30 T h e L i c e n s i n g J o u r n a l MAY 2014

Technology Licensing
Chris Neumeyer
Best Practices for
Licensing Patents
to Companies in
China
Patent licensing generally
is fraught with risks, but licen-
sors who do business in China
face special challenges. Common
practices and contract provi-
sions that may work elsewhere,
often prove ineffective in China.
Consequently, before entering
into such an arrangement, the
prudent lawyer will review some
of the key issues faced by licen-
sors in China.
Notably, foreign companies
increasingly are being forced
to defend their licensing terms
before Chinas antitrust regulator,
the National Development and
Reform Commission (NDRC). US
patent-assertion entity InterDigital
recently settled a dispute with
the NDRC, by agreeing to lower
its royalty rates in China and
make other changes to its terms.
The NDRC raided Qualcomms
Beijing and Shanghai offices and
launched an investigation into the
US chip-makers licensing terms.
When Microsoft announced plans
to acquire Nokias business (but
not its patents), several competi-
tors demanded Chinas govern-
ment impose restrictions on the
deal, prohibiting Microsoft and
Nokia from raising their licensing
rates in China.
But antitrust compliance is
just one challenge faced by licen-
sors in China; other challenges
relate to restrictions on technology
imports, under-reporting of royal-
ties, difficulties with audits, dis-
pute resolution and more. This
column summarizes a few rele-
vant laws and challenges licensors
should be aware of and best prac-
tices for dealing with them.
Standard Precautions
First, a distinction should be
made between companies that
license patents into China only
to generate licensing revenue and
those that do so when transfer-
ring technology to joint ventures,
subsidiaries or others, in order to
engage in R&D or manufacturing
or develop qualified suppliers in
China. With respect to the latter
category, one should start with the
following basic principles:
Always assume your part-
ner will attempt to steal your
intellectual property and legal
measures will not adequately
protect you.
Perform thorough due dili-
gence and choose partners
carefully, being especially
wary of those with political
power, influence, or potential
competitive advantage. Be
wary of joint ventures with
government entities. Obtain
a majority share, control of
the board and install key
executives.
Never transfer crown jewels
into China unless absolutely
necessary. Instead, transfer
only older or less valuable
technology and keep critical
technology offshore. Consider
working with several partners
in China and transferring dif-
ferent facets to each, so none
will have the whole picture.
Ensure that agreements
clearly define the ownership
of all intellectual property,
both background and fore-
ground. Deal appropriately
with potential improvements.
[This is discussed further
below.]
Import and Export
Restrictions
Before contemplating licens-
ing technology to an entity in
China, one should confirm that
it will be permitted under Chinas
Regulations on Import and Export
of Technology (the Technology
Regulations).
The Technology Regulations
define import and export as any
cross-border transfer of technol-
ogy, by way of trade, investment,
or economic and technical coop-
eration, a definition that encom-
passes virtually any cross-border
sale, assignment, or licensing of
technology, patent rights, techni-
cal secrets or know-how. The regu-
lations divide imports and exports
into three categories: (1) prohib-
ited, (2) restricted, and (3) freely
transferable. Catalogues are pub-
lished, from time to time, listing
prohibited or restricted technolo-
gies. Any technology not listed in
the catalogues is deemed freely
transferable.
Prohibited technologies may
not be imported or exported.
Restricted technologies may be
imported or exported, subject to
prior approval by the relevant
agency. Until such approval is
granted, the relevant licensing or
transfer agreement is not legally
binding in China. Freely transfer-
able technologies may be imported
or exported, but the agreement is
still subject to other relevant laws
and must be recorded with the
MAY 2014 T h e L i c e n s i n g J o u r n a l 31
State Intellectual Property Office
(SIPO), as described below.
The Measures for Recording
Patent License Contracts require
the parties to record with SIPO
a Chinese version of any patent
license agreement within three
months after the effective date of
the agreement. Amendments also
must be recorded. SIPO maintains
a searchable public database that
reveals the status of any recordings.
The Measures previously prohibited
royalty payments to be remitted
out of China prior to recording the
agreement, but that provision was
deleted from the Measures in 2011.
Antitrust Compliance
As noted above, foreign licensors
increasingly are being accused of
violating Chinas antitrust require-
ments. The requirements are found
in several sources, including the
Technology Regulations, Article
329 of Chinas Contract Law, a
Supreme Court interpretation of
Article 329, the Anti-Monopoly
Law (AML) and regulations imple-
menting the AML with respect to
intellectual property rights.
Those authorities provide
that any agreement that ille-
gally monopolizes a technology,
impedes technological progress,
or infringes anothers technology
shall be void. No party with a
dominant market position may
abuse its position to restrict or
eliminate competition; dominant
position is defined as capacity to
control price, quantity, or other
trading conditions in the relevant
market, or deter others from
entering the market. Ownership
of IPR, by itself, does not create
a presumption of dominant posi-
tion, but may be a factor.
A contract potentially violates
Article 329 when it:
Restricts the transferees
right to further develop the
technology;
Restricts the transferees pro-
curement of similar or com-
peting technology;
Unreasonably restricts the
transferees use of the tech-
nology in the market, includ-
ing with respect to quantity,
variety, prices, or distribution
channels;
Unreasonably requires pur-
chase of goods, or services
that are not necessary for the
technology;
Unreasonably restricts the
transferees channels for pro-
curing parts, materials, or
equipment; or
Restricts the right to challenge
the validity of the transferors
intellectual property rights.
