Counterfeit Products

On pp. 71-72 of Business Essentials, 4th Canadian edition, the problem of counterfeit products (knock-offs) is discussed. The problem is increasingly serious, and the International Chamber of Commerce estimates that the counterfeit goods trade may be worth as much as $500 billion annually. According to Interpol—the international police organization in Lyons, France—organized crime groups like the Chinese triad and terrorist groups like Hezbollah have gotten into the business of counterfeiting products because of the high rate of return they can make (about as high as the illegal drug trade). Consider an example: one Vietnamese group in New York imported watch components that cost them about 27 cents to make and then sold them to wholesalers for $12 to $20. The wholesalers then sold them to street vendors for $20 to $30 dollars and the street vendors sold them as Cartier watches for as much as $250. That was still well below the price of a real Cartier watch (about $1,800).

Counterfeit goods are a problem in many different product lines, including perfume, luggage, handbags, pharmaceuticals, designer clothing, shoes, cigarettes, watches, and fine wines, to name just a few. Wine makers, for example, are concerned about the counterfeiting of their products because some of the top names in wine (e.g., Chateau Mouton Rothschild and Penfolds Grange) cost as much as $3,000 a bottle, and this is an incentive to counterfeiters to make a lot of easy money. The counterfeiters buy cheaper wine and then put it in fake bottles with fake labels. Wineries are fighting counterfeiting by embedding microchips in the label that can be read with an optical scanner, and by laser-etching the wine’s name and vintage year into the bottle’s glass.

Canal Street in New York City is famous as a knock-off shopping place. George Arnold—a private investigator who works for New York lawyer Harley Lewin—walked into a booth at 250 Canal Street and asked to look at a Cartier Roadster watch (which normally sells for between $3,400 and $10,000, depending on features). He was offered one for $45, and he bought several of them. Shortly thereafter, Harley Lewin—who represents some of the top consumer products companies—filed a $1 million lawsuit against a number of Asian business people on Canal Street. Now signs are posted on various Canal Street stores warning customers that the stores are not authorized to sell certain brand names. A sign on one store says “This store is not authorized or licensed to sell Louis Vuitton merchandise.”

China is the source of many counterfeit products. The text gives the example of fake Suzuki motorcycles that appeared just a few weeks after the real Suzuki motorcycles became available. The knock-offs didn’t have the quality of the real thing. There are three reasons why so many counterfeit products come from China. First, many North American companies contract with Chinese firms to produce their products because the cost is much lower than producing the product in North America. Unfortunately, after the legitimate order is completed, the Chinese firm may decide to make unauthorized versions of the product and sell them. Second, enforcing intellectual property laws is the responsibility of local administrators in China, and they may be reluctant to shut down a factory making knock-offs that employs hundreds of local people. Third, the idea that producing knock-offs is somehow wrong may not be as widely accepted in China as it is in North America. Some China experts point out that intellectual property laws may be seen by the Chinese as just the latest example of exploitation of China by western countries, and that is why it is tolerated. The government of China says it is trying to deal with the huge amount of counterfeiting that is going on, but it will take time to fix the problem. But some people think the government itself is the problem. When Pfizer launched its drug Viagra in China, it thought it would achieve high sales levels. But the State Intellectual Property Office (SIPO) in China overturned Pfizer’s patent on the grounds that Pfizer had not completely described how the ingredient in the product worked. That ruling opened the door for many small Chinese companies to start selling Viagra knock-offs, and this will reduce Pfizer's hoped-for profits.

The 2008 Olympic Games have presented China with an interesting problem relating to knock-offs. While the country has a reputation as a world leader in counterfeiting, the government of China is cracking down hard on counterfeiting of official Olympic stuffed animal mascots like Jingjing the Panda because it wants to ensure that counterfeiting doesn’t reflect poorly on the festivities associated with the Olympic Games. Retailers are now keeping all sorts of knock-offs hidden from view because government authorities are conducting aggressive searches for counterfeit goods.

