PRC Espionage Leads to ‘Terf’ War

Investigators say China placed students in American universities to gain secret information about an exotic material with valuable industrial and military uses

by Scott Wheeler, Insight Magazine — October 29, 2002

The U.S. Navy spent millions of dollars to develop Terfenol-D in the early 1980s, and intelligence experts estimate that the People’s Republic of China (PRC) has devoted extensive resources to try to steal it. INSIGHT has learned that these PRC efforts have paid off.

The spy target is an exotic material made up of two types of rare-earth metals called lanthanides, terbium and dysprosium, plus iron (FE). The NOL stands for Naval Ordnance Laboratory. Hence the name Terfenol-D.

Those who have worked with this exotic material call it almost magical. “It changes shape when you apply a magnetic field to it,” says Jonathan Snodgrass, the chief scientist at Etrema Products Inc. of Ames, Iowa. Until recently, Etrema was the only U.S. company authorized by the Navy to work with Terfenol-D, following its development at the Department of Energy’s Ames Laboratory, which is managed by Iowa State University. Scientists and engineers say Terfenol-D is a technology of the future with many commercial and industrial uses. But the Navy has its own uses for Terfenol-D, including high-tech sonar devices in U.S. submarines to detect and track enemy vessels. That is why the Department of Defense (DoD) jealously guards the process that produces this substance.

But a burgeoning demand from commercial markets for the material has caused Terfenol-D to be classified as a “dual-use technology.” Since the Department of the Navy invented it, the DoD is allowed to say who can use it. So, in order for a U.S. company to export a product that contains even a tiny amount of Terfenol-D, that company must have permission from the DoD in the form of an export license. Even if such a license is granted, the DoD places strict limits on the exporter to ensure absolute control of the material. Although possession of some of the material would not by itself reveal the process, the DoD wanted to limit any opportunity for a potentially hostile government to get close inspection of the substance.

Despite the U.S. government’s best efforts to keep secret the process that creates Terfenol-D, the PRC was able to obtain enough information to develop a crude version. Some U.S. officials tell INSIGHT that China was able to obtain information about the secret process by placing “students at Iowa State University to work in and around the Ames Laboratory.” INSIGHT has learned that an active investigation is under way by U.S. government agencies including the FBI, which declined to answer questions posed by this reporter. INSIGHT has confirmed that the government also has documented other PRC attempts to obtain the Terfenol-D process by espionage, spelled out in a classified document.

The Ames Laboratory confirmed that it had employed PRC students who attended Iowa State University, but it was unable to provide any details by press time. Government officials are concerned that technology transfers are occurring in the context of academic exchanges between scientists and students working to solve scientific problems. It is during such “problem-solving discussions,” experts say, that students from China or elsewhere are able to gain information that they take back “to their home countries and advance technologies there that often wind up in weapons systems.”

INSIGHT also has obtained information that U.S. government analysts say shows continued and aggressive efforts by the PRC to “improve its Terfenol-D program” and “sell a copycat version on the international market.”

Gansu Tianxing Rare Earth Functional Materials Co. Ltd. (TXRE) was founded in the PRC in June 1998, according to company literature, which also claims that TXRE is a private company. It says TXRE perfected its own technique to produce “Tb-Dy-Fe series giant magnetostrictive materials of high performance.” That is, Terfenol-D.

An official familiar with the U.S. investigation tells INSIGHT “that it is unclear precisely when the PRC came up with Terfenol-D,” or where they got it, but INSIGHT has confirmed through sources who did not want to be identified that the computer system of Etrema Products, the Navy contractor, was hacked approximately two years ago. These officials say the company reports that “within hours of sending e-mails to clients interested in the Terfenol-D technology, those same clients would be contacted by the PRC company attempting to sell the same material.”

Etrema’s Snodgrass tells INSIGHT that he cannot comment on these incidents, but says of China’s Terfenol-D program that “basically these are pirate knockoffs of our products” and the matter “currently is being reviewed by the company’s legal counsel.” Apart from the U.S. government’s concern about the espionage aspect, Etrema Products sees the Terfenol-D project in the PRC as a potential patent infringement.

INSIGHT contacted Adaptronics Inc. of Troy, N.Y., the U.S. agent for TXRE. A company representative named Philip Bouchilloux openly acknowledged that TXRE’s product is their version of Terfenol-D. He says the company “just started distributing [it] a few months ago” and that “sales are not significant” at this point. Bouchilloux says Adaptronics is a U.S.-registered company with foreign owners but declines to reveal anything more about the company ownership. Asked if he is aware of Etrema’s assertions concerning the patents for Terfenol-D, he says, “Yes, I am aware.”

