Legal News: Eye on China Quarterly Newsletter offers companies helpful insight as they successfully navigate China’s complex and ever-changing legal and regulatory environment. In this issue, we focus on the following topics:
The Wild, Wild East: Strategies to Combat Counterfeiting in China
Trade Secret Protection in China: A Perspective From China and Hong Kong
Asian Arbitration Options: Which One Is Right for You?
The Wild, Wild East: Strategies to Combat Counterfeiting in China
By Brian S. Sun (firstname.lastname@example.org)
Consider this simple word-association exercise: “counterfeit.” For many, the first word that may come to mind is “China.” Indeed, when it comes to counterfeit goods and brand piracy, China is the number one source of infringing products. While considerable strides have been made in recent years to promote intellectual property (IP) protection in China, two obstacles continue to hinder enforcement efforts: an administrative and judicial inability (or unwillingness) to enforce IP laws, and an overall lack of administrative and judicial transparency. Other problem areas also include local protectionism and corruption, lack of public awareness, and low penalties, which can result in “whack-a-mole”-style enforcement.
Despite these problems, progress has been made to promote the enforcement of IP in China, largely due to growing political pressure from the West, and the fact that China is emerging as an innovator nation. However, in response, smart counterfeiters have adapted by developing sophisticated techniques, making them more difficult to identify and thus more difficult to shut down. As such, implementation of an aggressive anti-counterfeiting program is essential to any company that produces consumer products, whether it be in the apparel, electronics, pharmaceuticals, or entertainment industry. This article sets forth the components of an effective anti-counterfeiting program — and a number of best practices for implementing such a program — that will reduce the amount of counterfeit goods on the market and allow companies to recapture lost revenue and avoid brand dilution.
Be Proactive, Not Reactive
Effective IP registration and portfolio management is the first component to a successful anti-counterfeiting program. However, while obtaining a significant portfolio of trademarks and patents well in advance of commercial use is essential, it requires aggressive monitoring and proactive measures to prevent IP misuse and infringement. Specifically, aggressive monitoring will involve establishing a global watch service, tailored to each company’s specific needs, to track the sale of counterfeit goods, trademark misuse, domain name registrations, and the like. Additionally, any information that is gathered should be entered into a database system, including data relating to seizures and enforcement activities, so that the IP owner can properly adjust to market shifts and thereby formulate a coordinated strategy.
It is common for companies to overlook, or at least underestimate, the importance of promoting an aggressive anti-counterfeiting program, resulting in a reactionary approach to instances of counterfeit activity in which companies feel compelled to file suit immediately upon discovery. To better illustrate the futility in this approach, counterfeiters can be analogized to a Lernaean hydra, such that an IP owner who initiates enforcement proceedings against one counterfeiter after the first sighting will ultimately fail to curtail the counterfeit goods from propagating because he or she did not cut off all the heads. This inability to completely eliminate a counterfeiting operation is due in large part to the fact that Chinese counterfeiters consider seizures, fines, and injunctions to be simply part of the cost of doing business, and as such they are usually able to resume counterfeiting operations with little difficulty. In this regard, rather than focusing on metrics like “seizure numbers” or the total number of lawsuits filed, an effective anti-counterfeiting program will facilitate targeted action to identify, cripple, and more preferably eliminate the counterfeiters at the source.
Other important proactive measures include working with government liaisons from agencies such as police authorities, U.S. Customs and Border Protection, and the National Intellectual Property Rights Coordination Center (IPR Center). The latter represents a joint effort on the part of 15 government agencies to promote IP enforcement, and operates in part to share information, perform interdictions, and conduct investigations. Additionally, having “boots on the ground” in the form of trusted local service providers (i.e., private investigators, IP counsel) in China is critical for investigatory and shutdown efforts to be successful. Unfortunately, in order to identify trusted local service providers, thorough screening and mechanisms to safeguard against conflicts of interest and exploitation are required. If used properly, however, these proactive measures can provide systemic anti-counterfeiting effects and reduce the cost of enforcing IP in China.
