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China Counterfeiting: What’s Your Action Plan?

Posted in Legal News
Intellectual Property Magazine recently published an article by our lead intellectual property lawyer, Greg Buhyoff. The article is entitled, Action Plan for Asia, and it is described as follows: “Harris Moure’s Gregory F Buhyoff provides pointers on how to implement anti-counterfeiting and misappropriation investigations in China and Vietnam.” Greg practiced law in Vietnam for around ten years.
The article is behind a firewall, but we were given permission to publish it and we are doing so below.
Companies that sell or outsource their products to Asia should anticipate infringement of their trademarks, copyrights, patents, or trade secrets and have an anti-counterfeiting/misappropriation plan in place to investigate and take appropriate legal action against the infringers. The following are key points to consider in formulating such a plan.

The first step for any company doing business in Asia is to make sure that its intellectual property (“IP”) rights are protected. In China and Vietnam, for example, trademarks, patents and industrial designs must be registered to be protected.  Under international treaties, copyrights do not need to be registered to be protected, but registration makes it easier to prove ownership of a copyright in the event of a dispute. Trade secrets cannot be registered, but a trade secret is protectable if its owner has taken reasonable measures to protect its secrecy.

Before disclosing a trade secret or other proprietary confidential information to a prospective business partner, we recommend using a Non-Disclosure, Non-Use and Non-Circumvention (“NNN”) agreement that accounts for the legal and practical realities of the relevant country. Country- appropriate NNN agreements can be quite effective at deterring Chinese and Vietnamese manufacturers from copying the products of the foreign companies for whom they are manufacturing.

Companies having their products manufactured in Asia should be certain to register their IP in the countries in which their products are being sold, not just the country (or countries) in which they are being made. To further protect their IP, these companies should also submit their IP registrations to the customs authority in every country in which they either manufacture or sell their products so that customs has a strong evidentiary basis to seize infringing products.

If in spite of the above an IP owner learns that it is a victim of IP infringement, it should immediately seek to identify the nature of the problem, the geographical scope of the infringement (e.g., is it local, regional or global)?), the identities and capabilities of the organizations or individuals involved, and whether the infringing activities are ongoing and systematic. It usually makes sense to retain an experienced  investigator to assist.  The IP owner should exercise caution when engaging an investigator.  In some countries (China for one), it is not uncommon for local investigators to accept payoffs to falsify the findings of their investigations or “stage” a raid to mislead the IP owner into believing an effective investigation or raid was carried out.

It is also important that foreign company IP owners and their agents know and follow any local laws regarding what constitutes illegally obtaining information. Recently, two foreign investigators were convicted of violating Chinese privacy and state secret laws arising from investigations they conducted for the pharmaceutical company GSK. Just like in the West, “ignorance of the law is no excuse.”

In both China and Vietnam, it is important to establish good relations with government, law enforcement and political organizations at the national, provincial and local levels before you actually need their assistance to deal with stolen IP.  In managing such relationships, IP owners and their agents must be certain that they are not violating the anti-bribery laws of either their home country or the country in which they are conducting business.  The fact that your local staff told you what you were doing was “fine”, or that “local culture” condones such conduct will not serve as a defense should you or your company get caught.

The combination of foreign laws, foreign cultures and foreign languages means that it virtually always makes sense to use an attorney (either in-house or outside counsel) with relevant on-the-ground experience and knowledge of local law to coordinate oversee the external investigator.  This lawyer also can usually help ensure that the local investigator does not violate applicable laws and help formulate an effective enforcement strategy based on the evidence the investigator finds.

The investigation results should be used to determine whether to pursue administrative, civil or criminal enforcement proceedings either locally or internationally (or both), and aid in effectuating seizures of infringing goods by customs authorities.

China’s Film Industry Online, Part 4. It’s About Copyrights.

Posted in China Film Industry

This is the final post in a series looking at developments in China’s digital ancillaries market. In this series we’ve seen that China’s ancillaries are still comparatively small despite explosive box office growth. In part 1, I looked at how China leads the world in online consumption and how China’s consumers prefer to use mobile devices to get online. In part 2, I discussed the online convergence of motion picture production and motion picture distribution in China. In part 3, I examined how China film production and distribution are converging in cyberspace.

