China’s New Foreign Investment Law and Intellectual Property Protections

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How the new Foreign Investment Law will change intellectual property rights for foreign companies in China

Today’s post is a more academic look at how the new Foreign Investment Law will change intellectual property rights for foreign companies in China.  There has been a veritable flurry of announcements from the Chinese government regarding new IP protections for foreign companies and many commentators believe these changes are part of China’s efforts to avoid a decoupling with the West.

We tend to believe these announcements are part of China’s efforts to dictate that nearly inevitable decoupling on its own terms and we are skeptical that they will make IP protections any better for foreign companies.
Hannibal’s position is more nuanced and part 1 of his paper follows, with part 2 coming up tomorrow.

Overview of foreign direct investment (FDI) protections for intellectual property rights (IPR) in mainland China.

Key Points:
  • Three distinct layers of FDI protections for IPR exist simultaneously in China. Specifically, Chinese domestic law, international investment law — mostly through Chinese Bilateral Investment Treaties (BITs)— and WTO protections under TRIPs.
  • Chinese domestic law, itself, is undergoing an historic overhaul with the launch of the new Chinese Foreign Investment Law (FIL). This overhaul will further segment FDI IPR protections available under Chinese domestic law by specifically providing foreign investors with remedies for expropriation by Chinese authorities. This overhaul will maintain and build on substantive BIT protections against expropriation and domestic remedies under China’s existing IP laws. However, it may delay investor access to investor state dispute settlement (ISDS) procedures due to a new “working mechanism” under the FIL and relevant “fork in the road” clauses.
  • Chinese BITs protect IPR in varied but overall similar ways. Although Chinese domestic law is, broadly speaking, TRIPS compliant, depriving a foreign investor of their IPR in a way that violates TRIPs could allow that investor to properly file an ISDS claim under a Chinese BIT. For example, if China issues a compulsory license over medical patents (as India has done in the past), and said license violates TRIPs, an ISDS claim may be permissible under the language of China’s model BIT.

IPR protection for foreign investors lies at the heart of the much-publicized China-US trade war. In response to the deluge of criticism on this point, China is steadily reforming its IPR regime. Most notably, on January 1, 2020, China’s new FIL comes into force, ushering in what many foreign investors hope to be greater standards of protection for IPR than ever before.

However, many questions remain for foreign investors investing in China. Under domestic Chinese and international IPR law, there is great uncertainty over what substantive rights and remedies foreign direct investors have over their IPR in China. Regarding their procedural rights and recourses, there is a pervasive lack of confidence with Chinese courts and many investors prefer to bring their claims against private parties to courts of arbitration, and when claims are against the Chinese state, to ICSID for investor-state dispute settlement (ISDS) proceedings under a Bilateral Investment Treaty (BIT). Finally, the role of TRIPs and the WTO in protecting the IPR of foreign direct investors is unclear, particularly where compulsory licenses over patents are concerned. While intended to help assuage investors, the simultaneous existence of these three separate layers of IPR rights and recourses, domestic FDI law, BITs, and TRIPs, provides many investors with more questions than answers.

This brief provides an introductory overview of these three layers of IPR FDI protections and how they interact.

FDI Reform: the New National Statute Will Overhaul Current FDI Protections for IPR

Previously, there were no explicit expropriation protections for IP in China.

However, that changed with the culmination of a highly anticipated reform in Chinese foreign investment law on January 1, 2020. The Foreign Investment Law of the People’s Republic of China (the FIL) replaces the three laws which previously governed foreign investment in the country: the PRC Law on Sino-foreign Equity Joint Ventures, the PRC Law on Wholly Foreign-owned Enterprise and the PRC Law on Sino-foreign Cooperative Joint Ventures.

The FIL explicitly provides protection to foreign investors from state expropriation, and ensures compensation for their losses in the result of an eventual expropriation. Under FIL Article 20, “The state expropriates (征收) no foreign investment”. The law continues: “It may, under special circumstances, expropriate (征收) or requisition (征用) the investment of foreign investors in the public interest according to the provisions of laws. Expropriation and requisition shall be conducted under statutory procedures, and fair and reasonable compensation shall be made in a timely manner.” In addition to these protections, the FIL affirms the authority of local governments to add additional layers of expropriation protection for the benefit of investors. Under Article FIL 18, it is stated that: “local people’s governments at or above the county level (县级以上) may develop further foreign investment promotion and facilitation policies and measures within their existing statutory powers.” Conversely, when developing regulatory documents involving foreign investors (外商投资的规范性文件), under Article 24 local governments are not permitted to “derogate from the lawful rights and interests (不得减损外商投资企业的合法权益) or increase the obligations of foreign-funded enterprises (或者增加其义务).” For additional certainty, under Article 25 local governments are also required fulfill their policy commitments (政策承诺) to foreign investors. Such commitments may only be changed in the national or public interest, and upon such change the foreign investor will be compensated for their losses.

