Archives: NNN Agreement

Every so often one of our China lawyers will get an email from someone who essentially challenges us to tell them why they should hire us. Our response is to patiently explain why they are wrong to think that they do not need a lawyer and to not so patiently tell them that it would probably not be a good idea for us to represent them. We do this because we long ago learned that taking on a bad client is never a good idea and that trying to convince someone to hire you who believes that do not need to do so never works out.

I got such an email the other day from an American company that seemed downright angry that one of our clients “had insisted” that they contact us:

________ at ________ [our client company] insisted that I contact you about our China manufacturing plans even though I have been doing business with China for more than twenty years.  ______ tells me that you believe that contracts with China manufacturers can be worthwhile but I know that it is the government there that determines everything. I want to stop my Chinese manufacturers from copying my products and selling them to my competitors. I doubt any contract can do this for me but can you lay out for me exactly how your company can help me, how long it will take and what you will charge. They just signed the attached NDA but ________ keeps telling me that I should have you modify it. If you are going to do that, I will need it back by the end of the week.  I also am enclosing a manufacturing agreement my lawyer drafted for me and I would appreciate your point of view as to how realistic it is.  We made it very favorable for my company.  It is approximately 10,000 words and so I also need to know what you will charge to revise it. I need this back by the end of the week as well.

Here was my response:

I hesitate to spend time on this because I do not think that you will retain us both because you have come to us too late for us to fix your NDA (which, quite frankly, does not achieve what you want it to achieve) and because you are neither going to believe nor like what I have to say. So I instead urge you to read  How To Stop Your Chinese Supplier From Becoming Your Competitor and China Contracts. Why Even Bother? and all of the links contained in these.

What you have done so far is unlikely to help you in dealing with Chinese manufacturers. It just does not sound like you have received good advice so far and I have to wonder whether that is because you have been hiring the wrong China attorneys (or no attorneys at all) or if it is because you are not interested in changing how you do business with China.

An American NDA with jurisdiction in Chicago is not likely to have any impact on a Chinese company. What you need is not really a China NDA at all, but an NNN (Non-Disclosure, Non-Use, Non-Circumvention) Agreement that protects you before you have actually chosen a particular manufacturer for your product.  This sort of agreement can go a long way towards preventing potential or future manufacturers from stealing your design.

The ability to sue in Chicago is not likely to give you any power over a Chinese manufacturer. The bottom line is that Chinese manufacturers do not fear foreign litigation as much as they fear being hauled into a Chinese court and hit with liquidated damages (or even worse, a pre-judgment seizure of their assets). The goal with our NNN agreements (and of all our China contracts) is to prevent the Chinese company from doing what you don’t want them to do, not so much to beat them if you end up having to sue.

There is no point in our using your existing NDA as a template because it would take us more time to do that than for us to use our own template and then modify that to suit your current needs. More importantly, non-disclosure isn’t really the risk you face; it’s non compete that really matters and your NDA is completely silent on that. Your biggest risk isn’t your Chinese manufacturer disclosing your product to someone else; your biggest risk is your Chinese manufacturer making your product.

I spent five minutes reviewing your manufacturing agreement and that was enough time for me to determine that too also isn’t close to what you need for China. Honestly, it isn’t close for what you would need in the United States either. It does not mention any penalties for bad quality nor does it set forth any sort of timeline. These two things are the most basic provisions one expects to see in such an agreement. It reads as though a non-lawyer cobbled it together from various contracts on the internet. You probably would be better off with no contract at all.

And there is no way that we can promise you anything by the end of the week because we do not even have a good idea yet of exactly what it is you really need. You are going to need to determine whether you are prepared to spend money to do things right in China contractually or just continue muddling through. You know what I would recommend, but of course it is entirely up to you.

I never heard from him again.

Spoke the other day with a consumer goods client who goes to a couple of trade fairs every year in the PRC.  He told me of some funny (and not so funny) trade fair stories, some of which revolved around intellectual property, intellectual property protection, and intellectual property theft.