In this post, I look at the underlying driver of digital ancillaries: the law of copyright in China. Yes, you heard right: the law of copyright in China.

The paucity of ancillaries, particularly from video on demand, has usually been blamed on rampant online piracy. In turn, piracy is usually explained by failures in China’s copyright law, particularly the low damage awards available to plaintiffs in copyright infringement proceedings in China. The reluctance of Chinese consumers to pay for downloads has been another factor contributing to low ancillaries relative to box office. China’s Internet speeds are another factor. For many reasons, until quite recently the only significant online income stream for home entertainment has come mostly from advertising sold on the download platform instead of from payments at the point of download. For more information on the advertising media spend in China see PWC’s recent report on that topic.

There are signs that China’s box office dependency is fading and that ancillaries are set to grow substantially in home entertainment. Chinese consumers are increasingly willing to subscribe to advertising-free premium services in which content sits behind a paywall. This is consistent with developments reported in other media sectors, including book publishing, where Chinese consumers are increasingly prepared to buy genuine titles imported legitimately by foreign publishers. The emerging middle class is apparently prepared to pay for the real thing as a matter of status or even vanity.

According to Eric Priest, the turning point seems to have come in 2009, when Coca-Cola and Pepsi were sued in China for contributory copyright infringement because their advertisements were associated with piracy on Youku. The case was brought by members of a group calling themselves the China Online Video Anti-Piracy Alliance.

Apparently fearing a loss of substantial advertising revenues in light of this case, Youku and other Chinese user-generated content sites began to take down pirated content and obtained exclusive licenses from a range of copyright owners. The argument is that this case, and others like it at the time, led to growth in online licenses for popular Chinese shows as well as American programs. There is no denying that license fees grew significantly during this period. Between 2009 and 2011, online license fees for some popular Chinese programs went from around $1,600 per episode to $300,000 per episode.

The point is that over a very short period of time, China’s much-maligned copyright system evolved to a point where it is capable of supporting positive outcomes for the film business online.

Speaking recently at Mipcom in Cannes, Sohu CEO Charles Zhang, who was also a key player behind the Coke/Pepsi proceedings, went so far as to say that China had resolved “90 percent” of its piracy. Though some no doubt view this number as an exaggeration, many would agree with Zhang’s reference to an “explosion in paid content” and conclusion that the “overall situation is very positive”.

Copyright improvements aside, the other driver of this growth in licensing fees is that online distribution does not fit neatly within the traditional categories of media regulation in China. As Clifford Coonan, writing for The Hollywood Reporter, sees it, online has “no quota system, fewer bureaucratic hassles (i.e., less pesky censorship) and far fewer logistical headaches (no need for a middleman in the form of a state-run distributor like China Film Group).” The online world challenges and evades censorship, especially in the micro-film space. Though China’s authorities may force takedowns, it is impracticable for them to censor or approve every program before it goes online in the first place. It will be interesting to watch the regulators resolve these issues with the online companies as the sector continues to grow.

 

China Copyrights: The Basics

Posted in Basics of China Business Law, Legal News

Every so often we get emails from people asking us to direct them to one of our posts on China copyright law and every so often I respond by saying that we will be doing such a post and then I will let them know. This has gone on for years.

The big thing to know about China copyright law is that it is not all that different from US copyright law. And that is why we have been so slow to write much about it.

Basically, in China, copyrights arise as soon as an original work is created, even (in most cases) if the work has been created outside of China. So if you write a song or a book in Newton, Iowa, that book or song will automatically have copyright protection in China. You do not need to register your copyrights in China for them to be protected in that country.

However, if anyone were to steal your song or your book, enforcing your copyright claims against that person or entity would be much easier in China if you have a registered copyright. We usually recommend our clients register their copyrights in China because doing so makes it far easier and far faster to get websites like Tmall and Taobao to take down infringing goods and to get China customs to stop infringing goods from leaving the country.

