How to “Go Global” – without Going Broke
After taking the precautions necessary to protect IP on a global scale, companies can “go global” in four ways: (1) export; (2) hiring employees, sales agents or distributors in the foreign market; (3) licensing; and (4) foreign direct investment (FDI). Each method comes with its own unique advantages and disadvantages, technology-specific concerns, and pitfalls.
1. Export
Goods can be exported in three ways: (a) directly, (b) through a sales representative, or (c) through a distributor. Export goods are marketed directly by selling them to customers in a foreign market without outside help.
For an IP-based company, it is imperative that the IP owner has secure its IP rights in the export-destination countries prior to entering into an international transaction. Otherwise, the purchaser might try and establish its own rights locally, which could prevent the true IP owner from further developing the market.
In addition, for most innovation-based companies, an international sale of goods will also implicate the use of IP by the purchaser. For example, if a retailer in Spain buys 1,000 pairs of Nike shoes for resale in its stores, it will likely want to advertise those products. As you might imagine, Nike may have an interest in how its products are marketed in Spain.
2. Employees, Sales Agents & Distributors
US IP owners seeking to do business in foreign countries may wish to create more direct and concrete ties to those countries by placing employees there, engaging local sales representative, or finding a local distributor in the foreign country.
These relationships can help US companies deliver goods and services more efficiently and effectively, tailor products and marketing to local markets, and better implement their sales and development initiatives. At the same time, the increased contact with the foreign market will increase the potential impact of foreign laws on the company’s operations, and can create additional risks to a company’s IP assets.
Employees
To market export goods, an American company could either send its own American employees to the foreign country or hire foreign employees. When a company chooses to hire an employee, it enters an agency relationship. This gives the company an advantage because the law imposes a legal duty on the employee called a “fiduciary duty,” which includes a duty of loyalty that requires the employee to refrain from dealing with the company in a manner adverse to its business. However, when a company hires an employee, it also makes itself liable for the torts the employee commits during the scope of his employment. As an agent, the employee has the power to contractually bind the company, which can be a benefit if the employee is skilled in negotiation, but can be detrimental if the employee has poor judgment. In terms of compensation, an employee gets a salary instead of a commission, which is how sales representatives are compensated. This could produce a monetary gain if the employee is highly efficient and sells more than he is paid, but an inefficient employee would get paid the same amount regardless of his effectiveness. Moreover, hiring a foreign employee requires the company to navigate through a second set of employment laws, which generally favor employees.
If the foreign employee is involved in IP development, foreign laws may result in rather novel IP ownership arrangements. In US law, employers enjoy the protections of “Work for Hire” laws and additional contractual provisions which automatically transfer inventions and developments to the employer. These laws are not the same in other countries. IP owners must ascertain the potential impact of such foreign laws on their IP developed in those countries by their foreign employees.
Independent Contractors
International contractors generally handle one of two functions for US IP-based companies: providing sales/marketing services, or assisting in the development or products or delivery of services. The benefits and risks of each are fairly distinct, but the solution is generally the same: a clear and comprehensive independent contractor agreement.
American companies can also market exported goods through a sales representative, which is a middleman who does not accept delivery or take title to the goods. Sales representatives are paid on commission, which is a benefit to the company if this compensation system acts as an incentive for higher performance. But it could easily encourage representatives to fixate on sales to the detriment of customer service and brand image. Since agency principles do not apply to sales representatives, the corresponding benefits and risks are the opposite of those that accompany hiring an employee. Moreover, unless agreed otherwise, the sales representative does not owe a duty of loyalty to the company, thus making the representative free to simultaneously promote competitors’ goods, and perhaps to share product and strategic information with those same competitors.
Where the independent contractor is involved in the development or manufacture of products or the delivery of services, the primary concern is that the contractor will use the know-how and other IP for its own benefit.
Some Chinese manufacturers hired as contract factories by US companies have registered the US company’s trademarks in China, not so that they could try and sell the brands in China, but to ensure the US company would not be able to hire another company to products its products. Chinese port authorities will not allow trademark-bearing goods to be exported form China unless the exporter is the owner or licensee of all trademarks associated with the goods. Thus if a US company uses a different Chinese manufacturer, the prior Chinese manufacturer who obtained the trademark could prevent the goods from leaving China.
When dealing with independent contractors, the best opportunity for a company to protect its IP assets is to ensure the contract clearly and comprehensively defines its rights and the contractor’s obligations with respect to IP assets.
Of course, agreements must be enforceable to be useful, and the laws of many countries would seem very strange to a company accustomed to the US system that gives significant credence to the principles of freedom of contract between two parties
The laws of the jurisdiction of the foreign contractor often presume an unfair negotiating position between the company and the contractor, who is frequently an individual. As such, the local laws may not enforce key provisions of the contract. Alternatively, if US law and venue are chosen in the contract, these are of little use and effect of the other party is a foreign national with no assets in the US.
Distributors
The final way to market export goods is through a distributor, who would buy the goods, resell them, and keep the margin as profit. A distributor takes title to the product, so it bears the risk of loss and the risk of nonpayment by the foreign purchaser. Thus, using a distributor involves the least risk. The American company would only need one customer and one contract to cover the entire foreign market. This is the quickest, easiest option for the exporter.