Many foreign companies tend to be unfamiliar with the rules of civil procedure and evidence in China, which differ widely from the U.S.-style civil discovery. More specifically, Chinese courts base their decisions almost entirely upon the presentation of a substantial body of written and physical evidence that the plaintiff must produce up front and submit with the complaint. This requires a considerable amount of investigatory work to be conducted in order to locate manufacturing sites, make notarized purchases of counterfeit goods, and uncover the main players responsible for running the counterfeiting operations. Other considerations that impact the overall return on IP enforcement include identifying liquid assets for which requests to the court can be made to freeze on an ex parte basis, which requires ascertaining bank account numbers and the location of the assets to be frozen.
As discussed above, having trusted investigators on the ground is vital to successfully identifying and shutting down the key players in a counterfeiting scheme. This sort of “detective” work can be frustrating for domestic corporate clients who may demand immediate action upon first discovering an infringer. However, continuing the investigation after first discovery in order to gather additional intelligence pertaining to manufacturing sites, suppliers, sub-contractors, distribution channels, and customers is critical if a brand owner wants to eliminate the problem at the source. In this respect, comprehensive database management and the use of third-party intelligence programs to run data sets and analyses are key elements to properly coordinating anti-counterfeiting efforts and, additionally, to stay within a fixed budget by avoiding wasteful spending through “whack-a-mole”-style enforcement.
The Four Paths to Enforcement
While China’s legal system provides IP owners with a full range of options for relief, the results can be a mixed bag depending on the particular avenue taken, and are often poorly navigated via trial and error by inexperienced practitioners. In brief, China’s legal framework prescribes routes for IP enforcement through administrative, civil, criminal, and customs enforcement.
Administrative action is the most frequently pursued route for enforcing IP rights in China, as it is quicker and less expensive than litigating in the Chinese courts. These actions are carried out by various government agencies, including local intellectual property offices, which are supervised by the State Intellectual Property Office (SIPO), Administrations for Industry and Commerce (AICs), and cultural bureaus such as the General Press and Publication Administration (GPPA). Typically, IP owners must first engage in independent investigations to gather evidence against infringers before bringing a case of infringement to an agency office. Once a strong case has been presented, the agency will undertake its own investigation and notify the infringer. Thereafter, the agency may conduct inspections, hold hearings, engage in raid actions to seize counterfeit goods, and/or assess administrative penalties.
While administrative enforcement provides the advantage of being able to select between a variety of enforcement authorities, there are significant drawbacks that can blunt the effectiveness of administrative actions. For example, IP owners often find it difficult to navigate the multitude of administrative agencies when each agency has local offices that are each given considerable local autonomy. As a result, IP owners are faced with a host of problems that include a lack of operational consistency between local agencies and jurisdictional challenges caused by political infighting among localities. Furthermore, some agencies have overlapping IP policing powers, which can make selecting the most suitable agency problematic when cost is a primary concern. Another shortcoming associated with pursuing administrative proceedings includes the fact that administrative enforcement is generally limited to injunctive relief and does not provide redress to IP owners in the form of monetary damages. Furthermore, administrative fines levied against infringers tend to be small and factory closures are usually temporary, resulting in merely a short-term cessation in the production of counterfeit products. As such, taking the administrative route can sometimes be ineffective against counterfeiters due to the non-deterring size of administrative fines and other inherent problems plaguing Chinese administrative agencies such as corruption and local protectionism. However, if an IP owner brings a strong case and injunction is the primary objective, administrative enforcement can be a cost-conscious choice that provides at the very least an effective stopgap measure to counter counterfeiting.
In recent years, IP enforcement utilizing civil litigation in Chinese courts has been gaining ground as an effective anti-counterfeiting tool, and it is expected to increase as a deterrent force as China brings its laws more in line with those of other IP innovator nations. However, the cost of conducting investigations and hiring trustworthy local litigators, especially in view of the insufficient damages that are awarded, make civil enforcement less than ideal. Despite these drawbacks, as part of a coordinated anti-counterfeiting program, targeted actions that utilize available civil remedies such as preliminary injunctions, freezing of assets, and the ability to litigate and secure judgments, simultaneously or in succession, against a group of infringers can be an effective solution to combat counterfeiting. Moreover, there is a desire to see the Chinese judicial system become more robust and independent, which will ultimately lead to larger damages awards, more injunctive relief, and more transparency in litigation.