Here though are a couple of key things you should know about China copyright law:

1. Among the things for which you can register a copyright in China are the following:

  • Written works
  • Music
  • Movies
  • Art
  • Photographs
  • Engineering designs
  • Toy dolls
  • Multimedia compilations
  • Software

2. If you hire someone to create a work for you, that person owns the copyright in the completed work unless you have a contract that states otherwise. I cannot tell you how many times we have been contacted by American software companies that have lost the copyrights in their software to someone (usually a group of someones) they paid to create the software in China. If you pay your joint venture entity to create software for you and you do not have a contract (preferably in Chinese) with the joint venture entity making clear that you and not the joint venture entity own the copyrights in that software, the joint venture entity will own the copyrights, not you. It also always makes sense to be clear — in writing — with your employees as to who owns the copyrightable works the employees create as between you and them.

3. Just as in the United States, copyrights may be licensed, sold, or assigned, but certain “moral rights” need to be carefully dealt with in China. Note though that some copyright licensing and copyright sales agreements are required to be registered with the Chinese government.

4. China, like the United States, allows “fair use” of another’s copyrighted works. China’s Copyright Law specifies what constitutes fair use and ”fair use” in China correlates pretty closely to what is allowed in the United States.

5. You register China copyrights with the Copyright Protection Center of China (CPCC). The fees for doing so are all over the map, depending on the nature of the work for which registration is being sought, but typically start from well under USD $100.

6. China copyrights last for fifty years or, in the case of an individual, for the author’s lifetime, plus fifty years.

China’s Film Industry Online, Part 3. Production and Distribution Converge in Cyberspace

Posted in China Film Industry

This is the third in a series of posts looking at developments in China’s digital ancillaries market. Part I is here and Part II is here. In this post I comment on the impending online convergence of motion picture production and motion picture distribution in China.

Online giants Baidu, Alibaba and Tencent (collectively, “BAT”) have each recently announced forays into production. Baidu, China’s answer to Google, is even launching a crowd fund with China Film Group. Alibaba has announced a similar initiative and will be collaborating with Hengdian World Studios. Then there’s Tencent Movies Plus, said to have seven motion pictures in development. Sure, this is not without some US parallel given Weinstein’s collaboration with Netflix on the “Crouching Tiger” sequel, but the momentum and potential scale are so much greater here in China.

What will this convergence mean for the film industry in China?

  • It will augment the trend to online consumption via mobile. BAT will want the programs they produce to be consumed on their platforms and their platforms are increasingly accessed using handheld devices.
  • It will increase the power of the e-commerce companies in the film business. Yu Dong, chairman and CEO of Beijing-based Bona Film Group, has already predicted that all movie companies will work under BAT. He said recently: “In the future, Chinese movie companies may end up as the three movie groups of BAT.”
  • It will increase responsiveness to audience tastes and demands. Huayi Brothers Media Group president Wang Zhonglei, for instance, described closer ties between the movie industry and the Internet as a “renaissance” for the film business. In his view, the center of film production has shifted from filmmakers to the people and more emphasis is now placed on incorporating the audience’s response into the moviemaking process.

In my final post in this series I will look at why developments in China’s copyright law are stimulating growth in digital ancillaries.

 

China Employment Law: How To Avoid LIFETIME Employees

Posted in Basics of China Business Law, Legal News

In China, an open-term labor contract (无固定期限劳动合同) is a contract where the employer and its employee agree that there is no definitive ending date for the labor relationship. Such a contract generally means the employer must retain the employee until his or her retirement age, though the employee can terminate at any time, with no restriction or penalty.

The PRC Labor Contract Law provides that after execution of two consecutive fixed-term labor contracts, an employee can request an open-term contract (unless grounds for termination exists). However, as is typical of so much relating to China’s employment laws, different places in China have different interpretations. For example, Beijing allows an employer to terminate the employee at the end of the first contract term. But if the employer does not terminate the employee at that time, the contract automatically becomes an open-term contract. This is another reason why we generally advise our employer clients to use an initial employment term of three years and a probation period of six months (the longest probation period possible) for their new employees, because in cities like Beijing, employers get only one shot at fixed-term employment.

In Shanghai, once an employee has completed two fixed-term contracts for an employer, the employee is entitled to an open-ended contract. But Shanghai’s interpretation is different from Beijing in that an employer in Shanghai is free to decide not to retain the employee after the second term. Note though, the employer’s decision to let the employee go is not without monetary obligations: it must pay economic compensation to the employee. Generally, the employer must pay one month’s salary for every full year the employee has worked for the employer and half of a month’s salary for less than six months’ service. If the employee has worked for more than six months but less than one year, it is treated as if he or she had worked for a full year.

