China trademark takedown
China trademark takedowns

China’s lack of an affirmative trademark use requirement allows trademark owners to register marks in more classes and covering more products and services than what they actually sell. Starbucks is a prime example of a company that has taken full advantage of this strategy by (for example) registering “STARBUCKS” as a trademark in all 45 classes of goods and services.

The benefits of registering in a whole host of China trademark classes really comes into play when dealing with infringing goods on Alibaba and other e-commerce platforms. Many of our clients have found that infringement starts with their core lineup of products but quickly moves to things they haven’t released and perhaps never will. Any consumer product is fair game for knockoff artists. If they can imagine it, or more precisely if they can imagine someone buying it, it will turn up on Alibaba.

Though Alibaba is responsive when you request a takedown for a product covered by your trademark registration, they often will decline to take action if the product is outside the scope of your registration. So if an enterprising Chinese merchant began selling Game of Thrones brand deodorant on Alibaba, HBO might only succeed with a takedown request if it had already registered a trademark covering deodorant.

Registering your trademark is the only realistic way to gain trademark protection in China, and that protection is limited by the classes and subclasses of goods and services covered by your registration. If you want protection for other products, you need to register in the appropriate classes and subclasses to cover those products.

Registering in all 45 classes is not a realistic strategy for most company. But when devising your IP strategy for China, you should think about not just the products and services you intend to sell in China, but also the ones you don’t want someone else to sell under your name.

 

China Lawyers

Happy New Year, everyone!

 

I was asked at a party last night (not kidding) what the China lawyers at my firm saw as the biggest trends/issues for China in 2017, and my answer was the following:

  1. Getting money out of China. This will be THE big issue for 2017. It will be a big issue for both Chinese companies and for foreign companies that are doing business in China.
  2. Technology transfer and technology licensing agreements and, more particularly, the tension between Chinese companies wanting/needing top-line technology and their desire to acquire that technology for way way way less than it is worth.

The above two things took up a large portion of our the time our China attorneys spent during the last 3-4 months of 2016 and I have no doubt that they both will take a up large portion of our time in 2017 as well.

But, hey, if there are any China legal or China business or just pure China issues you want us to be sure to cover in 2017, please let us know via a comment below.

And let’s all do our best to make 2017 a great year!

China trademark registrationUnlike the United States, China does not have an affirmative requirement to prove that a trademark is being used in commerce. You do not have to prove use for a trademark application to proceed to registration, and once a trademark is registered you do not have to prove you are still using it to maintain or renew the registration.

Foreign companies have come to realize that China’s lack of a use requirement is a double-edged sword. On the one hand, it allows trademark squatters to register marks for a wide range of products and services they have no intention of ever providing. On the other hand, it allows “real” trademark owners to register their marks to cover a much wider range of products and services than would be allowed in most other countries. As we have noted before, Starbucks employs this strategy better than anyone: it has registered “STARBUCKS” as a trademark in all 45 classes of goods and services.

However, China will require evidence of use if a trademark registration is challenged for non-use. The basic rule is that once a mark has been registered for three years, it is vulnerable to a non-use cancellation. At that point, if a third party files a non-use cancellation, the owner has two months to provide evidence of use within the past three years.

If you are actively marketing your goods or services in China, then it should be fairly easy to provide evidence of use. Your use of the trademark in question on packages, containers, labels, manuals, advertisements, product displays, signage or at exhibitions are all likely to be sufficient. In general, original documents are required, but when a product has a lot of ephemera this is a low bar.

Where it gets difficult is when the only use of the trademark in question is on a product manufactured solely for export. It is not completely resolved in China whether such use constitutes either (1) use in China with respect to a trademark infringement action or (2) use in China with respect to a non-use cancellation. But in our experience, the Chinese Trademark Office (CTMO) will generally accept manufacturing in China, even if solely for export, as sufficient to defeat a non-use cancellation.

But you still need original documentary evidence!

