While China’s Government is asserting its increasing strength and elevating stature in economic and foreign policy, it is transforming its domestic institutions to a society based on rule-of-law (under civil code similar to Europe) and free-market principles (tempered by practical controls over social order). China’s economic development in the past 15 years has lifted an estimated 300 million people of its current 1.6 billion population out of poverty, and managed a transition from a predominantly agrarian society to one where 50% of its people now live and work in cities. Whole cities populated in the millions have been built new. China’s goal over the next 15 years is to continue its transformation to a middle-class society, while it works toward a new social order in the world based on sustainable use of resources for needed economic growth. Its biggest challenge will be to continue to adapt its internal political system commensurate with its economic development.One area providing a useful example of China’s development is in technology and its transformation to a technological society. In preparing for my trip, I came across an article entitled “Five Reasons China Will Rule Tech”, by Ray Kwong, published in Forbes Online, July 13, 2010. He notes that China's leadership places a high priority on educating its upcoming generations in science and engineering. Most of its Politbureau members including President Hu Jintao have engineering degrees. Its science and engineering pool is vast – in 2005 China awarded 351,500 science and engineering degrees, compared to 137,500 in the U.S. It now emphasizes an “indigenous innovation policy” to promote development of Chinese-origin technology while at the same time encouraging transfer of foreign technology and high-level management services to China.
U.S. innovation companies are typically small-to-medium sized enterprises (SMEs) lightly capitalized with venture capital. Such SME companies will find it increasingly difficult to compete head-to-head with Chinese companies. As an example, I came across an article entitled “Chinese Solar Giants Cast Shadow on U.S.”, by Todd Woody, Fremont, CA, published in the International Herald Tribune, Business Asia with Reuters, October 14, 2010. The article notes that in competing with Chinese companies, American technology companies are struggling to find niches where they can survive. Silicon Valley start-ups in Clean Energy like Solyndra, Nanosolar, and MiaSole are finding it difficult to make headway in world markets and even in the U.S. against low-cost Chinese manufacturers supported by government investments and favorable trade policies. The article quotes Conrad Burke, CEO of Innovalight, saying, “Innovation will be the heart of the U.S. [survival] strategy, and although it might not create the same scale, we are exporting well-protected technology to China and creating well-paying jobs here”.
In other words, American companies are finding that they can survive by transferring their innovation technology to Chinese companies to manufacture products at China’s low costs. If a joint venture is formed through Hong Kong or Singapore, which have strong rule-of-law systems, the U.S. company can provide licensing of reserved IP rights in China and technology and innovation expertise to optimize products for marketing in China, and earn license royalties or a revenue share of sales in China. The U.S. company can then import the low-cost Chinese-supplied products back into the U.S. and other markets where it retains IP rights for profitable sales of its own.
As outlined in my November 2009 blog article, U.S. technology companies can advantageously transfer or license IP (patent) rights as primary assets in IP-based tech-transfer transactions with Chinese companies according to the following model:
1. U.S. researcher invents a new technology, and applies for IP rights.
2. U.S. innovation company acquires inventor’s IP rights, develops and proves the feasibility of the new technology, and files for patent rights in the U.S., China, and other countries.
3. The U.S. company transfers or licenses the Chinese patent rights to a joint venture company which engineers the product and manufactures it for marketing and sale in China.
4. The joint venture company in China establishes the product at efficient manufacturing costs through domestic sales, then supplies the product at low cost to the U.S. company for import.
5. The U.S. company makes profitable sales in the U.S. and foreign markets where it owns strong IP protection rights.
The typical small-to-medium sized U.S. technology company has little leverage or sufficient resources to enforce Chinese patent rights against large companies in China anyway, so that a transfer to the Chinese joint venture partner is the best use of the China IP rights and provides an incentive to the Chinese joint venture partner to invest in engineering the product and gearing up for manufacture and sales in China. The U.S. company can control export of the low-cost product from China for sale in the U.S. and other countries such as Japan, Korea, Australia, Canada, and/or Europe by relying on strong IP rights there.
In a typical patent filing strategy, the U.S. company should file a home country (U.S.) patent application as soon as the invention has been completed, then file an international (administrative) filing under the Patent Cooperation Treaty (PCT) within one year in order to claim the U.S. priority date and extend the treaty deadline for foreign filings for a further 18 months while also receiving an early international search and patentability report. The U.S. company must then elect in which countries to file national-stage patent filings from PCT by the 30-month deadline (from the U.S. filing date), which would include China and any other foreign countries of strong commercial interest. The USPTO grants an export license for foreign patent filings automatically within 6 months of the U.S. filing date, unless the application is sequestered within that time for national security purposes. The U.S. company may need to apply for an export license to transfer related technology (such as software and engineering data) if they contain technical subject matter that goes beyond the scope of the patent application disclosure.
The challenge for a small-to-medium sized U.S. technology company in this IP-based tech transfer model will be finding a trusted Chinese joint venture partner and making a compelling business case why the product is likely to be profitable to them in domestic China sales as well as for export for foreign sales. Deal-making in China is still strongly dependent on personal relationships (“guanxi”), so an introduction to persons with decision-making authority in the target Chinese company will depend on going through well-connected intermediaries. In technology deals, such intermediaries may be bilingual business consultants and/or attorneys handling corporate and/or IP matters for the target Chinese company. Chinese companies have access to plenty of capital and no longer prefer to structure cross-border deals based on foreign investment. However, they still need to justify their access to domestic investment capital based on projecting a strong likelihood of profitable domestic sales.