However there are also many risks. The company must rely on the distributor’s good faith and financial soundness in fulfilling contractual responsibilities. If the contract gives the distributor the exclusive right to distribute for 50 years and the distributor put in minimal effort, the American company faces the consequences of breaching a contract or stunting the growth of the foreign market. The distributor may not be able to pay the American company for the goods, may go bankrupt, and may breach the contract and sell the goods in a third country, a market that the American company wanted to develop itself. The distributor is entrusted with the company’s brand and given full control of marketing, which is very risky. Moreover, if the company’s goods become extremely popular and sell for much more than the manufacturing cost, the company does not share in the profit margins.
As in the case of independent contractors, the best opportunity for a company to protect its IP assets is to ensure the distribution agreement clearly and comprehensively defines its rights and the contractor’s obligations with respect to IP assets. While foreign laws are often less protective of distributors (who are often companies, themselves) than they are of independent contractors, a US IP-owner is likely more vulnerable to having its IP rights usurped by a more sophisticated and financially viable distributor.
In some instance, a distributor will obtain a trademark registration in its country for the brands and products it buys from US companies and sells in its own country. This could present some significant problems if the US company wished to terminate the distributor, since the distributor – as owner of the local trademark – could stop the US company from using the trademark in that country.
3. Licensing
Another way to go international is to license production abroad by manufacturing through facilities in the foreign market. The primary benefit is access to the foreign market without substantial direct investment in the country.
This method of operating internationally is likely the one with the most obvious pitfalls and concerns for IP-based companies, but it is possible that they overlook some risks and opportunities. For example, if drafted carefully, a license agreement can be structured in such a way so that it actually lowers customs duties.
A technology license is a relatively low-cost way to generate incremental revenue. However, the risks include the possibility that the technology is not applied according to the licensor’s specifications or that know-how and trade secrets are wrongfully disclosed.
As described above, in addition to careful license grafting, IP owners must avail themselves of local IP registration as much as possible. Adequate quality control and effective nondisclosure protection or contractual enforcement are not guaranteed in foreign courts.
In addition, the remoteness of the licensee can often make oversight more difficult, which creates the opportunity for the licensee to underreport sales (thus lowering royalty payments), or to continue using IP after the license is terminated.
4. Foreign Direct Investment (FDI)
The most direct and intimate way for a US company to expand its operations internationally is through foreign direct investment (FDI). FDI moves production overseas, typically under the direct or indirect ownership and control of the entity in the home country. In FDI, companies establish a permanent business base of operations (liaison office, branch office, or subsidiary office) in the foreign country to direct development, production and sales in that region.
FDI faces more challenges and risks than exporting because the business entity is exposed to the foreign country’s market environment as well as its legal, regulatory, and cultural environment. Under FDI, there are three investment options: (a) “Greenfield” investment, (b) mergers and acquisitions, and (c) joint venture (JV).
Greenfield Investment
In a Greenfield investment, the parent company builds or acquires a manufacturing or office facility in the foreign country. Greenfield requires the most upfront capital, and has a steep learning curve, and takes the longest to retain capital, which makes this option very risky. The parent company owns all production equipment, so it must liquidate everything to abandon the project. Of course, the benefits are substantial: the company maintains control of the enterprise and does not have to share profits.
Some of the key risks of Greenfield investment for IP-based companies relate to the hiring and use of local labor to create IP assets, and they way those developments will be viewed by the foreign laws. It is imperative that the company understand the IP and employment laws of the foreign country to ensure that all IP that is crated and used in the foreign enterprise will be owned by the company.
Mergers & Acquisitions
Mergers and acquisitions are another FDI option. Mergers combine two entities, whereas acquisitions require one entity to buy the other. Risks include the difficulties of managing foreign employees, buying the company’s existing culture, and paying a premium for intangibles, which makes this option the most expensive. The benefit is having a facility that is already working, establishing a foreign presence quickly, and having a business entity that is already registered and set up.
Assuming the US company is the acquirer or controlling entity following a merger, the ongoing risks is limited to that described above got Greenfield investment. If part of the acquiring or merger involved IP assets to be obtained from the foreign company, the US company must conduct thorough IP due diligence prior to closing the transaction to ensure it will acquire all necessary IP rights as part of the transaction.
Joint Ventures
An international joint venture (JV) involves a US company and one or more entities entering into a business venture to develop technology, manufacture and sell products, or deliver services in a foreign country. Benefits include sharing responsibilities, costs and expertise among the JV companies. the comparative ease of ending the operation. The risks include incurring liability of the other entity.
A JV can be formed either contractually or equitably. An equitable JV refers to one in which the participants form a new legal entity in which each would own a share. This provides a number of structural benefits for the JV, and the focus is generally on management, each party’s contributions and responsibilities, distributions and divisions of assets upon termination of the venture.
Contractual JVs do not involve the formation of a new entity, but are instead created via contract among the venturers. Contractual ventures are less expensive and time consuming to form, since all that is needed is a contract. Of course, without the legal entity to provide structure, the contract, itself, must be detailed and comprehensive.
Whether equitable or contractual in structure, innovation-based companies involved in a JV should take special care to ensure that all IP issues are addressed through written agreements among the joint venturers. It is common for JV participants to employ a “yours, mine and ours” approach to ensuring that the IP an company brings to the venture remains theirs, and specifies how jointly-developed IP will be handled. With respect to jointly-developed IP, or IP developed in connection with the JV operations, the participants should clearly specify who will own such IP, and, if shared, the limits and rights of each participant regarding the use of the IP.