Does Engaging Employee liable for Non-Competition Constitute Infringement in China?

(By Yue Mengyan) An employee violates non-competition clause in his previous labor contract with his former employer, and works for a new employer, which has a competitive relationship with his former one. Could the former employer claim the new employer to be liable for such infringement, in addition to the employee’s liability for breach of contract? Pursuant to relevant laws and regulations in China, we will introduce a case and make our analysis in the following.

Case Introduction:

Appellant (defendant of first instance): Liu Guoqing

Appellant (defendant of first instance): Beijing Qingke Houcheng Technology Ltd. Company (the “Qingke Company”)

Appellee (plaintiff of first instance): Beijing Ji’ao Juhe Technology Ltd. Company (the “Ji’ao Company”)

Court of first instance: Beijing Haidian District People’s Court

Court of second instance: Beijing Intellectual Property Court

Liu Guoqing entered a labor contract and the non-competition agreement with the Ji’ao Company, and then acted as the position of CTO. Upon the termination of their labor contract in 2013, Ji’ao Company paid compensation to Liu Guoqing subject to the non-competition agreement. However, Ji’ao Company found that Liu Guoqing owned stocks and worked in Qingke Company, which is competitive to Ji’ao Company, in violation of the obligation of the non-competition agreement. Therefore, Ji’ao Company filed a suit, requesting Liu Guoqing to refund the compensation paid by Ji’ao Company, undertake the liquidated damage and assume joint liability for the losses with Qingke Company.

The court of first instance determined the following: firstly, Ji’ao Company is competed with Qingke Company. Then even although Liu Guoqing didn’t own the shares of Qingke Company directly, his behaviors and motivation was in doubt for his father being the shareholder of Qingke Company. Based on the above-mentioned determination, the Court determined Liu Guoqing eventually being the actual shareholder and participating in the operation of Qingke Company. Qingke Company should be aware of Liu Guoqing’s non-competition, and thus its recruitment as CTO damaged the legal rights and interests of Ji’ao Company. Therefore, the court of first instance judged that Liu Guoqing shall refund the compensation paid by the Ji’ao Company and Liu Guoqing and Qingke Company shall assume jointly liabilities for Ji’ao Company’s incurred economic losses.

The court of second instance determined the following: Qingke Company was familiar with Liu Guoqing’s working experience. On one hand, Liu Guoqing didn’t disclose such information to his former employer Ji’ao Company, and on the other hand, Qingke Company should have investigated or noted to his former employer while it didn’t engage in such investigation or notice. Therefore, Qingke Company should, which was deemed to have known the non-competition agreement by and between Liu Guoqing and Ji’ao Company and still engaged him as CTO, in violation of acknowledged business ethics and principle of good faith, be liable to Ji’ao Company. The court of second instance dismissed the appeal and sustained the original judgement.

Lawyer Comments:

1. Could a competitive company be liable for infringement of non-competition in unfair competition lawsuit?

The obligation of non-competition between employee and employer is based on their contract. Subject to the principle of privity of contract, the new employer is not the subject of their contract and therefore the new employer is not liable for the breach of contract. However, besides the breach of contract, employee’s violation of non-competition probably infringes the trade secrets and other protectable interests of former employer at the same time. In this case, the new employer may constitute a joint infringement, and then the former employee could file an unfair competition lawsuits incurred from such infringement.

2. How to define whether the new employer constitutes infringement?

Should the new employer assume the joint responsibility with the employee who undertakes the non-competition for the former one? It has not been clearly regulated by laws and regulations yet. In an unfair competition lawsuit, judging whether the new employer bears the infringement liability shall be confirmed by the invalidity of the new employer’s acts. That is, it shall be determined on whether the new employer violates recognized business ethics and the good faith principle stipulated in Article 2 of the Anti Unfair Competition.

In this case, Qingke Company knew the work experience of Liu Guoqing and the competitive relationship with Ji’ao Company. From the perspective of reasonable duty, Qingke Company should have further verified and investigated Liu Guoqing’s non-competition obligation to Ji’ao Company, but it failed to do these. The acts that the new employer should know or clearly know the non-competition liability of the employee but still engaged him, which violated the principle of good faith and basic business ethics, should be determined as unfair competition.

3. There exists legal risks when the former employer files an unfair competition lawsuit against the new employer.

In this case, although the claim of Ji’ao Company accepted by the Beijing primary court, under the similar experience in Shanghai courts, only the new employer that infringed the trade secret or other interests of the right holder could constitute unfair competition. Therefore, there exist some risks by method of unfair competition lawsuit if the new employer only engages the employee with non-competition. Trade secret infringement tactics should be more suggested.

Lawyer Contacts

You Yunting86-21-52134918

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