The U.S. Defense Security Service (DSS) is the agency responsible for tracking industrial espionage against companies with the clearances necessary to work on defense projects. DSS would not discuss the Terfenol-D incidents or subsequent investigation, but a manual it distributes to counterintelligence special agents lists “exploitation of Internet (hacking)” as “one of the most frequently reported foreign collection methods of operation.”

In 1999, the U.S. House of Representatives released the Report of the Select Committee on U.S. National Security and Military/Commercial Concerns With the People’s Republic Of China. Otherwise known as the “Cox report,” it detailed PRC espionage against U.S. military technology. The report lists “rare-earth metals” and “special-function materials” as “exotic materials” that are “the key areas of military concern” about PRC espionage targets. The report also states that “Professional intelligence agents from the MSS [Ministry of State Security] and MID [Military Intelligence Department] account for a relatively small share of the PRC’s foreign science and technology collection.” Rather, the report explains, “The bulk of such information is gathered by various nonprofessionals, including PRC students, scientists, researchers and other visitors to the West.”

A university faculty member who did not wish to be identified has provided INSIGHT with biographical information on a student the faculty member considers unusual because the student had worked in the PRC on China’s Terfenol-D program. The student, who we will call Chang, is studying for a doctorate at Penn State University, where there is extensive ongoing research on Terfenol-D for the U.S. Navy. At about the same time the hacking incident was discovered at Etrema Products, Chang applied to attend Penn State.

When INSIGHT contacted Chang to ask about his experience in the PRC working with Terfenol-D, he candidly said: “The main work I did [in China] was collecting materials regarding the properties of Terfenol-D.” At the time, Chang’s supervisor was “Professor Dechen Chen,” according to Chang’s resume. He tells INSIGHT that his job in China was to “find out useful information” for Chen, who Chang says “is doing some research on a big project which I cannot release to you. It’s confidential, regarding Terfenol-D. It’s for the [People’s Liberation] Army.”

Chang says he currently is not working directly with Terfenol-D but on a related piezoelectric project, which involves ceramic-based active materials that respond to electricity the way Terfenol-D responds to magnets. Both would be targeted as “exotic materials” under the Cox-report definition. Asked if he still communicates with Chen in Beijing, Chang says, “I am keeping in touch with him.”

Chang nonetheless tells INSIGHT he is not working on any classified project at Penn State. The university lab where he works did not respond to INSIGHT’S efforts to confirm this.

A graduate student from the PRC who is known to have worked on a secret military project in China should not be doing research at a U.S. university with defense-research projects, say U.S. national-security specialists familiar with the way the PRC conducts espionage. And especially not on a high-tech material related to that on which he focused in Beijing. “The MSS recruits students” as espionage agents, says John Fialka, author and Wall Street Journal reporter, in his 1997 sworn testimony before the Joint Economic Committee hearings on economic espionage, technology transfers and national security. With as many as 50,000 Chinese nationals entering the United States each year, experts say the agencies tasked with being on the lookout for espionage can’t handle the workload. “While the FBI makes an effort to watch foreign students and businessmen, China’s flood has simply overwhelmed the bureau,” Fialka says.

When INSIGHT asked Chang if he was reporting on his work to the government of the PRC, he responded: “What do you mean by `the government?'” He became very defensive, denying he was a spy, and announced: “If you are working for the government or the FBI you have to tell me.”

Greg Carman, a professor in the Mechanical Aerospace and Engineering Department at the University of California, Los Angeles, says that as a technology Terfenol-D “is in its infancy” and that it has potential for “explosive growth.” Carman tells INSIGHT that crude analysis indicated Etrema’s version of Terfenol-D still is “slightly better than the Chinese version,” suggesting that the PRC may be closing the gap. While high-quality Terfenol-D being produced in China and marketed worldwide through TXRE may mean a cheaper and more plentiful product, the Cox report indicates that may not be good news for national security.

China’s so-called Sixteen Character Policy, codified in 1997, calls for “blurring of the lines between state and commercial entities, and military and commercial interests,” according to the report. Fialka says that “in this game China is a dragon with two heads.” That is, its commercial companies often are part of the PRC’s military research, development and procurement. The Cox report says the “main aim for the civilian economy [in China] is to support the building of modern military weapons and to support the aims of the PLA [People’s Liberation Army].”

The military applications of Terfenol-D still are being explored both in the United States and China. One TXRE promotional document says that Terfenol-D used in underwater sonar “brought up the best quality ever with the detection range that can reach as far as 10,000” [kilometers, or 6,200 miles]. The same document stated that “when applied to aircraft, this smart material makes a smart wing, which can be controlled much faster with enhanced reliability.”

In the context of China’s Sixteen Character Policy, say U.S. national-security experts, proliferation of Terfenol-D could make the world a lot more dangerous.

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