Where IPR are concerned, infringers will be held strictly liable for infringements of foreign investors’ IP. Under FIL Article 22, “The state protects the IP rights of foreign investors and foreign funded enterprises, and protects the lawful rights and interests of owners of IP rights and relevant right holders; and for infringements of IP rights, strictly holds the infringers legally liable according to the law” [emphasis added]. Administrative agencies are also singled out by the FIL: Article 22 continues “[n]o administrative agency or its employee may force the transfer of any technology by administrative means”, and in Article 23 the FIL binds them to keep trade secrets confidential. Where an employee of an administrative agency divulges such secrets or otherwise abuses their power, Article 39 highlights that they will be subject to disciplinary action, up to and including criminal liability.

The FIL Overhaul Will Maintain and Build on Existing BIT Protections Against Expropriation and Domestic Remedies Under Existing Chinese IP Law

The FIL allows investors enjoying rights under treaties, such as BITs, to maintain their protections under said treaties, even where they are more favourable. The last paragraph of FIL Article 4 features a proviso on this point. It provides “pre-establishment national treatment” (i.e. no less favourable than that accorded to domestic investors), and moreover establishes that, “[w]here any international treaty provides or agreement concluded or acceded to by the People’s Republic of China provides for any more favourable treatment in respect of access of foreign investors, the relevant provisions of that treaty or agreement may apply” (可以按照相关规定执行). It is not certain whether the use of “may apply” refers to discretion on the part of the investor or Chinese authorities. However, the structure of Article 4 (the proviso is at the end of the article, contrasting with the preceding paragraphs about the negative list) together the overarching purpose of the FIL, “protecting the lawful rights and interests of foreign investors” suggests that discretion would lie with the foreign investor.

This would mean the new FIL would not be used to deny existing treaty rights to access the Chinese market, even if that that treaty is inconsistent with the negative list. This is consistent with paragraph 142(2) of the General Principles of Civil Law of the People’s Republic of China, which provides that where domestic laws apply to dealings with foreigners, the provisions of an international treaty to which the PRC has acceded will supercede Chinese domestic legislation. Moreover, the Regulations on Some Issues in Handling Foreign-related Cases (1987) states that in a conflict of laws between Chinese domestic law and an international treaty, the treaty prevails. Finally, Article 13.1 of China’s Model BIT (discussed below) provides that where domestic legislation improves the rights of foreign investors, the BIT will not derogate from such rights. Nevertheless, some Chinese scholars maintain that the legal effects of international agreements are limited by the level of authority ratifying said agreements. Although rejected by some pre-eminent scholars, confusion remains as to whether international treaties have a direct effect and take precedence over domestic law without further constitutional clarification.

Chinese BITs Protect IPR in Varied but Overall Similar Ways

IPR is explicitly included as a protected investment under Chinese BITs. In Article 1 (Definitions), paragraph (d) of the latest China-Uzbekistan BIT (the Model BIT), protected investments include “intellectual property rights, in particular copyrights, patents, trade-marks, trade-names, technical process, know-how and goodwill.” This BIT is of special relevance because in lieu of a model BIT, MOFCOM issued a draft Model Agreement on the Reciprocal Promotion and Protection of Investments in 2010, most of which was adopted by the 2011 Model BIT between China and Uzbekistan. The oldest Chinese BIT on record with UNCTAD, the China-Kuwait BIT, also adopts this definition of asset in this same paragraph 1(d), suggesting continuity of practice.).

If the country in which your company is incorporated has a BIT with China, it may benefit from robust IPR protections which are actionable through ISDS. By way of a brief overview, all of China’s BITs enumerate IPRs as protected assets in paragraph 1(d). However, the content of these paragraphs vary. Some paragraphs are short, like the BIT with Poland, which concerns only “copyrights, industrial rights, technical process, and know-how.” Others, like the Portugal BIT, are longer and include trade names, good-will, and business secrets. Finally, some Chinese BITs, like the one with Jordan, link the definitions of IPRs to international conventions, like WIPO agreements.