To sum up, employees in China are generally entitled to an open-ended contract, provided the following conditions have been met:

  1. The employee has completed two consecutive fixed-term contracts (but note how Beijing is different on this).
  2. The employer has no statutory grounds for terminating its employee.
  3. BOTH parties agree to renew the contract for a third time, and
  4. The employee requests an open-ended contract.

To repeat, an open-ended term usually will not happen unless both the employer and the employee agree to renew the contract after completion of two terms. Thus, if the employer wants to re-hire the employee but refuses to do so on an open-term basis, the employee will not be able to force the employer to hire him or her on an open-ended basis. So in Shanghai, once the employee has completed two fixed-term contracts, the employer has three options:

  1. Let the employee go and pay the applicable compensation.
  2. Enter into an open-term contract with the employee that provides for lifetime employment.
  3. Persuade the employee to voluntarily accept a third fixed-term contract.

It is the rare employee that turns down lifetime employment in favor of a fixed-term contract, without added monetary incentives.

China’s Film Industry Online, Part 2. Mobile is Key

Posted in China Film Industry

This is the second in a series of posts on developments in China’s digital ancillaries market. Part 1 is here. In this post I consider the potential for growth in ancillary revenues from handheld devices.

With around 380 million Internet shoppers expected by 2016, China is leading the world in online consumption. As Alibaba founder, Jack Ma, puts it, “in other countries, e-commerce is a way to shop, in China it is a lifestyle.” The sheer volume of online transactions in China is causing a proliferation of online payment applications. Internet finance is therefore evolving rapidly to challenge traditional banking as a means of making payments in the O2O (online to offline) space.

This challenge is possible because China’s financial system is still relatively underdeveloped. Capital reserve requirements and interest rate restrictions are not yet applied as rigorously to the providers of new online financial products. The substantial cash reserves these providers control to guarantee settlements on their platforms gives them leverage against the banks that hold the funds at call. As a result, Chinese Internet and tech companies, not the banks, are leading innovations in online payment.

Mobile is now the preferred means of online consumption in China; China’s consumers spend more time shopping online using smartphones and tablets than they do using desktops and laptops.

PWC says that 75% of internet access in China now occurs on mobile devices. According to Dr. Chen Long, in The Rise of E-Finance in China, 55% of China’s Internet users have made a mobile payment but only 19% of US Internet users can say the same. Basically, online consumption and online payments are converging in handheld devices. This is penetrating all areas of consumption in daily life — everything from restaurant and bar checks to taxi fares and even movie tickets. The Hollywood Reporter’s Clifford Coonan recently noted a massive increase in the purchasing of movie tickets online in China.

For reasons which I will explore in subsequent posts in this series, there is every reason to expect that this trend toward online payments will take off in digital home entertainment as well. The predominance of handheld devices in online consumption might also influence the content, duration and format of movies and other audiovisual programs. Programs will tend to become shorter and more mobile-friendly. Microfilms (short, low-budget amateur movies) could emerge to challenge the popularity or profitability of feature length films and TV series in China. Whatever the effect on program content, mobile is where substantial growth in ancillaries will be seen.

In my next post I will comment on a parallel trend with equal potential to turbocharge digital ancillaries: the convergence of film production and online film distribution in China.

China Online Gambling. Illegal But Everywhere.

Posted in China Business, Legal News

The below is an authorized re-do of an article, Upsurge in online gambling in China during the World Cup, written by Steve Dickinson and Arlo Kipfer for the Online Gambling Review.

 

Media reports state that online gambling in China soared during the recent World Cup. Interest was so intense that gambling income in Macao significantly declined, causing a major blow to the bottom line of major casinos that normally rely on a steady flow of high and low rollers from mainland China. The punters seem to have put their money into online gambling on the World Cup, with revenue at the People’s Republic of China (‘PRC’) government run lottery site increasing by over 80% during this period. Steve Dickinson and Arlo Kipfer of Harris Moure PLLC, China, explore the upsurge of online gambling in China during the World Cup given that gambling is illegal in China.

This then raises the big question: the Macao casinos exist because gambling is illegal in China. No substantial casino business exists in China, forcing punters to head to Macao. If gambling is illegal in China, how does online sports gambling work? If gambling is illegal in the PRC, how is it possible for the World Cup to have made such an impact? As always in China, the story is complex. It runs as follows.

