An Update on Data-Driven Reports on China’s IP Enforcement Environment

Several useful empirical reports on China’s IP environment have been released in the past few weeks.  I summarize four of them:

Trademark Litigation

Jerry Xia and his colleagues at the Anjie firm have written ”Trademark litigation Forum Shopping in China – What the Data Tells Us” (the “Trademark Report”) (July 8, 2020).

The Report looks at over 11,000 court judgments from 2019.  Only two of the top ten cities for hearing trademark matters were “Tier 1” jurisdictions, namely Shanghai and Shenzhen.  The authors argue that the experience of less well-known courts, including basic courts, is underestimated by many lawyers.  In some jurisdictions, such as in Zhejiang and Jiangsu, win rates for plaintiffs are as high as 100%.  These courts were also among the most efficient courts in adjudicating trademark disputes.   By comparison, the Beijing IP Court awarded fewer favorable decisions to plaintiffs and was slower, but it also awarded higher damages.

The Trademark Report argues that concerns about local protectionism in IP cases for foreign plaintiffs may be exaggerated.  The authors note that the probability of winning based on the available data is generally higher for foreign parties than domestic parties.  A similar argument is advanced in the Software Copyright Litigation Report (discussed below), as well as in other empirical studies.

The Trademark Report is available to subscribers of the World Trademark Review (issue 84).  It is behind a paywall for the next two months.  Registered non-subscribers may view two articles free per month.

SEP Litigation

LexField Law offices released a report by Zhao Qishan and Lu Zhen “Statistics of Chinese SEP Cases in 2011-2019” (the “SEP Report”).  The report is available here.

The SEP Report notes that from 2011 to December 2019, Chinese courts accepted 160 cases related to SEPs.  Not surprisingly, most of the cases involve foreign entities and relate to the telecommunication industry (96.25%).  Most of the cases were filed with the courts in Beijing, Guangdong, Shanghai, and Jiangsu.  Both practicing and non-practicing entities were plaintiffs.  Ten companies were responsible for 125 of the 160 cases reported, with practicing entities as the primary defendants.   Foreigners are the principal plaintiffs, but only by a slight margin.  The cases largely involved patent infringement disputes.  Cases asking the court to determine FRAND terms during license negotiations are also on the rise.  About 72% of the cases were withdrawn before final judgment.  The Huawei/Samsung settlement alone was responsible for the withdrawal of 28 cases.

The SEP Report provides a useful overview of the amount of litigation occurring over the past 9 years on SEPs, including understanding the role of foreign plaintiffs including NPE’s and China’s increasing importance in global SEP litigation.  As many SEP cases are not published, a major contribution of this article is in the description of various cases, as well as a collection of the docket numbers and case summaries.   A useful counterpart article on the foreign experience of SEP litigation in China is Gaetan de Rasenfosse’s article from 2017 on “Discrimination against foreigners in the patent system: Evidence from standard-essential patents on patent validity.”

 Software Copyright Litigation

Rouse published a China Software Litigation Report  (the “Software Report”) on July 7, 2020. The Software Report is based upon its proprietary CIELA database in conjunction with its network firm Lusheng and is available for free upon completion of this request form.  The Software Report aims to demonstrate how foreign litigants have fared in civil software piracy litigation in China and helps to delineate useful strategies in light of evolving judicial practices, the Phase 1 Trade Agreement commitments on software piracy as well as anticipated changes in the Copyright Law.

The Software Report reveals that out of 1,303 first instance cases reported in CIELA from 2006-2019, first instance cases brought by foreign plaintiffs numbered 285. In the authors’ view the key to success in software copyright infringement cases is proof of infringement.  In particular,  plaintiffs who secured evidence preservation orders were more likely to be successful.  The authors also suggest on-line usage tracking data as proof of copyright infringement.

One long-standing issue in software copyright enforcement has been concerns that governmental entities may have de facto immunity from successful lawsuits.  The data also does not support the assumption that State-Owned Enterprises may be immune to a successful lawsuit.  While the sample size of cases brought against SOEs is small, the win rate by foreign plaintiffs against different SOE’s is high as 85.7% (14 cases).  No data is presented on success rates in suing the government itself.   This issue also arose in a recent Berkeley Law webinar on copyright reform in China in response.  The panel observed that while there were successful cases against SOE’s in China for software copyright infringement, foreign companies are generally reluctant to sue foreign governments anywhere in the world.

Guangdong and Shanghai are the top venues for foreign and domestic litigants of software copyright disputes.  Forum shopping does not appear to be a useful strategy as software piracy choices are limited to suing where the infringing act is occurring. Unless the defendant has more than one location where piracy is taking place, action will need to be taken in the defendant’s home jurisdiction

The writers also note a high win rate for foreign plaintiffs in their sector (85.3%).  This average for foreigners is brought down by two of the most prolific plaintiffs in the dataset, who filed “bulk lawsuits” and received a markedly lower win rate.  Microsoft had an exemplary win rate according to the CIELA data – 63 cases filed and 63 wins.  The authors make out convincing arguments for greater use of civil remedies in the foreign software owners’ toolbox to address claims of rampant piracy.

Note that IAM did a short analysis of the Software Report, as did AsiaIP.

Trade Secret Cases         

Jerry Xia and Yulu Wang’s ”Analysis of Guiding Trade Secret Cases in China Published during the World IP Day in 2020” (the “Trade Secret Report”)  is available here in Chinese and machine translation.

