Diminishing Risk of Copycats - In the Western world, the protection of intellectual property is often a key issue in investing in China. For example, in the book "The Chemical and Pharmaceutical Industry in China" (Springer, 2005), a chapter titled "Intellectual Property - The Real Killer Topic" states "China is notorious for its lack of IP protection."

In contrast, this article will argue that despite obvious dangers in this area, the actual risk is diminishing and can be further reduced by a number of protective measures.

First, why is it likely that IP issues have been overrated in many areas and will probably also become less serious with time?

An obvious starting point is that while in the early days of foreign investment, the multinational chemical companies were the only ones owning any notable intellectual property, this situation has now changed. In chemical areas such as batteries (e.g., BYD), fluorochemicals (e.g., Bluestar), and fine chemicals/pharma (e.g., Hengrui Medicine), Chinese companies have their own attractive patent portfolio. In 2010, the total number of patents filed in China increased by about 25% to 1.22 million applications, far above the 480,000 patents filed in the U.S. And with the recent rise in R&D activities of domestic companies, these are certain to be extended.

Politically the trend also seems to go toward a greater protection of intellectual property, as acknowledged by Bayer's China head of IPR, Dr. Oliver Lutze, recently: "The policies generally referred to as ‘indigenous innovation' focus on building an innovative country by 2020. They will likely lead to more efficient IP protection for innovations, which are a key factor to foster investments in R&D."

Furthermore, there have already been cases of domestic acquisitions partly based on intellectual property (e.g., the acquisition of Tiantong Fine Chemicals by Shanghai Huayi in order to get access to the patented benzoguanamine production process) as well as successful court cases of Chinese companies defending themselves in U.S. courts from infringement accusations (e.g., the Sinorgchem-Flexsys case in rubber additives). All these developments will lead to a rapidly increasing acceptance of the system of IP protection in China as it starts to protect not only the interests of multinationals but also of domestic chemical companies. Multinational companies will obviously benefit from this changed attitude toward intellectual property.

Secondly, in chemicals, successful innovation needs to be a continuous process. No company not continuing to innovate for a few years can expect to still have an edge on its competitors, whether or not past innovations have been protected by patents. And continuous innovation is based less on individual pieces of knowledge that can be protected by patents (and thus potentially copied) but rather on a whole body of knowledge accumulated by the R&D work a company has done in the past (including the knowledge of all the research work that ultimately proved to be fruitless and thus never resulted in a patent).

Or to put it differently, if intellectual property is seen not as limited to a specific point in time but rather as stretching into the past and the future, it is much harder to imitate.

Finally, intellectual property is more and more a complex combination of products and services rather than a single formula or blueprint. What makes an iPhone more successful than a mobile phone produced by Motorola arguably is not the technological basis of the product but rather the complex infrastructure added on to the iPhone via apps, design and branding.

Similarly, in specialty chemicals it is not so much the individual chemical formulation that makes a company successful, but rather the capability of this company to select the right product for a specific customer, to adapt the product to customer needs, to know how to produce consistent quality, and to provide customized technical service. Again, such a broader and more realistic view of IP also results in a much lower danger of IP simply being copied by a competitor.

Even though the risk of IP loss in China is often overestimated and in any case decreasing, it is still advisable for companies to take a number of relatively simple precautionary measures. This applies not only to foreign companies but also to established domestic companies as they are at the same risk of losing knowledge to Chinese competitors as multinationals.

Such measures should start with a solid understanding of a company's intellectual property. What kind of intellectual property does the company own, and where is it located within the company? In this respect, intellectual property should be defined broadly - it includes any kind of knowledge item that is not public and may be useful to potential competitors, such as customer lists, staff names, names of suppliers, process knowledge, formulations, specifications of individual raw materials, etc. This should be followed by a prioritization of all items of intellectual property by their value for the company.

Subsequently, measures to protect all or selected parts of the intellectual property should be taken. These may include:

• Limiting the access of staff to IP. In particular, limit the number of staff having access to all relevant knowledge, not just that required for a specific area of work.
• Bringing IP in as a "black box" from outside. This may be from outside of China for multinational companies, or from outside of a production site, for example, for a domestic company. This can apply to mixtures of raw materials, equipment parts or software.
• Using legal measures to keep competitors from using own IP.

Apart from these direct measures, there is a broad range of supporting measures that should also be utilized, for example:

• Creating long-term career plans and incentives for employees with access to IP.
• Establishing good relationships with the local government.
• Limiting the number of production sites.

Admittedly, all these measures will only limit IP loss, not completely stop it. On the other hand, any German or U.S. research chemists leaving a chemical company in their homeland and joining another company nearby will also carry intellectual property with them. In fact, this knowledge is probably the key attraction for a new employer despite legal barriers that may formally prevent scientists from using past knowledge. This has hardly ever stopped a chemical company doing business in these locations.

And the rapidly increasing number of R&D centers in China indicates that even the development of intellectual property in China - rather than just its application - is no longer considered off-limits for multinational chemical companies.