Properly protecting your company’s intellectual property is the bedrock of value creation for technology companies. This client alert describes how to avoid common pitfalls before doing business in China.
Since 2017, the United States Patent and Trademark Office (USPTO) has been working with different organizations across the country by presenting a series of one-day events that describe details of how to better protect intellectual property (IP) in China. This client alert, based on information from one such USPTO event, includes a few key facts you should be aware of if your company is considering doing business in China.
When negotiating with companies in the United States, using a non-binding letter of intent (LOI) is a common market practice. It allows for both parties to set specifics to the scope of the agreement and it is known that even if both parties sign the LOI, if it explicitly states that that it is non-binding it cannot be enforced. However, this is not the rule in China. Article 42 of PRC Contract Law states, in part that “Where in the course of concluding a contract, a party engages in any of the following conduct, and thereby causes loss to the other party, that party shall be liable in the event of a claim for damages…any other conduct which violates the principle of good faith.” This intentionally broad language means that almost any situation of a contract negotiation fails to lead to an agreement can lead to liability under this law. The good faith requirement of Article 42 is not a principle parties need to create by written contract; it is a statutory requirement that applies to all parties who negotiate contracts in China. The Chinese courts give no weight to the non-binding language in the LOI. Because of this a company should proceed with much caution when considering signing a LOI with any detailed deal provision, and rarely is there a situation where signing such a LOI is advised.
Most IP licensing agreements between companies in the United States do not include a provision disallowing IP registration from the licensee. The United States is a “first to use” jurisdiction, meaning the first company to bring intellectual property to market in a jurisdiction will have common law rights. This is not the case in China. China is a “first to file” jurisdiction, meaning the first company to register the intellectual property will be considered the owner. Chinese courts rarely recognize common law rights in IP, do not allow for discovery and will interpret silence on an issue as presumptive permission allowing a company to undertake an act. When drafting your IP license with a Chinese company, include a specific provision stating the company cannot register your IP in China or you could risk losing ownership.
Chinese courts will not enforce a U.S. judgment in China. Therefore, if you have a dispute in your licensing agreement with a Chinese company and a federal or state court issues a ruling in your favor there is no way to ensure you will receive the damages you are entitled to receive. This is why it is of paramount importance to include an arbitration clause in your IP licensing agreement with a Chinese company. The two most recommended arbitration organizations to use are the World Intellectual Property Organization and the International Centre for Dispute Resolution.
You want to have as much control over the rules of arbitration as possible. Therefore, it is important to choose the proper venue, controlling language and choice of law for this agreement. The meaning of certain words can get lost in translation, and this could lead to potential devastating consequences for your company. Always draft a provision that includes English as the controlling language unless you have someone in your company who is fluent in Chinese and you are comfortable that individual is translating correctly.
Ensuring you have U.S. law is more important than getting you top venue choice, however if you are unable to get a truly neutral location for the proceedings, it may not be worth moving forward with the deal. Arbitrators in most Chinese provinces notoriously favor Chinese companies during dispute resolutions proceedings. When negotiating your arbitration clause, start with Honolulu, Hawaii as your first choice of venue followed by Tokyo, Japan, Seoul, Korea, Hong Kong, Hong Kong and then finally Shanghai, China. If the other party does not agree to U.S law and one of these five cities, you are taking a risk that you will not be able to enforce a breach of the agreement and should strongly consider finding a new partner to license your IP.