Similar to the civil litigation route, pursuing criminal proceedings against counterfeiters also has its share of ineffectual results. In particular, both the severity of sentences and the rates of criminal prosecution are too low to serve as a meaningful deterrent. Furthermore, criminal liability can be difficult to establish, as the evidentiary bar is high, and numerical thresholds also must be met before criminal charges can be leveled against an infringer. However, thoroughness and attention to detail in conducting an investigation can greatly enhance the chances of imposing criminal sanctions on a counterfeiter. More specifically, providing precise calculations for the values of seized goods, and gathering and notarizing probative evidence relating to completed transactions in the form of sales orders and receipts, ledger and account books, and tax documents, will increase the chances of obtaining criminal punishment. Moreover, as with the upward trend with civil litigation, the length of sentences and the amounts of assessed fines are creeping up as more pressure is placed on IP protection and enforcement in China. By way of example, a recent conviction obtained by the U.S. Golf Manufacturer’s Anti-Counterfeiting Working Group against a prolific Chinese counterfeiter of golf products resulted in a four-year prison sentence and a substantial fine, exemplifying positive progress toward stiffer criminal penalties in the future.
Customs enforcement also is on the rise as counterfeit goods can be seized both at the point of departure from China as well as the point of arrival in the destination country. Disadvantages associated with pursuing the customs route include the requirement of a sizeable security bond in order to detain seized goods and potential corruption of front-line customs personnel. However, developing relationships with customs departments can be a particularly cost-effective solution, especially when customs officials are educated and understand how to identify infringing goods. In this regard, maintaining a constant channel of communication and providing manuals, guides, and educational resources to facilitate the identification of counterfeit products is an important component to a successful anti-counterfeiting program.
Best Practices for Implementing an Anti-Counterfeiting Program
Developing and managing an effective anti-counterfeiting program can be a difficult task because it requires a significant amount of strategic planning, thorough investigation, and precision in execution. The most common problems that stifle brand owners’ attempts to stop counterfeiters typically stem from a failure to prioritize actions against counterfeiters and an inability to properly scale legal budgets to achieve desired goals. As such, gathering intelligence and understanding the counterfeit market landscape in China, which includes monitoring sophisticated counterfeiters that attempt to circumvent enforcement efforts, is critical to achieve any measurable success.
One rising trend that has resulted in favorable dispositions is joint actions wherein multiple brand owners join together to bring civil, criminal, and administrative actions against infringers. Notable advantages to pursuing joint actions include the collective pooling of resources, intelligence, and political and economic clout. This was perhaps best demonstrated by a group of European luxury brand owners, including LVMH, Gucci, and Chanel, who in 2004 embarked on a joint enforcement effort to reduce counterfeiting in Chinese retail and wholesale markets by targeting landlords of major markets. This ultimately led to the assembly of an even larger coalition of apparel, sports, and fashion brands that since coming together has obtained civil and criminal judgments against infringers, and also secured a series of agreements guaranteeing certain additional protections for IP rights.
In summary, IP enforcement in China is completely different from that of the United States and other Western nations. Moreover, the changing tides in response to political and economic realities are moving China toward stronger IP protection, thereby increasing the efficacy of administrative, civil, criminal, and customs enforcement and resulting in stiffer penalties and greater recoupment of lost profit. With so much in flux, the development and implementation of an effective anti-counterfeiting program requires the careful consideration of a multiplicity of factors and unique strategies in order to successfully reduce and prevent the proliferation of counterfeit goods.
Trade Secret Protection in China: A Perspective From China and Hong Kong
By Song (Max) Lin (email@example.com), Alex Y. Nie (firstname.lastname@example.org), and James C. Chapman (email@example.com)
With the tremendous amount of cross-border business being conducted in the Peoples Republic of China (China) and Hong Kong, foreign companies are constantly seeking the best way to protect their proprietary information in connection with these cross-border transactions. Unless the choice of law is governed by the Chinese statutory law, it is common for parties to a commercial contract to select Hong Kong law as the governing law. This strategy has implications not only for the commercial relationship between the parties but also for the protection of proprietary information and trade secrets. This article examines trade secret protection under the laws of both China and Hong Kong, and discusses the difference between them and the implications for cross-border transactions.
