion of such takeovers by U.S. companies.

So far, access to those markets and technologies mean many European targets are still worth having. However, a protracted slowdown and a failure by European policy makers to resolve their fiscal challenges may damp the outlook for dealmaking.

A degree of reluctance to do deals will “likely persist until there’s some resolution to the debt crisis,” said Goldman Sachs’s Lemkau. “The interest is still there, but the volatility and uncertainty in the markets makes the likelihood of most acquirers taking action low.”

Moody’s Investors Service said Dec. 12 it will review the ratings of all European Union countries after a summit last week in Brussels failed to produce “decisive policy measures” to end the region’s debt crisis. Standard & Poor’s placed the ratings of 15 euro nations on review for possible downgrade on Dec. 5.

Slowing Pace

Dealmaking in Europe declined in the second half to the slowest pace since 2008, with foreign buyers announcing $86 billion of acquisitions, 48 percent less than in the first half, Bloomberg data show.

Still, many companies have recently expressed an interest in Europe. General Electric, based in Fairfield, Connecticut, said in November it’s targeting European deals as it seeks to compete with German rival Siemens AG. Fast Retailing, owner of the Uniqlo fashion brand, is seeking European targets to offset stagnant sales at home, Chief Executive Officer Tadashi Yanai said last month. HNA, meanwhile, has said it has a $6 billion war chest for acquisitions in Europe and the U.S.

There were more than $8 billion in takeovers announced globally today, including New York-based Apollo Global Management LLC’s agreement to acquire Belgian chemical producer Taminco Group Holdings from CVC Capital Partners Ltd. for about 1.1 billion euros ($1.4 billion), the data show.

Cash Stashes

“The U.S. went into recession earlier than Europe and came out of it faster,” said David Silver, head of European investment banking at Milwaukee-based Robert W. Baird, which typically focuses on deals valued at as much as $1 billion. “American companies are armed with stronger balance sheets and want to deploy capital.”

A study of 258 U.S. corporations by JPMorgan Chase & Co., published in September, found they held $368 billion abroad, roughly half of their total cash, cash equivalents or investments. Microsoft and Hewlett-Packard both cited a need to find a healthy return on their cash held overseas when announcing their takeovers of Skype and Autonomy, respectively, earlier this year.

`Getting Serious’

U.S. companies may face competition from Asian acquirers, who have announced about $72 billion of takeovers in Europe so far this year, up 42 percent from the same period a year ago, according to Bloomberg data. Japanese acquirers led dealmaking, more than doubling their purchases to $34 billion.

“Japanese companies are getting serious about acquisitions abroad,” said Hernan Cristerna, head of M&A for Europe, the Middle East and Africa at JPMorgan in London.

Takeda Pharmaceutical Co.’s $13.7 billion takeover of Nycomed ASA, a Norwegian supplier of pharmaceuticals, was the biggest acquisition by an Asian buyer in Europe. More recently, Suntory Holdings Ltd. entered talks to buy bottled-water assets from France’s Danone SA, people familiar with the matter said in October.

On the whole, a bleak economic outlook hasn’t changed the fundamental attractiveness of at least some European companies, dealmakers say.

“International companies are stepping up their focus on Europe,” said Jean-Baptiste Charlet, head of global industries for Europe, the Middle East and Africa at Morgan Stanley. “The euro crisis still scares them, but there’s a lot of technology to be gleaned and the companies here are very well-developed internationally.”

To contact the reporters on this story: Matthew Campbell in Paris at mcampbell39@bloomberg.net Jacqueline Simmons in Paris at jackiem@bloomberg.net

To contact the editors responsible for this story: Katherine Snyder at ksnyder@bloomberg.net Chris V. Nicholson at cnicholson22@bloomberg.net

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Death of Gold Bull Market Seen by Gartman as He Sells Metal

Dec. 13 (Bloomberg) — Gold, in the 11th year of its longest winning streak in at least nine decades, is poised to enter a bear market, according to Dennis Gartman, who correctly predicted the slump in commodities in 2008.

The metal, which traded at $1,666.30 an ounce at 2:43 p.m. in London, may decline to as low as $1,475, the economist wrote today in his Suffolk, Virginia-based Gartman Letter. He sold the last of his gold yesterday. Bullion has already dropped 13 percent from the record $1,921.15 reached Sept. 6 and $1,475 would extend that to more than 20 percent, the common definition of a bear market.

“Since the early autumn here in the Northern Hemisphere gold has failed to make a new high,” Gartman wrote. “Each high has been progressively lower than the previous high, and now we’ve confirmation that the new interim low is lower than the previous low. We have the beginnings of a real bear market, and the death of a bull.”

The metal typically moves inversely to the dollar, which today reached a two-month high against the euro after Fitch Ratings and Moody’s Investors Service said yesterday that a European Union summit last week offered little help in ending the region’s debt crisis. Bullion is still 17 percent higher this year and holdings in gold-backed exchange-traded products are at a record, a hoard now valued at $126.5 billion.

Gold’s 2011 Gain

Gold’s performance this year compares with a 2.8 percent advance in the Standard & Poor’s GSCI gauge of 24 commodities, in which it is the third-best performer behind gasoil and cattle. The MSCI All-Country World Index of equities retreated 9.8 percent and Treasuries returned 9.2 percent, a Bank of America Corp. index shows.

