Safeguarding Trade Secrets in China

Much has changed in China over the past decade. In the early 1990s, there was very little awareness of IPR and no infrastructure to deal with IPR problems. In the early to mid- '90s, pressure from the U.S. government and industries and strong support from constituencies within China (including the science, arts, music and software industries) pushed China to take dramatic action.

Working with the Office of the United States Trade Representative (USTR), China was able to set up an IPR legal structure that was fundamentally compatible with the international community. An important step in this process occurred in 1992 when USTR worked with China to negotiate an agreement aimed at bringing China into conformity with international practice. This pact culminated in China's accession to Berne, Geneva, Rome, the Agreement on TRIPS (Trade Related Aspects of Intellectual Property Rights) and two enforcement agencies. Enforcement also improved. Working with the FBI, U.S. Customs and their Chinese counterparts, USTR was able to close more than 30 CD factories, arrest 250 people, close down distribution networks and set up a system of enforcement.

Today, there is a system in place that works, maybe not always, but much of the time. From a top-level perspective, for China to be totally successful there still needs to be more systemic change. Enforcement of IPR needs to be a higher priority; police need to be better trained; thresholds for prosecuting criminals need to be lowered; requirements to disclose pertinent information and documents to opposing counsel need to be improved; the burden of proof should be shifted to infringers; and there should be better enforcement of injunctions. There are also many social issues that need to be changed; namely, local protectionism, organized crime's involvement in infringement, lack of police resources and judges' unwillingness to give long sentences.

The system is still the best way for companies to protect their intellectual property. When China offered few remedies, the political route was the only way to go. But now that China is more decentralized and commercial than before, the utility of the political approach, versus that of 10 years ago, is a lot less. If USTR pursues a dispute settlement case, the ultimate impact may be good but could take years- not a very effective solution for business. China's relative negotiating clout has also shifted.

China has $800 billion in foreign exchange reserves and is a much tougher opponent. Today, the best way to protect your company is by having a solid IPR strategy in place and by knowing the system you are working under.

When developing a strategy, it is essential to be both vigilant and proactive. Know the laws, regulations, agencies and key players who can help you succeed. Develop relationships with IPR enforcement agencies, create networks of relationships, become embedded in China and get your distribution right. When foreign businesses enter the Chinese market, they are living under the Chinese legal environment. Therefore, CEOs really need to know the IP legal system in order to protect their company's interests.

Second, make sure you take measures to protect your company. You should have IPR people on staff or contract with experienced consultants. Make sure they know what your joint venture partners are doing and are vigorously going after offenders.

In January of this year, bootleg copies of Microsoft's new Vista operating system were widely available for just a few dollars at least a week before the worldwide launch. The company is accustomed to fierce bootleg battles in China and had undertaken aggressive anti-piracy measures to minimize the damage. To preempt piracy, Microsoft negotiated a deal to preinstall Vista on machines in China made by Lenovo, China's largest computer manufacturer. In addition, the company built in safeguards that disable sections of the program on illegal copies. Beta versions expire after a certain time, and quite often pirated versions contain spyware and malicious programs. Third, use common sense and take proper precautions. You can't send specs for a rock crusher to a Chinese company by fax and then be shocked when the company reverse- engineers your product. You must assume that there are bad people out there and take measures to protect yourself.

Fourth, investigate and find infringement before it spreads. For example, Nokia also is trying to stop piracy. In its Beijing factory, workers are watched on closed-circuit television and are even banned from bringing bags, mobile phones or cameras into the factory. The company uses these tactics in their IPR strategy to stop workers from taking out the latest designs that could end up being used by other manufacturers.

Fifth, select your choice of weapons- administrative or judicial relief- and prosecute. China's courts are open for business. China has a range of enforcement agencies that have substantial powers, and the government is eager to demonstrate that it is being vigilant. Take advantage of that interest. In January of 2006, Starbucks won a settlement against the Chinese firm Xingbake after a Shanghai court ruled that Xingbake had violated Starbucks' trademark by using a similar Chinese name and logo.

While Xingbake was only ordered to stop using its name and to pay 500,000 yuan ($62,000) in damages, the decision does show that Chinese courts are becoming a place where companies can seek legal redress. Last year, there were 16,583 civil cases and 3,567 criminal cases of IPR infringement prosecuted in Chinese courts.

To use the legal system effectively, you have to make a case that can be prosecuted-much like you would in the U.S. You have to investigate, find and prove infringers and determine injury levels. Be sure to package the case so that the police-or AIC, Ministry of Culture or other agencies-will take on the case and prosecute. However, it is also important to do it the Chinese way. Know the system well, be persistent, and cultivate relationships. Retain help to track the problem down and prosecute in the most effective manner, whether through courts or administrative agencies.

Small- and medium-sized enterprises in the U.S. that don't have the resources to take legal action against Chinese companies need not rely just on the political process. By hiring a company to help investigate and prosecute infringers, they can benefit from others' experience and resources. Cost is really not the issue. For example, the International Federation of the Phonographic Industry (IFPI) represents more than 1,450 large and small record companies in 75 countries in an effort to fight music piracy and promote fair market access and adequate copyright laws. IFPI has won more than 100 civil cases; the resulting awards have been sufficient to fund its operations. Most importantly, IFPI has created a better marketplace for its member companies.

Doing business in China today is different than it was just 10 years ago. Not only are more people aware of IPR, but it has become a hot topic in China. The judiciary is familiar with it, the court system works, and there are criminal penalties; however, companies also need to be realistic. Historical, social, economic and cultural factors are so different in China that many changes are still needed before companies can rely on Western-style legal protection.

The key is to familiarize yourself with the landscape. By taking a proactive stance and treating IPR as an integrated part of an overall China strategy, companies can go a long way in protecting their patents, copyrights and other intangible assets.

Lee Sands is managing director of Sierra Asia Partners, an advisory and financial services company based in China and the U.S. Sands also served as founder and chairman of MBP Consulting, which advises companies on market access and government policy in China, a partner in Mayer, Brown, Rowe & Maw, and as chief U.S. trade negotiator with China in the Office of USTR during the Clinton administration. He speaks and writes Mandarin and is based in Beijing.