Image Courtesy: SpicyIP
Article No. 041/2018
The following article was written with inputs from Ms. Aishwarya Vijayaraghavan. She is an Associate in IPR practice at Surana & Surana International Attorneys.
China’s spectacular growth, especially in relation to technology, at first seems to defy all logic. A large economy undergoing such rapid, far-reaching change, that too in such a short span of time, is an incredible feat that no other country has achieved so far. Another feather in China’s hat is the country moving into the second position, beating Japan and closing-in on US, as a source of international patent applications in 2017.[i]
An analysis of China’s national strategy is the key to understanding how China has been able to accomplish the said feats. China pursues a techno-nationalist approach that supports the domestic industry. Intellectual Property (IP) is at the core of China’s national strategy as the country’s economy is now largely driven by innovation. China’s success in its pursuit towards technological excellence can be attributed to four significant factors:
Investment on emerging/ future technologies
Higher reliance on development rather than research
Innovating the concept of innovation
Investment on emerging/ future technologies
The most important raw material that China invests on procuring is “knowledge”. It is not a secret that China spends heavily on procurement of cutting edge technology from the West in order to understand and absorb technology, engineer it to adapt/ adopt the technology to the country’s requirements, innovate on the economics, and come out with their own products which are even better than the original product, and further attract a larger market than the pioneer itself, owing to much cheaper costs.
An example to substantiate this point is China’s purchase of 24 Su-35 fighter jets from Russia for USD 2 billion. There was a question lurking on everyone’s minds’ as to why China needs only a small number of fighter jets. But it was later reported[ii] that China’s focus was only the AL-117S turbofan engine that came with the fighter jets, not the jet itself. Russia had repeatedly refused to sell the engine to China as a stand-alone product, which left China with little choice but to acquire the entire aircraft. The Chinese military aviation industry is still struggling with designing and building an engine for its new fifth generation stealth fighter prototype – the Chengdu J-20. China is currently working on its own jet engine, the WS-13 Taishan turbofan, a derivative of the Russian Klimov RD-33 turbofan. It is evident that China is willing to invest huge amounts to acquire technology (in this case, engine technology) that the Chinese are interested in integrating into their products.
Another example is China’s high-speed maglev train which was built by the Chinese Government in collaboration with a German consortium (Transrapid International). China did not have the maglev technology, and hence the Joint Venture (JV) with the German consortium (comprising of Siemens & Thyssenkrupp) involving technology transfer pertaining to manufacturing power supply and operational systems, carriages, switches, and other systems. But less than 2 years from the opening of Shanghai’s German-designed Transrapid System, China announced that it was beginning trial runs of its own maglev trains as China now has its own research programs and says that it can do maglev better and cheaper than Germany/ Japan. To quote a German article[iii], some Germans were alleging China of technology theft, and that the Transrapid project in China has been designed in such a way that allowed Chinese engineers to acquire as much Western knowledge as possible – from the selection of the militarily secured production sites to assembly instructions. In fact, German economic weekly Wirtschaftswoche reported a break-in into the Transrapid Operation rooms by Chinese engineers, speculating that it could be a case of technology theft.
Taking cue from the examples, it can be derived that China’s remarkable economic development can be primarily attributed to their transformation of old business models to new ones that capitalise emerging technologies such as the maglev trains. The Chinese place a major chunk of their global venture capital investment in technologies such as Virtual Reality (VR), autonomous vehicles, Artificial Intelligence (AI), etc. and the State focuses on emerging technologies and concentrates on capturing high-tech markets. The key industries identified by the innovation policies are: electric cars, next-generation information technology, biotechnology, new materials, aerospace, ocean engineering & high tech ships, railways, robotics, power equipment & agricultural machinery, and 3D printing.
China’s strategic move to capture technologies that have the potential to disrupt the future is further demonstrated by China’s leading existence in blockchain technology. World Economic Forum’s report from September 2015 predicted that by 2025, ten percent of global GDP would be stored on blockchain technology, hence it comes as no surprise that China is concentrating on capitalising the blockchain market. Financial Times’ analysis shows that of the 406 blockchain technology patent applications filed in 2017, more than half are from China, while only 72 patent applications were from Indian firms, that too mostly by start-ups. Of the top 9 companies that filed such patents between 2012 – 2017, 6 were Chinese.[iv]
According to a German industry association dealing with product piracy, the statistics on confiscated goods shows that China is the world’s No. 1 “copycat” economy. In fact, the Chinese have demonstrated an ability to quickly understand and absorb technology. India has a mixed success in adaptation and use of technology. China constantly strives to improve education, training and investment in innovation to be industrially competitive.