It is all too common for foreign companies to order products from their China manufacturer for years on end using English-only documents that never identify the trademark on the products, and often never even identify the product with sufficient specificity. That makes it almost impossible to prove use to the CTMO’s satisfaction. What you want is documents that are in Chinese and clearly demonstrate your use of the mark in China on the products covered by your trademark registration: documents like invoices, shipping documents, quality inspections, and customs export declarations. Photographs are helpful to provide context but, standing alone, are usually insufficient to demonstrate use.

Typically, most (or all) of the documents that can prove trademark use for export-only products are held by the factory. So while you are still on good terms with your factory, you should make sure to keep a complete, regularly updated set of documents for each of your China trademark registrations. If things go south with your supplier, you don’t want your trademarks to be at risk too.

China trademark. China Customs.
1. Register your trademark in China. 2. Register your China trademark with China customs.

One of our China lawyers got the following email from a client the other day about an AmCham China IP event:

Just saw that AmCham is putting on this Innovative Approach to Stop Counterfeit Goods and just wanted to congratulate you for having convinced me to institute that approach nearly five years ago.

The “innovative” approach to which both AmCham and the writer of this email are referring is the following, as described by AmCham in its lead-up to this talk:

Many companies with large overseas operations have to deal with lost revenues and reputational damage caused by counterfeit goods. As well as being a large potential market, China is also major manufacturing hub, for both fake as well as genuine products. Despite improvements in the legal framework regarding intellectual property rights, companies are often disappointed by the results of their attempts to prevent the proliferation of counterfeit goods through through the courts, the Ministry of Commerce and local governments.

Now there is a new, innovative approach to stemming the trade of counterfeit products. Based on their experience working with numerous clients, experts … will share details on how the Customs Bureau can help companies in the fight against counterfeits.

Seeing as how none of our China attorneys attended this event, we do not know what was discussed at it. But we can tell you what we have been saying on this blog and to our clients since at least 2013, and that is that not only must you file for a China trademark for your brands and your logos, but you should also then register your granted China trademark with China customs to stem counterfeits of your products from leaving China.

For instance, earlier this year, in China Trademarks: Customs Helps Those Who Help Themselves one of our China IP lawyers, wrote the following regarding the real benefits to be gained by registering your China trademarks with China customs: “For trademark owners, customs seizures can be a valuable part of an anti-infringement strategy. But don’t expect much help from the customs authorities if you can’t be bothered to help yourself.”

But long before that, way back in April, 2013, we wrote a post, Register Your China Trademark Now. Then Register It Again With Customs, where we called for exactly what the title of that post would lead you to expect: that you should not only be sure to file for a trademark in China, you should also be sure to take that China trademark once you get it and register it with China customs. It bears repeating what we said in that post because it so nicely sets out what exactly this will entail and why it is of such importance:

The implication for foreign companies doing business in China is clear: Chinese Customs can help protect your IP from infringement…. What the numbers [of China customs seizures] don’t tell you, however, is that nearly all of the seizures were of goods that infringed registered Chinese trademarks, and that those trademarks had been registered not only with China’s Trademark Office but also with Chinese Customs.

As we have written a number of times — see File Your Trademark In China. Now., China: Do Just One Thing. Trademarks, and China’s Changing Trademark Environment. Why You Need To Register Your Trademark Now. — the essential first step in any China IP strategy is to register your trademarks with China’s Trademark Office. Because China is a first-to-file country, until you register a trademark you have no rights in that trademark. But a trademark registration alone will not limit the spread of counterfeit goods. A trademark registration merely gives you the legal capacity to enforce your rights to that mark, and should properly be seen as one of the pieces in an overall strategy.

For any company concerned about counterfeit goods coming from China, the next step should be registering your trademark with Chinese Customs. This is not a legal requirement but a practical one: though China Customs officials have discretion to check every outgoing shipment for trademark infringement against the Trademark Office database, in reality they only check against the Customs database. No separate registration with Customs means no enforcement by Customs.