While many counterfeit products are sent from China to other countries, shopping for knock-offs in China itself is also very popular with visiting tourists because prices are incredibly low (for example, $10 for a Gucci bag, $15 for a Samsonite suitcase, $7 for a Polo shirt, and $3 for a Rolex watch). While regular tourists are the most frequent purchasers of knock-offs, celebrities are also attracted to counterfeit products. In 2008, for example, Celine Dion was spotted shopping at a knock-off store in Shanghai. She didn’t appear to buy anything because she left the store empty-handed. But a vendor at a nearby store said that since celebrities don’t want to be seen actually buying counterfeit goods, they usually have them sent to their hotel later. Sure enough, nine packages were later received by Dion's entourage.

China is not the only country where counterfeit products are made. North Korea has become a major source of counterfeit cigarettes. The country turns out two billion packs each year, many of which are Marlboros. North Korea has also been accused of counterfeiting U.S. dollars.

The trade in counterfeit goods is harmful to various parties. The most obvious losses are suffered by the companies that have spent a lot of time and money developing brand name goods for sale. Every counterfeit product that is sold reduces the sales revenues of the legitimate producers. Governments are also denied tax revenues because most counterfeits do not pay taxes. Consumers are hurt, too. While it may seem that consumers benefit because they spend very little money for goods that look like the real thing, in fact consumers often pay far too much for counterfeit goods because those goods have very low quality. As well, some counterfeit goods are downright dangerous to use. While a fake handbag simply costs money, fake pharmaceuticals, electrical products, and motorcycles can kill the people who use them. A group of Canadian lawyers is trying to protect some well-known companies like Microsoft, Louis Vuitton, Pfizer, and Nike from the rapidly increasing amount of counterfeit goods that are flooding the market. Michael Manson, an intellectual property lawyer in a Vancouver law firm, has had some success in pursuing counterfeiters. His law firm won a judgment against Richmond, B.C.-based retailer K2 for selling fake Louis Vuitton goods. K2 was fined more than $260,000 for persistently violating trademark laws. Manson’s firm also won a judgment against Carmelo Cerelli's commercial enterprises for selling unauthorized Microsoft software. But Manson says that the Canadian government is not doing enough to protect businesses and consumers. Unlike the U.S., France, and Italy, Canada doesn’t have many famous brand exports, so there aren’t very many businesses putting pressure on the government to crack down on counterfeiters. (The process of tracking down counterfeiters is very complex and time-consuming; see The Wall Street Journal, January 31, 2006, pp. A1, A13 for a detailed description of the process).

There is increasing pressure on the Canadian government to do something about counterfeit goods. The Canadian Anti-Counterfeiting Network (CACN) was formed in 2005 to lobby the government for changes in laws. One outcome was Bill C-59, which prohibits cam-cording in movie theatres. A Montreal man has already been charged with recording a new release movie so he could sell it on the black market. But changes are slow in coming, and other countries (most notably the U.S.) feel that Canada is not doing enough to discourage the sale of counterfeit goods. The U.S. has placed Canada on its official list of countries that don’t do enough to control counterfeit products (the list also includes Turkey, Belarus, Vietnam, and Uzbekistan). Canada is moving slowly toward bringing its laws into conformity with the World Intellectual Property Organization (WIPO).

A new approach to reducing counterfeiting is to prosecute anyone who facilitates the sale of counterfeit products, including landlords (who own the buildings where counterfeit goods are being sold), shipping companies, credit-card companies and others in the supply chain. The argument is that these people are benefiting from the sale of knock-offs, so they should be punished as well. Since many of the small retailers that are fined for selling knock-offs simply don't have any money to pay the settlement, the companies whose goods are being counterfeited are going after members of the supply chain who do have money. One group is wealthy landlords. In New York, for example, some landlords who rented out space to knock-off retailers have been required to help finance the work of court officials who are trying to stop counterfeiting.

There is also a move in some countries to prosecute the consumers who buy counterfeit goods. In France and Italy, for example, it is now a crime to buy counterfeit goods. In France, buyers of counterfeit goods can be jailed for up to three years.