The slump in equities spurred some investors to sell their gold to cover losses. Open interest, or contracts outstanding, in gold futures traded on the Comex exchange in New York, fell to 427,756 contracts, from 546,601 in July, bourse data show.

“So much damage has been done to the psychology of the market in the past week and so many late longs have been caught off guard that we think wholesale liquidation, and perhaps forced liquidation, shall be the outcome,” Gartman wrote.

ETP investors are increasingly bullish. Holdings in the products climbed 3.8 metric tons to an all-time high of 2,360.5 tons yesterday, according to data compiled by Bloomberg. That’s equal to more than 10 months of global mine supply and greater than the reserves of all but four of the world’s central banks, which are expanding holdings for the first time in a generation.

Money Managers

Hedge funds and other money managers boosted bets on higher futures prices for the first time in three weeks. Net-long positions in gold futures and options rose by 3.5 percent to 151,347 contracts in the week ended Dec. 6, U.S. Commodity Futures Trading Commission data show. That’s still down 40 percent since the beginning of August, when positions were at the highest level since at least June 2006, the data show.

While the drop below $1,670 spurred more physical buying from India and South East Asia, the demand increase is from “relatively low” levels, Standard Bank Plc wrote today in a report. UBS AG said its physical flows to India yesterday were “well above” average and the most since Oct. 20.

“This pullback finally encouraged a response from the physical community,” Edel Tully, an analyst at UBS in London, wrote in a report. “Market participants are placing a lot of importance on physical buyers to step in and put a floor under gold. The physical response seen this week, though not yet enough to call a trend, should somewhat calm these investors.”

Imports Rise

In China, the second-largest consumer, gold imports to the mainland from Hong Kong surged 51 percent to 86.3 tons in October to a monthly record, according to the Census and Statistics Department of the Hong Kong government. China imported more than 300 tons for all of 2010, Yi Gang, People’s Bank of China Vice Governor, said in February.

“Buying of that sort should have sent gold prices soaring,” Gartman wrote. “One of the oldest rules of trading is simply this: a market that cannot or does not respond to bullish news is a bearish market not a bullish one.”

The S&P GSCI Index of 24 commodities plunged as much as 66 percent in the seven months through February 2009 after Gartman in June 2008 said there would be a “tidal wave” of selling. The economist said Aug. 23 that gold was entering the stage when prices go “parabolic,” two weeks before the metal peaked at its record high.

To contact the reporters on this story: Nicholas Larkin in London at nlarkin1@bloomberg.net .

To contact the editor responsible for this story: Claudia Carpenter at ccarpenter2@bloomberg.net .

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China-Based Hacking of 760 Companies Shows Global Cyber War

Dec. 14 (Bloomberg) — Google Inc. and Intel Corp. were logical targets for China-based hackers, given the solid-gold intellectual property data stored in their computers. An attack by cyber spies on iBahn, a provider of Internet services to hotels, takes some explaining.

iBahn provides broadband business and entertainment access to guests of Marriott International Inc. and other hotel chains, including multinational companies that hold meetings on site. Breaking into iBahn’s networks, according to a senior U.S. intelligence official familiar with the matter, may have let hackers see millions of confidential e-mails, even encrypted ones, as executives from Dubai to New York reported back on everything from new product development to merger negotiations.

More worrisome, hackers might have used iBahn’s system as a launching pad into corporate networks that are connected to it, using traveling employees to create a backdoor to company secrets, said Nick Percoco, head of Trustwave Corp.’s SpiderLabs, a security firm.

The hackers’ interest in companies as small as Salt Lake City-based iBahn illustrates the breadth of China’s spying against firms in the U.S. and elsewhere. The networks of at least 760 companies, research universities, Internet service providers and government agencies were hit over the last decade by the same elite group of China-based cyber spies. The companies, including firms such as Research in Motion Ltd. and Boston Scientific Corp., range from some of the largest corporations to niche innovators in sectors like aerospace, semiconductors, pharmaceuticals and biotechnology, according to intelligence data obtained by Bloomberg News.

‘Stealing Everything’

“They are stealing everything that isn’t bolted down, and it’s getting exponentially worse,” said Representative Mike Rogers, a Michigan Republican who is chairman of the Permanent Select Committee on Intelligence.

China has made industrial espionage an integral part of its economic policy, stealing company secrets to help it leapfrog over U.S. and other foreign competitors to further its goal of becoming the world’s largest economy, U.S. intelligence officials have concluded in a report released last month.

“What has been happening over the course of the last five years is that China — let’s call it for what it is — has been hacking its way into every corporation it can find listed in Dun & Bradstreet,” said Richard Clarke, former special adviser on cybersecurity to U.S. President George W. Bush, at an October conference on network security. “Every corporation in the U.S., every corporation in Asia, every corporation in Germany. And using a vacuum cleaner to suck data out in terabytes and petabytes. I don’t think you can overstate the damage to this country that has already been done.”

Foreign Governments

In contrast, U.S. cyberspies go after foreign governments and foreign military and terrorist groups, Clarke said.

“We are going after things to defend ourselves against future attacks,” he said.

