Xiaomi shake-up

The January day that I visit Xiaomi’s headquarters on the north side of Beijing is a cold one – the first snowfall of the year begins as I eat lunch with members of the IP team in a nearby shopping mall – and the air pollution is heavy. One topic which comes up again and again is the difficulty of living in Beijing. A fair number of the team have relocated to the city to work for Xiaomi or Zhigu, the company which it recently absorbed. They have come from a range of places, including Shenzhen, Canada and the US West Coast, and almost all describe the career move as a big bet – not just on the future of Xiaomi, but on the future of intellectual property in China.

Having spent more than two decades working on third-party defences as a lawyer for Qualcomm, Sean English knows how to spot a good in-house IP team. His role saw him assist more than 60 different Qualcomm customers, many in Asia, in dealing with patent assertions and licensing offers. So his move to Xiaomi in 2016 – despite the fact that he had been considering retirement – is a strong vote of confidence. “I can tell when a group is shell-shocked or over their heads technically,” English tells me. “Everything I’ve seen about this team spells winner.”

English says that he had always wondered what it would be like to help guide the IP strategy of a young company trying to survive in the cutthroat cellular industry and Xiaomi certainly fits that profile. Once an obscure start-up, it sold more smartphones in China in 2014 and 2015 than anyone else, generating a serious buzz both at home and abroad and drawing frequent comparisons to Apple, which CEO Jun Lei appears to have encouraged. Even as it became apparent that growth was slowing somewhat, Lei told the Wall Street Journal: “The competition might be too bloody, too bitter for others. For me, it had better get bloodier.”

And it has. According to research firm IDC, Xiaomi’s shipments in China dropped by about 36% in 2016 as it fell behind Apple, Huawei and upstarts Oppo and Vivo. However, the firm also saw big growth last year in India, where its 2016 revenue topped $1 billion and a recent survey revealed it as the most desirable smartphone brand among local consumers. With Lei having admitted that the company grew too fast in its early years, the aura of unstoppability may have dissipated somewhat. However, talk to the people running the company’s IP strategy and it becomes clear that they are dedicated to building something more lasting. And they are confident that they have Lei’s backing to do this.

Employee number one

Haibing Wang received a call from Xiaomi near the end of 2011; by early 2012 he had become the company’s first IP-focused employee and moved his family to Beijing. He says that the decision to leave his position as head of intellectual property for a NASDAQ-listed tech company called Xunlei was based on his belief that China’s mobile industry would be a crucially important part of the IP world.

The launch of Xiaomi’s first handset, the Mi1, six months earlier had generated 300,000 pre-orders. At the time, the company’s headcount was fewer than 300 and the legal department consisted of a single attorney. However, Wang relished the start-up atmosphere: “On my first day it got to be 9:00pm or 10:00pm and almost everyone was still at their desk.” He recalls the sense that “you were under a spotlight, with the whole country focused on you”.

Yet despite this sense of excitement, Wang knew from experience that it is never easy to get resources for intellectual property in an early-stage start-up. His direct manager was the company’s then-chief financial officer – from the beginning, IP strategy was overseen by a C-suite executive and kept discrete from the rest of the legal function. Wang spent much of his first month meeting with people across the company, including Lei and the other founders, to learn about Xiaomi’s operations. “In most companies, in-house IP departments spend money,” Wang points out. “So from the beginning, I approached the top executives as clients and tried to learn what they need.”

He spent about four weeks preparing an initial IP strategy, drawing on his experience working at Foxconn (“the best place to learn about intellectual property”) to analyse Xiaomi’s intellectual assets and its risk environment. He also looked at what companies such as Huawei, Qualcomm, Apple and Google had done at similar points in their histories. Finally, he narrowed his pitch down to 20 slides, which he presented directly to Lei. “I approached it as if I were re-interviewing for my job,” he recalls.

The strategy had short, medium and long-term components, but its basic message was that Xiaomi could not afford to ignore patents. In order to build an IP portfolio, Lei should invest significant resources in generating more patents in-house and acquiring third-party intellectual property. It also made clear that the company’s IP push would not be all about conflict. Wang was all too aware that there were a lot of companies out there with big mobile patent portfolios. “We don’t need all of them as enemies,” he told his bosses.

