With the ASEAN-China Free Trade Area finally born on January 1 this year, interest among companies in the ten-nation Southeast Asian grouping in the idea of setting up businesses in the People’s Republic (and vice versa) is expected to intensify. Australia, Japan and Korea are negotiating free trade agreements with the Chinese as well, while Hong Kong already has a Closer Economic Partnership Arrangement with the mainland.
But what do foreign companies – and CFOs – really know about doing business in China? In the area of intellectual property protection, apparently not that much. The first thing to do, says Dr. Xiang Wang, Beijing-based partner at international law firm Orrick, Herrington & Sutcliffe LLP, is to file your patents, trademarks and other intellectual property.
“Many companies in the past didn’t learn that lesson,” he says. “File Chinese patents if you believe that you will do business in China or even if you do not do business in China, but your customers do. Otherwise, your competitors may file ahead of you.” Xiang spoke with CFO Innovation’s Cesar Bacani on how to understand and navigate China’s unique intellectual property regime.
From your experience, why is it so important for companies to file their patents in China?
It’s more important [to do this in China] than in other jurisdiction because China has a very unique law that many other countries do not, which is the Chinese Customs IP Protection Regulation. In the U.S., if you infringe a patent product, the U.S. courts and Customs office will only prevent you from sending that product into the U.S. They don’t care if that product is sent outside of the U.S.
So the infringing company can still sell the product elsewhere?
Exactly. But the Chinese Customs law will prevent you even from sending an infringing product outside of China.
Around the world, you will find that there is almost unanimous provision in each patent law on the on five rights of the patent-holder: to prevent others from 1) using, 2) making, 3) offering for sale, 4) selling, and 5) importing. There’s no exporting [as a right]. But Chinese customs law provides [a sixth right]: and this is aimed at preventing people from exporting [products that are judged to have infringed on an IP right such as patent].
I call this a ‘de facto worldwide injunction’. Legally, of course, there is no such thing. Each country provides its own injunction. But there can be, in effect, a de facto worldwide injunction if a company puts all its eggs into one basket – in other words, it moves all its manufacturing into China. When it is then not allowed to ship out its products [by Chinese customs because of either an alleged or a ruled IP infringement] and it is the only company in the world that makes those products, then you’re facing a de facto worldwide injunction because no country can get that product from China anymore.
Orrick recently helped litigate and ultimately settle a patent dispute between two foreign-owned companies doing business in China, your client OTI and its competitor, Smartrac. Tell us about that case.
There are five options to get out of patent litigation. No. 1 is to invalidate the patent. So if I can invalidate the patent, that’s the best route. No. 2 is that I do not infringe. That actually does not depend on you because if your product infringes, it infringes. No. 3 option is for me to design around. I change my process, I change my product. That’s sometimes possible, sometimes not, because if I change a process, if I change my product, no one will want it anymore, because it’s either too expensive, ugly to use, or has many other side effects.
If I cannot invalidate your patent, and if you believe that I infringed and the court also believes that I infringed, and also unfortunately I cannot design around, then what will I do? Option No. 4: I’m going to buy a license from you. The last option, No. 5, is to say, ‘You have used your monopolistic power of patent, and therefore you cannot enforce your patent rights.’ But that’s difficult to prove. It’s a very difficult issue because it’s an anti-trust issue. And most patent owners are very smart on the anti-trust side. They would not appear to be monopolistic. Lastly as a combination of the above, when a litigation gets too lengthy and expensive both from the perspectives of money and cost of business opportunity, then the parties often settle as well.
So what option did you choose for OTI, your client?
We took Option No. 1. We filed an invalidation proceeding in China against Smartrac's Chinese invention patent and in other countries. And then Smartrac sued us.
In China, unlike other jurisdictions, a patent invalidation proceeding and a patent infringement lawsuit are tried by two different authorities. Patent invalidation is tried before the China Patent Re-examination Board (PRB). Infringement lawsuits are heard at the People’s Court. Smartrac sued the only manufacturing site of OTI in China, a company called MCT, Millennium Card Technology, in Shenzhen. Smartrac also filed a customs action in Shenzhen, stopping OTI’s goods at the boarder. So OTI faced an infringement lawsuit [in the People’s Court], injunctions by the Chinese customs, and also an invalidation proceeding [before the PRB], which it initiated.
We set out to provide adequate ‘prior art’ [before the PRB]. In the patent world, prior art refers to the prior use or sale of a technology or publication. We set out to prove that Smartrac’s patent was not new, and that even if it was new, it was not inventive enough. In other words, if somebody did ABC, then this patent is for ABC plus D, is that new? It is new, because it has a D. But is it inventive enough? We say that it is not.
But this particular patent had been granted to Smartrac in the 1990s.
Yes. It was substantively examined by the China Patent Office, and also by many other countries.
So it was difficult for you, years later, to claim that it was not new or inventive enough.
Obviously it was a very difficult battle. The PRB held [hearings] twice. Oftentimes, the PRB only holds one court hearing. For this case, the court gave us two hearings, one in June 2008, another one in March 2009.
