‘Tis the Season to Counterfeit

Chairman William Killgallon of toymaker Ohio Art is expecting his company’s stocking to be filled with lumps of counterfeit goods this holiday season.

Killgallon isn’t happy about it. Ohio Art, which sells about $37 million worth of playthings such as Etch-a-Sketch tablets and the Betty Spaghetty family of dolls, has spent millions over the years battling counterfeiters. His expensive conclusion: he can’t win.

Copy cats in China and elsewhere in Asia have “gotten so good, they can knock off a product in 30 days, right down to the packaging,” says Killgallon, who has found Etch-a-Sketch rip-offs on toy retailer shelves throughout the U.S. next to his own product.

The counterfeiters keep getting more sophisticated. The same product lifecycle management technology that allows manufacturers to rush products to market and react to demand quickly helps of knock-off artists clone products quickly.

As if that’s not frustrating enough, try building systems to combat counterfeiters. The choices:

  • Hire brand protection outfits such as Boston-based GenuOne Inc. and Isotag Technologies of Addison, Texas, which cost hundreds of thousands per year;
  • Throw professionals at the problem, using investigators and lawyers to hunt down counterfeit traffickers, paying them hundreds of thousands or even millions of dollars per year; or
  • Accept fakes as the price of admission in a global economy, spend nothing upfront and hope it won’t hurt sales.

    The last may be as effective as the first two. Despite spending millions on technology and manpower and some anecdotal success, manufacturers can’t quantify their efforts’ impact on the bottom line.

    To truly thwart fakes, companies preemptively put people where counterfeiting might occur. Toss in the vagaries of international intellectual property law and corruption among local officials and pursuing offenders is a challenge at best, hopeless at worst

    “We spent a lot of money on going after [counterfeiters],” says Killgallon. “And we can’t do anything about it in China. It’s a mess. Even if you can get the courts there to shut down, say XYZ Company, they just change their name to ABC Company and go back to doing the same thing next week.”

    Killgallon says Ohio Art controls the supply chain for its Etch-a-Sketch by using a limited number of U.S. component suppliers as the exclusive source of materials for its Chinese assembly plant. If the plant were to order more materials from the raw materials provider than required, Killgallon would hear about it.

    Although Killgallon says Ohio Art has a long-standing relationship with its Chinese manufacturer “built on mutual trust,” he admits he can’t prevent other manufacturers in China from copying his product, despite patents and trademarks. “And (U.S.) Customs has been little help,” he says. “They’ve never stopped a shipment [of counterfeit product] for us yet.”

    At least Ohio Art isn’t alone. Counterfeiting is rampant in the toy and game industry, especially overseas. The Toy Industries of Europe(TIE) trade association estimates one of every 10 toys sold in Europe is a fake.

    Meanwhile, toymakers aren’t the only ones getting Grinched by counterfeiters. The worldwide market for counterfeit merchandise—everything from faux-Prada bags to airplane parts–is estimated to be 7% of all world trade (about $350 billion in 2001), according to the International Chamber of Commerce.

    The quality of these counterfeits is increasingly close to the products they mimic—and sometimes come from the same factories. As companies outsource manufacturing to factories in China and other parts of Asia, they have found suppliers “over-running” manufacturing of their products—and selling the extras themselves.

    New Balance Athletic Shoes has encountered just such a problem. In 2000, one of New Balance’s manufacturers, a Chinese plant owned by Taiwanese businessman Horace Chang, made more shoes than authorized and sold them abroad. When New Balance broke off its relationship with Chang, he continued to make the shoes and Chinese authorities refused to shut him down.

    To prevent another Chang, New Balance employs a host of defenses. According to Ed Haddad, vice president for international operations at New Balance, the company monitors auction sites for counterfeit shoes, has its own high-powered law firm and uses a specialized search engine to find counterfeit peddlers online.

    New Balance called on GenuOne to stop counterfeiters like Chang. Using GenuOne’s SourceGuard product marking technology and software, New Balance regulates how many shoes its overseas suppliers make by rationing the number of product security tags.

    The tags are small white pieces of fabric embedded with security features. These include invisible inks and metal “nanoparticles,” almost molecule-sized traces of metallic isotopes that can be detected with specialized equipment.

    The tags are issued to each manufacturer by GenuOne based on electronic purchase orders that New Balance sends them—one pair for every pair of shoes, according to Haddad. While the tags themselves don’t protect New Balance from overruns, they do help New Balance keep grey-market shoes out of countries with customs agencies that cooperate with New Balance.

    New Balance wouldn’t comment on its returns or what it is paying GenuOne. Based on available market data, New Balance is paying an estimated $250,000 for GenuOne’s software services, less than 5 cents a tag and roughly $100,000 for scanning equipment at factories and portable units for investigators. Actual amounts vary by approach, number of products and volume.