Jerry Xia presented The Trade Secret Report at a recent Berkeley webinar on trade secret developments in China. According to the authors, of the more than 600 typical cases published in 2020, there were only 47 trade secret cases, accounting for less than 7.8% of the total.  By comparison, according to a Beijing Higher People’s Court study, from 2013 to 2017, a total of 338 cases of unfair competition involving trade secrets were concluded by judgment in the courts.  The typical case numbers may seem small; however, trade secret cases are a small cohort of China’s IP litigation docket. Earlier data, reported by CIELA also showed a low volume of trade secret litigation. I have also noted elsewhere on this blog that trade secrets are a small part of the criminal IP docket and of the AUCL docket.  The Trade Secret Report does not compare the data on typical trade secret cases with prior years’ reporting on typical cases, which could be a further indication of the interest of China’s courts in establishing clear rules regarding adjudication of trade secret disputes.

The Trade Secret Report notes that the number of cases in which trade secrets where plaintiffs won was 113, or about 35 percent of all cases.  Relatively low win rates have also been reported previously on this blog.  The cases equally involved both business information or technical information.  Zhejiang Province (10), Guangdong Province (9) and Shandong Province (7) announced the most cases. Of the 47 typical cases, there were no cases involving foreign parties and only one case involving Taiwan.

The authors additionally searched the public database for cases involving trade secrets from 2016 to the present.  The number of reported cases involving foreign parties was rare.  Only nine cases were retrieved, involving parties such as the United States, Japan, Germany and Australia, four of which were foreign vs. local, three cases were local vs. foreign, and two were foreign vs. foreign.  The relatively high percentage of local vs foreign cases in a limited cohort may nonetheless be concerning, particularly in light of proposed judicial interpretations regarding enhanced punishment when trade secrets are misappropriated on behalf of foreign actors.   Of the six cases in which foreign entities were plaintiffs, two were dismissed, two were voluntarily withdrawn and the results of the remaining two were not made public. Of the five cases in which foreign entities were defendants, the plaintiffs’ claims were rejected in four cases, and the outcome of the other case was not made public.

Among the published cases in 2020, there were two cases of punitive damages involving trade secrets.   These two typical cases do not give any clear criteria for the determination of “malice”. However, in determining the base and multiples of punitive damages, one typical case provides some guidance:  In a criminal case, a lost licensing fee was used as a calculation for assessing the severity of the punishment.  This is consistent with the proposed judicial interpretation of Criminal Cases Involving Trade Secrets, noted above.  The Trade Report also notes that although a shifting of the burden of proof is contemplated by the revised AUCL, there was no typical case on point.  However, there are two cases on point that came into effect after the new AUCL came into force

These typical cases help the public to understand how the courts are handling trade secret matters.  The relatively large cohort of trade secret typical cases so soon after legislation has been revised may also be seen as a political statement regarding judicial determination to handle these trade secret cases in accordance with the law.   As Susan Finder has noted in her article China’s Evolving Case Law System in Practice, these cases along with SPC guiding cases and other published instructional cases, may be important guides to the courts in determining how to rule on newly emerging issues.  In addition, at least in the case of IP issues, they may also provide assurances to foreign partners of the willingness of Chinese courts to comprehensively implement legislative reforms.

Improving Approaches to Using the Right Data

These reports all offer strategic guidance for companies and rightsholders and are part of a growing trend to use empirical tools in evaluating China’s IP environment.  The reports also effectively leverage recent or proposed changes in Chinese IP laws and judicial interpretations to provide a useful window into developing judicial practices.  While their utility for business strategic and policy purposes is easily recognized, concerns over case publication practices by the Chinese courts do limit their comprehensiveness.  The Software Report notes that most major jurisdictions are now publishing all their cases and it also notes that “the sample size of CIELA data is sufficient to be able to draw statistically valid conclusions.”  However, a consistent issue in looking at Chinese IP empirical studies is in determining how many cases are not being published throughout the country, particularly in less frequently utilized jurisdictions.

When cases are not published, some instructive messages can also be derived from the types of cases that are being published or actively promoted, such as the cases discussed in the Trade Secret Report.   Data on what is missing can be highly valuable data unto itself. One approach that is used in these reports is to rely upon a plurality of data sources to ensure that key judicial databases are comprehensive.  The SEP Report, for example, is based on “official announcements by the involved parties, information disclosed by the courts, and relevant news reports.”  Using a plurality of data sources may be necessary in analyzing trends in SEP cases as these cases are often not publicly available due to confidentiality concerns.  A pluralistic approach is also taken in the Trade Secret Report, which compares data and cases other than these typical cases in order to better help the reader to understand the nature of trade secret litigation in China as well as the role of the small cohort of typical cases in analyzing China’s developing IP jurisprudence.

A useful benchmark on the adequacy of a database of published cases is the SPC annual report on IP litigation, which generally reports on overall numbers of cases accepted or decided, rather than numbers of published cases.   In recent years, however, data on foreign-related cases has sometimes been missing or less comprehensively reported on in recent years. This may have been due to the trade war.  In the criminal IP context, comparisons among administrative referrals to police prosecution, police investigation data, procuratorate prosecution data, SPC case and conviction data and case publications (when they are available) can provide useful comparisons to evaluate trends.  For  examples of  typical SPC/published case discrepancies, the CIELA database includes 54,000 infringement cases of all types over a relatively longer period of time than the SPC database and the Trademark Report relies upon 11,056 judgments in 2019.  By comparison, the Supreme People’s Court reported that there were 65,209 trademark cases alone in 2019.   These discrepancies may be attributable in some part to delays between case publication, case decisions and case acceptance, lack of finality about the nature of reported cases (infringement/ownership/royalty or other disputes), the impact of settlement or preliminary relief in case publication, the confidentiality of decisions that may block publication, collection methodology used in supporting the analyses, and other factors.  These discrepancies and factors often make a selection of earlier years for analysis more attractive to scholars in reaching fully-informed decisions about judicial behavior, even if they may have less value for immediate strategic business purposes.

