When Doing Business In China, Hire A Seasoned Practitioner!

Monday, November 21, 2011 - 16:11

Editor: Mr. Lewin, please describe your broad practice and how it relates specifically to protection of intellectual property rights in China.

Lewin: My practice breaks down into three areas: (1) major case litigation in various parts of the world, particularly the United States; (2) second, transactional work, including complex international licensing, acquisitions, due diligence and matters of that kind; and (3) the most unique – what we call global brand protection. Over the years I’ve been able to visit with people around the world, developing a system to assist companies in formulating and implementing a strategy to protect their brands, particularly in China. As a result I have been averaging three to four trips yearly to China since 1982 to deal with issues primarily involved in counterfeiting, copying and unauthorized use of intellectual property by a very diverse group of Chinese-based companies and citizens. These days, more than half of this global-brand protection practice is for clients scattered around the world, with their businesses being around the world, the rest being in the United States.

Editor: What are the unique issues in advising U.S. companies regarding Chinese intellectual property law?

Lewin: There are several. The first principle is to understand that China is a dichotomy; it runs really two very distinct political systems. One is a technocratic system. If you want to build a factory or conduct a business in China, there are a particular set of rules requiring you to deal with locals. On the other hand if you are engaged in a matter considered to be in the national interest, such as  technology, lifestyle matters, publications, media, etc., you are thrust into the second system, which is the party system. The party enters into negotiations, discussions, political steps and court proceedings very often on an unheralded or non-disclosed basis but influences the outcome of events. This directly impacts the implementation of a strategic intellectual property strategy in China. For example, you may reach agreement with a company to make your product in return for sharing your trade secrets or other intellectual property with that company in order for them to manufacture it. While a mistake (at least in my view), this is often done. On the other hand there is a national policy that flows from the Central Government, that decrees that if you want to do business in our country, particularly in the technology space you must partner with a Chinese company and share  your intellectual property and disclose extremely sensitive data.  This results in enormous exposure to the U.S. company that its IP may no longer be under its control.

 A very recent example of being aware of and managing such a risk is the sale of the one-time Swedish company Saab Motor Cars to General Motors. After a long, unsuccessful venture, General Motors sold the company to a Finnish company, Fisker, equally unsuccessful with the Saab. Fisker has found two Chinese buyers. It is likely General Motors, still a part-owner, may vote against the deal because it would involve a transfer of a particular know-how in building cars that is known to General Motors that was shared with Fisker, but which it did not want to share with the Chinese since it could not protect its intellectual property.

Editor: If intellectual property is one of the non-cash items contributed in a joint venture with a Chinese company as a portion of its equity or registered capital, what hurdles does a foreign company have to go through in establishing its ownership rights?

Lewin: U.S. and other foreign companies are interested in China for two reasons. For recent years, China has as we all know, been the world’s factory. More recently, as affluence has reached into China, foreign companies are more and more seeking to sell domestically to China’s 1.3 billion consumers. The Chinese require that you must establish an operating entity in China, whether wholly or partly owned or a joint venture, and you must have a Chinese entity as a partner. There are other reasons that are very persuasive for partnering with Chinese entities because the right partners can smooth the way through the bureaucratic maze. But, there are serious issues a foreign company faces in establishing, as you say, “ownership” rights. While contract agreements are necessary, recognizing that contracts are not always interpreted or enforced the same way in China as they might be in the West, or there is no precedent in law to rely on, or that there are decisions taken that may affect your business but you may never really know why the decisions have been taken or who made them (the  lack of transparency in the decision-making process all the way to the highest level of the bureaucracy leads also to a lack of accountability) will all go to the steps a company needs to take to first establish its business in China and second to protect its trade secrets, IP and related assets in China. One has to learn, to use a particularly apt phrase, how to be a “good corporate citizen” in China and that does not come easily. 

The party will enter into the business process if lifestyle or other elements that are seen to affect the public come into play. For example, we had a world famous client who wanted to build a multi-level entertainment center in Shanghai, including a night club, performance venue, shopping mall, etc. The deal was essentially done. Two of the three required permits were issued. The third was pending.  All of a sudden the client was advised the third permit would not issue because of technical problems. Because of the delay the first two permits then expired. We knew the officials allegedly making the decision in fact would never risk such political capital.  After months of effort, we determined in fact highly placed government officials had made the decision because the name that was the trademark of the client translated rather badly into the Chinese language. After months of direct negotiations the client finally made a decision not to proceed at all with the plans as being global branded was a key element in its worldwide growth. 

