Lexmark – Potential Supreme Court Challenge on Patent Exhaustion Looms
- Aug 2 2016 |
- Category: News
Challenge Could Threaten International Price Discrimination and Conditional Sale Business Models
A petition for certiorari currently awaits decision before the Supreme Court in the matter of Lexmark International, Inc. v. Impression Products, Inc., Nos. 14-1617, 14-1619 (Fed. Cir. Feb. 12, 2016). The Court’s decision whether to hear the case may have serious, far reaching implications regarding a patentee’s abilities to maximize profits through conditional sale and price discrimination. A decision not to hear the case would result in the preservation of conditional sales of patent goods and would prevent patent exhaustion from applying to goods sold abroad. Whereas, a decision to hear the case would set up a serious challenge that may result in voiding of conditional sales and allow competitors to undercut patentees by importing a patentee’s own goods into the United States to be resold.
The Federal Circuit, sitting en banc, addressed two questions in their 10-2 opinion ruling in Lexmark International Inc. v. Impression Products Inc.: (1) whether patent exhaustion applies to products sold in the United States with post-sale use restrictions; and (2) whether patent exhaustion applies to products sold outside of the United States. Id. at 18. The first issue arose over a question of whether the Federal Circuit’s decision in Jazz Photo Corp. v. U.S. International Trade Commission, 264 F.3d 1094 (Fed. Cir. 2001), should be overruled in view of the Supreme Court’s decision in Kirtsaeng v. John Wiley & Sons (2012). Id. The Federal Circuit, in Jazz Photo, held that an authorized sale must have occurred within the United States for U.S. patent exhaustion to apply, while the Supreme Court held, in Kirtsaeng, that exhaustion did apply with respect to copyrighted goods sold outside of the U.S. The second issue arose over a question of whether the Federal Circuit’s decision in Mallinckrodt, Inc. v. Medipart, Inc., 976 F.2d 700 (Fed. Cir. 1992), should be overruled in view of the Supreme Court’s decision in Quanta Computer Inc. v. LG Electronics Inc. (2008). Lexmark, Nos. 14-1617, 14-1619 at 18. The Federal Circuit, in Mallinckrodt, held that an absolute bar on post-sale restrictions only applies to price-fixing and tie-ins, while the Supreme Court held, in Quanta, that exhaustion applied despite the patentee’s attempt to limit downstream, and only downstream, use of the products. On both issues, the Federal Circuit reaffirmed its previous decisions.
Lexmark International Inc. (“Lexmark”), producers of printers and printer cartridges, sold two types of printer cartridges in the United States and abroad. The first type of cartridge was a full-price cartridge sold without specified restrictions. The second type of cartridge was a discounted “return program” or “pre-bate” cartridge, which was subject to a single-use-and-return restriction. Impression Products (“Impression”), after purchasing the cartridges either from Lexmark directly or from a third party, refilled and resold both types of cartridges both in the United States and abroad. Lexmark and Impression stipulated to a series of legal conclusions, limiting the infringement allegations to the facts regarding only two types of Impression cartridges: (1) return program cartridges that Lexmark first sold in the U.S. under restriction, denying authority for resale and reuse; and (2) all cartridges Lexmark first sold outside the U.S., including return program and regular cartridges.
District Court Decision
The District Court entered a stipulated order finding infringement with respect to all cartridges first sold outside the U.S. and non-infringement with respect to return program cartridges first sold to resellers without restriction, which contained a restriction intended to restrict the ultimate purchaser. Lexmark Int’l, Inc. v. Ink Techs. Printer Supplies, LLC, Civil Action No. 1:10-CV-564., 2014 BL 86115 (S.D. Ohio Mar. 27, 2014); Lexmark Int’l, Inc. v. Ink Techs. Printer Supplies, LLC, 9 F. Supp.3d 830 (S.D. Ohio 2014). In reaching its decision, the District Court determined (1) that an extension of Kirtsaeng is not warranted when recognizing the distinct differences between patents and copyrights, and (2) that Lexmark’s sale of Return Program cartridges “took the cartridges outside the scope of the patent.” Lexmark, 1:10-CV-564 at 8; Lexmark, 9 F. Supp.3d at 42.
Federal Circuit En Banc Decision
The Federal Circuit, concerned about the nature of the case and in light of the possibility that a decision could overrule existing precedent, sua sponte chose to hear the case en banc. The court addressed two questions: (1) whether patent exhaustion applies to products sold in the United States with post-sale use restrictions; and (2) whether patent exhaustion applies to products sold outside of the United States. The Federal Circuit held that “[a] … sale [outside the U.S.] of a U.S.-patented article, when made by or with the approval of the U.S. patentee, does not exhaust the patentee’s U.S. patent rights in the article sold, even when no reservation of rights accompanies the sale.” Lexmark, Nos. 14-1617, 14-1619 at 98. In reaching this conclusion, the Federal Circuit first recognized that no statute or rule necessitates that U.S. patent rights be waived, either conclusively or presumptively, by a foreign sale or that a foreign sale confer authority to import or sell items within the U.S., such authorization being required under 35 U.S.C. § 271(a). Id. at 9, 22.