While I agree that the IP litigation environment for foreigners has been improving, foreigners nonetheless continue to underutilize China’s litigation system.  The Reports help underscore the importance of carefully crafted strategies which might help improve overall utilization and success rate.  In the future, I hope that reports will include such factors as the quality of the underlying right and the quality of the law firm representing the rightsholder. The relatively low level of foreign utilization of the Chinese judicial IP systems suggests that foreigners may also be selecting their strongest cases to litigate, which makes it difficult to compare with the more active docket of Chinese domestic rightsholders.  My guess is that assessing the impact of the law firm upon success rates will also show that the authors of these reports have contributed to a higher success rate for their clients.  In any event, legal analytics are becoming increasingly important tools for law firm and client success.

Interested in hearing more about Chinese legal analytics? Join us on Wednesday, July 15 4:30 Pacific Time for the final Berkeley China IP webinar, where we bring together David Kappos, Don Rosenberg, Mark Wu, Alex Capri, and Dan Prud’homme to discuss the future development of  China’s IP regime and its interactions with the United States.  The topic is certain to come up!

Antitrust Aspects of “Unfairly High Patent Pricing” for Licensing Transactions in China

This guest blog has been written by Prof. HAO Yuan of  Tsinghua University School of Law.

 China is facing a pressing need to build its innovation-driven economy. To facilitate key features of an innovative economy Chinese anti-monopoly authorities, along with their worldwide peers, face a daunting challenge of transition from a static regime to a more dynamic one.  Several recent judicial and administrative disputes, including Huawei v. IDC, Shenzhen Intermediate People’s Court, Shen Zhong Fa Zhi Min Chu Zi No. 857 (2011); Huawei v. IDC, Guangdong High People’s Court, Yue Gao Fa Min San Zhong Zi No. 306 (2013); and the NDRC’s administrative investigation against Qualcomm, Administrative Penalty Decision [2015] No. 1, point out the need to better understand the IP and antitrust intersection, particularly with regard to controversial issues such as  “unfairly high patent pricing (不合理专利高价)”.   This blog summarizes my recent paper (available on SSRN) which addresses this important issue (upcoming 2020 in GRUR International (Journal of European and International IP Law)).

Chinese Anti-Monopoly Law (“AML”), in contrast to US law but not facially dissimilar to EU competition law, pays substantial attention to a dominant market player’s unilateral “exploitative” conduct. Specifically, section 17(1) of the AML (2008) forbids a dominant undertaking from “abusing its market position” by selling at “unfairly high prices”. However, neither the Law nor later enacted Judicial Interpretations clearly define “unfairly high price” in the anti-monopoly sense. Correspondingly, courts and enforcement agencies have significant discretion in characterizing a market price as “unfairly high”, thereby potentially exposing an undertaking to harsh penalties.

Despite perhaps a legitimate institutional intention, this ex post legal risk of being found “unfairly high” could seriously curtail business entities’ ex ante incentive to innovate in China. Meanwhile, lacking adequate legal and economic guidance, this institutional discretion would likely result in significant error costs. Such costs are likely to be even more severe in the context of patent-intensive industries, particularly those in China’s burgeoning high-tech sector.

Section 55 of the AML arguably provides an IP “safety harbor”, providing that a proper exercise of IPR shall be immune from the AML scrutiny, while “an abuse of IPR, excluding or restricting on competition” shall not. As pointed out elsewhere on this website, this provision remains essentially unchanged in a recently proposed revisions to the AML.

Despite this statutory framework, recent cases indicate that the IPR immunity approach has been largely ignored in practice. In the 2011 Huawei v. IDC action, both courts found IDC’s patent pricing to be “unfairly high” primarily on three grounds: one, the licensing royalties IDC offered to Huawei were “apparently higher” than “comparable licenses”, i.e. those royalties IDC charged other companies previously (though whether these licenses were truly comparable with licenses made to Apple, Samsung and others was worthy of serious discussion); two, “IDC’s act of charging unfairly high licensing fee to Huawei, will force Huawei to either quit the competition in the relevant end product market, or accept the unfair pricing conditions, which will render Huawei to increased costs and decreased profits in the relevant end product market, directly restricting its capability to compete”; and three, IDC required Huawei to give global patent grant-backs on a royalty-free basis, an arguable violation of both the Antimonopoly Law and the then-existing Administration of Technology Import/Export Regulations,. Similarly in the Decision against Qualcomm, the NDRC also disregarded Section 55 immunity, finding that Qualcomm’s licensing conditions were “unfairly high” due to these three factors: charging a flat fee for an ever-changing patent portfolio without proving the replenished patents are of equal value to expired ones; coercion for free grant-backs; and using the entire end product as royalty base. So far, Huawei v. IDC and Qualcomm have been the only two completed Chinese cases that entailed an extensive “unfairly high patent pricing” analysis.  Other currently ongoing cases include Iwncomm v. Apple (Beijing IP Court), Huawei v. Panoptics (Shenzhen Intermediate People’s Court), Xiaomi v. Sisvel (Beijing IP Court), and the anti-monopoly investigation by SAMR (China’s AML administrative enforcement authority) against Ericsson’s 3G/4G SEP licensing practices, etc..

