Landmark Decisions Against Former Employees' Unlawful Practices by PRC Courts

Further to our report in January regarding improper trade practices and breach of restrictive covenants by former employees in China, on 19 February 2021, the PRC Supreme People’s Court awarded damages in the amount of RMB160 million against an individual who, together with his current employer, infringed his former employer’s trade secret. This is one of the highest amount awarded among cases of a similar nature. In addition, on 1 March 2021, the Shanghai Intermediate People’s Court published a judgment in which it awarded damages of RMB1 million against an individual who breached his non-compete agreement with his former employer. Though this is not the highest amount for breach of non-compete cases, the amount is substantial among cases that do not include equity incentives in the calculation of non-compete damages and have significant implications on how to determine the amount of damages in similar cases. On 31 March 2021, the Beijing No. 1 Intermediate People’s Court also released a ruling, ordering a former employee to return the received non-compete compensation and pay liquidated damages to her former employer for her breach of the signed non-compete agreement.

These cases continue to show that courts are more ready and willing to award substantial damages for improper trade practices and breach of restrictive covenants by former employees in China. We set out below a summary of these cases and their implications for employers.

The Vanillin Case

Vanillin is a chemical compound added to food and consumer products for its fragrance and flavor. It’s a highly popular flavour compound used globally. Jiaxing Chemicals developed a new technology of producing Vanillin in an efficient way and protected it as a technical secret. This new technology helped Jiaxing Chemicals to become the largest manufacturer of Vanillin and control 60% of the market. Fu Xianggen was Jiaxing Chemicals’ longtime employee and had access to this technical secret. In 2010, he left Jiaxing Chemicals and joined its competitor, Wanglong Group. He disclosed the technical secrets to Wanglong Group. With this new technology, Wanglong Group grew to become the third largest company producing Vanillin in the world within a short time and solicited Jiaxing Chemicals’ clients and markets globally. As Wanglong Group never spent money on research and development, it was able to sell Vanillin at a relative low price, which led to dramatic decrease of market share of Jiaxing Chemicals. In 2018, Jiaxing Company sued the employee Fu Xianggen and his current employer Wanglong Group, demanded they cease infringement and claimed damages.

The first instance court held that Fu Xianggen and Wanglong Group infringed Jiaxing Chemicals’ trade secret and approved an injunction requiring them to cease the infringement and to pay damages in the amount of RMB3.5 million. Both parties appealed. In the meanwhile, Wanglong Group and Fu Xianggen ignored the court’s injunction and continue to produce and sell Vanillin.

The Supreme Court dismissed Fu Xianggen and Wanglong Group’s appeal and increased the amount of damages to RMB160 million jointly. The reasons for awarding this huge sum include: Fu Xianggen and Wanglong Group conducted very serious infringement, the business value of the technical secret is extremely high and they refused to correct their behaviors and did not cease the infringing act after the injunction took effect.

The damages in this case were assessed until the end of 2017 as courts in China do not assess damages after the claims were brought to the court of first instance. However, the Supreme Court especially pointed out that Jiaxing Chemicals may bring new lawsuits against Fu Xianggen and Wanglong Group for further damages and even punitive damages if they continued their infringing activities after 2017. As we reported in January, punitive damages for trade secret infringement were introduced under new laws and regulations that took effect in the last two years, so they were not awarded in the Vanillin case.

Shanghai Court’s Latest Decision on Non-Compete Damages

Sun Xin (Sun) joined Tencent in 2015 as a game programmer. In 2018, Sun renewed his employment contract with Tencent, which had a carefully drafted non-compete clause. On 14 March 2019, Sun tendered his resignation and worked at Tencent until 28 March 2019. On 27 March 2019, Sun signed a notice of non-compete issued to him by Tencent, which specifies the duration of his non-compete to be within one year after his last day. Since April 2019, Sun reported his employment status to Tencent monthly by email, and Tencent paid Sun a monthly non-compete compensation of RMB22,569.36. After 2 months of unemployment, Sun joined Career International, a HR service company in June 2019, and then was arranged to work in Mihayou Technology (Shanghai) Co., Ltd. (Mihayou), as an information system engineer, responsible for the development of Mihayou’s information platform.

On 21 January 2020, Tencent applied to the Shanghai Labor Dispute Arbitration Commission of Xuhui District for arbitration claiming breach of non-compete by Sun. The Arbitration Commission supported Tencent’s claims and Sun filed an appeal against this decision with the People’s Court of Xuhui District.

The court confirmed that Tencent and Mihayou had a competitive relationship and did not refrain from holding that Sun had violated the non-compete obligations by working for a company in competition with Tencent even though technically he was employed by Career International which is not Tecent’s competitor. Notably, the court rejected Sun’s argument that using double the employee’s annual salary as the standard for calculating non-compete was too high, ordering Sun to return the non-compete compensation of RMB157,985.52 and pay liquidated damages in the amount of RMB976,441.28.

Sun further appealed against this judgment but his appeal was rejected by Shanghai No.1 Intermediate People’s Court which upheld the lower court’s judgment.

Beijing Court’s Latest Decision on Non-Compete Damages

Chen Shuo (Chen) was also an employee of Tencent who joined the company on 5 September 2016 as a senior editorial manager. On 3 March 2019, Chen proposed to resign due to personal reasons. Then she signed a Notice of Non-competition with Tencent which specifies a non-competition period from 13 March 2019 to 12 September 2019. Tencent paid a non-compete compensation of RMB158, 917.32 (before tax) to Chen.

Subsequently, Tencent filed a claim with the Beijing Haidian District Labor and Personnel Dispute Arbitration Commission, alleging Chen worked for ByteDance in breach of the non-compete agreement and demanding Chen to refund the non-competition compensation and pay liquidated damages as well as notarization fees. Tencent’s claim was rejected by the Haidian Commission but was supported by the first-instance court and the second-instance court.

Similar to the Shanghai case, Chen was not directly employed by Tencent’s well-known competitor. Instead, she had an employment contract with a consulting company. However, Tencent submitted a notarized video as evidence to prove Chen was actually working in ByteDance, which shows that Chen entered the premises of ByteDance several times in one week, walked around with office documents in hand during business hours and greeted and chatted with different colleagues in lifts for two consecutive days. Chen could not give reasonable explanation with respect to the relevant evidence, so the courts held that though Chen had an employment relationship with another company, it did not rule out the possibility that Chen actually worked for ByteDance (including its affiliates).

The case is worth noting because it made clear that the plaintiffs may use some indirect evidence such as video recording to prove their allegations.

Implications for Employers

• These cases form part of a string of rapid developments in new legislation and landmark decisions in China. They are encouraging to companies that seek stronger protection against improper trade practices and breach of restrictive covenants by former employees.
• Employers should ensure they sign confidentiality and non-compete agreements with their employees. These agreements need to be well drafted to maximize protection under the local legal environment. In addition, employers need to implement internal policies and workplace rules to enhance protective measures on valuable confidential information. This will be relevant when courts assess whether a breach has occurred and the amount of damages.
• For a long time, it has been a common impression that it is difficult for companies to enforce their rights against improper trade practices and breach of restrictive covenants by former employees in China. The latest developments show positive changes, which will likely result in more cases submitted in front of PRC courts.
• For a company that may be hiring employees from competitors, especially those in key technical roles, careful pre-hiring background checks and safeguards such as disclaimer statements against use of improper trade practices and breach of restrictive covenants by new joiners against their former employers would be a good starting point. Not only the company hiring the employee, its legal representative or senior management can individually be held jointly liable for such activities perpetrated by the new joiner.