China’s rapid growth as a global economic power has coincided with its universities’ exponential world rankings. China’s universities have already made progress at international league tables. Overall, 61 Chinese institutions make the top 300 of the 2018 Times Higher Education Emerging Economies rankings, up from 52 in 2017.[v] The country sees nearly 3 million science and engineering graduates annually, five times higher than the US.[vi]
Chinese universities have been ramping up development to build capacity and continue to become globally competitive. The country is thus excellently developing the required skills and capabilities of its manpower. Many Chinese companies have dedicated manpower to tracking new developments in scientific and technological fields around the world. The pool of exceptionally skilled scientists and engineers in China is remarkably high when compared to any other country and their skill is particularly notable for the fact that they are able to develop parallel products which match the performance of global leaders, sometimes even without necessarily violating any IP rights.
China’s education system has produced a talent pool which is unique in that, they are adept at developing parallel innovations for existing concepts such that they can deliver the same benefits using different technologies and approaches. The most prominent example is Alibaba which has developed its own infrastructure and technology to essentially deliver the same services as PayPal or eBay. Alibaba has in fact been able to take the functionality of the concept well ahead of the original idea.
Reliance on development rather than research:
China has furthered R&D investment for years, to facilitate technology breakthroughs. There has been a substantial increase in R&D, while the amount spent on technology imports has remained stable since 2011. The R&D spending has increased significantly (from 0.9% of GDP ($ 10 billion USD) in 2000 to 2.1% ($ 233 billion) in 2016). The year-on-year increase of China’s spending on R&D is 14%, with the R&D spending estimated to have hit $ 279 billion in 2017.[vii] Over 78% of China’s R&D spending comes from its enterprises.
The Chinese R&D input became the second highest in the world in 2017 and the number of full-time R&D personnel in China is the highest globally.[viii] The ratio of technology import expenses to R&D expenses is reported to have fallen, attributing the same to market forces as well as Government support for certain strategic industries.
Although China’s spending of 2.1% of total GDP is lesser than US’s spending of 2.8%, Germany’s spending of 2.9%, and Japan’s spending of 3.3%[ix], China has strategically created a competitive edge by shifting its corporate funding from spending on basic science to spending on applied R&D. In other words, China’s emphasis has transitioned to “development” rather than “research” as there is more spending on development through technology acquisition & absorption, as compared to the spending on research.
China’s greatest R&D spending is perhaps in the defence industry which saw an increase of 7.6% in 2016, estimating to about $ 147 billion with expectations to increase the spending to $ 160 billion.[x] The defence industry is a knowledge-intensive, high-tech driven industry, and the growth and development of a country’s defence industry depends on four fundamental, yet important factors: landmass; population; availability or access to natural resources; and economic development. China being a country with a large landmass, considerably high defence expenditure is essential for it in order to protect the country from all quarters. Additionally, a country’s defence spending is directly proportional to the size of its economy. The higher the economic growth, the greater the defence spending, for the simple reason that the country can afford to spend on its defence. China having recorded high economic growth, has therefore started to spend proportionally on its defence spending, similar to countries such as US, Russia, Germany and Japan. Consequently, China boosted arms exports by 74% in 2016 due to increased military capabilities and became less dependent on arms imports[xi]. Therefore, China’s reliance on high R&D spending in the defence sector has not only made China self-reliant, but has also increased the economic growth of the country by raising its export potential.
It is evident that while indigenous production is important for economic growth, to facilitate indigenous production, high R&D is required in the first place. Thus a circular economy is created such that high R&D leads to high indigenous production which leads to high economic growth which in turn leads to high defence spending that facilitates high R&D. Thus, by adopting the said circular economy, China has become a producer and exporter rather than just being a consumer and importer.
Innovating the concept of innovation:
It is well established that the integral part of China’s national strategy is leveraging innovation for economic growth. Policy, law & enforcement, and management/ strategy form the Golden Trinity of an effective IP system. China has cleverly adopted an IP system, encompassing these 3 trinities, to suit their national interests.