It is true that both IDC and Qualcomm involved SEPs and  arguably an extra layer of FRAND commitment needs consideration, which may require additional law and policy analysis. For example, the courts might have looked to how to interpret FRAND in Chinese legal framework – is it a specific commitment to a SSO, or a general “principle (原则)” imposable by loosely grounded policy arguments? Will this FRAND interpretation affect an SEP holder’s anti-monopoly obligations in China?  And if so, how? Nevertheless, to a large extent these cases still reflected a practical departure from the statutory IPR immunity framework approach under Chinese law. Such an aggressive approach has also been reflected in Section 14 of the Anti-Monopoly Guidelines for IP Abuse (Draft for Comment 2017) as published by the Anti-Monopoly Commission of State Council. (Editors note: see the comments of the American Bar Association, as well as earlier drafts by enforcement agencies here). According to this rule-of-reason framework, “Business entities that enjoy dominant market positions may abuse their dominance by licensing intellectual property at unfairly high prices, excluding or restricting competition; while assessing whether such high pricing constitutes abuse of dominant market position, the following factors may be considered: (i) calculation method of license royalty, as well as the IP’s contribution to the value of goods; (ii) the business entity’s undertaking with regard to the IP licensing; (iii) the license history or comparable license standards; (iv) license conditions that may have led to unfairly high pricing, including territorial or product scope restrictions; and (v) whether a portfolio licensing includes expired or invalid IP”.

This laundry-list framework is not administrable. How these factors play out in a specific case, whether and how they would interact with each other, how much weight should be attached to each and every one of them, how to incorporate the pro-efficiency features into consideration … all these important practical questions remain unanswered. Facing such vague rules, patentees and other relevant market players would find it very hard to ascertain legal compliance. Vague rules combined with the high stakes often entailed in antitrust cases may lead to rent seeking and bad precedents, further upsetting a prior well-functioning market system, and harming market players’ confidence to  continuously invest in innovation.

One critical reason for this stark departure between the Law and enforcement may be the lack of an administrable test to differentiate “proper exercise” of patent right from “abuse”. Ambiguity lies in at least two aspects. First, due to the very mechanisms of patent regime in fostering innovation, even a proper exercise of right would necessarily restrict certain market competitions. Thus, it seems that an over-general standard of whether “to eliminate or restrict competition” cannot work as the ultimate test to differentiate abuse from legitimate exercise. Second, despite extensive use of “patent abuse” in the past decades worldwide, the exact contour of this concept remains elusive. Resorting solely to the various definitions and constructions in comparative law of sister jurisdictions, helpful as it is, would not solve these ambiguities adequately.

Mark Cohen, the editor of this blog, has also noted that one little-referenced basis for resolving the distinction between “proper exercise” and “abuse” is in fact found in Article 40 of the TRIPS Agreement, which creates a similarly vague dichotomy in permitting WTO members to provide remedies for abusive licensing practices.  Article 40 authorizes member states to address “licensing practices or conditions that may in particular cases constitute an abuse of intellectual property rights having an adverse effect on competition in the relevant market.”   Article 40 also permits member states to control mandatory grant backs of the type address in Huawei v. IDC.  The ambiguities in China’s AML and TIER may in no small part be due to the ambiguities within Article 40 itself, which may have been an important resource for the drafting of Article 55 of the AML.  Furthermore, as Prof. Cohen has separately noted, the legislative history of  Article 55 suggests that it was intended to provide greater assurance that enforcement of IP rights would not by themselves violate the AML, see Harris et al, Antimonopoly Law and Practice in China (2011), at 55. Prof. Cohen’s latter point was well proved in the little referenced, but authoritative, Statute Interpretation and Legislative Reasoning of the Anti-Monopoly Law (hereinafter “Statute Interpretation”) (published by the Legislative Work Commission of the NPC), which noted that, “To restrict competition by the exercise of IP right, is permitted by law after its balance of distinctive interests; in other words, certain restrictions must be imposed on competition to further technological innovation and improve competitive capability. Thus, monopoly status resulting from IP right as well as the restriction on competition because of the exercise of IP right, are legal acts based upon the legal authorization. Other jurisdictions generally treat the legal exercise of IP right as an exception to the application of antitrust laws” ; but on the other hand,  “[I]f an IP right holder abuses its right by exceeding the scope of exclusive right, in acquiring or strengthening a monopoly position, such act will not be protected, and if it excludes or restricts competition, the AML shall govern here.”

Though not a binding document in itself,  the Statute Interpretation can work as a useful guidance, since it embodied important legislative intents and reasoning at the time, particularly when no other legislative reports are accessible to the public. Therefore, to assess “unfairly high patent pricing”, a crucial question is whether the alleged excessive pricing act falls within the scope authorized by patent law. If the answer is positive, then even if this “excessive” pricing would restrict certain competition in the relevant market, such static efficiency loss is a necessary cost we deliberately pay for sustainable innovation, i.e. section 55 immunity applies. If and only if on the other hand, the alleged pricing has been proved to exceed the legally authorized scope of such patent, section 55 immunity will then be stripped and the high pricing act will be examined under section 17(1) of the AML. In other words, to be stripped of the IP clause immunity and subject to “unfairly high patent pricing” scrutiny under the AML lens, the alleged pricing must be not only excessive enough to exclude competition, but also in a way that departed from what patent law has originally contemplated.