Such accusations intensified when a Nov. 3 report by 14 U.S. intelligence agencies fingered China as the No. 1 hacker threat to U.S. firms. While the Obama administration took the unprecedented step of outing China by name, the White House, U.S. intelligence agencies and members of Congress are struggling to assess how much damage is being done during such attacks and what to do to stop them beyond public rebuke.

For now, the administration is concentrating on raising awareness among company executives and seeking a commitment to improve security against such attacks. Rogers has a bill pending in the House that would permit the government to share secret information that would help companies spot hacker intrusions, such as signatures of malicious Chinese software.

Consistently Denied Responsibility

China has consistently denied it has any responsibility for hacking that originated from servers on its soil. Geng Shuang, a spokesman for the Chinese embassy in Washington, didn’t respond to several e-mails and phone calls requesting comment. Wang Baodong, another Chinese government spokesman in Washington, also didn’t respond to requests for comment.

Based on what is known of attacks from China, Russia and other countries, a declassified estimate of the value of the blueprints, chemical formulas and other material stolen from U.S. corporate computers in the last year reached almost $500 billion, said Rogers, a former agent for the Federal Bureau of Investigation.

Stolen Information

U.S. officials are grappling with how stolen information is being used, said Scott Borg, an economist and director of the U.S. Cyber Consequences Unit, a non-profit research institute. Calculating the damage depends on hard-to-know variables, such as how effectively and quickly thieves can integrate stolen data into competing products, the senior intelligence official said.

While a precise dollar figure for damage is elusive, the overall magnitude of the attacks is not, Borg said.

“We’re talking about stealing entire industries,” he said. “This may be the biggest transfer of wealth in a short period of time that the world has ever seen.”

The public evidence against China now being rolled out by the Obama administration, Rogers and others in Congress has been collected by the intelligence community over several years. Many of the details remain classified.

The hackers who attacked iBahn are among the most skilled of at least 17 China-based spying operations the U.S. intelligence community has identified, according to a private security official briefed on the matter who asked not to be identified because of the subject’s sensitivity.

Massive Espionage Ring

The hackers are part of a massive espionage ring codenamed Byzantine Foothold by U.S. investigators, according to a person familiar with efforts to track the group. They specialize in infiltrating networks using phishing e-mails laden with spyware, often passing on the task of exfiltrating data to others.

Segmented tasking among various groups and sophisticated support infrastructure are among the tactics intelligence officials have revealed to Congress to show the hacking is centrally coordinated, the person said. U.S. investigators estimate Byzantine Foothold is made up of anywhere from several dozen hackers to more than one hundred, said the person, who declined to be identified because the matter is secret.

“The guys who get in first tend to be the best. If you can’t get in, the rest of the guys can’t do any work,” said Richard Bejtlich, chief security officer for Mandiant Corp., an Alexandria, Virginia-based security firm that specializes in cyber espionage. “We’ve seen some real skill problems with the people who are getting the data out. I guess they figure if they haven’t been caught by that point, they’ll have as many chances as they need to remove the data.”

Secretive Companies

U.S. and other companies have been secretive about the details of their computer security. When Google announced in 2010 that China-based hackers had raided its networks, it was a rare example of a U.S. company publicly revealing a cyberburglary aimed at its intellectual property — in this case, its source code.

Mountain View, California-based Google, the world’s largest search-engine firm, said at the time that at least 34 other major companies were victims of the same attack. However, only two — Intel and Adobe Systems Inc. — stepped forward, and they provided few specifics.

Google vastly underestimated the scope of the spying. Intelligence documents obtained by Bloomberg News show that China-based hackers have hunted technology and information across dozens of economic sectors and in some of the most obscure corners of the economy, beginning in 2001 and accelerating over the last three years. Many of the victims have been hacked more than once.

Byzantine Foothold

One victim of Byzantine Foothold, Associated Computer Systems, a division of Xerox Corp., provides back-office services such as accounting and human resources for thousands of multinational firms and government agencies in more than 100 countries. According to its website, ACS’s expertise includes digitizing and storing documents, a potential treasure-trove of information on the firm’s corporate clients, including carmakers and computer companies.

Other targets of the group include large companies such as Hewlett-Packard Co., Volkswagen AG and Yahoo! Inc. Smaller firms in strategic sectors were also hit, such as iBahn and Innovative Solutions & Support Inc., which manufactures flight-information computers; as were Massachusetts Institute of Technology, the Italian Academic and Research Network and the California State University Network.

An informal working group of private-sector cybersecurity experts and government investigators identified the victims by tracing information sent from hacked company networks to spy group-operated command-and-control servers, according to a person familiar with the process. In some cases, the targets aren’t aware they were hacked.

People’s Liberation Army

Such tracing is sometimes possible because of sloppiness and mistakes made by the spies, said another senior intelligence official who asked not to be named because the matter is classified. In one instance, a ranking officer in China’s People’s Liberation Army, or PLA, employed the same server used in cyberspying operations to communicate with his mistress, the intelligence official said.

Many of the cyberattacks have been linked to specific China-related events, a pattern noted by secret diplomatic cables published by WikiLeaks, the anti-secrecy website. During the five-year period beginning in 2006, a second group of China- based hackers ransacked the networks of at least 71 companies, government entities, think-tanks and non-profit groups, said McAfee Inc., which analyzed information from servers used in the attacks.

