The Fight Against Trademark Counterfeiting

Timothy P. Trainer

ot only are Coca-Cola ^® , Disney ^® , Marlboro ^® , Mercedes ^® , Microsoft ^® , and Nokia ^® among the world's best-known brands, but they are also some of the world's most valuable assets. BusinessWeek recently listed these six trademarks—and the patent, trade-secret, copyright, and integrated-circuit topography assets that they incorporate—as among the 10 most valuable in the world, with a combined estimated value of more than $238 billion. These trademarks and others are competing for part of the enormous Chinese market, despite the fact that China's counterfeiting industry puts them at constant risk.

Worldwide scourge
Companies and the PRC and US governments are taking steps to battle the industry—but they have their work cut out for them. China's own Development Research Center, the research institution affiliated with the State Council, reported that counterfeiting in China is a $16 billion industry. China's transition to a market economy, its large work force, and the availability of newer technologies all contribute to the growth in counterfeiting, as some manufacturers seek easy profits by illegally using others' intellectual property (IP) assets. Unauthorized manufacturers blatantly and consistently use famous trademarks to sell their products and profit from well-recognized brand names.

The flow of Chinese-made manufactured counterfeit goods has kept US Customs officers busy: From October 1996 to March 2002, US Customs seized 3,866 shipments of counterfeit goods, worth more than $111 million, from China—far exceeding those from any other country. Though these numbers may seem low, it is important to remember that US Customs is able to inspect only a small percentage of the goods that enter the country.

The European Union recently issued a report stating that 18 percent of the 95 million pirate and counterfeit goods seized at external borders in 2001 were of Chinese origin, a percentage exceeded only by Thailand. If counterfeits that come through Hong Kong and those seized in eastern Europe are included, China becomes Europe's top counterfeiter.

The future of foreign investment in China's
manufacturing sector depends on the effectiveness
of the country's anticounterfeiting enforcement

The owners of the world's most famous trademarks have found China-made counterfeit and pirate products in countries around the world, including Brazil, the Czech Republic, India, Indonesia, Japan, the Philippines, Russia, Saudi Arabia, and South Africa, to name just a few. And counterfeit exporters take extreme measures to evade detection. In one case, New Zealand customs officers found counterfeit tobacco products valued at $900,000 hidden inside furniture.

The products targeted by counterfeiters is cause for concern. Counterfeiters in China target a wide range of products, including apparel, auto parts, cigarettes, computers, electronics, food, mobile phones, pharmaceuticals, skin-care products, tools, and toys. Counterfeiters applying famous trademarks and brand names to skin lotions and foodstuffs are unlikely to worry about quality standards—they are looking to earn profits. Thus, companies that own those trademarks must try to keep the market safe for consumers and prevent damage to their own reputations. Substandard counterfeit pharmaceuticals and machinery are particularly dangerous.

PRC government efforts
PRC government agencies have, during the past several years, amended an impressive number of IP laws and regulations to meet World Trade Organization (WTO) obligations, including the country's laws on copyrights and trademarks. But the real test of the system occurs when the owners of these assets, whether Chinese or foreign, attempt to obtain the protections that the laws afford. IP owners, despite available recourse via police, customs, and administrative authorities, often face reluctant prosecutors and an ill-trained judiciary when trying to address IP theft. In some cases, collusion between local officials and counterfeiters has been suspected.

Chinese officials have raided counterfeiters' facilities, seizing a broad array of counterfeit products, from alcoholic beverages and air conditioners to printer cartridges, mobile-phone products, and watches. Many famous trademark owners nevertheless contend that, despite these raids, prosecutions typically result in penalties that are too low to have a deterrent effect. Moreover, officials often fail to search for documents that might provide information about counterfeiting operations and the people involved.

Successful counterfeiters who run highly profitable operations will not be easily deterred. They have sophisticated networks that are difficult to uncover fully. In addition, the longer the counterfeiters are able to operate without fear of serious penalties, the more entrenched they become in the economy and the more brazen their illegal activities. The Chinese enforcement system must include harsh penalties such as the destruction of goods, seizure of equipment, monetary fines that are sufficiently high to remove financial incentives, and imprisonment for individuals who don't pay fines or who engage in large manufacturing operations.

The Chinese government will need to take bold steps at the national, provincial, and local levels to be effective. It will need to target all products and involve every aspect of the enforcement system: administrative agencies, police, prosecutors, and judges. Indeed, industry representatives, foreign governments, and intergovernmental organizations have conducted many enforcement training seminars throughout China over the past several years. Given the scope of the problem and the size of the country, however, much more education and training is necessary.