Economic insights into the patent law jurisprudence of various jurisdictions, including China, US and EU, reveal that despite some rather subtle differences, all patent regimes promote innovation essentially through the instigation of dynamic competition. Specifically, the patent regime (1) bridges an innovator’s technological R&D to market demand: the better aligned a new technology is to consumer needs, the more valuable this “shell” of exclusive right would be in the marketplace, resulting in higher profit an innovator can harvest by excluding her imitating competitors (“competition by imitation” or “CBI”).  In addition, the patent regime enables innovators to signal potential “innocent” imitators utilizing mechanisms such as disclosure requirements, thereby reducing the amount of duplicative investment in innovation. See Edmund W. Kitch, The Nature and Function of the Patent System, Journal of Law and Economics, Vol. 20, No. 2 at 278; (2) with some caveats addressed in my full paper, by restricting CBI with reasonably tailored claims of the patent right coupled with disclosure requirements, the patent regime simultaneously induces social resources into “inventing around” activities, i.e. to provide better/cheaper substituting technologies, thereby encouraging competition by substitution (“CBS”).    In certain circumstances, the fruits of such CBS  may also be protectable with a new property (patent) right. For example, if a competitor’s “inventing around” technology is found sufficiently “inventive” or “non-obvious”, it would likely be entitled to a patent in itself.  See Robert P. Merges, Intellectual Property Rights and Bargaining Breakdown: The Case of Blocking Patents, 62 Tenn. L. Rev. 75 (1994); and (3) feeling the pressure of CBS, the earlier patentee/innovator would likely be incentivized to keep on her next run of “inventing around”, striving to stay a winner in the marketplace. In this way, a virtuous circle of dynamic competition could come into force.

On the other hand, a brief comb-through of the economic foundations and jurisprudential development of antitrust law suggests that this regime promotes innovation essentially through efforts to maintain an (optimally) heterogeneous competition ecosystem. Based on an understanding of both innovation-facilitating mechanisms, two insights are worthy of note here. First, a mutual ground shared by both patent and antitrust regimes in their disparate routes to innovation is the common facilitation of dynamic competition. And correspondingly, Chinese anti-monopoly law should respect the very patent mechanism, i.e. the instigation of dynamic competition, which pivots on the CBS precisely through efforts including a restriction upon CBI. Therefore, to put it in practical terms, if an alleged act at the intersection with anti-monopoly law, such as an accusation of “excessive” pricing, merely caused a restriction on CBI   as indicated in supra-competitive profits, AML must refrain from intervening. In other words, AML should not lightly disturb a well-functioning circle of dynamic competition, simply because under its lens CBI  or static efficiency seems restricted in a link, and local optimum seems not achieved – as a result, a supra-competitive profit enjoyed by a patentee should be found legal per se if static efficiency loss is the only proven harm. More importantly, the focus should be instead on whether the questioned act would not only restrict competition, but also in a way that departed from what the patent regime has contemplated, i.e. the restriction is to dynamic competition or CBS itself. As an example of the latter scenario, consider a joint agreement between two patentees owning substituting technologies or a patent pool consisting of competing technologies, with the patentees or pool members consenting to suppression of one technology in promotion of another (others).

Coming back to the context of patent pricing, is it possible for a high pricing to restrict dynamic competition, thereby constituting an abuse under the anti-monopoly lens? Maybe yes in theory. Arguably in exceptional circumstances, certain pricing may be so excessively structured to actually constitute a refusal to subsequent or follow-on innovators, or at least a significant “margin squeeze” for them, and such refusal or squeeze in theory may lead to foreclosure of the CBS itself or competition in downstream markets, thus frustrating the circle of dynamic competition.. A little more discussion on the interaction of patent and market competition may help here. In a nutshell, from the perspective of a patent law student, there often exist three tiers of market competition. Tier I is vanilla CBI, referring to those competing technologies with mere replication or insubstantial changes, the only advantage of which are their lower prices (mostly by saving duplicating R&D costs). Of course, CBI can be efficient and legal in those circumstances where patentee grants a license, but in most other cases, CBI is legitimately excludable under patent law and antitrust shall never interfere. Tier II, competition by improvement, is really a higher level of CBI, in that competing technologies here involve substantial improvements on the patented technology, though still falling into the scope of earlier claims. Note a caveat here – patent law is clever enough to give certain leeway to those competitors with own substantial improvement, for example by granting a new patent right if the improvement has been found to be “inventive” or “non-obvious”, so that these competitors would have stronger bargaining power to negotiate with the original patentee and harvest higher profits from the pair of sequential innovation. This power and resulting profit would further incentivize competitors to do follow-on improvements. This is actually the scenario of blocking patents. Generally speaking, the second tier only applies to those industries that are characterized with cumulative innovation. Despite the substantial improvements, Tier II is still legitimately excludable under patent law and antitrust shall not interfere. Tier III is CBS, referring to those technologies that are capable of truly substituting the earlier patented technology to fulfill consumer needs in the market. By their very name, in most circumstances Tier III is comprised of “inventing around” technologies that do not fall into the protected scope of earlier patent, thus there exists no serious risk of being excluded by the earlier patentee unilaterally. The theoretical worry can happen however, at the rare circumstance of tier II and III intersection: occasionally an infringing improvement could be so radical that it would truly substitute the commercialized earlier patent as a break-through technology.   A real-world example here is the long deadlock between the famous Marconi diode patent and the Lee De Forest triode patent during the early development years of radio technology. This kind of radical improvement, even though literally infringing on the pioneer patent, is precisely the type of “creative destruction” Schumpeter emphasized many years ago that fuels innovation in a most powerful way – an innovator’s descendants can actually become the instruments of his destruction, yet the society benefits in the long run.

Following this train of thought, if we temporarily leave the “unfairly high patent pricing” context and turn  to some of the classical NIE (New Institutional Economics) scholarly works in a more general sense, including the conventional hypothesis of patent “anti-commons” (Heller and Eisenberg 1998), worry of over-broad pioneer patents’ suppressing effect on follow-on innovation (Merges and Nelson 1990), and recent conjecture of patent hold-up and royalty stacking in the SEP context (Shapiro and Lemley 2007), arguably they all may be considered as embodying (more or less) such theoretical worries of patent foreclosure on dynamic competition.