Policy: China structures five-year national economic plans to regulate the economy both at a national level, as well as at the local level. The tenth five-year plan (2001 – 2005) was the first plan to recognise the importance of innovation for technological progress and set forth to raise R&D funding to more than 1.5% of GDP to strengthen sci-tech innovation capabilities as one of its objectives. The twelfth five-year plan (2011 – 2015) furthered the objectives set by the tenth five-year plan by setting targets such as spending 2.2% of GDP on R&D by 2015, achieving value-added output of emerging strategic industries to account for 8% of GDP, and inviting foreign investment in high-tech. The main focus area of the latest five-year plan [the thirteenth plan (2016 – 2020)] is innovation wherein the plan has set forth to move up in the value chain by abandoning old heavy industry and building up bases of modern information-intensive infrastructure. The plan has further identified several strategic and new technologies for which the Government has pledged support. The Government also promulgated a “Made in China 2025 Plan” in 2015 with the objective of developing the domestic industry which is IP-intensive, thereby replacing high-end foreign competitors’ products.
China has effectively utilised a full array of policies such as Government & State directed financing, strategic M&As, deft use of competition policy to promote domestic national champions and constraint foreign competitors, setting distinctive technical standards, aggressive protection of Chinese owned IP, “Buy Domestic” Government procurement directives, reliance on home-grown technologies, etc., in all its initiatives.
Law & Enforcement: China became a member of the World Intellectual Property Organisation (WIPO) in 1980, but it was not until 1992 that effective IP laws, regulations and administrative procedures were established. China further refined its IP regime to aid comprehensive protection of IP by introducing laws and regulations relating to unfair competition and trade secret. China introduced three specialised IP Courts in 2014, in Beijing, Shanghai, and Guangzhou. The IP Courts enhanced stability in enforcement of IP rights and delivered some landmark cases such as the Facebook v. Zhongshan Pearl River Beverages, Moncler v. Beijing Nuoyakate Garment Co. Ltd., and Iwncomm v. Sony which is the first Standard Essential Patents (SEP) based injunction granted in China. Prior to IP Courts being set up, 400 Courts could hear IP cases but there were practical difficulties such as the judges could not interpret the complex material and the verdicts varied, without the use of precedents. Post establishment of IP Courts, it is observed that precedents are utilised more often by judges who are trained to hear IP cases, and technical investigators are engaged to assist judges with complex patent and design inventions, helping the judges break down complexities of the case and arrive at fair decisions, thereby making IP enforcement more efficient. The Beijing IP Court alone accepted 10,638 cases in 2016, of which it closed 8,111 cases, and cited 279 case precedents in 168 cases.[xii]
Although there is a common notion that local litigants are favoured more than foreign litigants in Chinese IP litigations, statistics show otherwise. In fact, even prior to establishment of the specialised IP Courts, statistics show foreign litigants have a success rate of 90 – 95% in IP litigation across all Chinese Courts. A study of patent cases in 2010 concluded that the probability of a foreign litigant winning was 60% when the opponent is a Chinese entity.[xiii]
Chinese IP trials are also time effective and cost effective when compared to IP trials in most parts of the world. Even complex patent litigation takes only about an average of 6 months from the commencement of trial and if gone on appeal, an additional 3 months, in China. There is an additional enforcement route in China viz. the administrative process wherein a complaint can be filed with the local IPO as a redress against infringement. The advantages of this enforcement route are the quick processing time of cases and quick conclusion (2-3 months), the low cost, and that a judicial review by the Court of Law is further possible. However, it does have its own disadvantages such as there is no possibility of a compensation being granted and there exists a restriction in the authority of IPOs to deal with certain cases.