Well it all got me to thinking….

Trade fairs can be both bad and good for your intellectual property.  Trade fairs (as my client noted) are a great place to steal someone’s IP.  It therefore is not a place to let your guard down with respect to protecting your intellectual property.  I have gotten far too many calls from people who provided product information to potential manufacturers they met at trade fairs, only to realize too late that they had revealed too much, too soon.

It should go without saying that you should not reveal anything more at a trade fair than you would otherwise, and you should have an agreement in place (an NDA or an NNN) before revealing any trade secret.  For more information on NDA Agreements and NNN Agreements for China, check out the following:

If you think you may be revealing confidential information at a trade fair, get your NNN Agreement drafted before you go.

Trade fairs are also great places to monitor your own IP to see whether it is being copied in China.  There are far too many stories of US companies going to a trade fair, to see their own product (oftentimes with their own brochures, only slightly revised if at all) sitting on a Chinese manufacturer’s table.  If this should happen to you, do not get mad and do not make a scene.  Rather, use this as an opportunity to try to end the infringement both on the spot and in the future; use it as an opportunity for protecting your IP from China.

The best way to do that is to gather up as much information as you can about the infringer.  If at all possible, try to secure the following:

  • The name and address of the company making the product.  Get a business card.  And if you can, get a copy of their business license.  If possible, get the names of those working at the stand.  Get as much of this information in Chinese as you can.
  • Take down the stand number.
  • Take photographs.  Liberally.  Make sure some of the photographs make clear where they were taken and, if at all possible, when.

Then consider going to the company that is putting on the trade fair and requesting that they immediately shut down the offending stand.  If you are going to succeed at this, it would be best if you bring along someone whom you trust who speaks Chinese.  It is also critical that you have proof that infringing/counterfeiting is taking place.  This means that ideally you should provide proof of your own IP filings in China.  Then consider whether you should report the offending party to the Chinese authorities or pursue litigation.

It is not uncommon for one of our China lawyers to receive an email along the following lines:

I am leaving for China tomorrow to meet with potential Chinese manufacturers and I just learned that a US-style NDA is of little to no value in protecting my trade secrets from Chinese companies.  Can you get me an NNN Agreement by tomorrow and how much will it cost?

Our response to these emails is usually something like the following:

I am sorry but there is no way we can complete such an agreement in one day.  The way we do these is to send you a fairly substantial questionnaire and we usually have follow-up questions after that. We then draft the NNN Agreement in English and then secure your approval to that.  We then have one of our lawyers fluent in Chinese translate it into Chinese for use in China. This typically takes us 3-7 business days.

We then talk about their other options, which vary depending on the nature of the business.

Over Thanksgiving we took on a quasi-rush job (well over one day) for a China NNN Agreement and we just completed that NNN Agreement.  Because the time frame was so short, we had to condense much of our instructions into fewer emails.  The following comes from the email from us to the client, enclosing the completed NNN Agreement. We are posting the bulk of this email below as it is helpful in explaining a bit more about what it takes to secure an enforceable NNN Agreement with a Chinese company.