So when you’re establishing yourself in China, the difficulty lies in the fact that there is essentially very little rule of law in the upholding of contracts. If you provide that you will be sharing IP for a contract term, but at the end of that contract the other party will no longer use the IP, you can count on the Chinese partner violating these terms. Injunctive relief is rarely available until the end of a trial. For example, if you bring an action to seek an injunction against your former joint venture partner, that does not preclude the managing director of that joint venture partner from going elsewhere, starting a new company and engaging in the same violation of the original agreement.

Editor: Are you familiar with the Danone-Wahaha dispute?

Lewin: The Danone case is one of a whole host of similar cases. I just completed three cases on behalf of American companies that engage in marketing efforts of made-for-TV products, generally made in Ningbo, China. These companies all said that “we’ve had this particular fellow in China that has repeatedly been the subject of efforts by the authorities to stop him from emulating our products and from purporting to be an authorized distributor. He is making direct copies of our products and exporting them around the world.” This fellow was raided by authorities, but still continues this illicit business. My advice was to put him in bankruptcy. In China you do not wish to leave this person free to start another company, as was true in the Danone case. 

Also, there is no precedent in China or stare decisis so the fact that a court in Shanghai rules one way does not preclude your having to re-litigate the same issues in other courts. While the courts are given interpretations by China’s Supreme Court, even if a case goes all the way up to the Supreme Court, the results are not considered binding precedent. It is key for a U.S. company to understand that they are not going to be playing by the same set of rules. They should structure a deal where they understand the negative consequences and are willing to take the risk or they need to take steps that are not reliant on a later contract dispute resolution procedure to protect themselves.

Editor: Has China’s entry into the World Trade Organization made any difference in the way it treats other contractual parties?

Lewin:  It was hoped that China’s entry into the WTO would require their bringing their laws into line with the requirements of the WTO, particularly in terms of intellectual property. That part happened. The Chinese laws as written are some of the best in the world. That is not the issue. The issue is one of implementation – a gulf exists between the realities of Chinese practices and the desires of the lawmakers. I firmly believe that the leaders want to be major players on the world stage and understand that intellectual property protection is a huge factor in being regarded as a top leader, especially as regards foreign capital investment that requires a stable, predictable environment. Against this need for world esteem is China’s need for labor peace. There are roughly 200 million people engaged in businesses conducting infringement of intellectual property. If China suddenly decided to limit these illicit operations, it would put many people out of work.  Are they capable of doing so? Absolutely, but the consequences would be dire.

Several years ago Madame Wu Yi, the head of the Ministry of Commerce (MOFCOM) at the time, was assigned to be the head of the health effort following the tainted baby-milk scandal, and in a matter of weeks identified, tried, convicted and put to death the ring leaders of the illegal scheme. Other matters unrelated to health will not receive that degree of attention.

It’s the mid-level provincial city functionaries who for the most part are involved in the intellectual property issues unless you are dealing with very high tech or military matters. Provincial protectionism and corruption remain a very serious problem for U.S. companies trying to protect their IP in China.

The violation of intellectual property has increased over the past five years. Many of us were hopeful that the government would have made a greater and more concerted effort to bring that level down, but that hasn’t happened.

Editor: Have you been personally involved in stopping the flow of infringing goods into the U.S.?

Lewin: I do that on a daily basis. We act for intellectual property rights holders – from Swedish alcohol beverage companies to Swiss pharmaceuticals to French clothing designers to American companies engaged in the manufacturing and distribution of tractors and automobile parts, etc. We engage in a constant effort both on the ground in China using investigators, the Administration of Industry and Commerce (AIC) or the Quality Control Board (QTSB) or the Public Safety Bureau (PSB, i.e., the police and the courts). We now routinely initiate civil actions in China in working with Chinese Customs, U.S. Customs,  and the U.S. courts. 

Please email the interviewee at hlewin@mccarter.com with questions about this interview.