China has a legal framework for the protection of trade secrets under the Anti-unfair Competition Law. In 2007, General Electric (GE) was one of the first foreign firms to successfully bring an action for theft of trade secret by an ex-employee, involving its medical systems business. However, although there is a provision to penalise theft or misappropriation of trade secrets in China, the damages awarded can be negligible and hence foreign firms prefer to implicate offenders outside of China. For example, Ford Motors became aware that a former Ford product engineer, who was Chinese, had copied around 4,000 Ford documents including sensitive designs, onto an external hard drive and returned to China. Ford, despite having the required evidence, did not incriminate the ex-employee in China and waited for him to return to US. However, as soon as the ex-employee entered US, he was arrested based on the information and evidence provided by Ford, and was sentenced to 70 months imprisonment in Michigan and fined $ 12,500 for theft of trade secrets.[xiv]
China is progressively working towards addressing the increasing number of dockets while only having a limited roster of judges in its IP Courts, by announcing that further specialised IP tribunals will be established in four key second-tier cities such as Wuhan, Nanjing, Suzhou, and Chengdu. There is also another judicial change expected in the pipeline – the establishment of an IP appeals Court which is empowered to hear appeals from all of the country’s intermediate Courts. China is thus in a successful trajectory when it comes to having progressive IP laws and enforcement of IP rights.
Management/ Strategy: China has a “unique” IP strategy. From a nation that was called the ‘copycats’, the Chinese have not only started to embrace the concept of innovation, but have gone a step further and have placed importance in leveraging competitive innovation for growth. To further elucidate, in 2004 & 2005, 2 Chinese state owned train manufacturing companies engaged in negotiations with 4 foreign companies including Seimens, Alstom, Bombardier, & a consortium of 6 Japanese companies – all market leaders. By leveraging competition between these foreign companies, the Chinese companies successfully obtained the technology at the lowest possible cost and created Chinese brands by forming JVs with the foreign companies.[xv] Today, China exports its CRH branded high speed trains globally, which proves that they have not only achieved self-reliance, but have also made a mark for themselves in the global market!
Another example of China turning from importer to exporter is the arms industry. During 1999 – 2006, China was Russia’s largest client in the arms industry, accounting annually for 34 – 60% of the volume of Russia’s exports of major weapons. Although one of the major concerns raised was that China would copy without permission and without paying royalties whatever Russia delivered, the Russians went ahead with the deal because they were desperate for a market and China needed significant numbers of a variety of weapons and was willing to pay in cash. In the long term, China soon became a serious competitor in the global arms market, in fact, China’s so-called “indigenous” aircraft Jian-11 (J011) is a near copy of Su-27, similarly, the Chinese surface-to-air missiles looked very much like S-300 platforms of Russia, and the Chinese submarines sport features of the Russian class submarines.
China’s exponential growth as a source of international patent applications over the past decade indicates rapid transformation of the country’s outlook towards IPR and its commitment towards breaking the long-standing image that the Chinese are ‘copycats’.
China also stimulates private sector involvement in high tech areas not only by pledging financial support and setting targets for the industries with regard to localisation, but it also eases the process for the private sector by mitigating possible hurdles. For example, China recently declassified military patents to spur private sector involvement in defence development and manufacturing. The patents, authorised and issued to state-run defence enterprises, are currently classified and not available to the public. However, the country has recently announced to declassify more than 4000 such patents and make it publicly available through its procurement website, so as to encourage private sector participation by making high-tech manufacturing accessible to them.[xvi]
Another important point to be noted here is that the Chinese are disrupting the global funding system with their innovative business model – the State owns the enterprise, so funding is not a challenge unlike in Western countries, or any other part of the world for that matter, where the private players need to raise funding by finding investors, and there are always associated risks such as interest costs accruing, return on investment, etc. Whereas, for China, there is practically no bottleneck as the Government has surplus funds and the Government not only owns the company, but also turns purchaser.
Flipside to China’s innovation image
Although the number of patent filings has rapidly increased in China, the quality of inventions is questionable. Analysing the decisions concerning patent suits in China, it is clear that validity of a patent is at least half of the battle, similar to most jurisdictions such as the US, Europe, and India. According to statistics, the Beijing IP Court decided on 576 appeals from the Patent Re-examination Board (PRB) in its first 2.5 years, out of which about 40% of the original PRB decisions upheld the patent’s validity while 60% were invalidations. Upon appeal, the overall validity rate rose to about 42% which still indicates a low quality of patents.[xvii]
China’s development in the field of IP is impressive, with exponential growth achieved in the past 30 years, but to conquer the high value technology/ services area, China has to rely more on quality of inventions, rather than quantity of patent filings.
It is reported that 70% of all illegal copycat products come from Asia, and most of it comes from China, in what has mushroomed into a USD 300 billion market.[xviii] And it has been reported extensively that China is a nation that has mastered the art of acquiring and reproducing. When China’s alleged industrial espionage, or the gradual threat of a know-how theft is strongly foreseen or already experienced first-hand by global market leaders, why do they still go on to sign deals with the country?