Definition of a “Trade Secret” in Hong Kong and China
As a former British colony, Hong Kong has adopted a common law approach, particularly in trade secret protection. There is no statutory definition of “trade secret” or “confidential information.” The right to trade secret protection arises from contracts or the common law of “confidentiality.” Unlike Hong Kong’s approach, which emphasizes case law and precedents, China defines “trade secret” as “the utilized technical information and business information which is unknown by the public, which may create business interests or profits for its legal owners, and also is maintained as secret by its legal owners.” This is consistent with China’s civil law approach.
The subject of trade secret protection in China refers to both technical and business information. Although it is subject to some limitations, such as secrecy, the scope of this definition is broad and abstract. In contrast, Hong Kong provides more definitive terms for trade secret protection. For example, the Hong Kong Intellectual Property Department provides a list of protectable information that has commercial value, such as formulas, methods, technologies, designs, product specifications, business plans, and client lists. In this regard, one has a relatively clear picture of the information protectable under common law.
Similarities and Differences
In both jurisdictions, the information at issue must be confidential in nature to be protected by law as trade secrets. Chinese law refers it as “unknown to the public.” According to China’s Supreme People’s Court, “unknown to the public” means that the information is unknown to, and is difficult to be obtained by, the relevant personnel in the relevant field. In addition, the Supreme People’s Court has enumerated certain exceptions to the definition of “trade secret,” including:
The information is common sense or common industrial practice for the personnel in the relevant technical or economic field
The information only involves a simple combination of dimensions, structures, materials, and parts of products, and can be directly obtained through the observation of products by the relevant public after the products enter into the market
The information has been publicly disclosed in any publication or any other mass medium
The information has been publicized through reports or exhibits
The information can be obtained through other public channels
The information can be easily obtained at little or no cost
With respect to Hong Kong, the major case in point is Saltman Engineering Co. v. Campbell Engineering Co. Ltd  65 RPC, where the court stated that the following factors should be considered in determining what constituted a trade secret:
The extent to which the information is known outside the business
The extent to which the information is known by employees and others involved in the business (information that is common knowledge within a particular trade but not to the general public is not protectable)
The amount of effort or money expended in developing the information
Although China and Hong Kong have different definitions for trade secret, the laws of these two jurisdictions are similar. For example, both China and Hong Kong exclude the information that is common knowledge for the personnel within a particular industry. In addition, both China and Hong Kong recognize the information, which is protected as a trade secret, must have commercial value. The information that can be reproduced at little or no cost or can be easily obtained is not a trade secret.
Similarly, China and Hong Kong require owners to take measures to maintain the confidentiality of the information. If an owner treats the information casually, the law will not protect it. In evaluating the level of confidentiality, Hong Kong law considers how far the owner takes measures to preserve the secrecy of the information, and the ease or difficulty with which the information can be properly acquired by others. The China’s Supreme People’s Court takes the position that, in order to qualify for trade secret protection, the owner must adopt proper protection measures suitable for the commercial value or other specific situation to prevent information leakage.
Although both jurisdictions require the information to be valuable, they differ as to whom the information must be valuable. To be protected as a trade secret, Chinese law requires that the information be “capable of bringing about benefits to the owner, and having practical applicability.” The China’s Supreme People’s Court explains it as the relevant information that has actual or potential commercial value, and can bring competitive advantage for the owner. Under Hong Kong law, in addition to the owner, the information will be protectable if it also is valuable to the owner’s competitor.
