A case study of corporate management perspective on trade secrets

Issue22 By Dong Ying,[Trade Secrets]

Viewed from the IP angle, trade secret is a special subject matter of intellectual property right which, unlike patents and trademarks that are grounded on statutory grant, or the copyright that subsists in a work fixed in a tangible medium, is premised merely on “secrecy.”

Viewed from corporate management angle, it is an important part of intangible corporate assets which may impact on the corporate existence and development in a competitive market. A corporation will sustain immensurable damages once its trade secrets are breached, resulting in losses that far exceed any possible monetary awards.

Various trade secret cases reveal a close connection between maintaining trade secret and corporate management, which reflects the defects in the management.

1. Internal control of proprietary information and human resource management

       Some corporations have relatively consummate measures and systems for internal control of proprietary information, while others have a high efficient human resource management system. However, for the purpose of trade secret protection, it is of necessity to combine internal control of proprietary information with human resource management because it is a specific person who commits the act of trade secret infringement. In a management system directed only at information (the object) rather than the employees (the subject), once an employee infringes on the enterprise’s trade secrets, there will be difficulty in producing evidence for lack of the relationship between the subject and the object.

Case 1: Rosenberger Asia Pacific Electronic Co., Ltd. vs. Li Yong, et al, for trade secret infringement

On Jan. 18, 2006, the Beijing No.1 Intermediate People’s Court accepted the case brought by Rosenberger Asia Pacific Electronic Co., Ltd. (Rosenberger) against Li Yong, et al, for trade secret infringement. The plaintiff Rosenberger alleged that the defendants Li Yong, Zhang Weixing, Li Cheng and Liu Xinhua were senior executives of Resenberger and according to the employment agreement, had non-compete and confidentiality obligations to Rosenberger. But the four defendants set up Xinrongzhi Company during their employment with Rosenberger without permission and redirected clients from Rosenberger to Xinrongzhi by making use of the trade secrets they acquired during their employment at Rosenberger, which constituted trade secret infringement. Therefore, Rosenberger demanded compensation of RMB 3.17 million.

The court found that (1) the 88S and 88K products manufactured by Rosenberger are custom-made parts for Siemens Communication Networks Ltd., Beijing (Siemens), the information of which, including specification, quantity, sales price, etc, unless proven to the contrary by defendants, cannot be obtained through public channels. Li Yong, Zhang Weixing, Liu Xinhua and Li Cheng had been Rosenberger’s staff. Particularly, Li Yong, Zhang Weixing and Liu Xinhua had been production manager, sales manager and vice manager of the financial department in Rosenberber respectively before quitting. Undoubtedly, that they would acquire and use the aforesaid information within the scope of their respective functions and responsibilities. Pursuant to the Employment Contract between them and Rosenberger, they have the obligation to keep the company’s operational information secret. However, the four defendants established Xinrongzhi Company during the course of their employment and purchased at a very low price the 88S and 88K products from Rosenberger in the name of Xinrongzhi Company by making use of the operational information they acquired in their positions and then resold these products to Siemens and gained large amount of profit. This operational information is capable of bringing about economic benefits to the users and has practical applicability. Thus, all of Rosenberger’s operational information concerning the number, sales price and profit of 88S and 88K products meet the constituting elements of a trade secret. (2) Rosenberger carried the burden of proving that the information acquired and used by the four defendants and Xinrongzhi Company is identical to Rosenberger’s trade secrets. Moreover, the four defendants have access to the trade secrets and Xinrongzhi Company failed to produce evidence that the information used by it came from other legitimate sources. Hence, the conducts of the four defendants and Xinrongzhi Company constitute infringement upon the trade secrets possessed by Rosenberger. 1