If you register your mark with Customs, they will contact you any time they discover a shipment of possibly infringing goods. At that point you have three working days to request seizure of the goods. Assuming you request seizure (and post a bond), Customs will inspect the goods. If Customs subsequently concludes the goods are infringing, they will invariably either donate the goods to charity (if the infringing mark can be removed) or destroy them entirely. The cost of destruction, and of storing the goods during the inspection process, will be deducted from your bond.

Registration with China Customs generally takes three to five months and can only be done after China’s Trademark Office has issued a trademark certificate. The latter currently takes approximately fourteen months, which means that within nineteen months of the date you file your trademark application, Chinese Customs could be helping to stop counterfeit goods from being exported from China.

Nineteen months can be an eternity in the retail world. Whether you’re a toy company producing dolls in Shanghai, a home video company making DVDs in Guangzhou, or a luxury goods company manufacturing high-end purses in Qingdao, there’s only one approach that makes sense. Register your China trademark now. Then register it again.

So though we never saw registering your China trademark with China customs as innovative, we have always viewed it as important, and that really is all that matters in any event.

China TrademarksTwo recent court decisions from China have upheld the trademark rights of Donald Trump to the word “TRUMP” and Michael Jordan to the word “乔丹” (the Chinese transliteration of the name “Jordan”). These decisions have been seen as indications that famous people’s names now have more protection in China. Whether this is a trend or just an anomaly remains to be seen, but it’s worth noting that these long-running controversies have been over shortened, arguably ambiguous versions of celebrities’ names. When a disputed trademark registration is for a celebrity’s full name, the dispute is almost always resolved quickly, and in the celebrity’s favor.

Donald Trump, Michael Jordan, and other famous people have already succeeded in numerous such actions. For example, Dong Wei, the same trademark squatter whose “TRUMP” trademark was recently invalidated by Donald Trump, had also filed multiple trademark applications for “DONALD TRUMP” back in 2009. Once the applications proceeded to publication, Donald Trump – @realDonaldTrump, that is – opposed them and was successful the first time. These cases simply don’t get as much publicity because the outcome is not controversial.

China, like many civil law countries, has long given deference to people protecting their full names as trademarks. Formally, the protection is accorded under Article 32 of the Trademark Law, which holds that a “trademark application shall neither infringe upon another party’s prior existing rights, nor be an improper means to register a trademark that is already in use by another party and enjoys substantial influence.” The examination guidelines used by the Chinese Trademark Office (CTMO) and the Trademark Review and Adjudication Board (TRAB) further elaborate that prior existing rights include, among other things, name rights.

These guidelines sound great but in practice are applied with the same degree of subjectivity as everything else at the CTMO. It’s unclear how famous you have to be to be deemed to have “name rights” in China for a given field, or what sort of evidence is sufficient. However, it is clear that the standard of proof is much lower than what is necessary to show that an ordinary mark is well known.

One final point: in practice, a famous person can only invoke his or her name rights during a trademark opposition or invalidation proceeding. The CTMO won’t make these determinations during the examination phase. It’s up to every celebrity to police the use of his or her name in China.

China Mold ownership
Control Room

In part 1 of this series, I talked about how the increasing complexity of products being made in China has led to a corresponding increase in the complexity of the molds for those products, and of how that means our China attorneys are increasingly needing to draft contracts to protect our client’s IP within those molds.

I concluded the first part of this series by noting how most mold IP issues arise in two settings: dealing with third party mold fabrication shops in China and dealing with the Chinese outsource factories themselves. In this part 2 of my series, I address mold IP issues when dealing with third party mold fabricators, sometimes called mold fabrication shops. .

The issues that typically arise with mold fabrication shops arise because of a change in procedure that no one has really noticed. It is standard procedure to provide that the Chinese factory that is making your product is responsible for fabricating the molds for the product. In the old days, the same factory almost always made the molds and the product. However, it has now become more common for the factory to outsource mold fabrication to a third party. In many cases, even the design of the molds is outsourced to that third party.