Protection of Trade Secret in Hong Kong and China
The remedies available in both in China and Hong Kong for breaching confidence include injunction and damages. In Hong Kong, remedies further include an accounting of profits by the misappropriator, and return of the materials containing the confidential information. China includes an accounting of profits as part of recoverable damages. When calculating damages, the amount is first based on the owner’s loss caused by the misappropriator. When it is difficult to measure the amount of loss, which often is the case, Chinese law allows a court to set damages at the amount of profit made by the misappropriator as a result of its improper use of the trade secret. Chinese law also permits the victim to recover any reasonable costs resulting from investigating the misappropriation or unfair competition made by the misappropriator. In China, theft of trade secrets also has criminal implications. According to China Criminal Law, a person acquiring a trade secret via theft, lure by promise of gain, threat, or other improper means, which results in significant losses to the owner, is guilty of a crime punishable by a fixed-term of imprisonment, criminal detention, or fine.
Practical Consequences for Foreign Companies
As discussed above, one can see that trade secrets are treated similarly in both Hong Kong and China. However, Hong Kong has a more mature legal system and better legal environment than China. Because Hong Kong is a former British colony, the English language is more commonly used than in China. In addition, an arbitration award made in Hong Kong is enforceable in a Chinese court. Western companies, especially those from the United Kingdom and the United States, are more familiar with a common law system. As a result, foreign companies usually are more inclined to choose a Hong Kong forum for dispute resolution and Hong Kong law as the governing law.
In China, commercial contracts involving a foreign element or party are permitted to choose the jurisdiction, the governing law, and the method of dispute resolution. Chinese Civil Procedure Law requires that the chosen jurisdiction shall have an actual connection with the disputed contract. The actual connection can be the places where the parties to the contract are domiciled, the place where the contract will be performed, the place where the contract is to be signed, or the place where the subject of the contract is be located. If there is no actual connection with Hong Kong, Chinese law will disregard the choice of law provision. Although China’s courts recognize and enforce Hong Kong court judgments in civil and commercial cases, a choice of law violating Chinese law will make a Hong Kong court’s judgment unenforceable in China. As a result, a commercial contract between a foreign and Chinese party, where the parties desire to use Hong Kong law, must have an actual connection with Hong Kong. The easiest way to make the actual connection with Hong Kong is to have the contract executed in Hong Kong.
As the trade secret laws in Hong Kong and China are substantially similar, foreign companies oriented toward choosing Hong Kong law for commercial reasons can feel comfortable that Hong Kong law will provide protection for their confidential information.
Asian Arbitration Options: Which One Is Right for You?
By Thomas I. Elkind (firstname.lastname@example.org)
Companies doing business in a foreign country are often legitimately concerned about being hauled into court to resolve a dispute with a citizen of that country. Most foreigners in that situation perceive that the court is biased against them, or that they are at a great disadvantage due to unfamiliar procedures and language issues. Therefore, the opportunity to arbitrate disputes in a forum where the rules are simple and the parties can control the process is very attractive to most companies doing business overseas. For this reason, there are now many organizations available to facilitate the arbitration of international business disputes. The following questions and answers may help such companies choose the organization that is right for them.
What is arbitration?
Arbitration is a process that can only be used if all parties agree to it. It is a binding dispute resolution process that is usually agreed upon in a contract as the only way to resolve disputes arising under the contract. Therefore, the contract not only must state that the parties agree to arbitrate their disputes, but also should provide, in as much detail as possible, the rules that will govern the arbitration, where it will take place, and what law should be applied to decide disputes.
Which organizations are most convenient for companies doing business in China?
For companies doing business in China, the closest arbitration services are China International Economic and Trade Arbitration Commission (CIETAC), Hong Kong International Arbitration Centre (HKIAC), and Singapore International Arbitration Centre (SIAC). However, all of these organizations permit the parties to designate where the arbitration hearing will be held. So, for example, parties may agree to arbitrate under the HKIAC Rules, but specify that the arbitration hearing shall be held in Shanghai, or at any other location. If no location is specified, CIETAC will determine the hearing location. HKIAC will hold hearings in Hong Kong, and SIAC will hold hearings in Singapore, unless the parties agree otherwise. Although arbitration has many advantages, it is not cheap. Administration fees must be paid that are based on the amount in controversy. For example, HKIAC charges fees of more than $25,000 for cases involving more than $5 million. In addition, the arbitrators must be paid.
How are the arbitrators chosen?