    A new version of the SourceGuard tag and software is giving New Balance more control by scanning its products at manufacturing and distribution checkpoints. Using tag data such as the number of each lot scanned coming off the assembly line, GenuOne’s software can trace what has transpired to the product, from where it was manufactured to what store it ended up in.

    “It’s not as much data as you would get from something like” radiowave tags, says Jim Sciabarrasi, New Balance’s corporate manager for sourcing, purchasing and logistics. “But it has data, and more visual info for consumer to recognize this as genuine.”

    Another GenuOne application is helping to guard against online sales of fakes. GenuNet, a specialized web data mining tool, can search Web sites selling New Balance branded products and compile product numbers, prices and stock-keeping numbers for analysis.

    Using data from GenuNet, New Balance can investigate possible counterfeiters or knockoffs. The database generates reports showing who is selling product under the New Balance name online and under threshold prices. If the sellers are not authorized New Balance dealers, or the price is well below suggested retail, New Balance can sic its law firm on them. The software also mines data from eBay, and can be used to message eBay to shut down questionable sales.

    Other companies take a hybrid approach, using lawyers and counterfeit-hunting Web surfers.

    San Diego-based trading card company Upper Deck Company has long fought counterfeiting in its core sports memoribilia business, but it was a whole new game when it licensed the U.S. rights to the Yu-Gi-Oh! card game from Konami Broadcasting, the Japanese media conglomerate.

    As the world’s most popular trading card game, Yu-Gi-Oh! has been a prime target for counterfeiters. Ask any 10 year old and he can likely tell you the sorry details of counterfeit Yu-Gi-Oh! card heartbreak. Several children interviewed by Baseline were well-schooled in the art of culling counterfeits from the genuine article. (The bottom line: Counterfeits are darker and lack holographic foil stamps affixed by Upper Deck to most genuine cards as a counterfeiting deterrent. They’re also thinner. )

    Counterfeiters have even managed to get their products onto the shelves of some major retail chains. In October, Upper Deck filed suit against more than 50 companies and individuals for trafficking in counterfeit versions of its game cards—including the $2 billion California electronics retailer Fry’s Electronics.

    Web sites such as eBay are also a natural outlet for fake wares. Upper Deck and Wright & L’Estrange, the company’s intellectual property law firm, both have staff dedicated to monitoring the Web and “aggressively going after” sellers of counterfeits, according to Craig Nicholas, a partner at Wright & L’Estrange.

    Nicholas says that three people on staff at his firm and at least that many within Upper Deck hunt for counterfeit sites with search engines and eBay looking for sellers offering bogus products, checking images of cards posted with auctions and how much they’re being offered for. “We find at least one counterfeit dealer day,” says Nicholas, who adds that many of his leads come from counterfeit-savvy kids. “A customer will buy a card, only to find out it’s counterfeit and complain to us.”

    French fashion house Hermès International S.A. takes a similar approach to its counterfeiting problem here in the U. S.. Nicole Mann, a paralegal for the New York law firm Kirkland and Ellis, spends 20 hours a week shopping on eBay from home. Three times a day, she browses through the online auction site, looking for Hermes knockoffs.

    When she finds someone selling copies of Hermes’ Birkin or Kelly bags on eBay, Kirkland and Ellis contacts the auction site, and the seller is quickly shut down. The firm employs another paralegal who performs the same task with Yahoo’s auction sites.

    To be sure, Mann has been busy of late. After all demand for Hermes’ handbags is high—$5,000 for a bag that has a year-long waiting list.

    Last summer when the “Jelly Kelly,” an Italian-made translucent rubber “knockoff” of a Hermes handbag, became the “it” accessory of the season. Steven Stolman, a resort clothier with shops in Manhattan and on Long Island, sold the bags for $145 each. And when this supply ran out, he offered an Hermes-like waiting list for customers awaiting the next shipment.

    Stolman claimed the stitch-for-stitch copies of Hermes’ Birkin were “an amusement.” But Hermes was not amused. After press coverage drew Hermes’ attention to Stolman, Kirkland & Ellis filed suit against him, gaining a settlement for an undisclosed amount and no more Jelly Kelly sales.

    The crackdown, however, just invited more fakes. Baseline found Hermes look-a-likes displayed in boutique windows in Philadelphia last month. Hermes has another case pending against another alleged knock-off retailer, Cashmere Hamptons in East Hampton, NY. But no matter what technique is used to hunt down counterfeiters, shutting them down isn’t easy. “It’s like Whack-a-Mole,” says Joseph Gioconda, a partner at Kirkland & Ellis, referring to the carnival game where players futilely attempt to beat down fake rodents as they pop up randomly from a table. “When you shut down one operator, another pops up.”

    Next Page: What you should do to thwart counterfeiters.