What this means is that a mold agreement with your factory that has been drafted to control the ownership of the molds and to control the IP in the product is compromised or eliminated when all of the specifications and the responsibility for fabrication gets sent off to a third party mold manufacturer. Given the economics of mold fabrication in China, it is not likely that the mold fabricator will use the mold design for its own purposes. Rather, the fundamental risk here is that the mold manufacturer will sell copies of the molds to other Chinese factories who have an interest in cloning your product.

This type of cloning is of course a thriving business in China. Foreign designers often wonder how a terrific copy of their product got to market before they have even gone into full scale production. Well this is how it happens: the mold manufacturers conduct a thriving trade in selling the “latest” molds. Though it is common to blame the factories for this leakage, this blame is often misplaced. Your China factory has an incentive to keep the mold for its own use since once the mold gets out into the world, the molds are then used by your factory’s competitors. When this happens, the Chinese factory is damaged in much the same way as the foreign designer.

Though losing one’s molds via a third party mold fabrication shop is an enormous risk, few foreign designers and virtually no Chinese factories make much to control the mold fabricator. In other words, clearly drafted written contracts dealing with this issue are rarely entered into between the Chinese factory and the mold fabricator. The foreign designer not only hardly ever enters into any sort of contract with the mold fabricator, the foreign designer normally does not even know the identity of the fabricator. This leaves a gigantic hole in IP protection. This hole can and should be closed through a simple set of contracts.

Consider also what this uncontrolled release of the design of the product means in terms of intellectual property in the product. Many products designs are protected primarily as trade secrets. When the design is released to a third party fabrication shop with no written agreement, the secrecy in that product is broken, and this eliminates any trade secrecy protection.

Consider also the issue of patent protection. In acquiring a patent anywhere in the world, one of the first questions that has to be answered is who invented the item. In a case where the design of the mold has been outsourced to a third party fab shop, the question of who is actually the inventor is now unclear. Is it the foreign designer who developed the basic idea? Is it the Chinese factory that did some preliminary drawings? Or is it the mold fabricator that did the detailed drawings and produced the final working model? Or is it all three, each entitled to an uncertain percentage of the patent?

With this sort of tripartite structure, the usual answer is that no one owns any IP in the molds: no patents, no trade secrets. Often that then means that no one owns any IP in the product itself. This obviously then leads to disaster in the commercialization phase for the product.

In part 3 of this series, I will consider how to approach these issues when dealing with the Chinese factory to which you are outsourcing your manufacturing. Note that though the parties differ from the situation I discuss above, the fundamental issue remains the same: when a third party does the design and fabrication work on behalf of a foreign designer, who owns the IP in the resulting design will be at issue. For the product, the question is who owns the design for the product. For the molds, the question is who owns the design in the molds. Where the molds ARE the product, this becomes a core issue that cannot be ignored.

 

China manufacturing lawyers
China molds. Keep them to yourself.

In working with outsource manufacturing in China, one of our primary goals is to control the molds used in the manufacturing process it is critical to make clear that the foreign buyer owns the physical molds. To accomplish this, our China manufacturing lawyers concentrate on two issues when drafting mold provisions that are part of a larger contract (such as a manufacturing agreement or a product development agreement) or that essentially stand alone as part of a mold ownership contract.

First, we want to make clear that the Chinese factory can use the molds only for producing our client’s product and not for producing for any other party. Second, we want it clear that when our client chooses to move its production to a different factory, it will have the right to take possession of the molds and transport them to the new manufacturing location. Negotiation of these terms is usually quite difficult, since the Chinese manufacturer has a strong incentive to hold molds “hostage” so as to prevent the foreign buyer from moving its manufacturing to a new factory. The only way to succeed is with a stand alone mold ownership agreement or well-crafted mold ownership provisions inserted into a written manufacturing agreement. For why it can be so important to be clear regarding mold ownership in China and some of the specifics on what you should be doing to prevent your Chinese factory from walking away with your molds, check out Product Molds And Tooling In China: Three Things You Must Do to Hang on to Yours and Want Your China-Based Molds? You’re Probably Too Late For That.