Note that in Article 2.1 of the Model BIT, investments are subject to authorization under local Chinese law. The scope of investment links directly to the way in which an investment is made, through the language “[e]ach Contracting Party shall … admit such investment in accordance with its laws and regulations” (previously, “subject to local law”). In other words, investments which are not proper under Chinese law, or properly approved by the Chinese government, are disqualified from being considered an “investment” and cannot be applicable under the BIT. This interpretation was applied in previous investment caselaw, specifically Inceysa Vallisoletana v El Salvador and Fraport v Philippines. In Inceysa, the tribunal ruled that El Salvador’s consent to ICSID jurisdiction did not extend to investments made fraudulently (i.e. against domestic laws) and in Fraport, jurisdiction was declined on the basis that the claimant had not made its investment “in accordance with the laws of the Philippines.”

Depriving a foreign investor of their IPR in a way that violates TRIPs could give that investor an ISDS claim under a Chinese BIT

In practice, proper compulsory licenses will be excluded from expropriation claims under a BIT. This is typically provided for in a clause which disallows ISDS claims against losses resulting from compulsory licenses when their issuance is “consistent with the international obligations of Parties under the WTO Agreement [i.e. TRIPS].” As a result, in practice and in the context of investment treaty arbitrations for compulsory licenses, the issue of a treaty breach will often turn on whether or not the compulsory license was granted in accordance with the requirements of the TRIPS Agreement. In the case of China, the specific proviso mentioned in this paragraph (on compliance with the WTO Agreement) does not exist under its model BIT. The closest such clause is Article 13, which provides that a contracting party’s pre-existing legislation or international obligations which provide treatments more favourable than the BIT will not be affected by the BIT. Article 13 interacts, in this respect, with paragraph 3, Article 6, which clarifies that “measures adopted … for the purpose of general welfare, such as public health, safety and environment, do not constitute indirect expropriation.”[4] While less specific, these provisions are likely to have the same effect as the above described clauses, and ensure that TRIPs-compliant measures, like compulsory licensing for medical patents in the event of a healthcare emergency, do not expose the Chinese government to an ISDS claim.

It is another question, however, whether China can exclude liability under its BITs if an eventual compulsory license is found to be TRIPs non-compliant. The above described exclusion clauses are common in Indian IIAs (India is a TRIPs outlier, having issued several compulsory licenses in the past). India’s compulsory licenses were litigated through domestic courts and may be litigated under ISDS in the near future. In one case, Novartis AG, a Swiss pharmaceutical company, developed “Glivec”, an anti-cancer drug. After applying to have its patent registered in India (in what some described as an attempt to “evergreen” its anti-cancer drug patent), the Indian patent authorities rejected Novartis’ application. Novartis appealed and brought the case before the Indian Supreme Court, which rejected Novartis’ claim. It is conceivable that, having exhausted its options, Novartis could bring an IIA claim under the Switzerland-India BIT. This would set a precedent for ISDS, through ICSID, cannibalizing TRIPs dispute resolution, which is officially done through the World Trade Organization Dispute Settlement Understanding. While less likely, it is conceivable that a similar situation could arise if China decides to issue a compulsory license of its own over a foreign investor’s patent.

Both China’s FIL and BITs contain “Fork in the road” Clauses

China’s model BIT contains a “fork in the road” clause regarding ISDS, which allows investors to choose ISDS or domestic courts. This clause, Article 12.2 of the Model BIT, requires the potential claimant to either choose a local court, resort to ICSID, UNCITRAL, or other arbitration to resolve the dispute where the matter cannot be settled within six months. Where the claimant wishes to pursue international arbitration, China may require the investor to exhaust domestic administrative review procedures beforehand (final paragraph, Article 12.2). This clause has been “substantially watered down” in recent BITs like the one with Germany, whereby a claimant may withdraw their dispute from the Chinese court process and submit it directly to international arbitration.

Similarly, the FIL contains its own “fork in the road” clause. This clause, Article 26, gives foreign-funded enterprises or their investors the options of bringing disputes concerning administrative action to a “working mechanism” (投诉工作机制) for complaints, begin an administrative lawsuit, or pursue both options simultaneously. Article 32 of the Draft Regulations on Implementation of the FIL (the Draft Regulations) describes the role of this “working mechanism”, which is to “analyze and summarize the typical and general problems” facing foreign-invested enterprises or their investors, and to “promptly make suggestions to the people’s government at the [corresponding] level” to strengthen and improve the foreign investment environment.

Additional clarity on the FIL’s working mechanism may come from sub-national jurisdictions. For example, on September 18, 2019, the Shanghai Municipal People’s Government issued its interpretive opinions (the Shanghai Opinions) on the new foreign investment law (the first such sub-national opinions of this kind). In paragraph 23 of the Shanghai Opinions, the government tasks the Municipal Intellectual Property Office with improving the rapid rights protection mechanism of IP protections for foreign investors and enterprises, and it also, as set out in the FIL, establishes a complaint mechanism for foreign investors (Shanghai Opinions, para 26). Furthermore, Article 19 calls for the establishment for a “working mechanism” to optimize the rule of law to further protect the rights and interests of foreign businesses, with the responsible unit being the National Development and Reform Commission. While sub-state adoption is not a requirement for the FIL to have legal effect, it does signal that the jurisdiction is ready to welcome the reform by providing the investment industry with detailed provisions and additional legal certainty in this area.

