Chinese Industrial Espionage

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Chinese Industrial Espionage

Both civilian and military intelligence divisions of the Chinese Government have been caught spying on and stealing trade secrets from corporations in the United States and Europe in order to reap the benefits of foreign innovation themselves. Joint R&D ventures between domestic Chinese and foreign corporations has allowed the former to obtain more technological information than the former had intended, often through subversive attacks. Furthermore, elements of the People’s Liberation Army (PLA) and the Ministry of State Security (MSS) have been caught conducting cyber-attacks on American and European corporations several times in recent years. In 2014, five officers of the PLA’s Unit 61398, a division tasked with hacking into and stealing secrets from American corporations, were charged by the US Justice Department of theft of confidential business information and intellectual property from American firms and of planting malware. Many of the spoils of these attacks end up in the hands of China’s state-owned and partially state-owned enterprises (SOEs).

Cyber espionage is the most effective method by which the Chinese government steals trade secrets. It offers considerable logistical advantages as well as the promise of plausible deniability. With regards to the logistics, human intelligence assets require case officers, covert communications, and, most importantly, run the risk of capture and public exposure and embarrassment. In contrast, cyber-attacks allow intelligence officers to potentially obtain as much if not more information with no personnel risk and the ability to simply deny responsibility. In an age where almost every aspect of industry and development must be stored online in some capacity, cyberwarfare has the potential to reap the most benefits for China in terms of both economic development and science and technology research.

As one would expect, the primary benefactors of economic espionage conducted by Chinese intelligence are domestic Chinese state-owned enterprises (SOEs). Although Chinese economic reform started over 38 years ago, China has yet to transform completely into a market economy. The Chinese Communist Party’s (CCP) doctrine, socialism with Chinese characteristics, supports the creation of a socialist market economy dominated by the public sector in the form of SOEs. These SOEs are intended to dominate their respective sectors, whether it be energy, manufacturing, or heavy industry, and in order to do this they exclusively receive low-interest loans from China’s financial system, another sector dominated by SOEs. Therefore, the resulting intelligence and technological information gathered by economic espionage just one more way that the CCP aspires to give its corporations an edge both domestically and abroad.

First, in 2005 China passed a clean energy law that called for the creation of massive wind farms across the country. This law made China the biggest wind power market in the world, so American Superconductor (AMSC), an American producer of the sophisticated electronics and computer code to run the turbines, partnered with the partially state-owned Chinese firm Sinovel, who made the mechanical skeletons of the turbines. Initially, AMSC experienced an explosion in sales to nearly $500 billion, until in 2011 when testing their next-generation software in China, that the wind turbines they had been operating failed to shut down following the test. These turbines had in fact been running an unreleased version of AMSC’s software that had been stolen by the Chinese. They were able to narrow the security breach down to an Austrian employee of the firm who had exchanged the source codes for their proprietary software for money, apartments, and women. After this incident, the CEO of AMSC decided to hire an American computer security firm, who then found that the company was under constant attack from Unit 61398 of the People’s Liberation Army. The PLA went after everything from American Superconductor’s proprietary software and blueprints to their legal strategy in the impending lawsuit they filed against Sinovel in Chinese civil court.

According to the Daniel McGahn, AMSC’s CEO, the firm had to lay off 600 of their employees and lost over a billion dollars in share value. As illustrated by the following chart.

Figure 1, with American Superconductor (AMSC) in blue, and Sinovel (SHA:601558) in red.


As is clearly shown by the above graph, the economic espionage conducted against American Superconductor crippled its share price, sending it below the IPO for the first time in a decade, and eroding its market position. The firm had rebounded quickly from the 2008 Financial Crisis and was doing well until its trade secrets were stolen and its market position was eroded. While Sinovel was also negatively affected, largely due to publicity from the lawsuit filed by AMSC, it was able to manage to recover and even for a time surpass the American firm. Additionally, this drop for Sinovel came several months after that of AMSC. Though it was once trading in the mid to lower $300s, the AMSC stock currently sits at $8.44 as of November 11, 2016. Sinovel’s share price has also slid from around $10 following its early 2010 crash to stabilizing at around 2.75 for the past several months. Following blatant economic espionage, the AMSC share price crashed by more than 98%, while Sinovel walked away in better condition at a slide of roughly 70%.

Next, titanium dioxide, TiO2, is a naturally occurring compound that is used as a white pigment in everything from automobile paint to Oreo fillings. The American firm DuPont has built its titanium dioxide into a $2.6 billion business by minimizing the hazards associated with its production and maximizing efficiency. The massive Chinese SOE Pangang Group wanted to streamline their production of titanium dioxide, and turned to a naturalized US Citizen named Walter Liew as a proxy to obtain information on precisely how DuPont manufactured titanium dioxide. Liew was offered a $17.8 million contract to build a factory in Chongqing using DuPont’s stolen techniques. Liew managed to acquire information on DuPont’s manufacturing techniques by hiring retired engineers from DuPont that had detailed information on these processes as well as personal grudges against DuPont itself. Liew exploited this to assemble a strategic plan to build the factory in Chongqing using DuPont’s methods. Pangang Group’s deception was caught by an Australian consulting firm that had been hired to review Liew’s plans, ostensibly for legal concerns, but in reality to confirm to Pangang executives that the stolen plans were authentic. This a partner at this consulting firm then contacted DuPont, who were then able to pin down Liew as the culprit. They contacted the FBI, who by July 2011 raided Liew’s home in San Francisco, identified Pangang Group executives working with Liew and connected these Executives to the Chinese Government. By 2014 Liew had been convicted of economic espionage in the United States.

Figure 2, with Pangang Group (000629) in blue and DuPont (DD) in Red

In the period from 2009 to 2011 after Liew had managed to transfer DuPont’s chemical processes to Pangang Group, the latter’s share price rose significantly, nearly doubling from a price of around $5.25 per share to $9.50 in mid-2011. Though DuPont managed to avoid the damage inflicted on similar victims of Chinese economic espionage such as American Superconductor, this is largely due to the fact that, unlike AMSC, DuPont is a massive company with a wide variety of products, and a huge market share. Pangang Group’s share price collapsed following Liew’s arrest and the ensuing controversy, but regardless, this data reflects the massive potential benefits that economic espionage can bring to Chinese companies that successfully implement it, as shown by Pangang Group’s significant growth from 2009-2011. Therefore, this case resoundingly illustrates the massive growth potential that economic espionage can have for Chinese SOEs.

Chinese economic espionage is extremely widespread, whether it is employed by apparatuses of the Chinese Government, or by the SOEs under its control. Though China has made significant progress in expanding its own native science and technology innovation, it will continue to struggle behind the West in a variety of fields. As most clearly illustrated by the case of Pangang Group and DuPont, economic espionage provides Chinese SOEs with the ability to leech off of foreign innovation to grow and expand in ways that they could never do on their own. With the CCP still relying on its model of “Socialism with Chinese characteristics” in which these SOEs are defined as the backbone of the Chinese economy, it is likely that the PRC will continue to rely on espionage and deception to grow rather than its own native innovation.

Although only two cases were examined in this paper, according to US Deputy Attorney General John Carlin, thousands of US companies alone have been hit by Chinese espionage, but stay quiet for fear of invoking Beijing’s wrath. Outside of the halls of the Ministry of State Security in Beijing, it is impossible to fully realize the scope of Chinese economic espionage worldwide, but if the cases of American Superconductor and DuPont show anything, it is that the Chinese Government views this as a valid way of growing and strengthening the SOEs that it considers to be the foundation of its economy. In an economy dominated by SOEs that willfully engage in and benefit from economic espionage, the impact of this espionage on Chinese growth may be astronomical as a result.

Written By:

Liam McGowan


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