As manufacturing in China has become more complex, molds for products have become correspondingly more complex as well. In many cases, the mold embodies most or all of the intellectual property in the product. I can give two examples. First, in some products, the interior mechanism is based entirely on open source hardware. The external enclosure surrounding the mechanism is therefore the primary protectable IP for the product. The IP resides entirely in the molds used to manufacture the product case. The”look and feel” of the enclosure then becomes the identity of the product, and If that “look and feel” is not protected, the foreign designer owns nothing at all in the IP of the product. Without the IP in the molds protected, Chinese factories can freely copy the product.

Second, in some products, the form embodied in the mold is in fact the entire value of the product. Take for example a complex part used in the manufacture of a turbine or jet engine. After all the engineering and testing is complete, what remains? What remains is a single part produced by casting into one or more molds. In this situation, the molds embody the entire intellectual property in that part. and thus the party that owns or controls the intellectual property in the molds is essentially in complete control of the product. More importantly, if no party owns any IP in the molds, the molds are effectively open source, and no one owns any IP in the molds or the product.

Chinese factories have figured this out, making protection of molds much more difficult. In figuring out what to put into our clients’ contractual mold provisions, our China manufacturing attorneys can no longer focus solely on the issue of ownership; we now also must focus on ownership of the intellectual property in the molds as well.

The new mold IP issues frequently arise in two settings. First, in dealing with third party mold fabrication shops in China. Second, in dealing with the Chinese outsource factories themselves. In part 2 of this series, I will address mold IP issues when dealing with third party mold fabricators and in part 3 I will discuss how to approach these issues when dealing with the Chinese factory to which you are outsourcing your manufacturing.

 

Cómo proteger su IP en China y de ChinaLa mañana (viernes, 16 de diciembre) daré una charla en una de mis ciudades favoritas y sobre uno de los temas que más me apasionan: Cómo proteger su IP en China y de China. Esta ponencia se enfocará en la protección de la propiedad intelectual relacionada con el hardware y los productos del Internet de las Cosas (IoT), pero tendrá una aplicación homogénea a casi cualquier producto o servicio. Pulse aquí para registrarse.

Mi ponencia es un Hardware Massive-Barcelona Event (un grupo verdaderamente maravilloso – con el que tuve la oportunidad de realizar una ponencia en el Hardware Massive de Shenzhen justo el mes pasado). Hardware Massive describe el evento de la siguiente manera:

Descripción de la Ponencia: Ya sea produciendo o bien vendiendo productos en China, las compañías extranjeras que establecen negocios en o con China necesitan saber cómo proteger su tecnología y su propiedad intelectual para evitar que ésta sea falsificada, pirateada o malversada. Hay riesgos sustanciales que las compañías deben identificar y encarar para proteger sus valiosos activos en IP. Entender el mundo de la IP en China y cómo defender sus derechos e intereses puede ser una excelente apuesta a largo plazo.

Un artículo reciente publicado en Quartz Magazine estableció que la mejor forma de enfrentarse el robo de la IP en China es básicamente no hacer nada, ya que hay muy poco que uno pueda hacer al respecto. Algunas compañías chinas harán todo lo posible para apropiarse de su IP, y nuestro ponente no discutirá dicha realidad . Pero, en lugar de quedarse sentado viendo como alguien se apropia de sus ideas, Dan, de forma práctica y vehemente sostiene que si se toman los pasos legales adecuados, Usted puede proteger su IP de forma efectiva: no tiene sentido pasar por todo lo que implica crear y desarrollar su producto sólo para regalarlo. En su ponencia, Dan explicará formas de proteger su IP en China y de China. Proveerá métodos que son factibles y que de hecho funcionan, incluso para las “Startups” que se atreven a fabricar en China por primera vez.