Xiaomi’s IP department, responsible for the company’s in-house patent filings. The team is led by director Haibing Wang (centre), who joined as the first member of the IP function in 2011

A Chinese NPE

Around the same time that Wang was preparing Xiaomi’s first IP strategy, the CEO of Kingsoft – the software company founded by Lei – approached Intellectual Ventures (IV) executive Paul Lin and asked him whether he would be interested in moving back to China. Hongjiang Zhang had taken over Kingsoft when it became clear that Lei would need to focus on Xiaomi full time – Zhang and Lin had worked together when the former headed Microsoft’s advanced technology centre in Beijing. The idea was to co-found an IV-like entity in China.

Helping out Xiaomi was part of the plan from the beginning. “Zhang wanted a start-up based on advisory and investment which in future could help Xiaomi through a client relationship,” explains Lin. Though intrigued by the project, Lin had lived in the United States for 20 years and wanted to be sure that this move had long-term potential. Several trips to Beijing in 2012 to meet with Lei and others active in the IP market convinced him that China was on the verge of big changes. “You just felt that there was underlying movement towards better IP protection in China,” Lin recalls, “and the most important factor was that local technology players were booming”.

It was this feeling more than anything else which led to the 2012 creation of Zhigu, headed by Zhang and Lin. “I wouldn’t say I was overly optimistic about the aggregator itself, but I was betting on the big direction of intellectual property in China,” Lin recalls. There was also the fact that the new entity could count on immediate backing from Xiaomi, Kingsoft and Shunwei Capital (a venture firm in which Lei is a founding partner). Lin acknowledges that it was something of a risk for Xiaomi to publicly back what was essentially an NPE, but points out that savvy investors such as Lei look at the people first. “We started out very patiently, with the goal of building the right team and portfolio. Down the road, we would be able to provide sufficient protection for Xiaomi.”

The Zhigu team grew to around 25 people with a mix of backgrounds in R&D, law and business. Over the course of two years, the company was able to use investor money to generate a patent portfolio of over 1,500 assets, through both acquisitions and filings. In 2014 it raised an IP acquisition fund in a bid to operate on a bigger scale. Beijing’s Haidian District government and Zhongguancun tech park invested, alongside private companies such as TCL. Heading into 2015, Lin remembers that Zhigu was even starting to attract some overseas interest, with western companies approaching the fund for potential investments. But by the end of 2015 it had become clear that the task of supporting Xiaomi’s overseas market entry was more urgent than ever.

Warning shot

The first major wake-up call came in December 2014, when an Indian court hit Xiaomi with an injunction just five months after its phones had gone on sale in the country. Plaintiff Ericsson told the court that it had spent three years trying to negotiate a patent licence with Xiaomi, to no avail. The following month Xiaomi was able to start selling phones again on the condition that it deposit Rs100 ($1.57) with the court for each device it sold. The case is still pending.

By this time, the company’s indigenous IP growth strategy was well underway. It had filed 2,700 patent applications in 2014 and would file 3,600 more the following year. However, these would afford little help in the litigation and licensing disputes which were suddenly becoming urgent. Negotiations with licensors and acquisitions of in-force third party rights were more vital than ever.

Xiaomi’s headquarters in Beijing’s Haidian District. The company topped China’s smartphone sales leaderboard in 2014 and 2015

In July 2015 a new executive was brought in to assume responsibility for the IP function. Xiang Wang had been president of Qualcomm Greater China when he joined the leadership team as senior vice president for strategic partnerships. “He is in charge of our intellectual property. We should be able to make progress in this,” Lei said at the time. Lin confirms that during the early part of his tenure, much of Xiang Wang’s time was spent on IP-related business.

It was then that a Xiaomi-Zhigu merger was first tabled. While Zhigu acted as an independent service provider to Xiaomi, it had been able to assist with aspects such as risk management and patent acquisitions. However, licensing was a different matter. “A licensing negotiation requires decisions about business trade-offs, so it’s very difficult to manage if you’re not an employee in charge of the negotiation,” Lin notes. That dynamic – along with confidentiality issues – made it harder for Zhigu to advise Xiaomi effectively on licensing matters.

Lin had built up a team he trusted. He recalls that Zhigu’s services were attracting interest from a wide range of companies, but when Xiaomi management was convinced to take over Zhigu, there was no hesitation on his side: “There’s a Chinese saying, ‘Give me a drop of water in the desert and I’ll return a spring to you.’ I appreciated Xiaomi being the first investor in Zhigu and I had a personal desire to help the company succeed, so we made the deal happen.”

