What impact do TIER amendments have on technology transfer contracts

Author:YUE,Xuelan | UpdateTime:2020-06-09 | Hits:

1.    Background

In March 2019, the State Council of China announced the amendments to a number of administrative regulations, including the Regulation on the Administration of Import and Export of Technologies (hereinafter referred to as TIER). The provisions regarding the mandatory infringement indemnification (Paragraph 3, Article 24), the ownership of improvements to licensed technology (Article 27), and the prohibition of restrictive clauses in technology transfer contracts (Article 29) are deleted.

We can understand more deeply the significance of this amendment to TIER in the context of China’s recent adoption of the Foreign Investment Law.

The Foreign Investment Law was discussed and adopted at the National People’s Congress held in March 2019, which stipulated that “the State encourages technical cooperation based on the principle of free will and commercial rules in the process of foreign investment. The conditions for technical cooperation are determined by arms-length negotiation among the parties to the investment in accordance with the principle of fairness. Administrative agencies and their staff are prohibited from using administrative means to force any technology transfer”. This clearly conveys a message that China intends to reduce the administrative intervention in foreign investment and provide a fair and equitable investment environment.

The amendment to TIER is also based on the same considerations. By deleting the above three clauses, the restrictions on the specific content of technology transfer contracts are alleviated, allowing the parties concerned a greater room for negotiation.

This amendment is also a positive response to the international public opinion. Since the implementation of this Regulation in 2002, there has been few instances where the above three clauses were enforced in the technology transfer practice of enterprises, but their content has caused many doubts and has been accused of imposing excessive obligations on foreign enterprises. In 2018, the United States filed a complaint against China with the World Trade Organization (WTO) asserting that some technology transfer measures violated the TRIPS Agreement, in part on the basis that the above three clauses of TIER provided fewer benefits to foreign right owners than Chinese rights owners, which violated the principle of national treatment under TRIPS.

The revoking of these controversial provisions will help eliminate the concerns of foreign enterprises, implement the principle of national treatment, and optimize the foreign investment environment.

2.    Application of laws after the amendments to TIER

As a special regulation for activities involving the import and export of technology, TIER applies specifically to international technology transfer contracts. However, after the above three clauses are deleted from the regulation, it is necessary to refer to the provisions of the Contract Law, a general law, when preparing the content of technology transfer contracts with Chinese companies.

The Contract Law is the basic law for regulating transaction relationships, which fully respects the autonomy of the parties, and adopts the principle that agreements of parties override the default rules. Therefore, although there are provisions in the Contract Law and related judicial interpretations that largely correspond to Articles 24, 27, and 29 of TIER, they are not mandatory provisions like TIER, but give the parties concerned the freedom to negotiate.

The following introduces the application of the corresponding provisions of the Contract Law in judicial practice based on specific cases in order to provide references for foreign companies when entering into technology transfer contracts with Chinese companies in the future.

3.    Analysis on the corresponding provisions of the Contract Law

3.1  Infringement liability of the transferor

For the infringement liability of the transferor, the Contract Law provides that “where the exploitation of the patent or the use of the technological secret by the transferee in accordance with the contract infringes the lawful interests of any other person, the liability shall be borne by the transferor, except otherwise agreed by the parties”. Obviously, the Contract Law allows the parties concerned to negotiate the allocation of infringement liability.

Many would recall the Wuhan Jingyuan v. Fujikasui and Huayang case in relation with the infringement liability of the transferor (also known as the warranty against defects)[i]. In this case, Huayang (the transferee) and Fujikasui (the transferor) signed a technology transfer contract for a flue gas desulfurization system, in which the parties agreed that the transferor would indemnify the transferee from any loss or penalty resulting from the infringement caused by the trademark, patent or copyright and/or related design used on the equipment provided by the transferor. Afterwards, Wuhan Jingyuan sued Fujikasui and Huayang for patent infringement of the desulfurization system. The Supreme People’s Court decided that Fujikasui and Huayang were liable for joint infringement and should bear joint and several liability according to the law.

The court concluded that Fujikasui committed an infringement on the ground that Fujikasui provided related equipment and participated in the installation thereof, instead of depending on the above contract clauses regarding the infringement liability. Regarding the above agreement in the contract, the Supreme People’s Court particularly stated in the judgment that “the assumption of such joint and several liability shall not prevent Huayang from legally exercising its right of recourse against Fujikasui in accordance with the contract for ‘flue gas desulfurization system’ made and entered into between Fujikasui and Huayang. The original judgment was improper in exempting Huayang from the liability for damage in accordance with the provisions regarding the warranty against defects of right in the contract”.

In another case involving a processing consignment contract, the court also made a similar judgment[ii]. Although it is consensus that in a processing consignment contract the client must warrant that its rights are legal and valid, and do not infringe upon the intellectual property rights of others, and that otherwise all liabilities arising therefrom shall be assumed by the client, the court held that this provision cannot take effect against a third party, and that the trustee may claim liability for breach of contract against the client in accordance with the provisions regarding the warranty for intellectual property right in its agreement with the client, but the client shall be liable for the third party as the manufacturer of the infringing product.