Did the PRB invalidate the patent in the end?
Yes, the PRB invalidated a majority of the claims including the very claim used to sue OTI in the Shenzhen court. We spent a lot of effort on it. It was more than three years’ litigation. The PRB is part of the China Patent Office, which grants a patent. So basically, we’re asking the Patent Office to negate its own decision. The patent was not new, nor was it inventive, so we needed to build our case to prove this.
In the meantime, what was happening in the People’s Court?
OTI was sued by Smartrac in Shenzhen court for infringement. We could not stay this lawsuit because the patent was an invention patent.
China has three types of patent. One is called the invention patent, which is the patent that the China Patent Office will substantively examine. The second type of patent is called the utility model patent. It’s the type of patent that the China Patent Office will not substantively examine. The third type is the design patent, which the China Patent Office will not substantively examine either.
When a patentee files a lawsuit against an infringer, if the patent that is used is a utility model patent or a design patent, the court would normally stay the lawsuit if the defendant files a patent invalidation proceeding before the PRB. But OTI was facing an invention patent, so we could not stay the lawsuit.
However, the Shenzhen court case was stayed because there was a dispute over the ownership of the patent. The case was filed by an individual unrelated to OTI.
That was a break for OTI.
The individual filed a case disputing ownership of the patent and the Shenzhen court had to stay this case. Under Chinese law, if doubt is thrown on patent rights in a lawsuit, the court has to stay the lawsuit until the patent ownership is clear. Of course this suit cannot be filed without reason. You have to have good reason. Maybe the person suing used to work with the patent holder. Maybe they invented it together. You have to have reasonable cause. That was how the Shenzhen lawsuit was stayed.
In the meantime, the PRB action was moving forward, and then OTI won that case. I imagine that gave OTI leverage against Smartrac.
Yes. Because we won in China, we also had their U.S. patent significantly narrowed. We did not manage to invalidate it, but we significantly narrowed its U.S. patent. We also got the custom’s action against OTI released, so OTI products were being sent out of China.
Let’s talk about the lessons we can draw from this case. As you say there are three types of patents in China. Does it make sense to go for the invention patent rather than all the others?
Our advice is to file for both the utility model and the invention patent. The third one, design patent, may or may not apply. It’s only ornamental.
The new Chinese Patent Law (3rd Amendment which became effective October 1, 2009) permits filing the two other types of patents on the same day. The advantage of this filing strategy is that you can obtain patent protection in China much earlier. A utility model (10- year term, usually granted within one year, which can cover only apparatus/product claims), will cover you until the invention patent is granted (20-year term if granted, can claim all protections including apparatus, method, process, composition and etc., but usually takes two to four years or longer for substantive examination and approval).
How easy is it for a Chinese national to file a foreign invention because the foreign holder did not bother to file it in China?
We should make a distinction between the two types of applicants. One is the so-called ‘patent trolls.’ They either file patents or buy patents from other inventors, but don’t use all those patents. Instead they use those patents to sue people [that infringe on those patents] for the purpose of making money.
The other type is known as ‘bad faith’ applicants, who are right now very prominent. They file totally fraudulent patents. Sometimes they even copy foreign patents or applicants and have them filed in China. The reason they are able to do this is that they know that if you file utility model patents or design patents, these are not substantively examined. But they cannot file for invention patent because the China Patent Office will reject them through substantive examination process.
Is it cheap to actually file and get a utility model or design patent?
Very cheap. People can do this because the system allows it legally and since the Patent Office will not substantively examine the application, there is virtually no legal fee. If you file it, other than meeting the formality, the Patent Office will accept it, and it becomes your patent. Thirdly the speed of working those patents is phenomenal. On top of the low cost, it usually takes less than 10 months, compared with invention patents, which can take three to five years or even longer to be granted. So for bad faith applicants, they have everything to win, nothing to lose.
BAD FAITH APPLICANTS
What happens when you file a utility model and then somebody else also files on the same date or even earlier than you did?
China is a first-to-file country, so if an inventor doesn’t file and the bad faith applicants file first, even if he could prove he invented it, it doesn’t matter anymore. This is different from the U.S., [which is a first-to-invent country]. So if you were to file on the same day [in the U.S.], there will be a fight to ascertain who invented it first.
In China, a bad faith applicant files a utility model patent. You are the true inventor, and you file the next day. The patent will be granted to the bad faith applicant rather than you, because he filed before you did. He did not invent anything, but the he filed first.
Is this unique to China?
Actually, it could also happen in Japan and Germany and some other countries as well. The difference is that there is no effective penalty for doing this type of fraudulent filing in China, so it’s very prevalent. In Japan and Germany, there’s a penalty, so people don’t try to abuse it. I wouldn’t say there is no abuse, but the level of abuse is probably significantly lower. Here in China there is no effective penalty. We have seen so many cases where the other side just copied our clients’ U.S. patent. We eventually invalidated their utility model patent, but there’s no penalty against those who abuse the system.
Is the process of registering trademarks analogous to the first-to-file patent system?