The building where Xiaomi’s IP strategy department is located. The group moved over in 2016 when the smartphone maker acquired IP fund operator Zhigu

Coming together

Today, Xiang Wang still oversees the Xiaomi IP team, but in addition to his IP and supply chain portfolios, he is now in charge of Xiaomi’s whole international business. That leaves less time for hands-on IP work, although he does have three units reporting to him. Haibing Wang, as director of the IP department, leads the in-house IP generation effort with a team of about 35 focused on prosecution. Almost all of Lin’s Zhigu team made the move over and make up Xiaomi’s IP strategy team, with him taking the role of vice president of IP strategy. A litigation team led by Sun Bin, a former head of intellectual property for display maker BOE, is taking shape as well.

The strategy team’s two primary focuses right now are licensing and acquisitions. Teams concentrating on these two areas are supported by a tech team comprising PhDs in various R&D fields, as well as a patent evaluation team made up of legal experts. “Whether you buy, monetise or file new patents, you need to have three competencies,” opines Lin. “You have to understand the technology aspects, the legal aspects and also the business components of a deal and mix them together.” English believes that the team’s relative youth and technical brilliance make it stand out: “They are young and smart and know it all… They take the gnarliest equations and dive right in where those of us who’ve been out of school for a long time might hesitate.”

Microsoft’s China headquarters in Beijing’s Zhongguancun District. In one of the IP strategy team’s first accomplishments, a 2016 cross-licence deal saw Xiaomi acquire 1,500 Microsoft patents and agree to pre-install Microsoft software on its products

Crisis licensing

When Xiaomi formally acquired Zhigu through a share purchase agreement recorded in February 2016, Lin’s first priority was to make some progress on the licensing front. Previously, licensors had approached the company with terms, saying simply that this was a final agreement. Looking over all of these offers, Lin realised that the company was facing a life-and-death struggle. “The amount we had in the licensing pipeline was staggering,” he recalls. “It effectively would have taken out a large portion of the next couple of years’ worth of profits; we could not have afforded it.”

Believing that the many licensing requests could quickly turn into litigation, Lin’s teams first focused on building a process to manage potential aggressors. “Our priority was risk mitigation,” Lin explains. He stresses that in negotiations, the company is very pro-intellectual property and likes to work with licensors. However, he points out that it also needs to consider what terms will allow it to build a sustainable business. “The more successful we are,” he points out, “the more royalties the licensor will collect.”

Lin also agreed with Haibing Wang’s earlier assessment: Xiaomi needed allies. “The moment I walked into Xiaomi, I started negotiating with Microsoft,” he reveals. The deal, which wrapped on June 1 2016, was a major statement of intent for the new IP strategy team and contributed significantly to both of its major initiatives – minimising the licensing burden and acquiring valuable third-party intellectual property. In addition to a cross-licence, Xiaomi received 1,500 patents from Microsoft’s portfolio and agreed to pre-install Microsoft Office and Skype on its Android phones and tablets.

The IP strategy team operates as a separate business unit and thus has its own financial goals. Lin points out that licensing is crucial to the bottom line not only for major licensors such as Microsoft, but also for companies on the other end of the scale, which do not always consider intellectual property a business unit ‒ unlike Xiaomi. “If we do a smart deal instead of a bad deal, we effectively make money by securing the same IP rights with a lower and more reasonable cost,” he adds.

Acquisition rolls on

Meanwhile, on the acquisition side, the work continues apace. Zhigu consulted on some of the previous third-party patent acquisitions made by Xiaomi, such as its purchase of US patents from Broadcom in 2016. Acquisitions for Zhigu or its fund – known as Ruichuan – were largely mobile focused, given Xiaomi’s status as its largest investor. The acquisition work carried out by the Zhigu team has always been highly product focused. Patent acquisition manager Glenn He notes: “From my perspective, the valuation of patents is very different from what I did while working at Techinsights. We are looking hard not just at the patent itself, but at how it really fits back to where the company wants to go.”

Director of patent acquisitions Shi Wei says that a couple of years ago, many brokers were unfamiliar with Zhigu or Xiaomi. This is no longer the case. The acquisition team shows me a spreadsheet recording the hundreds of approaches they have received which are at various stages of consideration and negotiation. Just a small percentage end in a sale. I asked Wei whether Xiaomi would stop hunting for large 1,000-plus portfolio acquisitions following its alliance with Microsoft; his reply was, “Not if the right deal comes along.”