  • An OEM agreement would contain similar non-disclosure, non-compete, and non-circumvent provisions to those in this NNN agreement, and if you were certain that a you were going to be using a certain Chinese factory to manufacture your product and that their price/quality/speed was acceptable, then you could just skip the NNN agreement and go straight to an OEM agreement.
  • It is of course difficult to know whether a given manufacturer can meet your specifications before it has manufactured a single item. The ideal way to handle manufacturing in China of unique products such as yours is to have three agreements. First, an NNN Agreement, for the situation where you reveal confidential information to determine, conceptually, if the Chinese party can make the product. Second, a development agreement, to cover the cost/procedure/ownership of rights/etc. of product development, and to figure out if the Chinese party can in fact make the product you want at a sufficiently high level of quality, in a suitable timeframe and at an acceptable cost. Third, an Original Equipment Manufacturing (OEM) contract, to cover the manufacturing and purchase of the product(s). Many vendors want to cram everything into one agreement, promising that they can of course manufacture what you want, and any product development will be folded into the manufacturing contract. It’s an awkward fit. A manufacturing agreement is not a development agreement.
  • I note that you are dealing with a Hong Kong company that is related somehow to a Chinese company. Your replies suggest that the counter-party should be the Chinese company, and we have drafted the agreement accordingly. As a general rule, the counter-party in an NNN agreement should be the entity to which you are directly sending confidential information.
  • Assuming that the Chinese company is the proper counter-party, you should be sure to follow the terms of the NNN Agreement. Only send information to the Chinese company. Do not send information directly to the Hong Kong company unless the Hong Kong company also signs an NNN agreement (which would have to be revised to be enforceable in Hong Kong). Be careful not to treat the Hong Kong entity and the Chinese entity as the same company — regardless of what the Chinese side might say. They are not the same company, and a court would not treat them the same.
  • You had asked about whether both ______ and ______ should be signatories. It does not matter much who signs the agreement on behalf of the Chinese company, so long as the company chop is affixed. That said, ideally you would find out the name of the Chinese company’s legal representative (listed on the company’s business license) and have that person sign the NNN agreement. It is also possible to have both _____ and ______ sign in their personal capacities — that is, to be personally liable — but I doubt they would agree to that.

There you have it.

We recently did a set of tooling agreements for a client doing business in China and as a part of that, one of our China lawyers sent the client the following instructions on making sure those agreements were properly signed:

As noted above, you must ensure that the tooling agreements are properly executed by the Chinese companies that will control the tooling. This means that you need to make sure that each of these agreements is signed by a duly formed Chinese company and by the legal representative of these Chinese companies, and that the names and addresses of the Chinese companies are in accord with the information registered for those companies and that the formal company chops are used to seal the agreements. […]

In terms of verification of the Chinese company information, at minimum you need to do the following: 1) personally visit each factory; 2) obtain the business card of each person who will sign on behalf of each Chinese company and have that person give you a specimen of their company’s chop; 3) obtain a copy of a previously executed company document to verify the authenticity of the chop; 4) obtain a copy of the business license which will provide the registered address and the name of the legal representative. If ANYTHING about the tooling agreement is inconsistent with the information you receive, DO NOT EXECUTE it and do not do business with the manufacturer. Even a simple mistake in the address can lead to invalidity of the contract

A few months later, another of our China lawyers did some China NNN Agreements (a/k/a NDAs or Non Disclosure Agreements) for the same client.  NNN Agreements are not long or complicated agreements and they are typically discussed and even entered before the parties have a much of a business relationship. Our client asked our (and its) lawyer whether it would need to go through the same long and somewhat difficult process for the signing of each NNN Agreement, just as it had done for its tooling agreements.

Our lawyer responded as follows:

The short answer is that the same standard of enforceability applies to all China business contracts.
I understand your concern that the legal representative of the Chinese party may not always be willing to sign your agreement. It is always preferable (and safer) to have the legal representative sign, but if the agreement is sealed with the company chop then it should still be enforceable even if it is signed by some other company representative.
With regard to the verification steps listed, none of them are, strictly speaking, mandatory. That is, they do not themselves make a contract any more enforceable. But they are all highly advisable. The more steps you take, the more confident you can be that the contract has been properly executed by the proper company. Of these steps, securing the business license of the Chinese company is probably the most important, for two reasons: (1) it provides an easy method of verifying the name and registered address of the company and the identity of the legal representative, and (2) it is extremely easy for the Chinese party to provide, and if they can’t do so it is usually a warning sign.
It is that “easy.”

It’s the weekend, which means that I watch the Seattle Seahawks annihilate an opponent (the Tennessee Titans are this week’s victim) while cleaning up my inbox.

