21 April 2004—From the outside of its gleaming headquarters in Shanghai, China's high-tech zone, Semiconductor Manufacturing International Corp. (SMIC) looks as if it's humming along with the production and sale of microchips. In addition to its two 200-millimeter-wafer fabrication plants in Shanghai that produce 49 000 wafers per month, China's biggest foundry recently acquired another fab in the northern port city of Tianjin and plans to open a 200-mm fab in Beijing later this year.

While production may be going well, SMIC's legal matters are another story. Last month, the world's biggest foundry and the world's largest contract chip maker, Taiwan Semiconductor Manufacturing Co. (TSMC, Hsinchu), released detailed evidence to support its U.S. federal court lawsuit claiming that SMIC stole technology and trade secrets by luring away key employees, who were pushed to disclose proprietary information.

The evidence included eyewitness accounts and technical verification after an analysis of SMIC chips. One e-mail submitted to the court requested a then-active TSMC employee to steal TSMC process flows, process targets, and equipment types. "Sorry for the long list, but we need a lot of material to set up the new operation," the SMIC corporate officer wrote, according to TSMC. A representative of SMIC who spoke on the condition of anonymity refused to deny or comment on the accusations. "We will defend ourselves in court. We don't want to 'engage in a smear campaign'," the spokesperson said using the Chinese word for engage in a smear campaign.

The charges brought against SMIC seem at first glance to be yet another case of a Chinese company ripping off intellectual property from an overseas competitor. But, in fact, SMIC is known within electronics circles in East Asia as largely a Taiwanese company headed also by U.S., Italian, Japanese, and Korean nationals. Still, the alleged infringement by SMIC, which also has support—financial and otherwise —from the Chinese government, brings up all the difficulties of combating intellectual property violations in China.

China's entry into the World Trade Organization, in Geneva, was supposed to be the impetus for the world's most populous country to clean up its notorious copycat goods—ranging from the latest Hollywood DVDs to contraband Hewlett-Packard Co. servers. Experts say that despite a tough outward stance to respect intellectual property rights, China has done a less than spectacular job in actually helping high-tech companies safeguard their patents and trade secrets.

Chinese laws and courts that are supposed to protect intellectual property are still weak, experts say. Judges are often retired military people with little legal education. And without a database of judges' past rulings, lawyers are left guessing how one might rule on a particular case. What's more, while China has several laws on the books that companies can use to prosecute those who illegally pass on trade secrets, the problem with those laws is that they're "confusing as to defining what a trade secret is," says Alan Adcock, a lawyer in Shanghai for Rouse and Co. International, an intellectual property consultancy. Although a draft of a trade secrets law exists, the National People's Congress, China's version of a legislature, has been sitting on it. The law is expected to pass in a few years, and should make it easier for lawyers to prosecute trade secret violations, says Adcock.

If, in fact, a foreign company does decide to sue in China, however, the outcome of the case may not be to its liking. "It's an inherently political system," says Clive Jones, an associate at Technology Forecasters Inc. of Alameda, Calif., and the author of a report called "The Chinese Challenge, Intellectual Property (IP) in China Manufacturing and Markets." Small to medium-size foreign companies that have little political clout "are highly vulnerable," Jones says. Original equipment manufacturers are in a better position, because they spend millions lobbying the U.S. government, which can exert pressure on China.

Some foreign employees allege that China turns a blind eye to violations to help its nascent domestic industry develop First World technology. "The government wants local companies to be able to engage in reverse-engineering," says one engineer of a foreign firm near Shanghai. "The Chinese don't have the capabilities yet, and the government wants them to catch up."

Other experts point out that less than a generation ago, Japan, Korea, and Taiwan—then developing countries—were all known for the same kinds of violations. "To encourage a capitalist structure, you need a Wild West best-man-wins structure," says Rouse's Adcock.

Indeed, technology transfer and innovation often occur more easily in a laissez faire system, says John H. Barton, a law professor at Stanford University in California, who is part of the United Kingdom's Commission on Intellectual Property Rights. "California has more lenient laws [regarding employees working for competitors] than the [U.S.] east coast," Barton points out. "And the positive is that you get new linkages of new ideas."

Rather than relying on the Chinese government, companies are using other means to guard their patents and secrets. Though the alleged violations took place in China, TSMC sued SMIC in U.S. District Court of Northern California, San Francisco, instead of going through any local court. One TSMC employee, who wanted to remain anonymous, admitted that "part of the reason" that TSMC sued in the United States rather than in China was China's lack of intellectual property enforcement. TSMC spokesperson J.H. Zheng adds that taking action in the United States means that TSMC can effectively block SMIC's entry into the U.S. market, which is still more valuable than the sales that could be generated in China.

Court cases like TSMC's battle against SMIC can be an arduous process, even in the U.S. legal system. Cisco Systems Inc., for example, sued the Chinese company Huawei Technologies Co. last year for making identical routers. Cisco and Huawei have continued to negotiate since the case was suspended in October for one year, though Cisco has been able to block Huawei's entry into the U.S. market, say experts. But Daniel J. Brody, an independent consultant based in Beijing, says that the fact that SMIC is being sued is one indication that China's semiconductor industry is becoming a force to reckon with: in a dog-eat-dog sort of environment, "it's a compliment to their skills."