Let us take the question of the maglev train technology of Transrapid- although the evidence of industrial espionage is hard to ignore, why has Transrapid down played the incident? A popular German magazine reports that these could be the reasons:
Who should they sue as the Government itself is involved here;
Thyssenkrupp was hoping for major steel contracts in China and Siemens spends billions on plant constructions in China where it manufactures everything from semiconductors to microelectronic components. The last thing they need is a quarrel with the Government;
They were unwilling to risk for a technology that failed to generate many customers outside of China.
China is a major consumer market, and the funding is never a problem – the Chinese are willing to pay in cash, so although there is a major threat of know-how theft, deals with them are unavoidable for global market leaders. And the Chinese philosophy is that they are comfortable in investing in deals only where they are involved in the technology (through JVs), otherwise, they do not seal the deal. So the Western companies do not have much choice as China is one of the most important export markets, and especially machinery and equipment (which are expensive) are on top of China’s procurement list.
A lot is spoken, written, discussed and analysed about China’s ways, but no concrete action has been taken so far. But, is that all set to change? Especially, with the Trump administration expected to slam China with heavy penalties for appropriating the IP of US businesses, only time can tell! The flipside to US slapping China with a penalty of around 30 billion USD, although it accounts for less than 6% of China’s annual exports to US, is that it might lead to a fundamental injury to the world’s biggest bilateral trading relationship!
In a nutshell, China’s ingredients for success seem to be:
(1) Increased R&D spending;
(2) A large talent pool;
(3) Government policy support, progressive IP law and enforcement;
(4) Leveraging innovation for growth.
[i]”China Drives International Patent Applications to Record Heights; Demand Rising for Trademark and Industrial Design Protection”, WIPO, 2018, PR/2018/816
[ii] Franz-Stefan Gady, “China takes delivery of 10 Russian Su-35 Fighter Jets”, The Diplomat, Jan 2018
[iii] “Nabbing Know-How in China”, Spiegel Online, Feb 2006
[iv] Latha Jishnu, “The Chinese patent juggernaut”, DownToEarth, Apr 2018
[v] The Times Higher Education Emerging Economies University Rankings 2018
[vi] “China’s growing skilled population to offset shrinking workforce”, Xinhuanet, Jan 2018
[vii] “China spends $279 bln on R&D in 2017: science minister”, Reuters, Feb 2018
[viii] Luo Wangshu, “Chinese R&D input ‘second highest in the world'”, The Telegraph, Feb 2018
[ix] “China spends $279 bln on R&D in 2017: science minister”, Reuters, Feb 2018
[x] “China’s Defense Spending is Paying Off”, Aviation Week & Space Technology
[xi] Shi Jiangtao, “China boosts arms exports by 74pc, while cutting reliance on outside providers, report finds”, CNBC, Feb 2017
[xii] Brandy E. Baker, “China: Business and IP Landscape”, Kangxin Partners, P.C.
[xiii] David Llewelyn, Peter J Williamson, “China’s IP protection minefield: separating fact from fiction”, Intellectual Asset Management, Jan/Feb 2015
[xiv] David Llewelyn, Peter J Williamson, “China’s IP protection minefield: separating fact from fiction”, Intellectual Asset Management, Jan/Feb 2015
[xv] Jiwen Chen, “Tech transfer in China: common mistakes and how to avoid them”, Jan/Feb 2018
[xvi] Jon Grevatt, “China declassifies military patents to spur private sector”, IHS Jane’s Defence Weekly, May 2018
[xvii] Jacob Schindler, “Beijing stakes its claim as a litigation capital”, Intellectual Asset Management, Jan/Feb 2018
[Dr Vinod Surana is CEO & Managing Partner, Surana & Surana International Attorneys, and Member, C3S. Dr Surana was the only lawyer to be part of the Indian PM’s delegation to Japan in 2007 and to South Africa in 2008. He led several delegations under the banner of CII and FICCI to the Caribbean, South America & Israel to promote Indian diplomatic, political and business interests in that region. He has been sponsored for several training programs by the Governments of Germany, Japan and United States of America specializing in the areas of law, management and technology.]