It can be seen from these two cases that in infringement lawsuits, the court determines infringement liability based on the actual conduct of the parties, instead of the provisions regarding the infringement liability in the contract. If there is an explicit agreement on the infringement liability in the contract, a party may file a lawsuit against the other party for breach of contract according to the contract, when the provisions of the contract will become the basis for judgment from the court. Therefore, it is necessary to reach a detailed agreement on the assumption of the infringement liability, the specific conditions for the liability, and how to assume the liability, when signing the technology transfer contract.

3.2  Restrictive clauses

The Contract Law provides that “any technology contract that illegally monopolizes technology, impedes technological progress or infringe upon technological achievements of others is null and void”. Relevant judicial interpretation defines six specific behaviors, which basically correspond to the content of Article 29 of TIER.

In practice, few courts have found a contract invalid based on the above provisions of the Contract Law mainly because “it is difficult to ascertain the standards for monopolizing technologies and impeding technological progress, so the court is cautious when applying this article”[iii]. The court will judge whether a contract would cause “monopolizing technologies and impeding technological progress ” according to the specific content of the contract, instead of considering all clauses related to restrictive terms invalid.

In the Wu Qi v. SLGO case involving a dispute over a technology contract[iv], Party B (Wu Qi) and Party A (SLGO) agreed to jointly commercialize an anesthesia pump. According to the agreement, controller chips for controlling the anesthesia pump should be provided by Party B, and Party A shall not obtain controller chips with the same functions by other means. The court determined that this provision restricted Party A from obtaining similar technology from other sources, which violated the provisions of Article 329 of the Contract Law, and therefore was invalid.

In contrast, in Dayang Company v. Huanghe Company case[v], the court ruled otherwise. This case related to a dispute over a patent implementation license contract. The patentee Huanghe Company signed a patent implementation license agreement with Dayang Company for stone forming machine. The two parties agreed that the stone forming machine would be provided by Huanghe Company. Dayang Company alleged that the patentee’s purpose in granting a licence was to forcibly sell the equipment unnecessary for the implementation of the patent at a high price, which constituted “illegally monopolizing technology and impeding technological progress”, and therefore, the implementation licence contract should be invalid. The Supreme People’s Court determined that the purpose of the disputed contract in this case was to grant a licence for the selling and the use of the patented product. The stone forming machine, as an embodiment of the patented technology, was the equipment necessary for achieving the purpose of the contract. Therefore, the agreement in the license contract that the necessary equipment shall be provided by the licensor did not violate the law.

It can be seen from the above that the court judges the legality of the contract terms based the purpose of the contract, the rationality of the restriction itself, and whether such restriction will cause any consequences that impede competition. If a restriction is necessary and does not exceed reasonable limits, the court will not find it invalid.

3.3  Ownership of the technological improvements

In contrast to TIER, which provides that all technological improvements belong to the party that makes the improvement, under the Contract Law, the parties can agree on the sharing of subsequent achievements in improving the technology, which undoubtedly gives the parties greater freedom to negotiate.

In the Wu Qi v. SLGO case involving a dispute over technology contract[vi], the contract stipulated that the intellectual property rights of the new technology developed by improving the original technology in the process of product commercialization shall be jointly owned by both parties. However, in the performance of the contract, Party A (SLGO) filed a patent application for the product in its own name. The court held that Party A breached the contract based on the above contents of the contract and that the patent shall be jointly owned by both parties.

It can be seen from this case that if a party encroaches upon another’s achievements in improving a technology, the other party can file a lawsuit for breach of contract. Therefore, it is necessary to stipulate in the contract in advance the method for sharing the achievements in improving the technology after the technology transfer, and as the premise and basis for such agreement, it is important to clarify in the contract the technological content involved in the transfer contract, as well as the meaning and scope of the improved technology.

4.    Summary

The amendment to TIER has alleviated the burden of foreign enterprise when it comes to transferring technology to China, provided greater room for negotiation, and signified the importance of drafting contract terms. When drafting a technology transfer contract, it is necessary to clearly define the rights and obligations of both parties in accordance with the provisions of the Contract Law and relevant judicial interpretations, with reference to China’s judicial practice and in line with the principle of fairness and reasonableness.

[i] Civil Judgment [(2008) Min San Zhong Zi No. 8] of the Supreme People’s Court.

[ii] Civil Judgment [(2016) Yue 73 Min Chu No. 2248] of Guangzhou Intellectual Property Court.

[iii] Zhao Ke, Effectiveness of the Technology Contract that Infringes Upon the Technological Achievements of Others, The People’s Judicature · Cases, Issue 16 in 2012, P102-104.

[iv] Civil Judgment [(2007) Gao Min Zhong Zi No. 592] of the Higher People’s Court of Beijing Municipality.

[v] Civil Judgment [(2003) Min San Zhong Zi No. 8] of the Supreme People’s Court

原文发表于MIP "Japanese Buyers’ Guide 2019" (2019.10)