In my inbox was an email from one of our China attorneys to a client for whom we are working on an NNN Agreement, but who will likely eventually need a product development agreement and an OEM Agreement, along with China trademark protection.  It does such a good job of setting out the contracts that are usually needed for foreign companies seeking to manufacture in China that I thought it would be helpful to our readers to post on it, so here goes:

Attached please find an English-language draft of an NNN Agreement, as well as an accompanying Acknowledgment of Receipt (to track exactly which information has been shared with the Chinese party, and when).

In your responses to the NNN questionnaire, you note that you will be sending Chinese companies a sample of the product that you want manufactured (i.e., ________), for the sole purpose of determining whether the Chinese entity can make it. This is exactly the situation in which one ought to use an NNN agreement. That said, your responses also anticipate the possibility of having the Chinese company create custom machinery, and also discuss various details regarding the production of your _______ product. These things are not suited for an NNN agreement.

For the sake of clarity, the appropriate way to handle manufacturing in China of unique products is to have three agreements. First, an NNN Agreement, for the situation in which you reveal confidential information about the product to determine, conceptually, if the Chinese party can make the product(s). This is your current stage. Second, a development agreement, to cover the cost/procedure/ownership of rights of product development, and to figure out if the Chinese party can in fact make the product you want at a sufficiently high level of quality, in a suitable timeframe and at an acceptable cost. Third, an OEM contract, to cover the manufacturing and purchase of the product(s). Many vendors (and buyers) want to cram all of the above into one agreement, promising that they can of course manufacture what you want, and any product development will be folded into the contract. It’s an awkward fit. A manufacturing agreement is not a development agreement.

It sounds like you might need at least one more contract, depending on the answers you get from the Chinese manufacturer. It also sounds like you ought to file at least one trademark in China. We can discuss all of this later. For now, please review the attached and let me know your thoughts.

For more on the legal basics of having your product manufactured in China and the China manufacturing agreements that typically go with that, check out Getting Started On Manufacturing In China. The Legal Basics.

Fascinating and important post over at the Chinese Law Prof blog today, entitled, “When does law matter in China?”  The post and my own experiences lead me to answer by saying “all the time.”  But remember mattering is not the same thing as being determinative.

Professor Clarke starts his blog post by noting how he is “often asked (skeptically)” whether the law matters in China.  He then answers it with the following:

I was struck by this article on the Caixin web site today. Apparently the Ministry of the Environment possesses detailed data on soil pollution in China. Lawyer Dong Zhengwei made a request under the “Regulations on Open Government Information” for that data to be made public. In response, the MOE stated that the information could not be released as it was a state secret.

Surprise, surprise, right? Of course the government does not want to release this information. But think about how this scenario could have played out in an era not so different from today: (1) Lawyer requests information. (2) No response. And this could have happened whether or not there were regulations on open government information.

Instead, the existence of these regulations combined with a shift in what for want of a better term we might call legal culture has meant that the MOE apparently feels the need to respond in some way. It has to come up with a justification for not revealing the data. And that means it has to put itself in the embarrassing position of lamely claiming that this information is a state secret, implying that releasing it would somehow harm national interests.

Let’s make two assumptions: (1) an action based on an explicit rationale is easier to criticize than one for which no rationale is supplied; and (2) government officials and agencies would, all other things being equal, prefer not to put themselves in the position of exposing themselves to criticism. If you buy those two assumptions, then at the margin we should expect to see more information being made available as a result of the regulations.

In other words, this law matters not because there is some institution out there (for example, courts) that can force the government to reveal information, but because the very procedure, even if it results in an effectively unreviewable decision not to disclose, puts some pressure on government to operate differently from the way in which it has operated in the past.

He is absolutely right.  The law had at least some influence here.

