Contractual Control Over Trademark License to a Chinese Licensee

22 April 2011 Publication

Article

By Danielle T. Brink, Foley & Lardner LLP

This article is part of our Spring 2011 edition of Legal News: China Quarterly Newsletter, Eye on China.

"License" means permission. A U.S. trademark owner (licensor) wants to permit a Chinese manufacturer (licensee) to use its trademark in commerce in China under terms and conditions that would be mutually beneficial to both parties. International trademark counsel — familiar with the trademark licensing business and well-versed in essential provisions of such an agreement and the requirements for compliance with all relevant laws — can be extremely helpful in advising, negotiating, and drafting a trademark license agreement.

Factors to Consider Prior to the Execution of License Agreement

Identify the licensee — use due diligence. Be sure to select an established and reputable manufacturer in a favorable market of China. The selected licensee should have similar goals, effective management, strong financial history and stability, and a proven track record for marketing, sales distribution channels, and industrial relationships that are commensurate with the licensor’s brand. An international counsel can assist the licensor in properly evaluating and selecting a good partner.

Determine availability of a mark in China — perform trademark clearance research. The United States recognizes acquisition of trademark rights based on "actual use" rather than registration. However, in China, trademark rights are established through registration. International counsel can help a U.S. trademark owner conduct trademark clearance to determine whether the mark that is subject to the license is available for use and registration in China.

Register the licensed mark. China is a first-to-file jurisdiction when it comes to acquisition of trademark rights. That is, the first to file and obtain the registration of the mark is the rightful owner in China. Thus, even if licensor has used a particular mark for 50 years in the United States and Europe — and possibly even for a few years in China — the company that was the first to file and obtain the registration in China would be the mark owner in China. Therefore, it is recommended that the licensor begin the process of registering any trademarks that are associated with the license as soon as they begin to consider licensing the mark for use in China.

Be aware of translation issues — obtain broad registration protection. Due to the differences in language and trademark laws in the two countries, a U.S. trademark owner may be surprised to find out its marks are problematic in China once translated or transliterated. For example, the licensor’s mark may have offensive or scandalous meaning; this may require the development of a different mark for use in China. Another translation issue is the possibility that a licensee or third party might translate a U.S. trademark owner’s mark into a different Chinese mark or phonetically translate it into a similar mark, then register the mark as its own trademark. If such marks were both used in commerce, confusion might occur, resulting in possible loss of market share of the licensor. Thus, the licensor should monitor the Chinese Trademark Register for the application of similar marks. In addition, the license should contain provisions prohibiting the licensee from use or registration of marks that are confusingly similar to the licensed marks.

Remove obstacles to registration — develop a tailored strategy. In the event the licensor encounters a prior conflicting registered mark, it is possible to consider purchasing the rights from the prior registrant. There are, however, significant difficulties associated with this strategy. For example, the prior registrant may not be interested in selling its rights or the cost to do so may be prohibitive. Further, the prior registrant may be slow to respond to the licensor’s attempts to negotiate. Under such circumstances, it may be that the selection of another mark is the best solution. It is possible, however, that the prior registered mark is not in use in China, and the registration is vulnerable to a petition to cancel. In this case, international counsel might advise the U.S. trademark owner to file a non-use cancellation petition so that the obstacles of registration would be removed.

Understand license recordation requirements. The United States does not require the recordation of trademark licenses with the U.S. Patent and Trademark Office (USPTO). In contrast, the China Trademark Law provides that a trademark license agreement should be recorded within three months of its execution. There are, however, no penalties for failure to record the license, and the license will be enforceable in China even if not recorded. But there is a practical reason for recording the license agreement. Specifically, Chinese currency, RMB, is not yet hard currency. In order for the licensee to obtain foreign currency to pay the license fees, it has to present the copy of the recordal certificate of the trademark license agreement. Accordingly, many licensors may benefit from arranging for the license to be recorded.

Contractual Control Over the Licensing

Royalty payments. Under U.S. law, "consideration" is required for a contract to be enforceable. The consideration for a licensee is to be entitled to use the mark; for a licensor, consideration may be a royalty payment. When a licensor grants a trademark license in return for royalty payments from its licensee, a royalty amount is usually stated explicitly in the license. Payment of a royalty advance may be required at the time the license agreement is executed. Under Chinese law, however, there is no requirement for "bargained for" consideration to enforce a contract. A mere offer and acceptance is sufficient to constitute an enforceable contract. International counsel can help to specify clear language in the agreement to properly address this issue, which may be contingent upon the choice of law governing the contract.

Quality control. Under U.S. law, quality control is a fundamental element in all trademark licensing agreements. Control is needed because a trademark represents the trademark owner’s reputation for goods and services of a certain level of quality, and consumers rely on this reputation in making purchasing decisions. If a licensor does not exercise sufficient control over the quality of the goods and services offered by the licensee, the trademark may be deemed abandoned. In contrast, although Chinese trademark law requires the licensor to exercise quality control, the law does not directly state the consequences if the trademark owner fails to do so. Given the difference between U.S. law and Chinese law, international counsel can advise the licensor regarding the advantages of including a quality-control provision when licensing trademark rights in China. It is expected that the licensor will be interested in ensuring that products marketed under its mark, whether in China or elsewhere, meet a certain level of quality.

Product liability. Under U.S. law, if a licensee sells a defective product, the licensor may be subject to product liability claims where it participated significantly in the design, manufacture, promotion, and sale of the product. Torres v. Goodyear Tire & Rubber Co., 901 F. 2d 750 (9th Cir. 1990). A licensor can seek to limit exposure to product liability claims by providing for indemnification by the licensee and requiring that the licensee carry product liability insurance in a specified amount naming licensor as the insured party. Similarly, in China the rule of the judicial interpretation of the People’s Supreme Court bridges the link between the enterprise or individual who affixed a mark on products and the manufacturer under the Civil Law and the Product Liability Law. International counsel can advise the licensor on including appropriate indemnification provisions to cover product liability issues.

Conclusion

A cross-border trademark license is likely to encounter conflicts due to the differences in the way the two legal systems address many key issues. International counsel who is familiar with trademark licensing, contract law, and unfair competition law can provide significant assistance in advising, drafting, and negotiating a trademark license agreement. Equally important, such counsel can be extremely valuable in providing needed advice to ensure compliance with all applicable laws.

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