The Federal Circuit further reasoned that Kirtsaeng is distinguishable as it pertains only to the Copyright Act which includes specific language supporting foreign sale exhaustion whereas there is no corresponding language in patent law. Id. at 16. The Federal Circuit pointed to the fundamental difference between patents and copyrights to reinforce this decision to treat foreign sales of patented goods dissimilarly to foreign sales of copyrighted goods. Id. at 28. Therefore, the Federal Circuit determined that because Kirtsaeng concerned only copyright, the Supreme Court in Kirtsaeng was not afforded the opportunity to consider patent precedent or to decide the specific question of whether foreign sales are properly treated as conferring on the buyer, conclusively or presumptively, the authority to resell, and thus, Kirtsaeng could not be considered controlling precedent. Id. at 68.
After the Federal Circuit discharged any need to follow Kirtsaeng, the court set about rationalizing the decision that foreign sales did not exhaust U.S. patent rights. Relying on 35 U.S.C. § 271, the Federal Circuit explained that the Patent Act provides for an essential tradeoff underscoring the patent system: “provid[ing] a market-based reward in exchange for disclosure.” Id. at 42. The Federal Circuit further specified that the market-based reward is a U.S. market-based reward and that, as a practical matter, a reward priced according to a foreign market would not provide the requisite U.S. market-based reward. Id. Accordingly, as patent exhaustion is a judicially created doctrine, the Federal Circuit did not see cause or consideration that would require them to extend the doctrine to foreign sales.
On the second question, the Federal Circuit stated, “[w]hen a patentee sells a patented article under otherwise-proper restrictions on resale and reuse communicated to the buyer at the time of sale, the patentee does not confer authority on the buyer to engage in the prohibited resale or reuse.” Id. at 98. The Federal Circuit noted that Quanta did not address a sale of a patented good but rather a license and did not address sale restrictions imposed directly on the licensee. Id. at 49. Therefore, Quanta did not provide mandatory precedent, and the Federal Circuit began its own analysis of exhaustion doctrine. The Federal Circuit noted that, under 35 U.S.C. § 271, sale or use of a patented article “without authority” is an infringement. Id. at 38. Moreover, the Federal Circuit explained that exhaustion doctrine is a judicially created doctrine developed to provide a presumption of rights allocation when no restrictions are present. Id. The Federal Circuit thus reasoned that patent exhaustion does not apply when a patentee has specifically restricted a buyer’s authority with respect to the product and downstream buyers have knowledge of such a restriction.
Writ of Certiorari
On March 21, 2016, Impression petitioned the Supreme Court to hear the case. In the petition for certiorari, Impression asked the Court to consider: (1) whether “conditional sale” that transfers title to the patented item while specifying post-sale restrictions on the article’s use or resale avoids application of patent exhaustion doctrine and therefore permits enforcement of such post-sale restrictions through the patent law’s infringement remedy; and (2) whether, in light of the Kirtsaeng holding (common law doctrine barring restraints on alienation that is the basis of exhaustion doctrine “makes no geographical distinctions,”) a sale of a patented article—authorized by the U.S. patentee—that takes place outside of the U.S. exhausts the U.S. patent rights. Brief for Petitioner at (i), Lexmark International Inc. v. Impression Products Inc., No. 15-1189 (S. Ct. 2016).
Lexmark filed an opposition brief May 23, 2016. Brief for Respondent, Lexmark International Inc. v. Impression Products Inc., No. 15-1189 (S. Ct. 2016). In the opposition brief, Lexmark presented the questions: 1) whether the Court of Appeals correctly reaffirmed its precedent in holding that Lexmark’s sale of a patented toner cartridge, subject to a lawful and express limitation, did not automatically convey unlimited authority that had been clearly denied; and 2) whether the Court of Appeals correctly reaffirmed its precedent in holding that Lexmark’s sale of a patented toner cartridge in a foreign country, pursuant to the laws of that country, did not automatically convey “authority” to sell and import that product in the United States. Impression waived a waiver of the 14-day waiting period and filed a reply brief on June 2, 2016 reasserting and emphasizing that, at the very least, the divided en banc decision casts doubt on the propriety of the Federal Circuit’s precedents in the face of the Supreme Court’s decisions in Kirtsaeng and Mallinckrodt. Id. at (i).