English, who helps to analyse potential acquisition targets, says that the company’s approach is right out of the basic playbook. “Every portfolio has lots of filler and a few key patents. You only need one or two to hit to be taken very seriously in court. But you’ve got to have a big portfolio; everybody counts patents.”

With many of the most urgent licensing issues now under control, the team has begun taking a closer look at what will happen with the patents amassed by Zhigu and its Ruichuan fund, which also has external investors. Lin has confirmed that Xiaomi will inherit Zhigu’s status as general partner of the fund.

Members of Xiaomi’s IP strategy team enjoy a day away from the office. Almost all of the team members stayed on when Zhigu was acquired

Becoming an industry voice

It is clear that Xiaomi is seeking to become a more active voice in the IP industry. The company has a pro-IP message which is backed up by the resources it has devoted to IP talent and IP accumulation. However, it is also keen to ensure that companies on the licensor side understand some of the unique pressures of the Chinese product environment.

“We of course respect IP rights, but we cannot afford to make unreasonable deals that would jeopardise our long-term sustainability,” argues Lin. He describes unreasonable licence proposals as a poison pill, asking: “Why do a deal that will eventually lead us to an unsustainable position?” Xiaomi has joined other Chinese companies such as Huawei in calling on licensors to recognise the unique market conditions in China and account for them in their business models.

No surprise, then, that Xiaomi publicly supported patent pool operator Via Licensing’s recent announcement that it would introduce region-based rates for its AAC pool, effectively giving a discount on royalties for devices sold in emerging markets such as China and India. Members of the licensing team say that Via first approached them with its normal licensing offer, but came back with what they considered a more reasonable scheme after discussion. “It was Via’s initiative, so give them credit for taking that step,” Lin points out. “Our thinking is, if you can get others in line, we’re happy to pay the same. But if the rate is reasonable and we feel there’s value for us, we’re happy to be an early adopter.”

Xiaomi’s IP strategy team. Back row (from left): Glenn He, Yajuan Wu, Bei Wang, Jana Shi, Chenhao Gao, Shuang Cheng, Bing Hu, Ning Xu, Hui Zeng, Na Wei, Ran Xu. Front row (from left): Wei Shi, Paul (Peng) Lin, Lin Du

In addition to local considerations, Lin argues that licensors need to consider how tech has evolved. “Ten years ago, no single chip was powerful enough to embed all video compression functions onto it,” he points out as an example. “So people who made electronics were adding a software package to handle video compression. Then, you could argue that the technology is handled at the point when the original equipment manufacturer is putting everything together. But today, the chips are so powerful that most of the essential video compression functions are embedded on them.” Lin believes that a much more efficient licensing model could be implemented which would allow everyone to pay the same amount, at the same time. But he admits that old habits die hard: “It’s easy to keep doing the same thing.”

Another area in which the company wants to have a stronger voice is standards setting. Xiaomi established a standards team within the last year to work towards contributing to global standards in the wireless field. You can bet that it will be a vocal advocate when it comes to standards-setting organisations and IP policy as well – Lin recently joined the corporate advisory group of the Institute of Electrical and Electronics Engineers Standards Association to do just that.

Risk and reward

Observers have long speculated over Xiaomi’s potential launch in European and North American markets, but for now it looks likely that the company will continue to focus on core jurisdictions China and India as it pursues a more sustainable model of growth. Given recent developments in Asia, the litigation risks are still acute for Xiaomi; but Lin is confident that it can steer clear of disruptive lawsuits going forward. He notes that the company has gained more experience in handling litigation effectively in India and other countries outside China where it conducts business.

Many IP practitioners might also worry about what slowed revenue growth means for the company’s investment in intellectual property. However, everyone at Xiaomi is confident that the highest levels of management – up to Lei himself – appreciate the long-term strategic value of intellectual property. “There isn’t any choice,” English points out. “You can’t do cellphones without taking intellectual property deadly seriously.” Lin agrees, arguing that management “deeply understand that to maintain their competitive edge, they have to invest in R&D”.

Meanwhile, there is no sign of any slowdown in the number of patents being generated within Xiaomi. Haibing Wang says that he benchmarks the portfolio after studying his company – number of projects, number of R&D staff – and comparing it to the world’s top tech companies, not just China’s. What he sees Xiaomi engineers turning out gives him a lot of confidence: “I’m still excited every day. The passion of our team is really what gives the company its spirit.” English believes that it is what sets Xiaomi apart: “It feels amazing to be part of a young team that wants to conquer the world.”