‘Operation Shady Rat’

Details of those intrusions were originally published in an August report by the cybersecurity firm dubbed “Operation Shady Rat.” The report didn’t name the country where the hackers were based or identify the private-sector victims. The report’s principal author, Dmitri Alperovitch, who now heads his own firm, Asymmetric Cyber Operations, confirmed the country was China.

In one of the earliest attacks on a company, cyberspies hacked into the computer networks of POSCO, the South Korean steel giant, in July 2006, Alperovitch said. The intrusion took place the same month that the steelmaker, the third largest in the world, initiated a takeover of a large steel mill in eastern China, according to the U.S.-based Epoch Times, founded by supporters of the dissident Falun Gong spiritual sect, which first noted a link between the two events.

Earthquakes and Satellites

Two years later, Chinese rescue workers were using satellite communications equipment made by the Danish technology firm Thrane & Thrane AS following a major earthquake in Sichuan province. China Daily, the quasi-official newspaper, had praised the Danish equipment’s performance. Alperovitch said the Danish firm was hacked by the Shady Rat crew three months later.

“With fans like those, who needs enemies?” he said.

John Alexandersen, a spokesman for the Lundtofte, Denmark- based Thrane & Thrane, said although he couldn’t “rule out” that hackers breached their networks, no confidential data was taken. POSCO said hackers didn’t access critical networks or intellectual property.

The approval of China’s most recent five-year economic plan provides another possible link between Chinese government policy and cyber-espionage. The plan, approved by the National People’s Congress in March, identifies seven priority industries that mirror the most prominent targets of China-based cyberspies, according to the two senior U.S. intelligence officials who have knowledge of the victims.

KPMG International, the auditing firm, said the five-year plan’s priorities include clean energy; biotechnology; advanced semiconductors; information technology; high-end manufacturing, such as aerospace and telecom equipment; and biotechnology, including drugs and medical devices.

Same Shopping List

In many cases, the iBahn hackers appear to be working off the same shopping list, according to intelligence documents.

In the biotechnology sector, their victims include Boston Scientific, the medical device maker, as well as Abbott Laboratories and Wyeth, the drug maker that is now part of Pfizer Inc.

The hackers also rifled networks of the Parkland Computer Center in Rockville, Maryland, according to documents provided to Bloomberg News by a person involved in government tracking of the cyberspies, who declined to be identified because the matter isn’t public. Parkland is the computing center for the Food and Drug Administration, which has access to drug trial information, chemical formulas and other data for almost every important drug sold in the U.S.

Manufacturing Sector

In the manufacturing sector, San Jose, California-based Cypress Semiconductor Corp., which makes advanced chips for telecommunications equipment, was a victim, as were Aerospace Corp., which provides scientific research on national security- related space programs, and Environmental Systems Research Institute, a Redlands, California-based company that develops mapping software.

In China, those industries are developing rapidly. Chinese companies were involved in 10 of the 13 global technology initial public offerings in the third quarter of 2011, according to PricewaterhouseCoopers LLP, the global auditing firm. The Chinese firms specialized in information technology, semiconductors and clean energy, like solar power, the PwC report said.

Driving China’s spike in cyberspying is the reality that hacking is cheaper than product development, especially given China’s vast pool of hackers, said a fourth U.S. intelligence official. That pool includes members of its militia, who hack on commission, the official said. They target computing, high technology and pharmaceutical companies whose products take lots of time and money to develop, the official said.

Byzantine Hades

U.S. counterintelligence authorities have been tracking China’s cyberspies for years under the classified codename Byzantine Hades, which a March 27, 2009, secret State Department cable published by WikiLeaks calls “a group of associated computer network intrusions with an apparent nexus to China.”

Byzantine Foothold, Byzantine Candor and Byzantine Anchor represent subsets, or various groups, of the overall Chinese cyber espionage threat, the person familiar with the secret tracking effort said.

Many of the companies hacked by Byzantine Foothold are Internet service providers, which can be used as platforms to hack other victims and disguise spying activity. An Oct. 30, 2008, State Department cable described China-based hackers accessing several computer networks of a commercial Internet provider in the U.S. They used the company’s systems to extract “at least 50 megabytes of e-mail messages and attached documents, as well as a complete list of usernames and passwords from an unspecified” U.S. government agency, according to the cable.

PLA’s Third Department

The cable stated that the hackers were based in Shanghai and linked to the PLA’s Third Department, a unit of the Chinese military that, according to a 2009 report by the U.S.-China Economic and Security Review Commission, is responsible for cyber operations.

“Some notion that this isn’t nation-state driven is just false,” said Rogers, the House intelligence committee chairman.

Fifteen of the companies and universities identified as hit by the iBahn hackers and contacted by Bloomberg News either declined to comment, said they had no knowledge of the attack, or didn’t respond to requests for comment. Erik Fallis, a spokesman for the California State University Network, said that following an investigation, “no evidence was found to suggest that this event compromised CSU assets.”

Obama administration officials seeking to forge a robust policy and diplomatic response are facing few good options, said Clarke, the former White House cyber security official.