However, the Beijing High People’s Court on appeal saw it differently:  (1) the issues are whether the disputed trade secret in this case has become publicly known, and whether the proprietor has taken protective measures; (2) the operational information claimed by Rosenberger is about the specification and price of its products involved, sold to its specific client, Siemens. However, the information that Siemens is Rosenberger’s client can be found on Rosenberger’s website. Additionally, the specification of the involved products can be seen from the involved products themselves. Thus, the information regarding Siemens being Rosenberber’s client and the specification of the involved products sold to Siemens are no secret. As to the price of the products involved, the defendants failed to produce evidence that the price is known to the public. Therefore, the price of the involved products sold to Siemens by Rosenberger is a secret; (3) with respect to the issue whether Rosenberger had taken reasonable confidentiality measures as to the disputed operational information including the price of the involved products, Rosenberger submitted evidence that it had the staff manual, confidentiality system and job responsibility, but failed to prove that they were known by the appellants, the first instance court is correct in refusing to establish their truthfulness. In terms of the Employment Contract between Rosenberger and its staff, though the Employment Contract contained such contents as “The staff must abide by the company’s stipulations on confidentiality materials and agree to the contract on confidentiality matters prescribed by the company”, there was no proof that Rosenberger had laid down any provisions on confidentiality system and Rosenberger also conceded that it did not make or enter into any contract on confidentiality matters. Thus, the Employment Contract does not involve Rosenberger’s operational information including the aforesaid price. Rosenberger did not take any measures not publicly known to protect the operational information in question; and (4) therefore, the operational information claimed by Rosenberger did not constitute trade secrets. For these reasons the court reversed and dismissed the case. 2

Job-hopping of corporate employees has become a common phenomenon in the economic life, and also one of the reasons that trade secrets are infringed. To any employer, the departing employees are the most dangerous because they, for whatever reasons, hope to obtain necessary resources for their future work. The higher the employee’s position, the more threat he will pose to the enterprise. In view of this, an enterprise should consummate its trade secret protection system from the angle of human resource management so that in case the enterprise’s trade secrets are infringed by a job-hopper, it may have necessary evidence and legal basis to impose sanction on the infringing acts in a timely and effective manner and reduce the loss to the enterprise.

In case 1, the plaintiff was well aware of the importance of trade secrets and so executed with its employees the Employment Contract containing confidentiality obligation. In spite of that, the plaintiff still lost the case. The written judgment of the court reads: even if Rosenberger has the staff manual, confidentiality system and job responsibility, there is no evidence that these confidentiality systems are known to the appellants; even if Rosenberger has laid down the confidentiality systems, there is no proof of the existence of these confidentiality systems and there is no way to connect these confidentiality systems with the confidentiality obligation promised by the employees in the Employment Contract. Seen from corporate management, Rosenberger thinks that it has done enough by having Employment Contract, staff manual, confidentiality systems and job responsibility. However, for lack of written evidence, it failed in litigation to prove that these systems were actually in existence and that its employees knew these management systems. It can be imagined how unjustly Rosenberger may feel it were treated.

The reality is that even if there executed between the enterprise and its employees the Employment Contract, the Confidentiality Agreement and even the Non-compete Agreement, there are still cases that the employees took away the enterprise’s trade secrets when leaving. Such phenomenon is quite common. For this situation, we suggest: (1) with respect to the specific contents of the handover procedure in connection with staff changes, the manager directly responsible for the job should determine the relevant contents and items, and specify (in written form) the relevant materials that must be handed back by the staff; (2) the specific contents to be handed back (technical materials, training materials and proprietary information) should be detailed in the “Handover Checklist”; (3) the employees’ personal archives should include the training record of the employees and record to the best of the enterprise’s abilities the confidentiality information that they had accessed and the scope thereof.

2. Confidentiality policy, confidentiality systems and confidentiality measures

       In trade secret cases, the determination of the scope of a “trade secret” involves not only the nature of the cases but also the compensation amount. The key to the determination of a “trade secret” lies in the confidentiality measures that had been taken in connection with this information.

Case 2: Foxconn vs. BYD for theft of trade secrets

On June 2006, Shenzhen Futaihong Precision Industry Co., Ltd. and Hong Fu Jin Industry (Shenzhen) Co., Ltd., the two subsidiaries of Foxconn Technology Group (Foxconn), brought a lawsuit in Shenzhen Intermediate Court against BYD Company Limited (BYD) for infringement of trade secrets and claimed RMB5million in damages. Foxconn is one of the Taiwan-capital enterprises that was the earliest to invest in the mainland and also the biggest professional manufacturer of electronics products, and a leading mobile phone ODM manufacturer in China. BYD Company Limited was founded in Shenzhen in 1995. In July 2007, BYD went public on the main board of Hong Kong Stock Exchange. In 2003, BYD entered into the mobile phone ODM business, and has a production value of over RMB 10 billion. The conflicts between Foxconn and BYD have never ceased. In just several years Foxconn has reported to Shenzhen police four cases in which Foxconn’s previous staff, now working in BYD, misappropriate Foxconn’s trade secrets.