The general ban on gambling in China is subject to one exception. The PRC government operates two legal lotteries: the China Welfare Lottery and the China Sports Lottery. The China Sports Lottery experienced its 20-year anniversary in April of this year. The sports lottery allows legal betting on all sporting events. By far the most popular is betting on football: both Chinese national football and the European leagues. As a result of this opportunity for legal gambling, China has become a nation of football fans. But these fans are bettors, not players.

At its inception, sports lottery tickets were sold at exclusive outlets found in all of China’s cities. The number of oudets has always served as a limitation in the number of potential customers. In order to expand access, the China Sports Lottery entered the online world in 2010. The new online rules allow licensed sports lottery vendors to partner with website providers to offer online lottery purchases. Such legal websites must be approved by government regulators and are subject to strict regulation. Due to the tight regulation, licensed sports lottery websites are still uncommon in China. As might be expected, the national lottery administration has monopolised access to its great profit.

During the World Cup craze in China, operators of the major retail sales websites in China saw an opportunity to cash in. These websites partnered with licensed local lottery vendors to offer their lottery products online through retail sales websites. The lottery sales were offered just like any other retail offering on the site. This form of lottery betting was technically in violation of the regulations. The website is licensed as a commercial website. The local lottery agent is licensed to sell lottery tickets. But, the regulations require specific approval to sell those lottery tickets online. No such approval was obtained, making sale on the major retail websites technically illegal.

However, there was money to be made and no one in China worried about the technical details. There is good reason for this. The major retail websites are well run, reducing to a minimum the chance of deceptive practices against the consumer. The government ultimately received a share of the proceeds through income earned by the local licensed vendor. The total income earned by the government was greatly increased due to the massive advertising power of the websites. In this setting, the government regulators had no motivation other than to say: send us the cheques.

It is not clear whether this very successful foray into the sale of sports lottery tickets on the part of the e-commerce giants will continue. The current feeling is that this was just a temporary event created by the unique interest of the Chinese people in the World Cup. However, the substantial income earned must be attractive to all involved and it is certainly possible that this semi legal sale of sports lottery tickets will continue.

But the story does not end here. From the gambler’s point of view, there is a major problem with betting in the China Sports Lottery: the payouts are low. The dedicated gambler is therefore provided with an incentive to seek a higher return. This higher return is offered by unauthorized online gambling websites. Take an example: a 100 RBM bet on Croatia to win its first game in the World Cup through the official sports lottery would have paid out about 8 RMB; the same bet made through an overseas online gambling site would have paid out about 60 RMB.

The Chinese bettor is therefore obviously attracted to betting on the foreign site. The only problem is that the site is illegal in China. It is illegal to access the site from China, it is illegal to send funds to the site from China and it is illegal to receive funds from the site in China. The PRC government has the technical ability to enforce these rules. Using the great firewall, access to foreign gambling sites can be blocked. Domestic websites that provide access to the foreign sites can be located and shut down. The major search engines like Baidu and Sina can be instructed to filters search terms that allow Chinese residents to find gambling sites. Banks and online payment services can be instructed to deny all payments to gambling sites and to refuse to accept payments from gambling sites.

Even though all these techniques of control are possible, during the World Cup Chinese citizens found that they had almost completely open access to wagering on the World Cup. Access to foreign online gambling sites entirely focused on Chinese citizens was entirely open. While specific numbers are not known, it is generally understood that the amount of betting on the World Cup by Chinese citizens on foreign sites actually dwarfed the amount legally wagered on the World Cup through the China Sports Lottery.

So how does a Chinese citizen make a bet through a foreign online gambling site? First, the Chinese gambler has to find a betting site written in Chinese and focused on Mainland Chinese bettors. Serious gamblers will learn the names of the most popular sites through the Chinese online forums dedicated to gambling. For newbies, a search on a Chinese search engine will result in hundreds of hits for online gambling sites. Normally, the potential better will be led to what is known as a portal site listing hundreds of online gambling sites. Normally, the potential bettor will be led to what is known as a portal site listing hundreds of online gambling sites. One click on the portal listing and the gambler will access the site of choice. Several sites have become overwhelmingly popular in China.