A party in a dominant position
has potentially abused its position
unlawfully when it:
Sells goods at unreasonably
high prices or buys at unrea-
sonably low prices;
Refuses to trade with another
party without justifiable cause;
Requires a party to trade exclu-
sively with a designated party
without justifiable cause;
Ties products or imposes
unreasonable trading condi-
tions without justifiable cause;
Applies dissimilar prices or
terms to different parties with
equal standing;
Sends an obviously false notice
of infringement; or
Requires an exclusive grant-
back of intellectual property
rights.
Contract Provisions
Parties : In any country, counsel
should confirm that contracts list
the correct names and addresses of
the parties. In China, one should go
a step further, specifying the com-
panys registered name, registered
address, and registered number.
Ask the licensee to provide a copy
of its business license and check
with the local Administration for
Industry and Commerce (AIC)
office to confirm the licensees
registered details, registered capi-
tal, legal representative, and other
matters.
Royalties : If possible, negotiate
agreement for lump sum royal-
ties, preferably up front, rather
than volume or revenue-based,
due to pervasive gamesmanship
and under-reporting of royalties in
China. If royalties must be based
on net sales, carefully define allow-
able deductions from gross sales,
explicitly barring deductions for
items such as sales commissions,
marketing costs, or bad debts and
provide a cap on deductions, such
as 5 percent of gross sales. Make
clear that royalties are based on
sales prices to end-customers, not
inter-company transfer prices, and
are due upon shipment of goods,
not receipt of payment. Due to
fluctuating conversion rates, most
foreign licensors require payment
to be made in a foreign currency,
such as US dollars.
Audits and Reports :
Agreements should provide
detailed requirements concerning
royalty reports, specifying when
reports are due and required con-
tents, such as product description,
model number, serial number,
quantity, place of sale, name of
purchaser, and net selling price
of units manufactured and sold.
A required form can be attached.
The agreement also should con-
tain a detailed audit provision,
requiring the licensee and its par-
ent, subsidiaries, and affiliates
to keep all relevant accounting
records for at least three years
and allow unrestricted inspection
and copying of records, with the
licensee paying all audit costs,
attorney fees, and a penalty in the
event of under-reporting beyond a
certain amount.
32 T h e L i c e n s i n g J o u r n a l MAY 2014
Grant-Backs : Under Chinas
laws, any licensee who makes
improvements to licensed technol-
ogy owns the IPR in such improve-
ments and any grant-back of an
assignment or exclusive license to
such IPR must be supported by rea-
sonable compensation. The license
may stipulate certain payments
that shall be made in exchange for
such grant-backs, but in the event
the compensation is deemed inad-
equate or any improvements are
restricted or prohibited under the
Technology Regulations a grant-
back may not be possible.
Governing Law : Attempts to
circumvent the above types of
issues by having the agreement
governed by laws of a country
other than China may be inef-
fective, because agreements that
are contrary to Chinas mandatory
provisions may be unenforceable.
However, rather than voiding the
entire agreement, Chinas courts
will sometimes strike the offending
provision or provide an appropri-
ate remedy, so a sound severability
provision is essential.
Dispute Resolution : If a
Chinese licensee has substantial
assets overseas, it might be accept-
able to stipulate that disputes shall
be resolved in particular foreign
courts (such as US federal court);
otherwise that would be a poor
choice, as China does not rec-
ognize most foreign court judg-
ments and will not enforce them.
Many foreigners perceive Chinas
courts as too biased or unreliable,
so they select arbitration, particu-
larly in Hong Kong or Singapore,
both of which are good choices.
China is a party to the New York
Convention, so foreign arbitral
awards should be enforceable in
China. However, if one may wish
to seek injunctive relief in China,
the courts of China or Hong Kong
may be the best option, although
one should not be overly optimis-
tic about obtaining such relief.
Language: If the agreement will
be in two languages, it should
specify that one language is con-
trolling and the other is for ref-
erence only. If disputes will be
resolved in China, the official lan-
guage should be Mandarin; other-
wise English is acceptable.
Signatures : Finally, no con-
tract is complete without a sig-
nature, or, in the case of China
contracts, a correct signature and
official company chop. A signa-
ture alone may be binding, pro-
vided it belongs to the companys
legal representative, as identified
on its business license; a company
chop alone may be binding, pro-
vided it is the correct chop, as reg-
istered with the Public Security
Bureau. However, best practice
is to require both and to examine
other contracts the company has
executed to confirm the signature
and chop match up. Each page of
the agreement should be initialed
for good measure.
Conclusion
With 1.3 billion people and
the worlds fastest-growing
major economy, many foreign
companies are intrigued by the
opportunities of doing business
in China. Admittedly, there are
plenty of challenges, including
unscrupulous business practices,
an unreliable justice system and
zealous government officials
protecting local interests. For
licensors, those risks may lead
to loss of valuable intellectual
property and technology, under-
reporting and under- payment of
royalties, and ineffective legal
remedies.
Many licensors feel those dif-
ficulties outweigh the benefits
of doing business in China, but
Winston Churchill said A pes-
simist sees the difficulty in every
opportunity; an optimist sees
the opportunity in every diffi-
culty. Indeed, foreign licensors
who engage in careful planning,
preparation and execution, will
find they may mitigate the risks
of licensing to China companies
and the opportunities will often
outweigh the difficulties.
Chris Neumeyer is Managing
Partner of Asia Law, International
Attorneys, a firm of international
lawyers servicing the needs of
companies doing business in Asia.
Mr. Neumeyers work regularly
involves intellectual property
rights and technology, including
LEDs, semiconductor chips,
computers, monitors, power
supplies, internet access devices,
cell phones and camera modules.
He has handled well over
one-hundred licensing disputes
and also advises and assists
clients with respect to trademarks,
trade secrets and copyrights.