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CSIS and the Department of National Defence counselled Ottawa against allowing a Chinese firm to take over a Montreal high-tech company, warning it would undermine a technological edge that Western militaries have over China, The Globe and Mail has learned.Chris Wattie/Reuters

National-security agencies counselled Ottawa against allowing a Chinese firm to take over a Montreal high-tech company, warning it would undermine a technological edge that Western militaries have over China, The Globe and Mail has learned.

"If the technology is transferred, China would be able to domestically-produce advanced-military laser technology to Western standards sooner than would otherwise be the case, which diminishes Canadian and allied military advantages," said a national-security assessment prepared for cabinet by the Department of National Defence and the Canadian Security Intelligence Service in 2015.

The acquisition of ITF Technologies of Montreal by Hong Kong-based O-Net Communications is the focus of a growing controversy after Prime Minister Justin Trudeau's government reversed a Harper cabinet order that sought to unwind this foreign purchase.

Related: Liberals reverse Harper cabinet order to unwind Chinese takeover deal

The Liberals, who have made deepening relations with China a key foreign-policy objective, cancelled the order for O-Net to abandon its purchase of ITF and instead said they will grant the Hong Kong firm a second chance to win national-security approval.

National security officials were particularly concerned about O-Net, according to a source familiar with the 2015 assessment, because they considered the Hong Kong firm effectively controlled by the Chinese state. A corporate presentation prepared by O-Net in 2015 indicates more than 25 per cent of its shares are owned by a company that is a subsidiary of Chinese state-owned China Electronics Corporation.

The review of this takeover conducted while the Harper government was in office in 2015 concluded the transaction would be "injurious to national security."

In November, 2016, however, Ottawa under the Liberal government answered a legal challenge of the Harper cabinet decision by setting aside the divestment order and beginning a second national security review.

Innovation Minister Navdeep Bains's office and department have declined to explain the about-face on the Chinese-takeover deal, citing national security and commercial confidentiality.

Deepening trade relations with China, including a free-trade deal, is a key foreign-policy objective for Mr. Trudeau, and the Liberals are also loosening restrictions on outside investment. Briefing notes prepared by Global Affairs for the Trudeau cabinet say China feels Canada's national-security reviews unfairly target Beijing.

ITF, formerly Avensys, is a leader in "fibre-laser" technology that is used in telecommunications, data communications and industrial applications. Its website no longer displays information on military applications of its products, but an archived version of the site from 2015 shows ITF was offering "a range of robust, high-power components" that are military-grade for the defence market.

Sources familiar with the 2015 national-security assessment said that, in this case, it would not be possible for the buyer to take steps that would reduce or eliminate negative consequences of the transaction, which the government calls "mitigation." The only option was for O-Net to unwind the takeover of ITF.

The security assessment did not elaborate on its reference to military use of laser technology. Directed-energy weapons using fibre lasers are part of what analysts describe as a growing market, and the leading companies are in North America.

Mr. Bain's office did not respond to a request for comment this week when asked about the cabinet briefing document, and O-Net's lawyers declined to make a statement.

David Mulroney, who was Canadian ambassador to China between 2009 and 2012, said he is taken aback by the Trudeau government's decision to reverse the Harper cabinet divestment order to O-Net.

Mr. Mulroney, who had a long career as a foreign-service officer, said new governments usually want to "stake out their ground" by demonstrating they understand that national security always overrides commercial concerns.

He said unless the Liberals can demonstrate "gross negligence" in the review, he is surprised they would give O-Net a second chance.

"What I worry about – and I am talking about a pattern of things where the government seems to be sending a message to the Chinese that 'We are different from the last government,' and if that's the case, this is a dangerous way to send that message," the former envoy to China said.

"The accumulated weight of evidence – that great care needs to be taken in any high-technology transaction even remotely associated with China – is such that a reversal in this [national security] case is surprising."

O-Net had argued in an application to appeal the Harper cabinet divestment order in Federal Court that the deal is not a risk for Canada. "ITF … does not own any technologies that could be transferred to O-Net Communications that are not readily available in the marketplace," the company said in a 2015 court filing.

It said it acquired the ITF assets through an auction after the bankruptcy of its previous owner.

"There were no Canadian investors or investors from anywhere in North America that were willing to invest in ITF," O-Net said.

Fibre lasers are used in one category of directed-energy weapons. A report published by the research firm MarketsandMarkets in October, 2016, projected the market for such military goods would rise to $24.5-billion (U.S.) in 2021 from $6.9-billion in 2016, driven by increased demand for laser weapons from naval forces and a shift to more urban warfare from conventional warfare.

The report said the United States is the largest developer and exporter of directed-energy weapons, but that the Asia-Pacific market is forecast to grow significantly because countries including China have begun programs to develop such weapons.

U.S.-based Lockheed Martin has produced a fibre-laser weapon system it says has precision "equivalent to shooting a beach ball off the top of the Empire State Building from the San Francisco Bay Bridge."

ITF once participated in a university-level research project with a Canadian spy agency on the science behind making messages more resistant to hacking. Affiliated partners included Canada's eavesdropping agency, the Communications Security Establishment; the National Research Council, Ottawa's chief research arm; and the Department of National Defence. A list of photonic-industry research projects between 2005 and 2009 shows CSE, the NRC and DND all took part in the project, which uses quantum cryptography to make advances in a field where experts try to produce coded messages that are difficult or impossible to crack.

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