China’s FIL and BIT “Fork in the road” Clauses May Prejudice Recourse to ISDS

Depending how these two “fork in the road” clauses interact, the length of time preceding an investor’s eventual recourse to ISDS may either be maintained or prolonged. Under Article 12.1 of the Model BIT, disputes must be “as far as possible” settled amicably through negotiation, and only after six months of failed negotiations can an investor begin other proceedings under Article 12.2. If the FIL’s working mechanism does not count as negotiation under Article 12.1, this may delay the required six months of tolling that precedes proceedings under Article 12.2. At the same time, an investor exercising their rights under the FIL’s Article 26 to immediately bring an administrative court action (rather than wait six months) would, under Article 12.3 of the Model BIT (“the choice of one of the four procedures … shall be final”), waive the investor’s right to bring an ISDS claim. Recall that under the final paragraph of Article 12.2, the state may require an investor to “exhaust [its] domestic administrative remedies procedures” prior to initiating international arbitration.

Because of the language in Article 12.2, the ways in which “negotiation” and “domestic administrative remedies” apply to the FIL working mechanism are extremely important. If the FIL working mechanism constitutes a domestic administrative remedy for the purposes of Article 12.2, its use by investors is mandatory should they wish to eventually pursue ISDS. This thereby delays an eventual ISDS claim. Note that investors who benefit from the BIT’s above described “watered down” “fork in the road” clause, such as German investors, will not face this issue. Moreover, if the working mechanism does not constitute “negotiation” under Article 12.2, an investor must first exhaust its remedies under the working mechanism and then negotiate for six months — all the while refraining from any administrative court action — before it can initiate an ISDS proceeding. If these two “fork in the road” clauses interact in this way, the FIL may ultimately prejudice an investor’s rights under a BIT to timely compensation. This is particularly sensitive where the asset at issue is an IPR.

Damages for Expropriation Under the FIL are Unclear, Whereas Compensation Under China’s BITs Follows the Hull Formula

In the FIL and the Draft Regulations, there is no provision for how to calculate compensation. Compensation is only described as “fair and reasonable … made in a timely manner” (应当及时给予公平、合理的补偿) in Article 20 of the FIL and Article 22 in the Draft Regulations.

Regarding compensation for expropriation under its Model BIT, China does not explicitly accept the “Hull Formula” but rather a variation thereof. The Hull Formula calls for “adequate, prompt, and effective” compensation. Instead, the Chinese provision, in the model treaty’s Article 6(4), calls for compensation “equivalent to the fair market value of the expropriated investments” made “without unreasonable delay”, and that is “effectively realizable and freely transferable.” Although different from the Hull Formula, this language is almost identical to the Australia-US Free Trade Agreement (AUSFTA), which concords with the Hull Formula’s line of cases, and as a result does not sever Article 6(4) from these cases.


China has improved its IPR regime by leaps and bounds. It has acceded to almost all IPR multilateral treaties, expanded its list of BIT partners, and agreed to open itself to ISDS claims by foreign investors.

Now, it intends to usher in a new era of FDI IPR protections with the new FIL. For rights holders under BITs, this will maintain and build on substantive BIT protections, but depending on how it interacts with BIT “fork in the road” clauses, it may prejudice ISDS timelines. For investors who do not benefit from a BIT, the FIL is expected to transform the protections they have over their IPR in China. In the case of patents, TRIPs will continue to play a role, either in determining whether an investor’s state can initiate a dispute with the WTO DSU, or whether an investor can initiate an ISDS claim under a BIT.

The details of the interplay between the FIL, China’s BITs, and TRIPs will become clearer in the future. Specifically, it is possible to see how a future successful ISDS claim might manifest itself by observing (1) future developments in ISDS IPR awards, (2) Chinese IPR and foreign investment legislation, and (3) influential Chinese IPR and FDI caselaw.

The above post was written by Hannibal El-Mohtar, a Canadian lawyer who completed his first year of practice at Borden Ladner Gervais LLP’s Toronto office where he assisted BLG’s international trade practice with import-license review, expiry review, and white collar criminal law. Hannibal is currently pursuing an LL.M at Peking University. 
This post relies on and credits research from the following: