e.Digital Corporation (fka EDIG)

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OT Watching for Chinese knock-offs

While theft of IP is rare, chip and EDA companies remain wary of piracy in burgeoning Chinese market

By Kitty McKinsey -- Electronic Business, 1/1/2003

Sections:
Mysterious calls from afar
Take a global view
Bad judgment
Patent or trade secret?


"EDA software is most certainly being copied, and once you have the software, you can make a chip from it."
—Barry Marsh, vice president of product marketing, Actel Corp.


You just have to take a few steps inside China—across the border from Hong Kong into the Lo Wu shopping center that sits right on the Shenzhen border crossing—to make your first acquaintance with China's legendary brand-name pirates. In seconds, you'll be bombarded with offers of fake Rolex watches, pirated CDs and above all computer software. Professional-looking bootleg Microsoft XP packages were available even before its official launch in Hong Kong. Indeed, 92% of the software sold in China in 2001 was pirated, says the Business Software Alliance, a Washington DC-based trade association.

And watch out—it's not just consumer software any more. Semiconductors and the electronic design automation (EDA) software needed to design chips are fair game, too. "EDA software is most certainly being copied, and once you have the software, you can make a chip from it," warns Barry Marsh, vice president of product marketing at Actel Corp., a Sunnyvale, CA, supplier of programmable logic.

The extent to which the Chinese are stealing chip designs and EDA software is difficult to measure. Some say it's still a limited problem because of the sophistication of the technology. But most in the industry are convinced it's a potentially serious problem.

The Semiconductor Industry Association knows of two recent cases of mask-work violations in China, where counterfeit chips were made for consumption in China, says Daryl Hatano, vice president for public policy at the SIA in San Jose. Hatano says the counterfeiters may not have tried to ship them abroad because the "intellectual property (IP) holders have the right to ask customs authorities to seize pirated goods at the border, so the pirate runs a risk in shipping illegal goods into foreign markets."

Counterfeiting of chips or stealing EDA software still appears to be rare in China. "It's still very difficult to master that type of technology," says Chiang Ling Li, partner in the IP practice at international law firm Baker & McKenzie's Hong Kong office. "Usually, the piracy is of consumer-type products that they can sell on the street." Mei Yin Lim, partner in the IP technology practice at Perkins Coie LLP law firm in Hong Kong, agrees. "If anyone is stealing technology like that (EDA software), it's probably a very sophisticated, intelligent operation. You're talking about industrial espionage."

Mysterious calls from afar
Theft of IP associated with semiconductors takes three forms: overbuilding (where a factory makes extra copies of a licensed product and sells it on the black market), reverse engineering and cloning. Actel's Marsh admits that "now and then we get mysterious calls from various parts of the world from people who want to buy preprogrammed Actel parts with a certain consumer code, and they are not that consumer. When they want 10,000 copies of a part number that wasn't theirs, we can only speculate that [they don't want them] for research." Some of the calls, he says, are "sinister—your competitor wants to reverse engineer. Sometimes someone is just trying to make a buck by copying your design without even understanding how it works." Such calls set off the alarm bells at Actel, and the parts are not shipped, he adds.

Since EDA software is expensive—costing $100,000 or more—the incentive to copy it is high. And once a company has designed a chip using the software, the resulting netlist can be delivered to a foundry that has no idea it's based on pirated software.

Cadence Design Systems Inc., San Jose, one of the largest EDA suppliers, says it hasn't had many problems with IP theft in China. "Piracy in our own market space is not as serious as commodity software," says Chris Ho, marketing director for Asia Pacific in Hong Kong. He emphasizes, however that "we are always very concerned about software piracy." The EDA market in China still is relatively small, so piracy likely would be detected quickly. "We know most of our customers and we understand what they are doing." Cadence also protects its expensive products with a sophisticated licensing system that requires a key—which must be renewed periodically—to activate the software.



"One Chinese factory could counterfeit six or seven brands. It's better if companies share their information and combine forces to get a better result."
—Jack Clode, managing director of the Hong Kong office of Kroll FactFinders



What piracy exists is likely driven by outside demand rather than originating in China, says Jack Clode, managing director of the Hong Kong office of Kroll FactFinders, the IP unit of the international risk consulting company Kroll Inc. For example, a foreign company may bring a netlist based on stolen software to a Chinese manufacturer. "If a China-based semiconductor company is building chips off pirated designs, they're innocent bystanders," says Actel's Marsh. Tim Bennett, a policy expert with the American Electronics Association (AeA) in Washington, DC, agrees. "Some of these back-alley operatives—there's no way they are going to have these designs. Somebody's got to be feeding it to them. Not that this exonerates them, but there are non-Chinese partners feeding the system."

Take a global view
In fact, Clode advises aggrieved companies to tackle IP theft as a global problem, not just a Chinese issue. One case of consumer-goods pirating he recently pursued for a Western company involved a factory in China, financing from Taiwan, shipments to India through a trading company registered in Hong Kong and on to Panama and then to the end market, Brazil, where the loss of profits was being felt, he notes. By taking legal action in Taiwan, China and Hong Kong and conducting raids in Panama, Kroll was able to help the company restore its market share in Brazil. Just closing down one offending factory in China would have simply shifted the problem, not ended it, he adds.

The good news for foreign companies is that IP protection is improving in China, stimulated in particular by the country's accession in 2001 to the World Trade Organization (WTO). As part of its preparation to join the WTO, China enacted a law that specifically protects semiconductor designs. Effective as of Oct. 1, 2001, China's Regulation on Integrated Circuit Layout Design Protection meets the general requirements of the agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS), a broader international treaty within the WTO. Nevertheless, the SIA is concerned that Chinese officials are interpreting the law to cover only ICs and not discrete semiconductors, says Hatano.

Even though specific protection for ICs is now on the law books, it's not yet thoroughly backed up by enforcement. "At the national level, there is the political will to fight corruption with respect to IP," says Li at Baker & McKenzie in Hong Kong. "The system is much better on paper, but we don't expect enforcement to improve to international standards overnight. Certainly it's a big improvement even to have this law on the books." That's because of the high level of corruption in China's judicial system.

China is unusual in that the first avenue of redress is administrative, through authorities who have the power to make raids, seize counterfeit goods, impose fines and put infringers out of business. Court action comes only if an IP rights holder is not satisfied with the administrative remedies.

The administrative authorities can now issue a preliminary injunction very quickly, says Li. Baker & McKenzie has handled cases of trademark violation where evidence was presented to local Chinese authorities one night, and a raid on the suspected pirate factories took place the next morning, she notes.

Bad judgment
But some are not so sanguine about the Chinese judicial system, which is riddled with corruption. Even judges who don't take bribes may rule in favor of a local pirate factory over a foreign IP rights holder in order to save Chinese jobs, says AeA's Bennett. "In terms of getting good legal and regulatory infrastructure in place, China has made great strides. But the key is enforcement. There, the jury is still out," he says.

Industry insiders agree that China has made significant progress in combating piracy of all sorts. "The progress I have observed in the past two or three years is very big," says Jun Tan, president of ARM China, a division of ARM Holdings Plc, Cambridge, UK, which provides embedded microprocessor designs. "Even the piracy of electronic gadgets has come down." However, "it will take some time to get the message (that IP should be protected) from the top down to the bottom," he notes.

Most observers agree that what's most needed in China is education to instill respect for intellectual property. Until recently, many Chinese manufacturers felt anything on the market was fair game for duplication. In the three or four cases of IP theft of its own products that Cadence has come across in China in the last two years, it has managed to convert all the pirate companies into license-holding customers. In one case, it compelled the offending company to take out advertisements in Chinese newspapers admitting it had been using pirate software, but was now using the genuine article, says Ho. "We are not trying to embarrass our customers," he adds. "We want to raise the general awareness that people need to respect IP." Lawyers agree that making an example of infringers—particularly in as small a universe as the chip business in China—is an effective tool to combat piracy.

What other steps can companies take to protect their IP in China? The first step is deciding whether to register your product in China under one of the many forms of protection (for patents, trademarks or copyrights) to lay the groundwork for any eventual administrative or judicial remedies. "Even these big companies are sometimes behind in their registration of patents and trademarks," says Clode at Kroll. "Be sure you're covered in all these relevant jurisdictions."

Patent or trade secret?
Although IC layout and design are now protected under Chinese regulations, lawyer Lim at Perkins Coie warns that Chinese patent protection can be a double-edged sword. "When you patent it, you have to put all your information into the public arena," she says. "In a way, this can make it much easier for your competitors to find out how it's done. But you do have strong protection for the next 20 years." The alternative, Lim says, is to keep your invention a trade secret. Li at Baker & McKenzie agrees you may want to "lock it up. Limit the number of people who have access and make them sign confidentiality agreements."



"The progress I have observed in the past two or three years is very big."
—Jun Tan, president, ARM China





Clode also advises doing due diligence on your Chinese partners before you even start doing business in China, so you don't find the engineer you've trained disappearing, only to set up a counterfeit shop six months later. AeA's Bennett agrees: "Try to know the people you hire. Keep an eye on them." And expect that any mass-market product "is probably going to be stolen and counterfeited," he adds. "The best chance for success is doing custom work."

ARM China tries to protect its IP by working closely with Chinese foundries, and placing the IP in the foundry, not in the customers' hands. "If you want to use it, you come to the factory and you have to be licensed," says Tan.

Clode also advises chip companies to talk to each other about problems they may be having with IP theft. "One Chinese factory could counterfeit six or seven brands. It's better if companies share their information and combine forces to get a better result."

The best protection, however, may be the development of high-tech industries in China itself. Not only is China luring more and more Western companies to do significant research and development in the country, it also is breeding home-grown design centers. "The more important factor at work is China's interest in encouraging and protecting its domestic technology industry," says Lim at Perkins Coie. "The whole movement to protect and develop technology in China will be of benefit to foreign technology as well. You can't just protect Chinese rights without protecting foreign rights."

Cadence's Ho agrees that Chinese self-interest will be a decisive factor in protecting IP. "When people's revenue and income depend on IP, the level of awareness and respect for IP will increase."

Kitty McKinsey is a freelance writer formerly based in Hong Kong. Reach her at [e-mail] .


U-R-Linked
http://www.actel.com/products/security

Actel Corp., maker of antifuse FPGAs, has its own Web site devoted to security issues, including frequently asked questions about semiconductor security.

http://www.bakerinfo.com/BakerNet/Places/Asia+Pacific/
Regional+Site/Description/default.htm

Asia Pacific Web page of international law firm Baker & McKenzie, including IP and technology practices.

http://www.krollworldwide.com

Site for international risk consulting company. Its IP subsidiary is Kroll FactFinders. Includes links to offices in China (Beijing and Shanghai) and Hong Kong.

http://www.perkinscoie.com/pracarea/china.htm

Perkins Coie law firm represents companies conducting business in Asia and the Pacific Rim and specializes in technology and IP issues. This site takes you directly to their China practice.