La agenda del evento es la siguiente:

17:45-18:00: Inscripción y Networking

18:00-18:10: Introducción por Ignasi Pascual

18:10-19:00: Dan Harris: “Cómo proteger su IP en China” con sesión de preguntas y respuestas.

19:00-20:00: Bebidas con networking y turno de preguntas

 

Para mayor información acerca de este evento, por favor diríjase aquí.

¡Espero verle!

 

China trademarksIn a surprising decision the Supreme People’s Court of China gave Michael Jordan a partial victory in his long-running trademark battle with Qiaodan Sports. As I wrote last year, Jordan has been trying for years to cancel trademarks he alleges Qiaodan Sports registered in bad faith, including the marks “乔丹” (the Chinese-language version of “Jordan”) and “Qiaodan” (the pinyin version of 乔丹). Previously, Jordan has lost at every step of the way; the Trademark Review and Adjudication Board and various Chinese courts have all rejected Jordan’s argument that “乔丹” was already well-known and associated with him personally at the time Qiaodan Sports filed its trademarks.

But the highest court in China today ruled that in fact “乔丹” was well-known and associated with Michael Jordan personally, and that therefore Qiaodan Sports’ trademark registrations for “乔丹” should be invalidated. I have not seen the decision yet but from what has been reported in the Chinese media, the decision does not include any rationale; it just announces the outcome, leaving us to draw our own conclusions.

It’s tempting to see this decision as a harbinger of better times for foreign companies seeking to protect their brand in China. Particularly in light of the recent decision in favor of Donald Trump that similarly recognized the word “Trump” as being well-known. But I would be cautious about taking that view, for several reasons.

First, this decision and the Trump decision were for trademarks that were associated with a person’s name. For some time now, Chinese courts have been more likely to protect a trademark that is a person’s name (versus a random company name). Even a few years ago, Jordan would have had no trouble invalidating a trademark squatter’s application for “Michael Jordan.”

Second, Jordan only won a partial victory. Although the court found “乔丹” was well known and associated with Michael Jordan, it also found that “Qiaodan” was not. It’s difficult to rationalize the distinction. Presumably the court determined that (1) Jordan is too common a name to register as a trademark and “Qiaodan” is the standard pinyin transliteration for that name, and/or (2) any number of Chinese characters could be put together to form “Qiaodan” and therefore the connection was too tenuous. But these arguments are rather flimsy; if you look in a Chinese dictionary, the only word that the pinyin “Qiaodan” resolves to is “乔丹,” which has a single meaning: the name “Jordan.” Why grant protection to “乔丹” but not “Qiaodan”?

Third, this decision was decided on narrow grounds. Though the court ultimately accepted the argument that “乔丹” was well known and associated with Michael Jordan, it rejected his argument that Qiaodan’s registrations were “detrimental to socialist morals or customs, or having other unhealthy influences” or acquired by “improper means.”

Fourth, this decision is anomalous under current China trademark practice. The vast majority of Chinese trademark decisions are still coming out in favor of trademark squatters, and it is all but impossible to prove that a mark filed by a trademark squatter was well-known in China at the time of the application. It’s hard not to share the cynical view that something else is going on below the surface here. But maybe it’s as simple as that the case was heard in front of a sympathetic chief judge.

The Supreme People’s Court’s decision is final and cannot be appealed further. So while Qiaodan Sports can no longer use “乔丹” on its goods, it can continue using “Qiaodan” for as long as it wants, without threat of further interference. Jordan may be claiming victory in the press, but he can’t be happy that Qiaodan Sports will get to use “his” name forever.

Because this decision was so unexpected, the immediate consequence is to introduce even more uncertainty to the trademark registration process. Probably many more owners of allegedly “well-known” marks will be encouraged to begin invalidation proceedings in China. I can’t say I blame them, but it’s not much of a strategy. The only realistic way to establish trademark rights in China is to file a trademark application in China.