UN Security Council

China, a member of the UN Security Council, has the power to veto multilateral initiatives aimed at the country that pass through that body.

Sanctions on Chinese goods in sectors that have been heavily targeted by cyberspies — green energy, semiconductors and pharmaceuticals — would be a problematic solution, probably sparking a trade war, said James Lewis, a cyber security expert at the Center for Strategic and International Studies in Washington.

U.S. government officials considering whether major corporate networks should be protected as a national security asset face opposition even from some victims protective of the Internet’s laissez-fair culture, said Richard Falkenrath, a senior fellow for counterterrorism and national security studies at the Council on Foreign Relations.

“The situation we are in now is the consequence of three decades of hands-off approach by government in the development of the Internet,” Falkenrath said.

Lack the Leverage

For now, administration officials have correctly assessed that they lack the leverage to compel China to change its alleged criminal behavior, he said.

“The Cold War is a pretty good analogy,” Falkenrath said. “There was never any serious effort to change the internal character of Soviet state.”

At a minimum, the November intelligence agency report does throw down a marker in that conflict, said Estonian Defense Minister Mart Laar. Estonia, which suffered a massive cyber attack in 2007 it said originated from Russia — is pushing for a NATO cyber defense alliance.

“I remember how the Cold War was changed, and you could for the first time feel the Soviet defeat coming when Ronald Reagan called the Evil Empire evil,” Laar said.

To contact the reporters on this story: Michael Riley in Washington at michaelriley@bloomberg.net John Walcott in Washington at jwalcott9@bloomberg.net .

To contact the editor responsible for this story: Michael Hytha at mhytha@bloomberg.net .

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Gold Extends Rout as Haven Investors Target Dollar on Europe

Dec. 15 (Bloomberg) — Gold extended a rout into a fourth day as concern that Europe’s debt crisis is escalating boosted the dollar, raising the prospect that the precious metal may enter a bear market. Platinum dropped to a two-year low.

Spot gold dropped 0.5 percent to $1,566.55 an ounce at 1:46 p.m. in Singapore. The price lost 8 percent in the preceding three days, and is set for the worst weekly fall since the period to Sept. 23. The February-delivery contract dropped as much as 1.2 percent to $1,567.60 on the Comex.

The dollar rose to an 11-month high against the euro yesterday on signs of increased funding stress as Europe battles its debt crisis, driving spot gold to $1,563.38, the lowest level since Sept. 26. Gold dropped below its 200-day moving average yesterday for the first time in almost three years, indicating to some analysts that more declines may be in store.

“People are fearful of everything that’s going on, so once something starts selling off, selling begets selling,” said Rachel Benepe, a portfolio manager at First Eagle Investment Management LLC. “The safe haven of choice continues to be the U.S. dollar,” Benepe said in a Bloomberg Television interview.

Cash platinum fell for a fourth day, losing as much 3 percent to $1,378.50 an ounce, the lowest level since Nov. 13, 2009. Palladium also dropped for a fourth day, declining 0.5 percent to $615.25 an ounce.

Record Holdings

This week’s decline in gold has come even as holdings in bullion-backed exchange-traded funds rose to an all-time high, gaining 0.1 percent to 2,360.810 metric tons yesterday, according to data tracked by Bloomberg.

Spot gold reached a record $1,921.15 in September, and a 20 percent decline from that peak — regarded by some investors as signaling a bear market — would be a price of $1,536.92. Gold has dropped 18 percent from the all-time high.

“Technically we’re looking weak,” said Jonathan Barratt, managing director at Commodity Broking Services Pty in Sydney. “As the U.S. dollar picked up strength, everyone just ran from the market.”

Mining shares dropped. Newcrest Mining Ltd., Australia’s biggest producer, fell for a fifth day, losing as much as 4.2 percent to A$30.47. Barrick Gold Corp., the world’s top producer, lost 3.8 percent in Toronto yesterday, the most in a month.

Gold is still set for an 11th year of gains after investors sought to protect their wealth from weaker currencies, falling equities and rising inflation. Within that rally there have been bear-market slumps. In 2008, spot gold tumbled 34 percent from a then-record $1,032.70 in March to the year’s low in October.

‘Fighting Chance’

The metal remains one of the top commodity picks for 2012 as “most of the factors that pushed gold higher in 2011 are not going away,” according to UBS AG, which expects it to average $2,050 an ounce next year. “So long as uncertainty abounds, gold has a fighting chance of outpacing many asset classes,” analysts including Julien Garran wrote in a report yesterday.

Gold’s so-called 14-day relative-strength index was at 27.21 today. The index last dropped below a level of 30, a signal that prices may rebound, in September 2008.

German Chancellor Angela Merkel said that there is no easy solution to the European sovereign-debt crisis after rejecting an increase in the upper limit of funding for the region’s permanent bailout mechanism. The euro fell below $1.30 for the first time since January, and traded at $1.2988 today.

Spot silver declined for a fourth day, dropping as much as 1.8 percent to $28.40 an ounce, the lowest level since Sept. 26.

To contact the reporter on this story: Glenys Sim in Singapore at gsim4@bloomberg.net

To contact the editor responsible for this story: James Poole at jpoole4@bloomberg.net

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Iran Shows Downed Spy Drone as U.S. Assesses Technology Loss

Dec. 9 (Bloomberg) — The unmanned RQ-170 Sentinel is still highly classified, yet since one came down in Iran five days ago, it’s a lot less secret.