After the bettor finds a site, the next issue is determining how to place the bet. The RMB is not a convertible currency and gambling online is not legal. Not a problem. The site will provide clear instructions to the bettor on how to proceed. The system is simple and direct. The site will provide a list of online payment service providers (PSP) that have been approved to work with the site. The customer contacts his preferred service provider and sets up an account. The betting accounts normally require payment of a minimum deposit the customer will normally fund the account using a standard Chinese bank issued debit card. The deposit is made in RMB and the PSP handles the conversion into foreign currency, payment to the online gambling website and collection and payout of winnings.

The website is accessed in China with all communication in Chinese. For the major sites, there is a Chinese speaking voice operator available 24 hours a day. Payments are made and payouts are received in RMB, collection and bank processing are all handled online by an experienced operator, relieving the bettor of any need to discuss the process with bank personnel. A certain amount of fraud protection is provided by the PSP. Where the website is located in a country in which gambling is legal and supervised, there is even more protection from fraud.

The only issue is that the entire program is illegal under Chinese law. So far, the illegality does not seem to have had an impact on the business. Websites are adept at dealing with being blocked by operating with a large list of revolving URLs. PSP’s come and go using the same revolving URL technique. Chinese banks are desperate for deposits and processing fees and therefore cooperate with the PSP’s in ways that are difficult or impossible for the government regulators to monitor. Individual gamblers are prosecuted only when they have committed some other crime such as embezzlement of the funds used to fund their gambling addiction.

The World Cup has not introduced online gambling to China. Both legal domestic and illegal foreign online gambling were already well established. The effect of the tremendous publicity surrounding the World Cup instead introduced huge sectors of the Chinese public to online gambling. The support of online gambling on football provided by the China Sports Lottery convinced the Chinese public that online gambling is a safe form of amusement. The danger of this is that in the pursuit of higher returns the Chinese public will gravitate towards online gambling sites that are illegal in the country. This type of site is not regulated or supervised in any way and is often in the control of criminal organizations.

Reports are now coming out of China about deceptive practices arising from such sites that are typically based in SE Asia. Legal and social issues arising from gambling on such sites may cause the Chinese government to take more aggressive actions against illegal online gambling. The current anti-corruption drive in china focuses on control of overseas gambling, which also may lead to an additional push for regulation. For this reason, though the business is now thriving, there is no certainty about its future in China.

 

China’s Compliance Miracle: I Mostly Believe.

Posted in Legal News

A China client sent me the link to an article one of his employees had sent to him. My client’s email to me said only, “Is this true.” My response was even shorter: “Mostly yes.”

The article is from The FCPA Blog, entitled, Do you believe in compliance miracles? The article talks of how China and India are “fast becoming global leaders for anti-corruption compliance and enforcement. That’s gotta be a miracle.”

The article goes on to talk about how China’s corruption crackdown is happening with “real confidence, enthusiasm, and a sense of destiny.” Most importantly this fight against graft is “not a passing fad . . . . It’s real, and there’s no turning back.

The article notes how companies used to “make allowances” for doing business in China. This meant playing “by local rules” and that “meant greasing some palms.” Now though, if you grease palms in China, “you’ll probably get caught (the whistleblower culture has also gone global, after all)” and means that “you and your company are likely to be prosecuted and possibly ejected from the land”:

Thanks to authentic shifts in attitudes and practices. . .  global compliance and enforcement are now really . . . global. Goodbye and good riddance to one set of compliance practices for some parts of the world but another wink-and-nod set for . . .China. That two-tiered way of doing business undermined the idea of global compliance and compromised and degraded the role of compliance officers.

I believe. Do you?

For more on what it takes to stay out of China’s jails by remaining compliant, check out the following:

China Legal Advice And The Role Of The “Grapevine”

Posted in Legal News

Every so often I go deep into the backend of this blog to review and delete the draft blog posts (some little more than an idea) that have yet to see the light of the Internet page, and shouldn’t.

I did that today and came across a post on a great article Phil Taylor (now a solicitor trainee at Eversheds), wrote for the International Bar Association, entitled, Asia: Adopting the Right Mindset. The article talks about how and when lawyers should and do consider “factors beyond the letter of the law” in advising their clients. I strongly urge you to read the entire article.