In the present case, both parties disputed over the technical issues. When Shenzhen Intermediate Court certified the case to the Supreme People’s Court, the Supreme People’s Court ordered an evidentiary hearing to authenticate the evidence on Nov. 6, 2007.3 The knockout evidence to be authenticated was the contents in the hard discs of the computers, which were seized and duplicated in the offices of BYD by Shenzhen Intermediate Court by taking evidence preservation measures. The computers belonged to Liu Xiangjun and Si Shaoqing, who were senior executives of BYD. Liu and Si were Foxconn’s former staff and later moved to BYD successively. In the evidence inspection ordered by the court, Foxconn’s lawyer found that there were about 8 to 9 thousand documents in these hard disks, including the WORD documents bearing Foxconn in the header, and in some documents, there were Foxconn’s symbol and logo above and the signatures of Foxconn’s relevant executives below.

The focus of the hearing was whether the system files claimed by Foxconn were trade secrets.4 Foxconn pointed out that the system files were about the operation, management process and criterion for it to organize the manufacturing of handset. The system files were composed of management process and forms. Among them, the management process was the written description of production management steps, and the forms were prepared based on the management process. As long as the workers filled in the forms with the work he had completed, the orderly production would be ensured. It was the enterprise with complete and operable system files that was qualified to provide manufacturing services for multinational companies. Therefore, for handset manufacturers, system files were trade secrets. The authentication agency authenticated the 129 documents including SMT 5 Procedure Management Method provided by Foxconn and the contents of the mobile hard disk copied by Shenzhen Intermediate People’s Court, and came to the conclusion6 that there were 116 Foxconn documents in the removable hard disk, among which 68 involved Foxconn trade secrets.

After the authentication report was completed in Feb. 2008, however, the two plaintiffs surprisingly dropped their complaints.7 Prior to that the plaintiffs had brought suit in Hong Kong for misappropriation of trade secrets and claimed damages of HK$ 5 billion.

The confidentiality measures in the broad sense include a company’s confidentiality policies, confidentiality management systems and the specific confidentiality measures. In case 2, the complete, rigorous and operable system files involve not only the operational mode and management system of Foxconn but also the confidentiality policy related to these documents, the confidential information management system like “signature of the executives concerned”, the concrete confidentiality measures like the document header bearing Foxconn, the company’s symbol and logo.

In practical corporate management, specifically, the following confidentiality measures can be taken: (1) security marking on all media that may carry sensitive  information; (2) setting security code on all proprietary information; (3) padlocking all media that may contain secret information or by other physical means; (4) Encrypting or separating the management of the core trade secrets like content of formula, calculation and procedure code by taking technical measures; (5) Imposing visitor limitation or disclosure obligations at places with restricted access, such as workplaces; (6) Executing confidentiality agreements; (7) disclosing the secret information only to the necessary employees if the information has disclosure range; any other efforts to maintain secrecy.

In practice, even though the above confidentiality measures are taken, supervision as to strict execution of these security measures is still necessary to avoid the following: (1) unrestricted duplication of documents having security marks; (2) The code is just an empty formality, too simple or universal code or remaining unchanged for a long time; (3) Neglecting control of the scope of recipients of a trade secret. The staff obtain large amount of confidential information on the pretext that the clients need them, or senior officers obtain confidential information beyond the scope of their functions and responsibilities.