Cover_design,_A_Book_of_MythsIn my previous post Three Myths of China Technology Transfers, I focused on the misconceptions Western companies so often have regarding China technology transfer deals. In this post, I focus on two commonly held misconceptions foreign technology owners have regarding “partnering” with Chinese companies.

Due to a partnership relationship, the foreign side often wrongly believes it is somehow better protected against IP theft. The foreign side then lets down its guard, only to learn that its China partner has appropriated its core technology. This sense of partnership is most common with SMEs and technology startups, especially those companies whose owner is directly involved in the relationship with the Chinese entity.

The two primary “we are partners” myths our China lawyers see are the following:

Myth One: Our personal connection will protect us. The Chinese company will not appropriate our technology because I (the owner of the U.S. company) have a close personal relationship with Mr. Zhang (the owner of the Chinese company). Usually this statement is followed with some bit of personal data, such as: “He came to my daughter’s wedding” or “I sponsored his son’s admission to college” or “I helped bring his family to the United States” or “He is my son’s godfather.” Trust me when I say our China attorneys heard them all. This idea that a close personal relationship will somehow insulate your company from China IP theft is probably results in more technology transfer disasters than any other myth about China. It is a myth for two quite different reasons:

On the most basic level, personal relations are not a barrier to committing acts of appropriation or other breaches of trust or contract. For most Chinese business people, personal relations, such as attendance at weddings and other shows of friendship are strategic matters, done to achieve some form of business benefit. When that benefit involves breaching a contract and appropriating technology, the Chinese side will often do it. Of course, this is not always true, but it is certainly true often enough that this possibility cannot and should not be ignored.

When the foreign party points out that this is a breach of trust, the Chinese side will often reply with something like the following: “In China, business is like warfare and contract like a treaty between nations. We will honor the treaty when it benefits us, and we will breach when it benefits us. Personal matters are not relevant. As soon as we see a benefit, we will take it. The situation is really all your fault. You should not have presented me with a situation where I had the opportunity to betray you. By leaving me an opening, you forced my hand, because the rule in China is that when an opportunity presents itself the prudent businessperson must take advantage of it opportunity.”

I have many times heard a Chinese company owner state this sort of argument with a certain amount of bitterness. They actually say: “It’s your fault. You made me do it.” They resent you for having forced them to the friendship in a way that was painful to them. But again, the common Chinese view is that when a foreign company provides an opportunity to seize a benefit, the Chinese company is obligated to seize. Personal feelings do not count; action is required.

In many cases, however, the Chinese company owner has no reason to appropriate your technology, so it is safe not because of an emotional commitment but because there is no benefit from the theft. But, the technology is still stolen. This is because the technology is stolen by an employee of the Chinese entity.

In fact, for technology that requires a small investment to commercialize, theft by a Chinese company employee is probably the most common way foreign technology gets appropriated. This is particularly true of software products, where no large capital investment is required. In these low barrier to entry businesses in China, senior technical employees are constantly on the look out for an opportunity to steal technology and leave their employer to start out on their own.

This is part of the aggressively entrepreneurial mindset of Chinese technical personnel. Appropriating a nice piece of foreign software is often seen as the perfect way to get a head start on forming a new company. In the same way, if an employee can make off with a full set of production molds, he or she can start up a small factory at a very low cost in China. So the opportunities abound and the foreign technology disappears, leaving both the Chinese owner and the foreign entity frustrated as their mutually advantageous business relationship is destroyed by a low cost Chinese competitor.

Myth Two: Our partnership is secure because of investment by the Chinese side. We hear this argument a lot and it is essentially that it is not necessary to formally protect the technology because the Chinese company plans to invest significantly in the foreign company.