This article touches on how lawyers can best advise their clients regarding the legal issues they will face by doing business in a country where the law is unclear and/or constantly changing and/or where enforcement is spotty. Just about all countries qualify on some counts to some extent, but some countries are clearly less legalisitic than others. Phil extensively interviewed me regarding China legal advice and wrote the following about how our China lawyers typically interpret China’s laws:

In countries where the law is developing rapidly, new regulations can appear almost overnight. When this happens, experienced lawyers will look at how the authorities have enforced similar laws in the past to assess the actual risks to their client. A few years ago, for example, the Chinese government announced it was making all internet-to-internet telephony illegal. But believing that China’s public would never allow such a crackdown and therefore that it would never happen, Harris says he did not advise his clients not to talk on Skype.”They [the Chinese government] just threw it out there to see what would happen,” he says. “In this kind of situation we tell them what the law is, then we talk about our experience – and often we’ll say give us a couple of days and we’ll try to find out what’s going on.”

“You can’t rely as much on the law as it’s written – that doesn’t mean you can just ignore the law. There’s a grapevine among China lawyers: you call your lawyer friends, even if you’re sure what the law is, and ask them what they’ve been hearing,” Harris continues. “I’m happiest when the law and the grapevine say the same thing.”

*    *    *    *

An issue that can arise when helping a client form a company [typically a WFOE] in China is whether the investor can do any kind of business in the country before the company is fully set up. Although it is technically illegal to do so, many carry out some initial scoping work in the interim period. But if they are caught, Harris says, the authorities tend to take a pragmatic approach, and the investor will rarely suffer any consequences if the authorities know that a genuine company registration is pending. Experienced lawyers will explain this precedent to their clients, clarifying that this is no guarantee as to what may happen in the future and leaving it up to them to make the final risk assessment.

I have nothing to add to the above, but I would certainly love to hear how other lawyers deal with these issues.

China Company Indemnification From Product Defects. Yeah, Whatever.

Posted in Legal News

American lawyers love using indemnification provisions in product manufacturing agreements. They love them so much that they often use them in China manufacturing contracts (OEM Agreements) even though they do not work well at all there.

American lawyers often put in a provision stating that if there is a product recall, the Chinese company must indemnify the American company for any fees/costs/damages incurred by the American company arising from the recall. American lawyers also often put in a provision stating that if anyone is injured by a product defect, the Chinese company must indemnify the American company for any fees/costs/damages incurred by the American company arising from the defect.

These sorts of provisions sound so good and so safe. The only problem is that they aren’t.

If a Chinese manufacturing company breaches a contract in a way that damages the American buyer, then in principle the Chinese side is liable for all damages that flow directly from such a breach. This includes the types of damages in normal indemnity provisions. It is therefore usually unnecessary to include indemnity provisions in contracts that will be enforced in China using Chinese law. For why it usually makes sense to have your manufacturing contract be enforced in China, check out China OEM Agreements. Why Ours Are In Chinese. Flat Out.

American companies are quite reasonably concerned that if their Chinese manufacturer provides them with defective products they (the American companies) could suffer liability for damages in amounts much greater than the purchase price of the product. In that situation, a claim against the Chinese manufacturer for a refund of the product price or a repair or replacement of the products is not going to come close to being sufficient to cover the damages incurred. This is very real risk in purchasing products from China.

The problem though is that you cannot expect to get a Chinese court to find a Chinese company liable for such damages. Foreign judges generally — and Chinese judges in particular — think that American courts are out of control with the damages they impose in product liability cases. So even when a Chinese manufacturer has clearly breached its contract (lead paint in children’s toys for example), Chinese courts and Chinese arbitrators typically limit the damage award to nothing more that the direct cost: a refund, a repair or a replacement, plus maybe reimbursement of penalties imposed against the American company for something like a late delivery. Chinese courts and Chinese arbitrators almost never will enter an award covering losses from product liability claims, whether those claims are made by consumers or by a government.

Usually, the best way for American companies to protect themselves from product liability and product recall claims is by securing the right insurance, with the premium costs viewed as part of the cost of doing business in China. You can try to get your Chinese manufacturer to pay your insurance premiums, but in our experience few Chinese manufacturers will agree to this and those that do will somehow raise their product pricing to cover it.

Sorry, indemnification lovers….