Some companies are also very aggressive in pursuing counterfeiters. Louis Vuitton, for example, has 60 anti-counterfeiting specialists who are always on the lookout for counterfeit Vuitton products. The company sued eBay for selling knock-offs of Vuitton products, and in June 2008, a French court levied a fine of $60.8 million against eBay, saying that it should be doing much more to curtail the sale of counterfeit goods. eBay is appealing the decision, arguing that Vuitton is trying to protect uncompetitive commercial practices at the expense of consumer choice. Tiffany & Co., the high-end jeweler, also filed a lawsuit against eBay, charging that it had ignored the sale of fake Tiffany jewellery on eBay's website. But in July 2008, a U.S. federal judge ruled that Tiffany, not eBay had the responsibility for protecting the Tiffany brand name.

Large firms with famous brand names like Vuitton aren’t the only ones that are hurt by counterfeiting. Consider the case of Robert and Laura Engel, small business owners who make a product called BraBaby, which looks something like a wiffle ball, and is designed to prevent bras from getting tangled when they are washed. The Engel's are battling counterfeiting of their company’s product, and Robert now spends up to four hours a day on the computer tracking Chinese companies that are counterfeiting his product. The counterfeiters are so brazen that they use the company logo and promotional photos which include shots of Laura Engel. Counterfeiters are selling the product for as little as 38 cents (the normal wholesale price charged by Engel is $1.25). Engel has hired a lawyer and has sent cease-and-desist orders to 71 different companies. He even traveled to China to visit the Canton Fair, which is an export trade show. He pretended he was a buyer and immediately found a company—Ningbo Foreign Trade Co.—that was selling a counterfeit version of his product. He went to the Intellectual Property Complaints Office at the Fair to file a complaint, but was told that he didn’t have proper documentation to prove who he was. He also discovered that it takes up to three years to have a product registered in China. Robert has spent about $125,000 patenting his product, but counterfeiters often simply ignore patent guidelines.

Questions for Discussion

  1. How might cultural and individual differences lead to conflicting views about the ethics of selling counterfeit goods?
  2. The production and sale of knock-offs obviously benefits some people—for example, the seller of counterfeit goods and perhaps consumers who get products cheap. But it also hurts others—for example, the legitimate manufacturers of products and consumers who are injured by knock-offs that are faulty. Do you think the benefits of knock-offs exceed the costs, or vice-versa?
  3. Consider the following statement: "eBay should not be responsible for monitoring the authenticity of products that are sold through its online business. The responsibility for that lies with the companies who are worried that someone is selling a counterfeit version of their product." Do you agree or disagree with this statement? Defend your answer.

Sources: "EBay Quashes Tiffany Trademark Suit," The Globe and Mail, July 15, 2008, p. B6; "The End of Louis Vuitton on eBay?" (accessed July 29, 2008); Maureen Fan, "China’s Olympic Turnabout on Knockoffs," The Washington Post, June 13, 2008, p. A1; Aileen McCabe, "China’s Knock-Off Shops Help the Rich Scrape By," Winnipeg Free Press, April 19, 2008, p. C19; Daryl-Lynn Carlson, “The Costly Reality of Fakes,” The National Post, December 5, 2007; Daryl-Lynn Carlson, "Canada’s IP Protection Laws Soft," The National Post, December 5, 2007; Paul Waldie, "Court Clobbers Store for Selling Vuitton Fakes," The Globe and Mail, November 26, 2007, p. B3; Jonathan Cheng, "A Small firm Takes On Chinese Pirates,” The Wall Street Journal, July 5, 2007, pp. B1-B2; Stacy Meichtry, "Swell or Swill?" The Wall Street Journal, August 10, 2006, p. B1-B2; Alessandra Galloni, "As Luxury Industry Goes Global, Knock-Off Merchants Follow," The Wall Street Journal, January 31, 2006, pp. A1, A13; Alessandra Galloni, "Bagging Fakes and Sellers," The Wall Street Journal, January 31, 2006, pp. B1-B2; Gordon Fairclough, "Tobacco Firms Trace Fakes to North Korea," The Wall Street Journal, January 27, 2006, pp. B1-B2; Jeff Sanford, "Knock-Off Nation," Canadian Business, November 8-21, 2004, pp. 67-71; Shawn McCarthy, "Crackdown on New York’s Canal Street," The Globe and Mail, August 30, 2004, pp. B1, B11.