Is the Supreme Court likely to Hear the Case?
Prognosticating the Supreme Court’s actions is generally a fool’s errand. Nonetheless, most seem to believe that the gravity of the Lexmark circumstances and the apparent inconsistencies between past Supreme Court decisions and the Federal Circuit’s decision suggest that the Court is highly likely to hear the matter. While the Supreme Court has been increasingly active in patent matters over the last 25 years, they have at times also shown a propensity to allow Federal Circuit precedents to stand when the Court does not find them entirely objectionable. Now that the workload for the Supreme Court is spread across eight Justices instead of nine, the Court may be further inclined to defer to the Federal Circuit on matters that it is better suited to address. On the whole, the best measure to speculate on whether the Supreme Court will take up the case is the strength of the Federal Circuit’s decision.
In regard to the first question, pertaining to foreign sales, the Federal Circuit opinion stands on shaky ground. While the Federal Circuit plausibly distinguishes Lexmark from Kirtsaeng, pointing out the statutory and practical differences between patent and copyright, the Federal Circuit’s decision not to apply exhaustion to foreign sales lacks significant precedent. The Federal Circuit went to great lengths, citing to numerous cases from the 1800s and early 1900s. However, no recent precedent is provided, and at best, the cited cases provide only glancing reinforcement for the final decision.
After completing its historical walkabout, the Federal Circuit tailored its opinion to practical considerations affecting international corporations, namely protecting the concepts of price discrimination, allowing corporations to offer products at a reduced price point in order to maximize profit in each individual country. The Federal Circuit buoyed this cause by pointing to a supposed U.S.-market reward guaranteed to patentees. In a sense, the idea of a reward is supported by the exhaustion doctrine. The purpose of the doctrine has often been interpreted by courts as preventing a patentee from getting two bites at the apple — two rewards. However, drawing strength from the exhaustion doctrine sidesteps analysis of patent laws and irrationally turns the issue on its head. First, allowing for a sale abroad and additional compensation for re-importing into United States would infer upon the patent holder two rewards, the very result courts have sought to bar. Second, and more importantly, patents ascribe their owners the right only to prevent others from making, using, selling, offering to sell, or importing. There is no positive guarantee of a reward, only a negative right of exclusion. As such, there is certainly no guarantee of a country-specific reward.
In regard to the second question, regarding conditional sales, the Federal Circuit’s opinion is well supported. The ability to place conditions upon sales of patented goods essentially stems from the contract clause of Article I, section 10 of the Constitution which permits parties to contract freely without substantial interference by the government. Patent exhaustion cannot be understood to prevent conditions, as the entire principle behind exhaustion doctrine stems from the presumption that a patented product may be sold with less than all of the possible rights. Exhaustion doctrine, first explicitly recognized in Adams v. Burke, 84 U.S. (17 Wall.) 453 (1873), is a judicially created tenet imposed to ease the burden on consumers and markets as a whole. Recognizing that patent rights can be divided and that a consumer’s rights to the patented product are uncertain, the Court imposed a presumption that all rights to the individual patented good transfer to the purchaser. Therefore, the ability to contract and the divisional nature of patent rights implies that conditional sales of patented goods must be allowed without invoking exhaustion. Indeed, conditional sales have been repeatedly reaffirmed on every level of the Judiciary including the Supreme Court.
Quanta does not provide sufficient cause to upend the long history supporting conditional sales of patented goods. As the Federal Circuit points out, Quanta concerned a narrow set of circumstances that did not include restrictions made to the originally licensed party, nor did it include a sale by the patentee. Moreover, Quanta involved a patented product with a single use within another product that was not subject to conditions. Essentially, had the Supreme Court not imposed exhaustion doctrine, the patentee would have been allowed to sell a product to an end user without including any patent rights whatsoever. As such, the details of Quanta strongly suggest that the Supreme Court intended to narrowly tailor an exception to the right to conditional sale rather than obsolete the practice altogether. Therefore, there is no need for the Supreme Court to consider upsetting the Federal Circuit’s decision.
At the end of the day, the Federal Circuit’s practical considerations may well carry the day. Preventing patentees from maximizing profit globally by tailoring prices to the standard of living in individual markets would do a disservice to the multinational companies and the market as a whole. However, such rationalization is far from definitive. The Federal Circuit, despite its expansive opinion, failed to discuss any benefits of applying exhaustion doctrine to products sold abroad. Significant consumer protection, ease of global commerce, and international standardization issues are at play as well and deserve appropriate consideration.
Accordingly, between the Federal Circuit’s weak precedents, unsupported notion of reward, and failure to weigh the benefits against the costs of applying exhaustion to foreign sales, the issue remains ripe for Supreme Court review.