Learning from the painful lessons of leaked trade secrets: the importance of trade secret compliance and risk management

Business warfare is a war without gunfire. Although there are no direct casualties, like real wars, it is often accompanied by glorious victories and devastating consequences. Intellectual property is one of the most common weapons in modern business warfare. Disputes involving intellectual property not only affect a company’s profits and losses but often determine its survival. This affects the lives of countless individuals, from shareholders and executives to employees, upstream suppliers, and downstream distributors.

Like all risks we may face in life, the intellectual property risks faced by enterprises cannot be completely eliminated, but they can be effectively controlled and mitigated through compliance management. Neglecting intellectual property compliance and risk management can lead to bloody lessons. The risks involved in intellectual property compliance are numerous and cover a wide range of aspects. This article analyzes only a few cases involving trade secrets, hoping to stimulate further discussion.

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I. Compliance and Risks of Leaking Trade Secrets

The importance of trade secrets to enterprises is self-evident. We can make a hypothetical scenario: suppose Coca-Cola’s formula were inadvertently leaked and made public worldwide. It’s conceivable that Coca-Cola would quickly lose its distinctive taste and flavor. Without the support of its core product, the “Coca-Cola” brand might eventually need to be renamed “Sprite” or “Fanta.”

This is merely a hypothetical scenario. For over a century, Coca-Cola has successfully protected its trade secrets globally, demonstrating remarkable success in intellectual property compliance management. However, in the “vanillin” case, one of the top ten cases in the People’s Courts of 2021, the plaintiff, a company in Jiaxing, exhibited shortcomings in its management of trade secrets. The plaintiff, a company in Jiaxing, was the world’s largest vanillin producer. The defendant, a company surnamed Wang, did not possess vanillin production capabilities, but it bribed and lured Fu, an employee of the Jiaxing company who possessed a large amount of trade secrets, to work for Wang’s company. Fu obtained 287 equipment drawings and 25 process flow diagrams for vanillin production. The technology obtained by infringing on trade secrets has no R&D costs and absorbs the experience of the trade secret owner, giving it a late-mover advantage, which can greatly reduce product costs. Wang’s company successfully produced vanillin at extremely low cost, while competing with Jiaxing’s company for customers and market share, and selling vanillin products at even lower prices. Jiaxing’s company’s market share was gradually eroded. Before the plaintiff, Jiaxing’s company, filed the lawsuit, Wang’s company’s vanillin production line had a designed annual output and actual annual output of several thousand tons, and its products were sold all over the world [1]. It is conceivable that if the plaintiff, Jiaxing’s company, had not won the case and the court had not ordered the cessation of infringement, Wang’s company would have occupied more and more vanillin market share. Fortunately, the trade secret was not disseminated to the public, otherwise the trade secret might have become existing technology, which everyone could implement. In the civil litigation, the plaintiff, Jiaxing’s company, used three methods to calculate the amount of compensation, and whether it was operating profit, sales profit or price erosion, it was as high as hundreds of millions of RMB. In the end, the court ordered the cessation of infringement and compensated the plaintiff RMB 159 million. This case is also a typical case of civil litigation followed by criminal litigation. The court transferred the criminal clues discovered in the civil litigation to the public security organs.

The compliance of technical secrets mainly focuses on the management of confidentiality. For technical secrets, their value is often easily recognized. There is a causal relationship between secrecy and confidentiality. That is, if the holder of technical secrets always takes “reasonable” confidentiality measures, the technical secrets are unlikely to be known to the public. Conversely, if “reasonable” confidentiality measures are not taken, technical secrets may be leaked and become existing technology known to the public. One misconception is that enterprises may think that what they consider to be technical secrets may not meet the conditions for technical secrets under the law, and they can only bear the corresponding losses themselves. For example, in the dispute between Nantong Zhonglan Engineering Plastics Co., Ltd. and Nantong Wangmao Industrial Co., Ltd., Chen Moumou and others over infringement of technical secrets, the court could not determine whether the various information involved in the case claimed by the plaintiff had taken reasonable confidentiality measures and constituted technical secrets. In the end, the court did not support the plaintiff’s claims [2].