The reason I found Professor Clarke’s post so interesting to me is because I had a similar discussion on a much more micro level just an hour or so before I saw his post.  A company called me about the pros and cons of having an NNN Agreement with its potential Chinese manufacturers.  It had previously had a Chinese company sign an NDA (Non Disclosure Agreement) and had just discovered that company was now selling its product online.  My response was something like the following:

An off the shelf U.S. style NDA is virtually never going to work.  First off, they focus on disclosure, when the focus really should be on stopping the Chinese manufacturer from competing with you. Second, they usually call for litigation in the United States, which pretty much every Chinese company knows will have no impact on them because Chinese courts do not enforce U.S. judgments.  We write our agreements very differently.  We write ours so as to convince the Chinese manufacturer that it would be better off not violating our agreement than violating it.  We do this by making sure that our dispute resolution clause has teeth, by making sure that the Chinese manufacturer will be held liable if it manufactures our client’s product, and by making clear what the damages/penalty will be for any violation.

We have done probably 500 of these agreements by now and about 245 times they come back signed without changes.  Another 245 or so times they come back with reasonable changes and then there is a bit more negotiating and then the agreement gets signed.  Maybe ten times or so, the Chinese company refuses to sign and then we tell our clients to find someone else because that company is refusing to sign because they want to be free to compete without a good NNN Agreement making their life difficult.

The potential client then asked if any of our clients had ever sued on such an agreement and I told him that as far as I was aware, none had ever needed to do so, and that showed the strength of the agreement.  I then talked of how the main reason for having such an agreement is to prevent problems, not to be able to win in court if there are problems.  I then made clear that having such an agreement is no guarantee against IP theft, but that if you have a good agreement and you are dealing with a legitimate Chinese company, the odds will be very much in your favor.  And if you do not have such an agreement, I can guarantee that your chances of having problems will go way up.

A legal system need not be perfect to be relevant and important.  The U.S. legal system is neither perfect nor certain, and yet nobody ever questions the value of a contract.  Just for the sake of example/argument, let’s say the U.S. system works 95% of the time in a commercial context and the Chinese system works 60% of the time in that same context.  My contention is that in both countries it still makes sense to have a good contract because having a good contract sufficiently increases your odds.

What do you think?

Just received the following comment to our post, How To Find And Deal With Chinese Manufacturers:

I have a question,
I sent a picture of a unique [product] and they sent back an email saying that they would like to manufacture it and when I said mine they corrected me by stateing ours.
is this normal?
How should I deal with them.
how does something like this work?
Thanks

We get this type of question shockingly often.  Usually, it comes from someone who just returned from China calling to say that they just spent the last week in China, meeting with a whole slew of potential Chinese manufacturers, and they just realized (oftentimes by having read one of our blog posts on the need for a Non Disclosure Agreement) that they should have required the potential manufacturers to sign a Non Disclosure Agreement BEFORE showing them their product or prototype.

So what can be done?  How should this company deal with their manufacturer? How can this company protect its trade secrets now?  With this particular company, all may not be lost. and that is why I struck its specific definition of their product and replaced it with the generic word, “product.”

If this company provided its product to just one manufacturer and is now planning to buy from just this one manufacturer, this company may end up doing just fine.

What this company should have done BEFORE it showed its unique product to anyone in China (or anywhere else in the world for that matter) is to have required that Chinese manufacturer to sign a comprehensive NNN Agreement written in Chinese and tailored for enforceability in China.  But that was not done, and the question is what can this company do now that it has returned without a China NDA of any kind.

This company can and should go to this particular Chinese manufacturer and say something along the following:

We want you to manufacture our product, but for that to happen, we need you to sign this OEM Agreement.

The OEM Agreement this company provides to its chosen Chinese manufacturer should contain each and every trade secret provision that should have gone into the NNN Agreement this company should have required the Chinese manufacturer to have signed before showing the Chinese manufacturer anything.  If the Chinese manufacturer signs the OEM Agreement, the company will have its trade secret protections. If the Chinese manufacturer refuses to sign the OEM Agreement, the company will have a big problem.

