Significant damages judgments highlight the trends of trade secret enforcement in China
20 April 2021
It is a testament that, following the amendment to the Anti-Unfair Competition Law in 2019 and the issuance of the trade secret judicial interpretation in late 2020, the Chinese Supreme Court has taken an active role in implementing new rules to enhance trade secret enforcement in China.
Carbomer case: quintuple punitive damages awarded for the first time
The first case involved two domestic companies engaged in the manufacture and sale of Carbomer gel for cosmetics and personal care products. The plaintiffs, Guangzhou Tianci and Jiujiang Tianci, are affiliates, with the former being the trade secret owner and the latter the sole licensee. The plaintiffs first sought criminal enforcement and then sued Anhui Niuman and six individuals who were involved in the scheme for trade secret misappropriation. Among the individual defendants, the most notable two were the former technical director of Guangzhou Tianci, who supplied the trade secrets to Anhui Niuman, and its legal representative.
In the first instance proceedings, the Guangzhou IP Court found that Anhui Niuman, along with four individual defendants, misappropriated the trade secrets of the plaintiffs and were jointly liable. The court mainly relied on the judicial appraisal conducted during the criminal prosecution, which concluded that the plaintiffs’ process, method and equipment for manufacturing Carbomer gel were protectable trade secrets and that the technical schemes used by the defendant company were substantially similar to the plaintiffs’ trade secrets.
In its damages assessment, the Guangzhou IP Court first estimated that Anhui Niuman derived RMB11,951,095 (approximately USD1.8m) in illegal profits, by multiplying the sales revenues according to the defendant’s admission by the plaintiff’s profit margin. The court reasoned that the defendant’s margin must be higher than the plaintiff’s as it had foregone all the R&D costs through the act of misappropriation. The court then went on to order punitive damages of RMB30m (approximately USD4.6m) which were 2.5 times the estimated illegal profits.
On appeal, the Supreme Court affirmed both the finding of misappropriation and the damages amount of RMB30m (approximately USD4.6m). Notably, the Supreme Court took a more nuanced look at the damages calculation, stressing that the contribution of the misappropriated trade secrets to the defendant’s sales revenues should be considered. As a result, the Court apportioned a 50% contribution to the trade secrets misappropriated by the defendants and reduced the amount of the estimated illegal profits to RMB6m (approximately USD0.9m).
Significantly, after adjusting the estimated illegal profits, the Supreme Court applied quintuple damages, which are five times the amount of the assessed damages, for the first time since punitive damages were introduced under the Anti-Unfair Competition Law in 2019. In doing so, the Supreme Court cited a number of aggravating factors that demonstrate the wilfulness and bad faith on the part of the defendant company, including:
- Anhui Niuman was established to conduct infringement and it failed to prove that it had produced any non-infringing products;
- after its legal representative was criminally prosecuted, Anhui Niuman continued its operations and sold its products to more than 20 countries; and
- Anhui Niuman refused to produce its books when ordered by the court.
Vanillin case: highest trade secret damages ever
The second case arose from a dispute between two domestic competitors that manufacture and sell vanillin, an organic compound commonly used as a flavouring agent in foods and pharmaceuticals. The plaintiffs, Jiaxing Zhonghua and its affiliate Shanghai Xinchen, are the world’s largest producers of vanillin and enjoyed approximately 60% of the total market share worldwide before the alleged misappropriation. The accused trade secrets were jointly developed between 2002 and 2007 by the two companies. One of the individual defendants was a former employee of Jiaxing Zhonghua, who conspired with one other to steal and supply the trade secrets to Wanglong Group, another manufacturer of chemical products.
The plaintiffs’ enforcement against Wanglong Group and individual perpetrators has spanned over a period of more than ten years. In 2010, the plaintiffs first filed a civil suit in the local court of Nanhu District of Jiaxing City but voluntarily dismissed the suit since the case might involve evidence implicating criminal liability which would require criminal investigation.
In January 2016, the plaintiffs sued again in the same court and the court ruled in favour of the plaintiffs at the first instance. The second instance court, upon the emergence of new evidence including a USB drive containing blueprints and other technical documents on appeal, vacated the first instance judgment and sent the case for criminal investigation.
In 2018, the plaintiffs filed a new civil suit with the Zhejiang High Court, requesting damages of RMB502m (approximately USD76.4m). Relying on the judicial appraisals issued during criminal investigation, the Zhejiang High Court determined that the alleged trade secrets were protectable and the defendants’ acts in acquiring the technical secrets by improper means and subsequently disclosing and using such trade secrets, including 17 equipment design diagrams and five process flow charts for manufacturing vanillin, constituted unfair competition. In April 2020, the Zhejiang High Court ordered a permanent injunction against the defendants and awarded statutory damages of RMB3m (approximately USD457,000). Noting that its first-instance judgment will not take effect until the appeal was concluded, the Zhejiang High Court granted the plaintiffs’ application for an interim injunction against the defendants. We should note that such interim relief is extremely rare in civil litigation in China.
Both parties appealed to the IP Tribunal of the Supreme Court. The Court noted that the equipment and process for manufacturing vanillin had to be constructed systematically and that the defendants were able to mass produce vanillin in only one year. Because the defendants had adduced no evidence to the contrary, the Supreme Court inferred that the defendants must have actually misused all the 185 device diagrams and 15 flow charts they acquired, not just the 17 equipment design diagrams and five process flow charts found to be misused by the first instance court.
Moreover, the Supreme Court considered the plaintiffs’ economic report which estimated that the losses from price erosion resulting from the defendants’ misappropriation between 2011 and 2017 would amount to RMB790,814,699 (approximately USD121m) but rejected using price erosion as the basis of calculating damages. Instead, it opted to calculate damages based on the defendants’ illegal profits. The resulting amount of RMB155,829,455.2 (approximately USD23.9m) was nevertheless the largest ever damages awarded in a trade secret case in China. In justifying its damages award, the Court carefully explained the following eight aggravating factors:
- the defendants showed clear malice in blatantly purchasing trade secrets from their competitor, Jiaxing Zhonghua;
- the defendants illegally acquired a large number of trade secrets, including hundreds of technical blueprints and documents;
- the defendants misappropriated trade secrets knowingly and continuously over a long period of time, even in the face of adverse court orders;
- the trade secrets involved are of high commercial value;
- several of the defendants’ entities are companies the business of which is in fact built entirely upon infringement;
- the defendants' behaviour has had a significant impact on the global vanillin market;
- the defendants were not cooperative in investigations and attempted to obstruct the production of evidence; and
- the defendants did not cease their misappropriation of relevant trade secrets after a judgment was issued by the first-instance court.
The Supreme Court did not impose punitive damages in this case. The reason was that the acts of misappropriation pleaded by the plaintiffs occurred before punitive damages were codified in Chinese law in 2019.
These two recent judgments handed down by the Chinese Supreme Court indicated the Court’s clear willingness to conduct a more nuanced factual assessment and award high damages against wrongdoers where there are aggravating circumstances of trade secret misappropriation.
It is worth noting that both trade secret cases leveraged and relied significantly on evidence emerging from the criminal investigation. It is clearly the right strategy which in reality may not be available to all cases. As China does not have a discovery procedure, it remains important to explore alternative means in collecting evidence and facilitating enforcement in China, particularly where it is difficult to trigger a criminal investigation. The good news is that the amended Anti-Unfair Competition Law has codified a shift of burden of proof to the defendant and it has been hoped that the Chinese courts will actively apply this new rule as well.