This argument has two variants, both of which are false:

Variant Number 1: The Chinese side plans to purchase a majority ownership interest in our company. In effect the Chinese side will own the technology in the end. Since the Chinese side will eventually own it, there is little reason to try to protect it from appropriation by its future owner. In this way, the Chinese side convinces the foreign entity to transfer the important technology to the Chinese entity prior to the date with the investment occurs.

But, then, there are always delays in closing that investment transaction and in many (most?) cases the full (sometimes any) investment never occurs. The Chinese side assures the foreign entity that the investment funds are on the way; the delay is only temporary. In the meantime, the Chinese entity obtains all of the relevant technology. Finally, the Chinese side announces that it sincerely regrets the transaction cannot be concluded. There is always some good reason. Either the bank that was going to finance the investment deal got cold feet or the Chinese government withdrew its approval of the transaction at the last minute. Either way, the deal is off with no liability on the part of the Chinese side. But the Chinese side got what it wanted. It obtained the key intellectual property without having to pay anything approaching market price for it.

Now that Chinese companies are perceived as wealthy, this investment promise has become a standard technique Chinese companies use to convince foreign companies to drop their guard. The way to prevent the unfortunate result is simple. Up until the day the purchase transaction closes and the funds are clearly in your bank account, treat the Chinese entity as a neutral third party. Protect your intellectual property in exactly the same way you should (or at least would) if you were dealing with an unrelated third party. The Chinese side will complain about the expense and inconvenience, and your reply should be: if you do not like it, pay the money now.

Variant Number 2: The Chinese side will purchase a minority interest in your company, just to provide support for developing the technology. In this variant, Western companies believe protection of their intellectual property is not required because: “Why would the Chinese company want to harm the interests of a company in which it is a part owner?”

This argument assumes that the Chinese company sees greater future benefit in the earnings it will get from its minority share of the U.S. entity as compared to walking away with the American company’s technology.  The U.S. side often tells us that “when we go public, the Chinese side’s share will give them a huge profit. Why would they screw things up now and prevent that public offering from ever happening?”

The Chinese side rarely sees it this way. First of all, few Chinese companies focus on the long term. So for many, the promise of a future IPO or other monetary benefit from their minority investment means little or nothing to them. Second, when the Chinese side makes a minority investment, they do not see it as a investment in stock. They are making the payment to hire the foreign entity to do research and development work on their behalf and usually what they pay for such work (via the minority investment) is far less than they would pay for an arm’s length R&D program.

The investment in this R&D work is valuable to the Chinese company, but only to the extent it can take control of the technology. So the Chinese company will invest in the foreign development efforts for only so long as it receives direct benefits in the form of transfer of technology. The Chinese side has no intention of allowing the underfunded foreign start up to commercialize that valuable technology. Instead, the Chinese entity will transfer the technology to one of its many well funded subsidiaries for entry into the market. Normally, the Chinese entity expects the foreign start up to then simply die. They do not see this as a loss of their investment. Instead, they figure they see themselves (usually rightly) as having received an excellent return on their payments. It paid the money and the foreigners did the development work which it (the Chinese company) now owns. That is the end of the analysis.

The solution here is the same as the solution for Variation 1. Treat the Chinese entity like you would any third party entity. Disclose as little as possible to the Chinese entity and thoroughly protect what you disclose. If the Chinese side continues to seek access to your technology, consider carefully why it is  making such requests. A normal investor does not need such information. If the Chinese side is asking you for more than a normal investor would ask, you have to ask why. The answer will almost certainly be that the Chinese company wants access to the intellectual property underlying your technology and it wants  that for its own use.

In this situation, if the Chinese side complains or says something like “Don’t you trust us? We’re your partner.” This is sure sign of trouble. If the Chinese side requests access to your proprietary technical information, you have to ask: why are they making such a request? The real reason is seldom what you will want to hear.

Bottom Line:  Do not be lured into believing that the nature of your relationship with your Chinese counter-party or the structure of your deal will be enough to protect your intellectual property from being appropriated. Or as my co-blogger, Dan Harris, always likes to say: Be careful out there.