In our experience, Chinese manufacturers will virtually always sign a legitimate OEM Agreement containing trade secret protections becuase the Chinese manufacturer wants the manufacturing business.  I would estimate that Chinese manufacturers sign our OEM Agreements around 98% of the time and those few times that they do not it is because they are not a legitimate company and they do not want to be bound by legitimate requirements.  In other words, the Chinese manufacturer that refuses to sign an OEM Agreement does so because they intend to steal trade secrets or fail to deliver on their quality promises and they do not want to sign a contract that could effectively penalize them for doing so.

The much tougher problem is the company that comes back to the United States having shown its unique product to ten Chinese manufacturers.  That company can get a protective OEM Agreement from just one or two of them (i.e. the ones whom it is going to use for manufacutering) and it will then always have a problem with eight or nine of them.

The real solution, however, is not to go to China without an NNN Agreement at the ready.

If you are seeking to have your product manufactured in China, I suggest you scour  the following regarding NNN/NDA Agreements:

And the following regarding China OEM Agreements:

And the following regarding other key issues arising from China product outsourcing:

Just responded to an email from a client that went something like this:

A couple of the potential manufacturers to whom we are showing the NDA you did for us are saying that “we don’t respect” them and that these sorts of agreements are “not done in China” in the _____ industry.  Is this true?

My response was as follows:

China Non Disclosure Agreements are quite common and they tend to work very at protecting confidential information.

Chinese companies often say that something isn’t Chinese as a way to avoid it.  What I always say about NNN Agreements (what we call our NDAs) is that we have done about 300 of them.  Maybe 148 times, the Chinese company just signs it.  Around 147 times, the Chinese company suggests reasonable changes and then signs it.  About five times, they say “this is never done in China.”  I then tell our client that can’t be true and we have our own proof of it — the 295 out of 300 times that we got one signed — and that the Chinese manufacturer saying that is a very bad sign.

 Nothing unusual about the ____ industry either.

Probably more than any other agreement, there is a conception out there that it is just fine to use an off the shelf NDA Agreement when dealing with China.

Wrong….

At least as much as with any other sort of agreement, it is critical to tailor your NNN Agreement (we call our NDA Agreements NNN Agreements because they include non-use and non-compete provisions, in addition to non-disclosure provisions) to your specific situation. I thought of that this morning as I watched a number of emails fly back and forth between a couple of my firm’s China lawyers regarding a couple of NNN Agreements we are in the process of drafting.

Together, these two emails do a great job of showing how you need more than just an “off the shelf NDA” and of exactly what typically goes into drafting an NNN Agreement that will be effective for each individual company.

The first email was sent to client A at the commencement of work on its NNN Agreement:

I will be drafting your NNN agreement for China. For the start, please provide me with a one or two paragraph description of what you will be doing in China for which you are seeking protection by this NNN agreement. Note that what what we mean by an NNN agreement is: 1) Non-disclosure, 2) non-use and 3) non-circumvention. For China, 2) and 3) are more important than 1). The danger with Chinese manufacturers is that they will use the idea you provide for their own production and they will then attempt to sell that product to your own customers. These actions are what we seek to prevent via the NNN agreement.

In addition to the descriptive paragraph, please provide answer the following:

  1. Provide the full legal name of your company, including state/province of formation.
  2. Provide the address and related contact information that you will want for the contract.
  3. Provide the name and title of the person from your side who will execute the agreement.
  4. Does your company have a Chinese name? If so, what is it?
  5. Am I correct in thinking that you intend to use our NNN Agreement for discussions in China regarding manufacturing _________”

Please consider the following:

  1. Will you use this NNN Agreement for a single product or for multiple products?
  2. What is the best way to identify the products for which the NNN Agreement will be used? Ideally, we seek a clear, descriptive name that does not require attaching specifications or other proprietary information. Sometimes, even the name is proprietary. So we want to develop a designation that is clear, but that does not reveal more than you want to reveal.
  3. Do you plan to use this agreement with a single potential manufacturer or with multiple manufacturers?
  4. What types of information will you be providing to the Chinese side that you want to see protected by the NNN Agreement? This can range from providing a general concept all the way to providing the full production specifications as the preliminary to a hard price quote.
  5. Will you expect the Chinese side to do any design work during the initial discussion period? If so, please explain.
  6. Is your product protected by trademark, copyright or patent anywhere in the world? If it is, please explain
  7. After you disclose this product in China, are you interested in preventing the Chinese side from contacting any of your existing customers concerning your product or related products?
  8. We normally require that the Chinese manufacturer NOT contact any potential sub-contractors who would work in the production process. Please advise if you believe that this would be a concern in your situation. Note that some Chinese “manufacturers” are not actually manufacturers. They serve only as a middle man for the actual manufacturers. If you will use that kind of company, then they will need to be able to discuss your product with their subcontractors and we will need to allow for this.
  9. Please advise whether you have any specific technology items you desire to have protected in a heightened manner.

The second email was to another client for whom one of our lawyers had just completed an NNN Agreement:

Please find attached an NNN agreement for this project. Please note the following:

  1. We could not find any Chinese language information about the manufacturer. Please therefore have the manufacturer write in the Chinese company name, address and related information by hand in the appropriate places on the agreement.
  2. When executed by the Chinese side, please be sure that they stamp the agreement with their company seal in red. The stamp is important, so do not neglect this step.
  3. This agreement includes two exhibits. One is for listing the relevant products and the second is called a No Contact list. The purpose of the no contact list is to formally list out those customers of your company that you want to prohibit the manufacturer from contacting. If there are no such companies at this time or if you do not want to disclose names, just leave this exhibit blank at this time. You may want to use it later.
  4. It appears that this manufacturer will be working with numerous subcontractors. This is always a difficult issue. The approach here is the standard approach: subcontractors must be approved by you in advance. It is also best for you to require that subcontractor to execute a separate NNN agreement. However, this is often not practical. Our approach is to make the manufacturer liable for bad acts by the subcontractors. Note, however, that a very common way for copying to occur in China is to allow your designs to get into the hands of subcontractors and related parties.
  5. Be sure to make every document you provide to the Chinese side as confidential. In the case of subcontractors, ensure that the specific items that are provided to any individual contractor are carefully identified. The NNN agreement is of little use if you do not take care at the stage where specifications are distributed to the Chinese side.
  6. Note that this NNN agreement is intended to protect you only during the process of obtaining a quote from the manufacturer. For full production, you will need an OEM manufacturing agreement that deals with all the manufacturing issues in a comprehensive fashion.

What do you think?

Enhanced by Zemanta

This is part II of our series on what are commonly referred to as non disclosure agreements or NDAs. In Part I, “Why Non Disclosures (NDAs) Alone Are Not Enough For China,” we talked about how many companies are using inadequate, off the shelf American NDAs in China. Those agreements are inadequate for three primary reasons. First, they typically fail to cover internal disclosure within a network. Second, they oftentimes fail to prevent the Chinese signing party from manufacturing or using the product or information sought to be protected. To remedy this, non-use provisions are required. Third, they usually fail to prevent the Chinese signing party from circumventing the foreign company by going directly to the foreign party’s customers or clients. To remedy this, non-circumvention provisions are required.

But even if these NDA agreements were to account for the three issues discussed in Part I and more briefly above, most of the ones we see would still not be worth the paper on which they are printed because they are pretty much unenforceable in China. Let’s let co-blogger, Steve Dickinson, explain:

Most NDA agreements I see are just modifications of the standard NDA used in the U.S. The non-disclosure provisions do not deal with the special problems of related parties in China and the non-use/non-circumvention is treated inadequately or not at all. Only a carefully thought out NNN Agreement (non-disclosure, non-use, non-circumvention) that treats all the issues is of any real use in China.