The owners of
the world's
most famous
trademarks
have found
China-made
counterfeit
and pirate
products in
countries
around the
world.

Companies take a stand
Trademark, copyright, and patent owners have long realized that they need to be active in the fight against counterfeiting and piracy (see The CBR, November-December 2000, p.28). Accordingly, companies have made substantial investments to protect their assets. Though all have different strategies depending on the perceived size of the problem, most maintain internal staff to work with appropriate enforcement authorities, whether they are police, customs, or other administrative authorities. Companies confronting large-scale counterfeiting and piracy problems need additional human and financial resources. Outside lawyers and investigators can be used to find counterfeit retail outlets or production sites.

Companies are also working together to try to preserve precious resources. A smart counterfeiter is likely to produce fakes of several companies' products in a particular product line. If a counterfeiter is illegally using one shoe manufacturer's trademark, they reason, why not use the marks of several others? This duplication occurs in many product lines, whether software, film, batteries, or auto parts. Thus, companies that are normally competitors in the legitimate market can work together to share the expenses for investigations and raids in order to stretch their enforcement dollars. Many corporate

victims have formed associations, such as the International AntiCounterfeiting Coalition, Inc. and the Quality Brands Protection Committee, to combat the problem both operationally and politically.

Criminal Enforcement Against Counterfeiters

The explosion of counterfeiting in China over the last 10 years is clearly a side effect of the country's breakneck economic growth. The rising tide of counterfeit exports likewise reflects China's ability to sell just about anything at a competitive price. Most observers assume that the weakness of the "rule of law" in China prevents the government from keeping counterfeiting in check. This assumption is basically correct, but as with anything else in China, the reality is a bit more complicated.

The courts
In China, as in all other countries, trademark owners can pursue counterfeiters civilly (usually for compensation and an injunction against further violations) or criminally. Chinese courts handle only a very small percentage of the counterfeiting cases that arise each year, however. The vast majority are instead dealt with by a range of administrative enforcement bodies, including local offices of the General Administration of Customs, the State Administration for Industry and Commerce (SAIC), and the Technical Supervision Bureau, the enforcement powers of which are generally limited to confiscating fakes and imposing monetary fines. Predictably, most counterfeiters have come to regard the threat of such economic penalties as a mere cost of doing business, and brand owners with experience in the field regard such fines as having little or no deterrent impact.

The most recent statistics from the PRC Supreme People's Court indicate that the success rate of China's criminal justice system in pursuing counterfeiters is no better this year than it was in 2001. Between January and May 2002, the criminal tribunals of the People's Courts convicted only 187 trademark counterfeiters. This number represents far less than one percent of the tens of thousands of counterfeiting cases that administrative authorities dealt with during this period.

Enforcement resources
In China, and most other countries with serious counterfeiting problems, civil remedies and administrative penalties are considered secondary tools for dealing with violations. Counterfeiters worldwide normally operate in the shadows, and it is inherently quite difficult for brand owners to recover compensation for damages, including investigation and legal costs, and for enforcers to collect administrative fines.

In recognition of these difficulties, the World Trade Organization's (WTO) Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS) explicitly requires that criminal enforcement be made available to address both counterfeiting and copyright piracy (see p.12).

In most countries, trademark owners complain of the lack of resources and training for criminal enforcement. The same is true in China, and will likely remain so for the foreseeable future. ( For a comparative view of counterfeiting in China and other countries, see the most recent "301 Report" of the International AntiCounterfeiting Coalition at www.iacc.org.) But in response to concerns of both local and foreign rights holders, including the 83 American, European, and Japanese corporate members of the Quality Brands Protection Committee (QBPC, a Beijing-based industry group that promotes anticounterfeiting efforts with the PRC government, judiciary, and other stakeholders), the Chinese government recently began providing more resources and training to Chinese police and prosecutors for anticounterfeiting work. As a result, a few foreign companies report significant increases in criminal prosecutions against targets they have pursued over the last year. Unfortunately, most QBPC members still report that the level of counterfeiting they suffer in China is the same as, or worse than, it was a year ago.

Ambiguities in the law
China's Criminal Code (last amended in 1997) allows prison terms of up to three years for counterfeiters if the circumstances are deemed "serious" or the sales "relatively large" and up to seven years if the circumstances are "especially serious" or the sales "huge." These penalties are consistent with international standards. Government enforcers and brand owners a like have long complained, however, that police and prosecutors have been reluctant to commence criminal investigations and prosecutions because of the lack of guidance from the central government over the meaning of the terms "relatively large" and "serious."