Inspiring as these theories were, they, need to be tested in practice.  Curiously, decades of empirical research in various industries have showed little success in proving these theoretical worries happening in the real marketplace, at least on a macroscopic level. A specific concurrent example for this striking disintegration between theory and empirical results is the robust innovation and significant consumer benefits (as indicated in quality-adjusted prices) in the SEP intensive wireless communication industry, in the shadow of persistent “patent hold up and royalty stacking” predictions. See Alexander Galetovic, Stephen Haber & Ross Levine, An Empirical Examination of Patent Holdup, Journal of Competition Law & Economics 11(3) (Aug. 2015); Jonathan Barnett, Antitrust Overreach: Undoing Cooperative Standardization in the Digital Economy, 25 Mich. Telecomm. & Tech. L. Rev. 163 (2019). There might be different explanations to this empirical difference. I give a rough quantitative analysis in my paper why the seemingly plausible theoretical worry of dynamic competition foreclosure is unlikely to happen in practice.  In addition, I argue that perhaps precisely because CBS  has always been a critical link pivoted by patent regime in its instigation of dynamic competition, throughout ages patent law has developed an implicit yet critical awareness to safeguard CBS from being foreclosed per se. This implicit awareness has been built into a wide variety of rules and principles of patent jurisprudence prevalent in many jurisdictions, such as the eligibility doctrine, inventiveness/non-obviousness and disclosure/enablement requirements in the granting phase, all-element rule and reverse doctrine of equivalents in infringement assessment phase, as well as in deeper principles underlying and threading these specific rules together. A good example for the latter is the proportionality principle well illustrated by Prof. Merges in his Justifying Intellectual Property (Chap. 6, 2011).  Surely these built-in mechanisms are not ironclad, but they may have worked in a more successful way than we give faith to, and the AML  should not overlook it.

Based on the above, I further propose that a patentee’s unilateral pricing act should be generally found legal per se in China; or at the very least, presumed legal under section 55 of the AML unless an agency/plaintiff can prove otherwise – that the alleged pricing constitutes an “abuse” in that it would disrupt dynamic competition. Specifically, a patentee’s unilateral pricing act should be immune from the “unfairly high pricing” scrutiny under Section 17(a) of the AML, unless an anti-monopoly plaintiff or enforcement agency can overcome all three following hurdles with concrete evidence, in addition to a persuading economic analysis: (i) the patentee enjoys a real dominant market position; (ii) such pricing constitutes a de facto refusal to deal, and (iii) the refusal would likely foreclose the very type of competition patent law has aimed to promote, i.e. dynamic competition. More specifically, the harm to dynamic competition can be proven in either one of the following two dimensions: i. In the same market of patented technology, a monopolist patentee’s constructive refusal to license would render radical all follow-on substitutes impossible to be developed (restriction on competition by substitution); or ii. In the circumstances of a vertically integrated monopolist patentee, the constructive refusal to license would foreclose the competition or subsequent innovation in downstream markets in which the patentee also competes.

True this burden seems high, but it is justified by three cumulative resources, (i) the above economic insights into the intersection of patent and antitrust; (ii) the prevalent non-interventionist attitude toward “excessive patent pricing” in sister jurisdictions; and (iii) the inevitable limitations of antitrust law, manifested in the error costs due to lack of proper information and economic analysis methodologies on dynamic efficiency. See Frank H. Easterbrook, The Limits of Antitrust, 63 Tex. L. Rev. 1 (1984).

Despite existence of formal empowerments in some countries/regions, almost all jurisdictions with well-developed antitrust jurisprudence have exercised a very cautious attitude in condemning a market price as “unfairly high” in practice. Section 17(1) of the AML does not have a counterpart in conventional US antitrust jurisprudence, and despite the existence of a theoretical counterpart in EU (Art. 102(a) TFEU), it has been rarely invoked. When it comes to patent pricing, the EC has been taking a virtually non-interventionist approach. This non-interventionist approach may have originated from the Commission’s awareness that many general objections against exploitative excessive pricing actions, such as the danger of undermining investment incentives of new entrants as well as dominant firms, difficulty in assessing “excessiveness”, risk of improper price regulation, and undue space for political rent seeking etc., are particularly true in the context of patent-intensive innovative industries.

Antitrust is costly. As Judge Easterbrook pointed out many years ago, in reality judges and enforcement officials are always equipped with imperfect information about actual effects of the accused practice, and such costs of information and their corresponding actions are the limits of antitrust. Part of these costs comes from the judicial ignorance and inhospitality against business practices. Very often, if a poor defendant in an antitrust case cannot convince the judge that his practices promote competition, he is doomed. Unfortunately, “the gale of creative destruction produces victims before it produces economic theories and proof of what is beneficial.” Consequently, this unfortunate judicial inhospitality and ignorance would inevitably generate substantial positive costs in practice.

During the transition from  a planned regime to market economy, China needs to overcome all kinds of obstacles, ranging from formal restraints in laws and institutional infrastructure, to lingering outdated theories and prejudice that die hard and can still be quite powerful impeding the progress. On an institutional level for example, varied degrees of inertia may unavoidably exist on anti-monopoly agencies’ enforcement philosophy, especially when it comes to high pricing acts that seem to harm consumer interest (albeit short-term) on its face, and which had long been the subject of pervasive regulation through local pricing bureaus, even prior to the existence of the antimonopoly law.  In view of this potential institutional inertia, the likelihood of inhospitality a monopolist patentee, domestic or international, encounters in “unfairly high pricing” cases could be substantial.

