Why Is IP Infringement Acceptable If You’re A VC?

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Every time I write about Chinese Net companies and their recent efforts to crack down on intellectual property infringement, I inevitably get emails and comments that say “Yeah, they’re cleaning up their act now, but they built up their companies/traffic by granting access to illegal MP3s/videos/books.”

The question is, in other words, where’s the justice for so many years of bad acts?

My usual answer is that at some point, you have to let these things go. Sure, we can dwell on all that past IP infringement, but since there is no realistic way of forcing these sites to cough up damages for all that infringement, what’s the point is complaining about it?

But I saw something today that made me think of a related issue. Think back on China’s big portals, video file sharing sites, social media giants, online commerce sites, etc. Quite a few of them received venture capital (VC) funding, foreign and/or domestic, at one point or another.

And when these sites were roundly accused of ripping off IP owners, where was the criticism of the VCs? Yes, I’m sure someone out there at some point was shouting about it, but it didn’t seem to change any industry habits, did it?

Why is it that investors get a free pass?

Here’s some food for thought from the Signature9 blog:

Exhibit A of why Silicon Valley needs more women in the venture capital arena – at the very least during due diligence: Chinese online retailer Milanoo recently sent out a press release {via Tech Crunch} announcing a multi-million dollar investment from the Chinese arm of Sequoia Capital, one of Silicon Valley’s largest and most well established venture capital investment firms.

[ . . . ]

The problem? A sizable portion of the merchandise on Milanoo is comprised of designer replica items and out and out ripoffs of everything from Christian Louboutin and Manolo Blahnik shoes to Cate Blanchett’s lavender Givenchy Golden Globes dress and Kate Middleton’s blue Issa engagement dress.

The fashion industry is way out of my comfort zone, so let’s assume for the moment that all that information is true and that Sequoia has invested in a company that is a known infringer.

Let’s further assume that Sequoia is aware of this activity. I see that the blogger who wrote about this is being nice, starting off the post suggesting that perhaps the VC needs more help with due diligence.

I’m not buying that for a second. I worked at a law firm that did projects for Sequoia, and I can confirm that due diligence is part of the standard process. Moreover, if there was large-scale IP infringement going on, that’s something that would be mentioned in a DD report, unless the law firm in question is totally incompetent.

So I’m going to assume that all this is known to the VC. And yet they went ahead with the investment anyway. Why? Because the IP infringement is simply another business risk. The VC thought about the chances of the site getting in trouble, when the company plans to cease the infringing activity (if it even has plans to do so), and the timeline of the VC’s anticipated exit strategy (public listing or buyout). In the end, the VC thought the risk was worth it.1

I’m sure that the standard excuse is that the VC, or perhaps an angel investor, comes into these deals with plans to help the Net firm clean up its act. Or to put it another way “We’re not profiting on IP infringement, we’re getting on board with the express purpose of ending the IP infringement.” Maybe on occasion, particularly with late stage funding prior to a listing, but there are a whole lot of other VCs out there that are happily making lots of money off of IP infringement.

Just a question then: why are these guys allowed to do this sort of thing repeatedly with no negative consequences? They are enabling large-scale IP infringement, and even if the target company at some point gets into trouble, the VC never faces any direct negative repercussions from all this. Worst thing that happens is that their investment loses value.

Is this a problem or is everyone OK with this?

  1. FYI, IP law with respect to the fashion industry is tricky, so in the end, it’s possible that the perceived risk was fairly low. []

5 responses on “Why Is IP Infringement Acceptable If You’re A VC?

  1. deldallas

    I think most PE and VC firms would say, ‘in any country, we play by the enforced rules, we don’t determine or pass judgement on what should and shouldn’t be enforceable rules.’

    …Everybody who participates in the chinese economy is an implicit supporter of the ccp’s strategy.

    1. Stan Post author

      I would argue with your contention that weak IP enforcement is a deliberate “strategy” of the Chinese government.

      Aside from that sure, you’re right that investors participate in economies as they find them. On the other hand, we’re talking about a purposeful investment of a company whose business model relies on IP infringement, which is illegal in most countries in the world.

      If a US company put money into an Afghan opium firm, would that be OK too?

      1. deldallas

        I’m not saying or meaning to imply that any firm’s behavior is or isn’t “OK” here.
        I think a lot of professionals in developing countries (investors or otherwise) habitually perform activities that are immoral, albeit without legal consequences, and personally, I’m not OK with that.

        In response to your question, I (1) don’t think it’s morally OK and (2) don’t think it’s businesswise OK because many of the US company’s limited partners or shareholders would not want to be associated with the investment because of moral, legal, and reputational concerns.

        I think your question to me points out a couple of things: (1) PE and VC firms that I know won’t invest in things that they believe will violate their LPs’ sense of morality and (2) I think US citizens honestly don’t feel that strongly about IP protection except when it hits their or their government’s wallet — we all tape-recorded our favorite movies back in the 90s, we all used Napster, and I’ve seen plenty of US (and European) citizens buying ripped DVDs in Shanghai/Suzhou/elsewhere. …Narcotics, on the other hand, trigger a very different reaction. If you’re playing an illegally-downloaded mp3 while shooting up heroin, it’s probably the heroin that’s going to concern your friends.

        1. Stan Post author

          “If you’re playing an illegally-downloaded mp3 while shooting up heroin, it’s probably the heroin that’s going to concern your friends.”

          LOL. True enough, and your point is well taken!

  2. Old Eyes

    Well, to drag the IP/drug analogy farther: if I believe that smoking, using, growing, or promoting marijuana is fine, then as an investor I will have no problem investing in marijuana (after looking at the risks inherent in it being illegal and therefore me losing my investment). In the same way, if I think that the music companies and film companies overstep their rights and that the Internet is doing away with the old notions of what IP is, then I will have no problem investing in a company that, by today’s standards, violated IP rights.