In April 2001, just prior to China's WTO entry, the Supreme People's Court, the Supreme People's Procuratorate, and the Ministry of Public Security issued two documents that attempt to clarify the standards for prosecution and imposition of criminal liability in cases involving trademark counterfeiting, the production and sale of "fake and shoddy goods," trade secret violations, and a range of other economic crimes. Unfortunately, most of the new counterfeiting standards in these documents are either ambiguous, unreasonably high, or both.

In connection with China's WTO review this fall and in response to complaints from local and foreign brand owners, the government and judiciary are now conducting research that may lead to new criminal liability standards in the coming months. Industry associations, including QBPC, hope that any new standards will, in particular:

1 Clearly define how the value of products seized in raids should be calculated, and set minimum valuation levels that are not unreasonably high;

2 Provide clear and practical standards for criminal prosecution of repeat offenders, particularly those who have already received administrative sanctions for counterfeiting or related offences;

3 Require criminal prosecution of counterfeit manufacturers or vendors that operate without a valid business license (so-called "underground operators"); and

4 Establish less onerous standards for criminal action against counterfeiters that target "well-known" trademarks.

Aside from criminal enforcement reforms, brand owners hope that new Customs regulations will eliminate or substantially reduce the obligation of brand owners to pay bonds and storage fees following seizures of counterfeit products. Perhaps more important, industry associations are seeking corresponding reforms that will require Customs to transfer promptly to police all cases involving the seizure of significant quantities of counterfeit goods.

Brand owners were encouraged by China's revised Trademark Law and its implementing regulations—which took effect December 1, 2001 and September 15, 2002, respectively—particularly provisions that raise maximum fines for infringers and that seem to require mandatory confiscation of all infringing products seized by local SAIC offices. The provisions also give trademark owners access to preliminary injunctions and allow up to ¥500,000 ($60,500) in compensation for statutory damages. The recently amended Copyright Law and Patent Law include similar changes.

To date, most of these new weapons for administrative and civil enforcement remain untested by foreign companies. The Supreme People's Court and SAIC's Trademark Office are expected to issue guidelines and interpretations by the end of 2002 to help brand owners and enforcement authorities use them effectively. But given the inherent limitations of civil and administrative enforcement measures, all eyes remain firmly fixed on reforms in the pipeline that may facilitate criminal enforcement.

—Joseph Simone

Joseph Simone is partner with Baker & McKenzie Hong Kong/Beijing. He is currently vice chair of the Quality Brands Protection Committee (www.qbpc.org.cn), representing British American Tobacco plc.

A smart counterfeiter is likely to
produce fakes of several companies'
products in a particular line.
If a counterfeiter is illegally using one
shoe manufacturer's trademark, he
reasons, why not use the marks of
several others?

Battles on all fronts
The global counterfeiting problem requires a strategy that includes not only ground-level operational raids, seizures, and arrests, but also political work to make decisionmakers understand the severity of the economic and social consequences, such as loss in government tax revenues, tolerance for crime, and risk to public health and safety. Chinese authorities are willing to take action when public health is

threatened. The Straits Times recently reported that PRC officials discovered more than 100 fake brands of pharmaceutical products that were either ineffective or deadly.

The sheer volume of counterfeit goods from China poses a massive challenge to customs agencies around the world. European and US customs officials must continue to expand cooperation with Chinese customs authorities to improve detection rates. And as counterfeiters produce increasingly sophisticated goods, customs officials should refine targeting techniques and information exchanges with IP owners (see The CBR, January-February 1999, p.8).

War of attrition?
IP owners will have to decide if enough is being done to warrant their continuing presence in China. Unfortunately, leaving China may only make the situation worse—PRC authorities are unlikely to pursue counterfeiters if the IP owners are absent.

As counterfeiters produce
increasingly sophisticated goods,
customs officials should refine
targeting techniques and information
exchanges with IP owners.

Ultimately, the success of China's counterfeiting industry is exacting a huge toll on China itself—the industry injures consumers, damages China's international reputation, undermines confidence in its legal institutions, and robs domestic inventors and innovators. Indeed, as China's own industries develop, the call for IP protection from domestic companies may prove to be the most important factor in improving China's IP enforcement record. The battle to gain control of a market rife with counterfeit products requires time and commitment at all levels. The question for some companies may be simply: How long can we afford to wait before the fight to protect these assets pays off?

Timothy P. Trainer is president of the International AntiCounterfeiting Coalition, Inc. (www.iacc.org).

The China Business Review, Volume 29, Number 6, November-December 2002

Last Updated: 31-Oct-2002