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Nov 19 2010 12:41pm
ReplyDeleteDear Leighton:
I think we need to pay attention to whatever "model" we are planing to use must deal with people, legal environment and enforcement issues.
Some of the Companies the American firm use to handle their technology products such as Apple I-pad/I-Phone are handled through the Taiwan firm Foxconn who employed more than 400,000 employee in China has tight internal control to ensure no leak of technical information/data.
When you are at the larger cities such as Shanghai, Beijing and Shenzhen, the general IP-Based Tech Transfer Model might be able to hold up in the court of law in the event of a breach. But once you are outside of the few major cities in China, not sure the same standard will apply in the Court of Law.
I think for a smaller firm (not the Itel type), best to consider using your IP-Based Tech Transfer Model in Hong Kong and Singapore. It has continued to puzzle me "why" American like to dive into China when using Hong Kong and Singapore as the launch pad is almost like going from Hawaii to San Francisco or New York.
When you work with the Hong Kong or Singapore firms who have been doing business in China for a long time, you are using 1) their experiences that they learnt for the past few decades and 2) the legal system there are similar to those in the United States, the British Common Law.
The United States Commercial Service has just signed an agreement with the Hong Kong Government http://www.hkchcc.org/biz-hongkong.htm
Hi Johnson:
ReplyDeleteThanks for your comments on my IP-Based Tech Transfer Model.
The most useful part of my Model is that there is nothing to breach and nothing to enforce between the Chinese JV company and the U.S. company. The U.S. company would transfer the China patent filing rights on execution of the agreement for a small payment or even for nothing (FREE) because there is little it can do to profitably enforce a Chinese patent in China anyway. If the U.S. company is transferring a lot of engineering data initially, then an initial payment will be required before the transfer is made. The Chinese patent filing rights is assigned to the Chinese JV partner to incentivize them to invest in engineering, manufacturing and selling the product domestically. The Chinese JV company can enforce their Chinese patent against Chinese competitors in China to the extent they can manage their own domestic legal system. No royalties on China sales would be required to be paid to the U.S. company because the profit is the incentive for the Chinese JV company to invest in the product and there is little the U.S. company can do to audit China sales and repatriate profits anyway.
The U.S. company benefits by contracting for export supply of the product at the proven "China price" for profitable sales in the U.S. and other strong IPR countries. The Chinese JV partner presumably would still make a profit in supplying the product at the wholesale supply price for export. The U.S. company's sales exclusivity is enforced by enforcement of strong IPR rights in the most profitable markets such as U.S., Japan, Europe, etc. The Chinese company would have a difficult time trying to circumvent this in strong IPR legal systems.
I agree going through Hong Kong or Singapore is preferable if the target Chinese JV company has a subsidiary or affiliate there.
My readers may find the following recent news item (01/07/11) from Greg Aharonian's PatNews of interest:
ReplyDeleteHOW CHINA CUTS DEALS TO ACQUIRE FOREIGN TECHNOLOGIES
The Chinese web site sina.com.cn recently had an interview with Chinese rail engineers with regards to the high-speed rail systems being built in the country. Part of the interview describes how they require the foreign companies to give their technology to joint ventures. In this case, the first free rail vehicles were first made and assembled in
the foreign country, then the parts made in the foreign country but vehicle assembled in China, with the eventual goal of 75% of components ultimately being manufactured in China and assembled in China.
A rough Google translation of the article can be had by typing:
http://news.sina.com.cn/c/sd/2010-12-31/150421742110.shtml
into the Google translate box. Here are some excerpts from the translation:
Ministry of Railways have faced a tough choice - being completely open to use the world's most advanced technology, or behind closed doors continue to make use of [Chinese] innovation.
Finally, the State decided to open the door to the most advanced technologies as the starting point of our study.
But .., "The project is driven by our economy, not pulling up their economies."
They came to a preliminary conclusion: we can use the technology of Japan, France and Germany, but the technical system of any one country can not be copied, requiring different degrees of use of each country's technology.
In 2006 ... the basic idea is to use the world's best proven technologies, but to make them transfer core technologies, to ensure that local manufacturing of 75%, the key level designated for technology transfer to domestic manufacturers.
[For one contract for moving vehicles] the first three vehicle motor cars were assembled by Siemens; after the introduction, the next three cars were assembled by [Chinese companies]; later 3 Chinese companies began producing parts locally, a step towards a local manufacturing rate of 75%
[For another contract for railway vehicles] the first three assembled in Japan for complete delivery, another six in the form of parts shipped to China for assembly, the remaining 51 vehicles will be through technology transfer, built by a Chinese company, with some use of high-tech imported components.
China's approach is to decompose high-speed rail technology, by introducing different technologies from different countries, so as not to be completely dependent on one company or country.
Siemens has to spread out the final terms of the deal - the technology is from Siemens Research Institute - 40 years of technology, more than 220 patents, and ... that straightforward transfer of such technology would cause their stock price to be greatly affected.
The Ministry of Railway's negotiations with foreign investors is very clear as to what technology the other party may transfer, which must be retained and which transferred, so there is not, as some foreign media have said, theft of the technology by China. These companies agreed to cooperate because of the profitability of the deal - it's business - there is no theft.
There is a lot more in the article - very interesting insight. I can say this as well - one thing China will never want to import is any of our politicians, whom only seem interested in innovating with regards
to partisan betrayals of the taxpayers.