Three U.S. defense officials said the plane the Iranians displayed on television yesterday appears to be the Lockheed Martin Corp. RQ-170 that controllers lost contact with on Dec. 4. The Pentagon and the Central Intelligence Agency have declined to comment on the matter.

Three U.S. intelligence officials said the greatest concern now is that the Iranians will give Russian or Chinese scientists access to the aircraft, which is designed to be virtually invisible to radar and carries advanced communications and surveillance gear.

Studying it may give two technologically sophisticated potential adversaries insight into the unmanned spy plane’s flight controls, communications gear, video equipment and self- destruct, holding pattern or return-to-base mechanisms, officials said. The officials spoke on condition of anonymity because the RQ-170 is part of a Secret Compartmented Intelligence (SCI) program, a classification higher than Top Secret, and because the investigation into the loss of the drone is also classified.

Reverse Engineering

In addition, they said, the remains of the RQ-170 could help the Russians, Chinese, Iranians or others develop Infrared Surveillance and Targeting (IRST) or Doppler radar technology that under some conditions are capable of detecting stealth aircraft such as drones and the new Lockheed Martin F-35s.

There also is a danger that the fallen Sentinel’s shape, special coatings, control surfaces, engine inlet and other unique qualities could help other countries develop or improve their own radar-evading aircraft, such as China’s J-20 stealth fighter.

“There is the potential for reverse engineering, clearly,” Air Force Chief of Staff General Norton Schwartz said yesterday during a taping of the television show “This Week in Defense News,” according to Air Force Times. “Ideally, one would want to maintain the American advantage. That certainly is in our minds.”

If the jet “comes into the possession of a sophisticated adversary, there’s not much the U.S. could do about it,” he said.

The intelligence officials said that Chinese or Russian access to the drone is a greater concern than a possible Iranian effort to reverse-engineer the RQ-170, which they said is unlikely given the drone’s special coatings and other materials.

Stealing Secrets

“Buy, Build or Steal: China’s Quest for Advanced Military Aviation Technologies,” a new report from the Institute for National Strategic Studies at the National Defense University in Washington, says that stealth technology is a high priority for Beijing since “few things differentiate the lethality of an air force more than the level of technology in its most advanced aircraft.”

“China will likely rely more heavily on espionage to acquire those critical military aviation technologies it cannot acquire legitimately from foreign suppliers or develop on its own,” the report concludes.

Nevertheless, the Obama administration didn’t seriously consider bombing the wreckage or sending special operations forces into Iran to destroy or retrieve it because either would be an act of war, two U.S. officials said.

Hacking Claim

Reverse engineering the Sentinel or its components would be difficult and time consuming, the intelligence officials said. The most troubling prospect is that the Iranians’ second claim about how they brought it down — by hacking into its controls and landing it themselves — might be true, said one of the intelligence officials .

The official said the possibility that the Iranians, perhaps with help from China or Russia, hacked into the drone’s satellite communications is doubly alarming because it would mean that Iranian or other cyber-warfare officers were able to disable the Sentinel’s automatic self-destruct, holding pattern and return-to-base mechanisms.

Those are intended to prevent the plane’s secret flight control, optical, radar, surveillance and communications technology from falling into the wrong hands if its controllers at Creech Lake Air Force Base or the Tonopah Test Range, both in Nevada, lose contact with it.

Targeting Computer Networks

In recent years, one of the officials said, computer hackers thought to be part of extensive Chinese or Russian cyber espionage efforts have attacked the computer networks of numerous defense contractors, including Lockheed Martin; broken into two satellite ground stations and planted keystroke logging software in some military computers — including some that are used to control some U.S. drones.

It isn’t known whether that malware has been found in RQ- 170 computers, or only in those used to control less advanced drones such as the Predator and Reaper, made by General Atomics Aeronautical of San Diego, that are used by the Air Force and CIA in Afghanistan, Pakistan, Yemen, Somalia and elsewhere.

Two U.S. intelligence officials said that while the drones’ and other military and intelligence computer networks are kept separate from the public Internet, investigators have uncovered what they said are numerous instances when thumb drives containing Chinese and other malware have infected classified networks. Often, they said, such infections have spread quickly and proved very difficult to eradicate.

Television Debut

The drone made a 2 1/2 minute television debut yesterday on Iran’s state-owned Press TV channel. Two U.S. officials with knowledge of the RQ-170 program said that some details, including the seams on the drone’s fuselage, its access ports and its unusual air intake, appear to confirm that it’s genuine.

The official Iranian Republic News Agency reported that the Foreign Ministry protested the “violation of Iran’s airspace by a U.S. spy drone on Dec. 4,” the day Iranian forces claimed to have shot down the aircraft 140 miles inside the Iranian border from Afghanistan.

The RQ-170 was flying a reconnaissance mission inside Iranian airspace when its controllers lost contact with it, U.S. officials said.

The officials said that for three years the U.S. has been flying two types of unmanned surveillance missions over Iran and along the Afghanistan-Iran border from a 9,200-foot runway at a former Soviet airbase in Shindand in western Afghanistan’s Herat province.