Even the best agreement is of no use if it cannot be enforced. This is the other major defect of the typical NDA agreements I review: the agreement is usually not enforceable. It is absolutely required that an NNN Agreement be enforceable in China. And yet, most of the NDA agreements I read are governed by U.S. or English law with enforcement by litigation in the U.S. or England or by arbitration outside of China. This approach is almost always useless. U.S. courts almost never have jurisdiction over Chinese companies, so a judgment from a U.S. court is of no value. Arbitration outside of China is expensive and slow and proof is difficult or impossible and denies access to injunctive type remedies that would be available for arbitration in China.

To greatly increase your chances of having an NNN Agreement that will actually be enforced, the following nearly always makes sense:

  1.  The Agreement must include an accurate translation into the Chinese language.
  2. The agreement must provide for enforcement through litigation in a Chinese court or through CIETAC arbitration. To further ensure that the NNN Agreement will be enforced, the NNN Agreement should provide for specific monetary damages that will be awarded in the case of a breach. Though U.S. and other common law systems sometimes discourage using this sort of liquidated damage provision, the Chinese system is the opposite. Specific contract damage provisions are encouraged since they ease the court’s work.
  3. Most NDA type agreements rely almost exclusively on injunctive relief as the primary enforcement mechanism. This is a a major mistake in China. The preference for injunctive relief in common law systems (such as the United States or England) is because it is often difficult or impossible to prove the amount of economic damages that result from a breach. This is not really an issue under Chinese law, where parties to a contract are encouraged to set a fixed amount for damages that will result from a breach. If written correctly, the liquidated damage amount sets a floor on damages, but if actual damages exceed that amount, it is permissible to seek damages for the excess. In addition, money damages and injunctive relief are not exclusive. A court or arbitrator is free to order that damages be paid and that the infringing/breaching party terminate the infringing action.

NNN Agreements that set forth a specific damage amount that will result from a breach make the cost of a breach clear to the Chinese manufacturer and if set high enough, will go a long way towards discouraging a breach. Having a properly written liquidated damages provision in your NNN Agreement also makes for quick and effective litigation/arbitration, which is much to the advantage for the damaged party.

Many Chinese manufacturers quickly sign the traditional poorly drafted and unenforceable non disclosure agreement without even thinking about it. Why is that? Because they know that their signing it comes with little to no risk.

When a Chinese manufacturer sees a well drafted NNN Agreement, they will sometimes resist signing. For some manufacturers, the reason is simple. Their whole reason for doing your outsourcing work is to acquire your technology and designs for their own products. So long as your technology is not protected by patent or trade secrecy law, and you have failed to require the Chinese manufacturer sign a strong NNN Agreement, the Chinese manufacturer is free to use your technology for its own purposes. Absent an agreement that prevents them from doing otherwise, it is perfectly legal for a Chinese manufacturer to use your unprotected information for their own products manufactured under their own trademarks. However, if an NNN Agreement makes clear that the Chinese manufacturer cannot appropriate your technology and contacts, then the manufacturer that wanted your OEM manufacturing solely for these reasons is no longer motivated to enter into the arrangement with you.

Sometimes the manufacturer has more complex reasons for refusing to sign a well drafted and enforceable NNN Agreement. A well drafted and enforceable NNN agreement shows the Chinese manufacturer that the foreign party knows its way around China and that it plans to hold the Chinese manufacturer to the terms of their contractual commitments. For this reason, the Chinese manufacturer may reasonably decide it would be better off just manufacturing for those foreign companies that do not manifest an intent to hold the Chinese side to their commitments.

Therefore, using a well drafted and enforceable NNN Agreement does actually increase the risk that the Chinese side will refuse to sign. However, we see this as a good thing. If the Chinese side has a good reason for not signing, they will say so and the agreement can be modified to account for that. If the reason for the Chinese side refusing to sign is not a good one, the Chinese side will be forced to make this clear also. In either case, the foreign company benefits from finding out in advance what is really going on. This “advance notice” function is one of the main advantages of a good NNN Agreement; it forces both sides to face up to the real situation and to engage in a frank discussion of what is really required for a successful and long term relationship. This is a much better situation than ritually executing a meaningless agreement.