Yes, trademarks are the same way. The only difference is that all trademarks will be substantively examined by the China Trademark Office. The reason why it’s still so badly abused is that China is a first-to-file country, not first-to-use one and there is no effective penalty against bad faith filing.
When Pfizer came to China, it gave Viagra a Chinese name that translates literally in English as ‘Big Brother’. Many people in China loved the name and it quickly became a household brand. Even today, when people buy the blue pills, they ask for Big Brother.
The problem is that the Chinese characters for Big Brother were so well known that a Chinese pharmaceutical company had already trademarked it. So this company filed a suit against Pfizer for trademark infringement.
Pfizer fought for it and lost. Of course it will lose because the Chinese courts don’t care whether or not you use it first. This is very different from the U.S, where if you can prove to the court that you used the trademark first, the person who registered it first will lose.
Pfizer couldn’t use the Big Brother trademark, so it changed its Chinese trademark for Viagra to three characters that translate into English literally as ‘Hard Like Steel.’ The problem is that consumers didn’t like the name. So Pfizer changed the mark again, to a transliteration of Viagra.
The new three Chinese characters sound phonetically like Viagra, but they actually don’t associate with anything. So it’s very hard for people to recognise what it is. The unfortunate fact is that today, Chinese people may still buy ‘Big Brother’ blue pills thinking it is Viagra.
So that’s a big lesson in Chinese trademarks. File it first. File it as soon as you have the idea for the trademark. File both in English and Chinese character trademarks, because many people in China don’t recognise alphabet letters here in this market.
That’s a great cottage industry in China, just compile a list of all the brands and trademarks in the world and see whether they’ve been trademarked or not in China, and then file for trademark if they are not.
In certain villages in the southern part of China, that’s what they do. We oftentimes deal with those people. Not long ago, one of our lawyers tried to chase this trademark owner and found out that he was just a high school kid. He said, ‘I didn’t file anything.’ But the application had his Chinese citizen number. It turns out that his uncle had been filing so many applications that he resorted to using his nephew’s name to file.
Recognising this issue, the Chinese Trademark Office has come out with a new regulation that a trademark can be cancelled if it has not been used for three years. So if you file a trademark, pre-emptively, but you do not use it for three years, then theoretically another person can challenge you. But the standard for trademark use is vague and low that you have people file those trademarks and then use them on business cards and signage fronting fictitious shops. They hang the trademarks everywhere just to show they are using them.
So when the real trademark owner comes to China, they will ask to be paid off in order for the trademark to be given back to them?
Exactly. They contact you and say, by the way, you should stop using that trademark. And you say why? And the answer comes back: because I filed it. And then you say: you go and sue me. And then he may or may not sue you. Or he can sell the mark to your competitor. You may win the lawsuit, but it can take several years and cost you a lot of money to get the trademark back. The guy will say, I only need US$30,000, so just pay me off. It cost him only RMB2,000 to file the trademark, which is about US$300.
PROGRESS IN CHINA
Is the government doing something about this? Passing new laws and new regulations and so on to discourage this practice?
The government is doing something, such as the three-year use requirement. It now also requires applicants to show business cause in order to file for trademarks. But it will be a while before anything substantive or of any real effect will happen.
Why did China decide on first-to-file and not first-to-invent and first-to-use?
The U.S. is among the very few countries that use first-to-invent and first-to-file systems. And now the U.S. Congress is looking at patent reform, and one of the items in the reform agenda is to change the U.S. into a first-to-file country. The reason why many countries eventually change to a first-to-file system is that the patent offices and the governments, they want to encourage people to file inventions rather than hiding them.
In general, what is your assessment of the quality of the regulations, quality of litigation and execution of court judgements in China in patent and trademark cases?
Compared with where it was ten years ago, the Chinese legal system in particular the IP system, today is very much better. The difference is like black and white. The improvement is absolutely evident, there’s no doubt of that. This is why there are so many lawsuits. In fact there have been more IP lawsuits in China over the past four years than in the U.S. The number is not out yet for 2009, but I have no doubt that it will be higher than in the U.S. again.
The system has improved significantly to a level where no foreign company, no one who does business in China, can afford to ignore it. People complain: how come people in China pre-emptively file my IP rights? The answer is, oftentimes, jokingly of course, that in China, you need to do business as the Chinese do. China is a first-to-file country. So before you come to China, you really should look into and follow the local system.
Instead of having your competitors or IP trolls or bad faith guys file patents or trademark ahead of you, you should file before they even know about the technology. You file before they even know you have created this fanciful trademark. File them first so you get one step ahead of these guys. If you do that then you will be much better protected.
When people complain about China not protecting intellectual property rights, the answer oftentimes from the locals is: you don’t respect your own intellectual property, why should we? And when foreign companies ask what do you mean I don’t respect my own intellectual property? The answers are: if you did, you would file your own patent. You didn’t, because you thought it wasn’t worth anything. So they file it, and so the story continues.
Dr. Xiang Wang is a partner in the Beijing Office of international law firm Orrick, Herrington & Sutcliffe. For further information, please visit www.orrick.com.