In addition to monitoring construction and other activity at suspected Iranian nuclear facilities from high altitudes, the officials said, the CIA has been using drones to monitor cross- border traffic and Iranian support for insurgents.

The CIA, not the Air Force, flies the missions inside Iran so they are covert operations that the U.S. government can deny.

To contact the reporter on this story: John Walcott in Washington at jwalcott9@bloomberg.net

To contact the editor responsible for this story: Mark Silva at msilva34@bloomberg.net

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Franco-British Alarm of 1989 Comes True as Merkel Calls EU Shots

Dec. 8 (Bloomberg) — In 1989, France’s Francois Mitterrand and Britain’s Margaret Thatcher maneuvered to block German reunification. Their concerns that the expanded nation would prove an irresistible force are now coming to pass.

As Europe’s financial crisis intensifies after two years and with 1.1 trillion euros ($1.5 trillion) of short- and long- term euro-area government debt due in 2012, German Chancellor Angela Merkel has forced French President Nicolas Sarkozy into retreat and left U.K. Premier David Cameron on the sidelines.

Berlin’s dominance has shaken the Franco-German equilibrium at the heart of the post-World War II balance of power. Debt contagion and slumping growth have driven French borrowing costs to a euro-era record against Germany. The result may be a remade political map with even Poland, invaded by Adolf Hitler in 1939, calling for a stronger German role.

“We are an unwilling leader,” Wolfgang Ischinger, a former German ambassador to Britain and the U.S. and now chairman of the Munich Security Conference, said in an interview. “We have been trying for 50 years not to lead. Germany will have to grow up now. It’s new and there will be a learning curve and mistakes will be made.”

Merkel is heading into a European Union summit starting tonight in Brussels with a debt-crisis blueprint that emphasizes German priorities of more forceful policing of budgets and moves toward a fiscal union with a minimal role for the European Central Bank. Sarkozy backed it and won concessions to water down some German demands, while giving up France’s aim to bring the ECB to the forefront of the fight.

‘Rivals or Partners’

“What’s right on one side of the Rhine is right on the other side of the Rhine,” Sarkozy said, referring to the 1,320 kilometer (820 mile) waterway that forms much of their border. “History and geography have made France and Germany rivals or partners,” he said in a Dec. 1 speech in Toulon, France.

The nations fought three wars between 1870 and 1945, and after World War II, their leaders pushed European integration to prevent a fourth from ever occurring.

The first step in creating today’s 27-nation EU was the European Coal and Steel Community, set up in 1951 to ensure joint control of the resources of war and make armed conflict “materially impossible,” according to Robert Schuman, the then French foreign minister and an architect of European unity.

Yet four decades later, German unification being forged on the Berlin Wall’s rubble was a bridge too far for Mitterrand and Thatcher, according to a previously classified letter describing a Jan. 20, 1990, meeting of the two leaders in Paris, written by Thatcher’s private secretary, Charles Powell and posted on the Margaret Thatcher Foundation’s website.

Thatcher’s ‘Problem’

“This would confront us all with a major problem,” Thatcher was quoted as saying. Mitterrand said West German “agents” were agitating in the east for unity and “Germany could if it wished achieve reunification, bring Austria into the European Community and even regain other territories which it had lost as a result of the war. They might make even more ground than had Hitler.”

Chancellor Helmut Kohl, who guided the two Germanys to unity, complained in his memoirs that Mitterrand played a “double game” on unification and that the French leader felt he didn’t need to express opposition in the belief that Soviet leader Mikhail Gorbachev would never allow it to happen.

“I didn’t realize it at the time: Mitterrand and Margaret Thatcher were betting that Gorbachev would never accept a united Germany in NATO,” according to Kohl’s 2009 book, Vom Mauerfall zur Wiedervereinigung (From the Fall of the Wall to Reunification). “They totally deluded themselves.”

Mitterrand’s Concerns

Underscoring the intensity of Mitterrand’s doubts, the memo quoted him saying the prospect of unity had turned Germans into “the ‘bad’ Germans they used to be” and “they were behaving with a certain brutality.”

Kohl did agree to give up the deutsche mark over public opposition as France sought to contain Germany in a political and monetary straitjacket. The Maastricht Treaty, two years after German unity in 1992, mapped the path toward monetary union. The euro was established in 1999 and bank notes and coins came into circulation in 2002.

Mitterrand opposed the creation of a “mark zone,” Hubert Vedrine, his spokesman at the time of unification and subsequently foreign minister, said in an interview.

German economic growth has picked up steam since 2009, outpacing France. Germany, with a population of 82 million compared with France’s 65 million, expanded 3.6 percent last year compared with France’s 1.4 percent.

France ‘Marginalized’

“One of the most profound consequences of the euro crisis is that France has almost been marginalized,” Gary Smith, executive director of the American Academy in Berlin, said in an interview. “The model of Franco-German balance of power has become obsolete and Germany and others have to rethink the EU.”

The German ascent has sparked grumbling throughout Europe and revived invective in countries such as Greece where some politicians compared German demands for austerity to a Nazi past.

“There’s a lot of resentment, just look at the swastika caricatures in Greece,” said Ischinger, who was also a deputy German foreign minister.