On the other hand, the employees’ knowledge of the company’s confidentiality policy and confidentiality system must be ensured. Case 1 offers us a lesson in this aspect. Specifically, we suggest: (1) there should be a written document on the company’s policy regarding the document classification, confidentiality rank and controlling manner of the technical materials and proprietary information; (2) there should be a written record as to the internal management of confidential information (e.g. application, contact, disclosure, etc.). Only after these written documents or records are consummated can one prove that the information involved therein is a trade secret in the event that trade secret infringement occurs.
      It can be seen from the above that confidentiality policy, confidentiality system and confidentiality measures not only involve an enterprise’s IP system but also the enterprise’s information/document management, policy management, human resources and even training system.

3. Enterprise cultures and employees’ IPR and confidentiality awareness

In the current network environment, information sharing is much easier than information control. Thus, some enterprises tend to adopt stricter information security measures.

For instance, some enterprises like Microsoft and Siemens prohibit their employees from copying the companies’ materials from the hardware equipment.8 In terms of rank, most employees are not allowed to install floppy drive and mobile hard disk interface into their computers, which is a common practice in multinational companies. With respect to departing employees, multinational and even domestic companies tend to freeze their powers within the companies before giving them notice to leave. Lenovo did so when dismissing employees. Prior to a departing employee’s knowledge that he was fired; his company had closed down his account in Lenovo’s local area network to preclude him from entering into the company’s network to obtain any materials.9

However, employees in hi-tech enterprises are often well-educated. They possess relatively high personal qualities, having a rich professional knowledge, expecting open enterprise cultures. The degree of strict confidentiality measure will often affect the opening degree of an enterprise cultures. Many intellectual employees tend to feel suffocated in an enterprise with strict management. Their passion for innovation will vanish if they work passively under the bondage of regulations and systems. Hence, hi-tech enterprises should pay attention to enable their intellectual employees to develop spontaneously a sense of royalty and responsibility toward the enterprise so as to offset the negative effect arising from trade secrets management.

Huawei Technologies Co., Ltd. (Huawei) experienced hundreds of trade secret infringements annually.10 Apart from a few extremely wicked ones, most of them did not go to court. Almost all the hundreds of trade secret infringements happened in its domestic R&D centers. Huawei also has R&D centers abroad. By comparison, Trade secret infringement rarely occurred in the foreign located R&D centers. According to Huawei’s experience, the infringing individuals and enterprises, if being suspected of misappropriation of an enterprise’s trade secrets, will have difficulty surviving in Europe and America for lack of honesty and trust. However, China has not created an environment of honesty and trust. The identification of enterprise cultures depends on the social culture and legal environment. More and more multinational enterprises have set up their R&D centers in China, whereas Huawei moved many of its R&D centers abroad, which is surely attributed to a number of factors. Yet seen from certain angle, trade secret cases reveal not only the culture of an enterprise but also the environment of intellectual property rights, which deserves serious study.

As a corporate legal counsel, I realize from my experience of handling trade secret cases that protection of trade secrets not only is the duties of law departments but also involves enterprise management and even enterprise cultures. This is an interesting finding by a lawyer working in a multinational enterprise.

       1. The first instance civil judgment (2006) of Rosenberger Asia Pacific Electronic Co., Ltd. vs. Li Yong, et al, for Trade Secret Infringement and unfair competition, Zhong Min Chu Zi No.1500
       2. The second instance civil judgment (2007) of the trade secret infringement dispute between Li Yong, et al, and Rosenberger Asia Pacific Electronic Co., Ltd., Gao Min Zhong Zi No.184
       3. Foxconn PK BYD: Are System Files Trade Secrets?
       4. Can Judicial Authentication Settle the Dispute Between “Foxconn and BYD”?
       5. SMT is the shortened form for Surface Mounting Technology.
       6. The Written Authentication of the Key Evidence in Foxconn vs. BYD Disclosed, Dec. 10, 2007
       7. Foxconn Withdrew the Litigation against BYD for Trade Secret Infringement
       8. Chen Qingxiu, Information Security Cannot be Neglected, China Financial and Economic News, Feb. 27, 2008.
       9. Safeguard Enterprises’ Secrets, Sino-Foreign Management, Jan. 3, 2008.
       10. Trade Secret Management in Huawei: Protection of Many Layers, China Business, Feb. 24, 2008
About the author:
       Dong Ying is an IP lawyer with GE Healthcare (China).

                                                                              (Translated by Zhang Meichang)

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