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II. Risk Management Related to Technical Secrets

Some enterprises have given textbook examples in the management of technical secrets. In the case of Ingersoll Rand Industries, USA, versus Mr. Sun regarding the infringement of trade secrets, the plaintiff, Ingersoll Rand, clearly stipulated the confidentiality obligations for trade secrets in its daily management and employment contracts. Furthermore, it further clarified the management of trade secrets in documents such as the “Employee Handbook” and the “Ingersoll Rand Regulations on the Use of Technical Resources,” all of which required employees to sign to confirm receipt and write corresponding commitments. These seemingly routine practices laid a solid foundation for the subsequent progress of the case.

From June to August 2018, Ingersoll Rand’s back-end system monitored that senior employee Mr. Sun was downloading drawings using the company’s internal system. On 15 days, the number of drawings downloaded exceeded 10,000 per day, and on 2 days, the number exceeded 100,000 per day. On August 6, 2018, Ingersoll Rand’s Ethics and Compliance Department requested Mr. Sun to hand over his computer for inspection and required him to sign a computer handover declaration, agreeing to hand over his work computer to the Ethics and Compliance Department for inspection. On the same day, Ingersoll Rand’s compliance department staff interviewed Mr. Sun and prepared an interview record.

On August 16, 2018, Ingersoll Rand’s compliance department staff met with Mr. Sun again, made a record of the meeting, and asked Mr. Sun to issue a confirmation letter. The confirmation letter confirmed Mr. Sun’s act of downloading the company’s technical drawings and required Mr. Sun to make five commitments. On the same day, Ingersoll Rand notified Mr. Sun of the termination of his labor contract.

On August 20, 2018, Ingersoll Rand Shanghai applied for notarization. Under the supervision of a notary and notary personnel, they searched for the files that Mr. Sun had downloaded from the company’s technical system. The results showed that the user had downloaded more than 690,000 files from the system. Subsequently, a civil lawsuit for infringement of trade secrets was filed in court. After the first and second instance proceedings, the court ruled that Mr. Sun shall not disclose, use, or allow others to use the trade secrets involved in the case, and shall submit to Ingersoll Rand and Ingersoll Rand Shanghai the carrier containing the trade secrets involved in the case, and compensate for reasonable rights protection costs of RMB 300,000[3]. In the above cases, Ingersoll Rand emphasized the daily management of trade secrets and identified the risk of leakage during routine management. Upon discovering the risk, it took decisive measures and timely remedial action. Furthermore, through a court judgment, it prohibited the disclosure and use of the trade secrets, effectively avoiding the enormous losses caused by the leakage.

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III. Patent Ownership Disputes Related to Leaked Trade Secrets

Another well-known case related to compliance management of trade secrets is the more than ten-year intellectual property war between Cathay Biotech and Shandong Hanlin. Before Cathay Biotech prepared for its NASDAQ listing, a series of intellectual property legal disputes became obstacles to its listing process. In 2008, several core employees of Cathay Biotech left the company, including Wang, the then deputy general manager of Shandong Cathay, and Ge, the then technical head. These departing employees joined Shandong Hanlin, and Wang and others became shareholders of Shandong Hanlin. Shortly thereafter, Shandong Hanlin and Cathay Biotech launched a similar product project, with a total planned production capacity of 60,000 tons per year and a total investment of 3 billion yuan. The project was planned to be completed in three phases over five years, with the first phase officially commencing production at the end of September 2009.