One difference in how these organizations operate is regarding the number of arbitrators and how the arbitrators are selected. All provide that if the parties agree on the number of arbitrators, they will abide by that agreement. However, if this is not covered by the agreement of the parties, these organizations have different rules to determine the number of arbitrators. CIETAC will generally require three arbitrators, and will ask each party to choose one arbitrator and to propose a third arbitrator. If they cannot agree on a third arbitrator, CIETAC will provide one from its panel. Under HKIAC rules, HKIAC can determine that one arbitrator is sufficient and will appoint one if the parties cannot agree on one. If HKIAC determines that three are needed, each party selects one arbitrator, and those arbitrators then select the third arbitrator. These rules also provide that the third arbitrator may not have the same nationality as any party if the parties are from different countries. Under the SIAC rules, generally one arbitrator shall be appointed unless the case is particularly large or complex. If three arbitrators are to be used, each party selects one arbitrator and the chairman of SIAC selects the third arbitrator. In all these organizations, the third arbitrator is the "presiding" arbitrator. All three organizations provide that in the event a majority of the arbitrators cannot agree on a decision, the presiding arbitrator may render the decision. The parties must agree to pay the arbitrators, and are required to pay for their anticipated time charges up-front. However, all of the organizations provide that the arbitrators shall determine which party shall bear the costs of the arbitration as part of its award.
Are counterclaims allowed in arbitration?
Yes. After an arbitration is commenced, all of the organizations have similar rules regarding asserting claims, defenses, and counterclaims. One difference is that for CIETAC arbitrations, five copies of all pleadings and evidence must be submitted to CIETAC, which then distributes them to the parties and the three arbitrators. The other organizations require the parties to serve each other with their pleadings, evidence, and any other correspondence. This system is less complex and preferable to the CIETAC system.
What discovery is permitted in arbitration?
All the organizations provide for some form of pre-hearing discovery, although CIETAC rules provide that if there is a hearing, evidence is to be produced at the hearing. HKIAC rules provide that the tribunal may require summaries of documents that support claims and defenses to be delivered prior to the hearing, and SIAC rules allow the tribunal to order documents to be produced prior to the hearing. HKIAC and SIAC rules also allow parties to interview witnesses before the hearing, whereas CIETAC rules do not address that issue.
Is expert testimony permitted in arbitrations?
Yes. All the organizations' rules provide for expert testimony. All the rules permit the tribunal to appoint its own experts to prepare reports and allow the experts to be questioned at the hearing.
Can the arbitration process be expedited?
Yes. For smaller or less complex cases, all the organizations provide for an expedited process. In such cases, there is normally one arbitrator, there may not be a hearing if the case can be decided solely by reviewing documents, and the entire process should be completed within six months. In addition, SIAC rules provide for a summary award procedure, where a party may move with affidavits for a summary award. After counter-affidavits are filed and a hearing is held, an award must be issued within 21 days.
Can I obtain interim relief in arbitration?
Yes. All the organizations also provide rules for granting interim relief. SIAC has the most detailed procedure. Its rules specifically state that the tribunal may issue injunctions and require the party seeking the injunction to provide security. Its rules also provide for the appointment of an emergency arbitrator to deal with a request for interim relief, who shall not serve on the main panel. Its rules also permit the main tribunal to overrule or ignore the reasons given by the emergency arbitrator for an interim award, and provide that the interim award will cease to exist 90 days after issuance or upon issuance of the final award. HKIAC rules also provide for security if an interim award is requested, but as an alternative allow the parties to seek interim relief from a court without waiving arbitration of the main claim. CIETAC rules are vague on this topic. They merely state that the tribunal may grant interim measures.
Overall, what are the main advantages of each organization?
For companies doing business in China, CIETAC offers the most convenient means of conducting an arbitration, but it also is the most bureaucratic of the three primary Asian organizations. HKIAC and SIAC rules are closer to U.S. procedure, and will probably be preferred by most Western companies. HKIAC is a convenient alternative to CIETAC for China-related disputes. If interim relief is likely to be sought, the SIAC rules provide the easiest way to handle that procedure. All of these organizations provide a dispute resolution process that is far more appealing to foreign companies than litigating in a foreign court system.