Antitrust has two major analysis modes: per se rule and the rule of reason. If equipped with thorough information of market practices and perfect analysis methodologies, rule of reason is the route to precision and ultimate truth. Unfortunately, as discussed above, that is not the case in reality. One may contend that during the several decades after Judge Easterbrook’s seminal writing, rapid development of economic theories have provided more substantial guidance in many areas, but I am still reluctant to say that the improvement has been so significant to render his insight obsolete, particularly in context of dynamic efficiency and IP related issues. As such, an ambitious rule-of-reason framework as embodied in Section 14 of the Anti-monopoly Guidelines for IP Abuse, would inevitably generate significant error costs despite its good-willed intention.

Admittedly, our presumed legal per se framework is not cost-free. It may be conceivable that in exceptional circumstances, a monopolist patentee’s excessive pricing would disturb dynamic efficiency yet escape the law because the plaintiff simply cannot meet the high burden. On a systematic level however, I believe this possible negative error would be at least offset by the significant positive error costs avoided. A per se rule has always been used to condemn (or excuse) whole categories of practices, even though some of them are actually beneficial (or evil), and one cannot have the savings of decision by a particular rule without accepting its cost of errors.  When we choose which analysis mode to go, what really matters is the overall probability. In summary, we presume patent pricing to be legal per se, because both economic insights and comparative law already showed us that the happening chance of a real exclusionary excessive patent pricing would be extremely low (roughly estimated to be 1/100,000 – 1/100M in the paper), and partially confirmed by empirical studies so far. The exact reasons can be further explored, but the bottom line is clear – it seems that in a vast majority of circumstances, again the market mechanism coupled with strong patent protection has been functioning adequately well to facilitate innovation. Facing this extremely low probability of real foreclosure on dynamic competition, it would be unwise in every individual case to incur enormous administrative and error costs only to search a mere possibility. In a brief conclusion, if either way we are destined to make mistakes, we naturally choose the side with less cost.

In contrast to private law, anti-monopoly law is a much stronger form of interference with the market by government. Perhaps too many people today have omitted this (not only in China) – a blunt instrument as it is, antitrust law acquires legitimacy only in a minority of cases where market failure really happens, rather than a mere theoretical possibility. “The history of Chinese economic reform has clearly told us, whenever a market-oriented policy became dominant and market mechanisms were more frequently used to allocate resources, the quality and speed of Chinese economic development was better.”  Wu Jinglian, The Economic Development of China (The Great Encyclopedia Press 2018), at p. 3 (translation is my own). On the contrary, every time Chinese economic policy was influenced by the theories of planned economy, “both macroeconomic risks and microeconomic interests were affected deleteriously… … Therefore, to resolve the many problems we are confronted with during the economic reform process of China, the only answer is to insist and deepen our reform centering upon the confidence on market economy and rule of law, and further use the market mechanism to allocate resources; it should never be the pursuit of more state interferences.” Id. When stepping into the deep water of reform today, China should learn its historical lesson and be especially cautious with those legal instruments that potentially interfere with price mechanisms, the core feature of a market economy.

The author wishes to thank Hon. David Kappos, Prof. Robert Merges, Chief Judge Randall R. Rader (retired), and Prof. Mark Cohen for their editorial suggestions.  The opinions expressed herein are the author’s own.

 

 

IMPACT OF RECENT AML LEGISLATION ON THE IPR/ANTITRUST INTERFACE

This blog provides an update on recent legislative developments involving the interface between IP and China’s Anti-Monopoly law. On November 28, 2019, SAMR published the Anti-Monopoly Compliance Guidelines for Undertakings (Draft for Public Comment) (“Draft Compliance Guidelines”) 经营者反垄断合规指南(公开征求意见稿), which according to SAMR is specifically intended to “encourage undertakings’ compliance with China’s Anti-Monopoly Law” 鼓励经营者合规经营. Comments were due on February 12, 2019.  On January 2, 2020, SAMR issued the Draft Amendments to China’s AML (Draft for Public Comment)反垄断法”修订草案 (公开征求意见稿) (“Draft AML Amendments”). Comments were due on January 31, 2020. These documents, along with the changes from the government reorganization coming China’s three antitrust agencies into one, may suggest new approaches to antitrust regulation and enforcement in the future in China. 

The ABA’s Antitrust Law and International Law Sections submitted comments to SAMR on the Draft Compliance Guidelines as well as the Draft AML Amendments. We welcome receiving comments that other organizations submitted on these proposed laws to publish or link on this blog.

According to the NPC Observer, the Draft AML Amendments are on the State Council’s calendar for the 13th NPC Standing Committee Legislative Plan. It is a priority Class II Project. According to the recent government reorganization, it would otherwise be expected that Ministry of Justice would prepare a draft of the AML revisions for consideration by the State Council which would then forward on to the NPC for three readings. This Draft AML Amendments appear to be an effort to ‘test the water’ or perhaps ‘jump start’ the revision process, as it is drafted at an earlier stage than the NPC calendar might otherwise require. China’s National Copyright Administration undertook a similar effort with the long-stalled copyright law amendments, by publishing its own draft for public comment, which eventually became a State Council draft for public comment in June of 2014.

From an IP perspective, there are several items that are worth noting: 

The first one is that Article 55 of AML (Article 62 of the Draft) stayed unchanged and there is no new IP-related content added to this draft amendment. This article provides:

“This Law does not govern the conduct of undertakings to exercise their intellectual property rights under laws and relevant administrative regulations on intellectual property rights; however, undertakings’ conduct to eliminate or restrict market competition by abusing (or misusing) their intellectual property rights are governed by this Law.”