Caesar Biotech argued that the core technology of Shandong Hanlin’s project originated from it and filed a lawsuit. Shandong Hanlin responded aggressively, leading to a series of legal disputes between the two companies. In May 2010, Cathay Biotech sued Shandong Hanlin for patent infringement and trade secrets, demanding 45 million yuan in damages. In July 2010, Shandong Hanlin filed a patent invalidation request against the patents involved in the aforementioned case. On January 27, 2011, the Patent Reexamination Board issued Examination Decision No. 16170, declaring all the aforementioned patents invalid. Based on the invalidation of the patents, the court dismissed Cathay Biotech’s patent infringement lawsuit. Cathay Biotech, dissatisfied with the Patent Reexamination Board’s invalidation decision, filed an administrative lawsuit with the court, requesting the court to overturn the relevant invalidation decision. The court upheld the Patent Reexamination Board’s invalidation decision. In October 2010, Cathay Biotech sued Shandong Hanlin for false advertising and defamation of Cathay Biotech’s commercial reputation. The court found that Shandong Hanlin had engaged in false advertising, but not defamation of commercial reputation. Around the same time, Shandong Hanlin, together with the Institute of Microbiology of the Chinese Academy of Sciences, jointly sued Cathay Biotech for infringing on the Institute of Microbiology’s patent rights, demanding compensation of over 40 million yuan. Overall, these cases can be seen as the first stage of the dispute, in which Cathay Biotech was at a disadvantage.

After a series of unsatisfactory lawsuits, Cathay Biotech finally found the right direction for a breakthrough. In June 2011, Cathay Biotech employees filed a civil lawsuit against the inventor of a patent owned by Shandong Hanlin, citing a dispute over the inventor’s right of attribution. The court compared the patent in question with the prior technology owned by Cathay Biotech and found that the two were either completely identical in technical composition or overlapped in numerical selection range. Cathay Biotech was able to provide research and development process, experimental data, etc., while Shandong Hanlin did not provide evidence to prove its independent research and development. The court confirmed that the employee of Cathay Biotech was the inventor of the patent in dispute, and Cathay Biotech obtained the patent rights of the above-mentioned patent through litigation based on the relevant provisions on actual inventors and service inventions. Subsequently, Cathay Biotech obtained the ownership of the other 9 patents owned by Shandong Hanlin and the right of inventor to be named as an inventor in the same way[4][5]. At this stage, Cathay Biotech reversed the unfavorable situation, and the case was reported by domestic and foreign media as “China’s first patent authorship case”.

Subsequently, Cathay Biotech launched a series of patent infringement lawsuits and trade secret infringement lawsuits in many places. Shandong Hanlin was ordered to stop the infringement and compensate Cathay Biotech for economic losses. Wang, a senior executive who left Cathay Biotech, was convicted of infringing trade secrets and sentenced to 5 years in prison. Thus, Cathay Biotech achieved a complete victory in this intellectual property war. During this period, Shandong Hanlin attempted to file an invalidation request for the disputed patent in the ownership dispute, but the State Intellectual Property Office did not support it. In the subsequent administrative litigation, the court of first instance revoked the invalidation decision, while in the second instance, the Supreme People’s Court revoked the first instance judgment and upheld the invalidation decision. In the judgment, it was clearly determined that the act of illegally applying for another’s technological achievement as one’s own patent, and then filing an invalidation request for the patent right after the illegally applied patent right was returned to the other party in accordance with the law, clearly violated the principle of good faith. Therefore, the invalidation request should not be supported [6].

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IV. Summary and Outlook

We are currently experiencing an era of technological explosion. Trade secrets are the core assets of enterprises and are related to their survival and development. For such important assets, compliance management and risk control are very important. After trade secrets are infringed, it is often large enterprises that can effectively protect their rights. A large number of enterprises, especially small and medium-sized enterprises, have many problems with the compliance and risk control of intellectual property rights, especially technological assets. There is still much room for improvement in raising awareness of intellectual property compliance and effectively protecting the property rights of enterprises. References:

[1] Supreme People’s Court, Civil Judgment No. 1667 of 2020.

[2] Supreme People’s Court, Civil Judgment No. 3 of 2014.

[3] Supreme People’s Court, Civil Judgment No. 1276 of 2020.

[4] Beijing Higher People’s Court, Civil Judgment No. 315 of 2016.

[5] Supreme People’s Court, Civil Ruling No. 2424 of 2019.

[6] Supreme People’s Court, Administrative Judgment No. 564 of 2020.