Sarkozy has been criticized by political opponents for giving in to Merkel’s policies. “It’s Merkel who decides and Sarkozy who follows,” said Francois Hollande, the Socialist Party presidential candidate who polls show would beat the incumbent in France’s May 2012 elections.

Arnaud Montebourg, a Socialist lawmaker, said Merkel’s policies were a “German diktat in the euro zone.”

The hand wringing may be most pronounced in Germany as nationalist sentiment seeps into the political mainstream.

German Spoken

Merkel’s Christian Democratic bloc leader in parliament, Volker Kauder, hailed what he said is the new European acceptance of the Chancellor’s debt-crisis prescriptions.

“All of a sudden, German is being spoken in Europe,” Kauder said in a speech at a CDU party congress in Leipzig on Nov. 15. “Not the language but in accepting the instruments that Angela Merkel fought for so long — and with success.”

That sparked a backlash with former Chancellor Helmut Schmidt saying such comments fuel doubts on the “reliability” of German policies.

“Damaging German national muscle-flexing” has been a characteristic of the Merkel coalition, Schmidt, 92, who led West Germany from 1974 to 1982, said in a speech on Dec. 4 to his opposition Social Democratic Party in Berlin.

Still, Merkel, 57, has leaned on Sarkozy, 56, to build bridges, even if he is becoming the junior partner.

“We went from Franco-German parity to a German dominance,” France’s Vedrine said. “But this situation is embarrassing Germany a little bit, it is seeking therefore the Franco-German couple to shun any finger pointing.”

Sarkozy ‘Frantic’

Fredrik Erixon, director of the European Centre for International Political Economy in Brussels, said that Sarkozy is “frantically” seeking to position himself as close to Merkel as possible.

“The bond yield spread shows that markets understand what we already knew politically: There’s no more equality between Berlin and Paris,” Erixon said in an interview. The terms of Franco-German relations are now dictated by Germany.’’

The extra yield demanded to lend to AAA rated France for 10 years instead of Germany reached 200 basis points on Nov. 17, the widest since 1990. The risk premium is now around 110 basis points. French borrowing costs are about a full percentage point above the top-rated U.K.

For her part, Merkel, in a speech to parliament in Berlin on Dec. 2, rejected claims that Germany is dictating policy.

“It’s absurd to say that Germany wants to dominate Europe in any way,” Merkel said.

Export Machine

Concerns of German hegemony come as the nation, the world’s second-biggest exporter after China, turns away from Europe as a source of growth.

German exports in 2011 will probably rise 12 percent and breach the 1 trillion euro level for the first time as demand from emerging markets offsets waning sales in Europe, the BGA Exporters and Wholesalers said on Nov. 29.

Porsche SE’s biggest market is the U.S. China, its No. 2, is about to overtake sales in America.

In contrast, French carmaker PSA Peugeot Citroen’s home market is its biggest, with 29 percent of its unit sales in the first half of this year, compared with 12 percent in China and none in the U.S.

Bernard de Montferrand, who served as French ambassador to Germany from 2007 to 2011, said France has lost momentum and “a great share of its competitiveness.”

‘Universal Rule’

“Is Germany imposing its discipline on its partners?” Montferrand said in a telephone interview. “So be it. Is economic common sense a German product or a bad thing? No, it’s a universal rule. And European nations, including France, had departed from good management.”

The sea change from the French stance in the run-up to the 1990 German reunification is reflected elsewhere in Europe as geopolitics take a back seat to solving the debt crisis. Take Poland, where the German invasion in 1939 triggered the British and French declaration of war against the Nazis.

As Germany reunified, Poland feared Kohl wouldn’t recognize the Oder-Neisse Line — the post-war border between Germany and Poland — and that Germany might make claims on its former territories now part of Poland, including Silesia, Pomerania and East Prussia. Kohl confirmed the Oder-Neisse line and formally gave up any possibility of such claims in 1990.

Polish Foreign Minister Radoslaw Sikorski has urged Germany to play a bigger role in saving the euro.

Polish Reversal

“I will probably be the first Polish foreign minister in history to say this, but here it is: I fear German power less than I am beginning to fear its inactivity,” Sikorski said in a Nov. 28 speech in Berlin. “You have become Europe’s indispensable nation. You may not fail to lead: not dominate, but to lead in reform.”

Russia too, wants Germany to “take a leadership role in Europe,” said Sergei Karaganov, head of the Moscow-based Council on Foreign and Defense Policy.

“Despite our differences with the Europeans, the EU has been the most comfortable partner for Russia in its centuries of history,” Karaganov said in an interview. “Now, unless Germany saves it, we will face a new threat from Europe as a factor of instability.”

Horst Teltschik, who served as Kohl’s deputy chief of staff and helped negotiate German unification, agrees.

“All EU states know that Germany is the strongest member in the bloc,” he said in a telephone interview. “As a German, I would never talk about a leadership role in the EU. Everybody knows that. So there’s no need to talk about being the biggest or the strongest or whatever. Germany just must do it.”

To contact the reporter on this story: Leon Mangasarian in Berlin at lmangasarian@bloomberg.net

To contact the editor responsible for this story: James Hertling at jhertling@bloomberg.net

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