Article 55 has been the subject of considerable discussion among academics and practitioners and is ambiguous in its scope, including the relationship between the legitimate exercise of an IP right and an anticompetitive act, the relationship with Contract Law and proposed Civil Code provisions on monopolization of technology, the difference between “IP abuse” and “misuse”, the impact of administrative rules 行政法规 and AML guidelines on Article 55, and ultimately whether the AML creates some kind of safe harbor against charges of monopolization.   

An example of the unsure relationship between the legitimate exercise of IP rights and competition law might be price-based claims for securing a license to a patent, which arguably restricts certain competition in the market but would otherwise constrain a patentee’s rights to license or charge prices as it sees fit (see, e.g., Art. 28 of the TRIPS Agreement, Arts. 65, 68 of Chinese Patent Law). Most high pricing cases to date in China have involved standards essential patents, where a FRAND commitment may be involved that arguably mitigates against letting market prices fully determine patent values. However, these cases may not take into account the lawful rights authorized by Chinese IP law including the right to charge market prices and to seek an injunction when a right is infringed, which is also arguably within the scope of AML Article 55/revision Article 62.

In a similar vein, the notion of essential facilities is not mentioned in both drafts, which means China may not be ready to fully support an essential facility doctrine in national legislation at this time. However, companies that manage IP assets, particularly in the standardization context, may still need to pay attention to this issue to minimize their IP risk related essential facilities claims/abuse of market dominance, particularly as the essential facilities doctrine continues to have an active influence in administrative enforcement and policy making, as well as in policy decisions involving SEP’s.

Article 20(6) of the Draft AML Amendments lists several types of abusive acts, including “discriminating among transacting parties on transaction conditions without justified reasons” (没有正当理由,对交易相对人在交易价格等交易条件上实行差别待遇).  The current AML additionally required that the discrimination arise from “identical circumstances” (or “an equal footing” in the MofCOM translation) as a condition to a claim of discriminatory pricing (Art. 17(6)). This may create additional uncertainty in IP licensing due to potential AML risks, because the reasons for removal of “identical circumstances” are unclear, the scope of what is a “justified reason” in a licensing transaction is also unclear, and IP licenses are typically not commodity or mass produced agreements but are custom-negotiated based on a range of factors including the role of any actual or threatened litigation, markets and market penetration, tax planning, any cross-licensing, etc. 

Article 14 of the Draft AML Amendments prohibits both horizontal and vertical agreements that “exclude or restrict competition” offers another possible distinction from the current AML.  Article 13 of the current AML requires a finding of “excluding or restricting competition” only with respect to horizontal monopoly agreements. While the courts have generally adopted a fact-based, rule of reason type approach to this issue, administrative agencies were more inclined to find such agreements vertical agreements illegal per se, subject to a few exceptions. This Draft AML Amendments clarify this issue, which could have an important impact on licensing transactions by requiring an analysis of competitive impact and would be more consistent with TRIPS Article 40, which regulates “licensing practices or conditions that … constitute an abuse of intellectual property rights having an adverse effect on competition in the relevant market.” (emphasis supplied).

Two other provisions worth noting are Articles 18 and 21 of the AML Draft Amendments. Article 18 would tighten the requirements for receiving an exemption from an otherwise offending monopolistic agreement by requiring that it gives rise to efficiencies such as improving technology or improving research and development, that are “necessary” for the claimed efficiencies to be realized. The ABA has suggested that this language would require a “hindsight” type of analysis and that Article 18 be revised to soften this condition by requiring only that the agreement be “reasonably necessary” to achieve the claimed efficiencies.  

Article 21 lists factors that may be used to determine whether an undertaking has a dominant market position, and adds new additional factors for the Internet sector including network effects, economies of scale, lock-in effects, and data control and handling capabilities. The ABA has suggested that it is inappropriate to have industry specific legislation for the Internet sector, that these factors may equally apply to other industrial sectors, and that requirements of this type are best reserved for “implementing regulations or guidelines.” 

The Draft Compliance Guidelines, like other administrative rule makings are not mandatory and have no binding legal force. The Guidelines provide general guidance on anti-monopoly compliance of business operators. Most of its contents have already been stipulated in the previous Anti-Monopoly Law and related guidelines.   

Neither the AML Draft or Draft Compliance guidelines offer any specific guidance regarding management of patent pools, obtaining clearance from SAMR for a pool, or operation of a licensing regime.

The absence of more detailed consideration of IP issues in these two documents is rather surprising considering discussion in other venues. Although the US government complained about antitrust enforcement in China in the Section 301 investigation, noting that “several submissions asserted that Chinese AML authorities use the AML as a tool to advance industrial policy rather than to protect competition”, there were also no references to the AML in the Phase 1 Trade Agreement. Chinese courts have also been addressing issues regarding abuse of dominance and standardization through documents such as the Trial Adjudication Guidance for Standard Essential Patent Dispute Cases promulgated by Guangdong High People’s Court, and the Beijing High Court’s Guidance for Patent Infringement Determination. In addition, IAM has also recently reported that there is a significant increase in SEP-related litigation in China, including foreign vs. foreign and foreign vs. Chinese cases. China has also recently become an important venue for resolution of international SEP licensing disputes. Perhaps the wiser approach is to let these contentious cases be resolved one by one, rather than risk over-legislating in an evolving area where there has been considerable political attention.

Prepared by Mark Cohen and Xu Xiaofan