US Supreme Court Eyes Patent-Enforced Post-Sale Restrictions

Few were surprised when, earlier this month, the US Supreme Court agreed to hear the appeal in Impression Products, Inc. v. Lexmark International. The case presents two important patent law issues, and the lower court’s ruling on these issues conflicts with Supreme Court precedents, according to many experts.

The case centers on patented ink cartridges made by Lexmark for its printers. These cartridges use computer chips that prevent the cartridges from being refilled and reused. They are sold under two express conditions: these cartridges are single-use, and after they are empty, they can only be destroyed or transferred back to Lexmark.

Impression Products did not comply with these post-sale conditions. The company acquired used cartridges that had been refilled by third parties, then resold these refilled cartridges in the United States.

Lexmark sued, alleging that because Impression sold cartridges that were refilled in violation of the patentee’s conditions of sale, Impression had committed patent infringement. Impression countered that there was no infringement as, under the doctrine of patent exhaustion, Lexmark lost all its patent rights in the cartridges upon the first authorized sale of those cartridges.

The case raises two issues, one of them extraterritorial:  Since some of the supposedly infringed Lexmark cartridges were initially sold outside the US, did those extraterritorial sales exhaust Lexmark’s US patent rights in those cartridges?

It did not, according to an en banc decision [PDF] of the Federal Circuit (often called America’s “patent court”). That court found US patent rights are exhausted by only authorized domestic sales or imports.

The Supreme Court may disagree. The high court has repeatedly declared that patent law should follow the same legal standards as copyright law, and the Supreme Court ruled in Kirtsaeng v. John Wiley & Sons, Inc. [pdf] that US copyrights are exhausted by authorized international sales. The tension between Kirtsaeng and the Federal Circuit’s decision, as well as the public policy issues concerning international exhaustion, are examined in greater depth in a prior Intellectual Property Watch article.

Almost a Precedent

The second issue in Impression Products: When a patentee imposes conditions on how a patented item may be used after sale, does violation of those post-sale conditions create liability for patent infringement (as opposed to just liability for breach of contract)?

The Federal Circuit answered this question in the affirmative. Impression, however, is asking the Supreme Court to reject that interpretation of patent law and hold instead that, upon the authorized first sale of a patented item, the patentee’s post-sale conditions on that item are exhausted, along with all other patent rights in that item.

Impression’s request is likely to be granted – because according to most scholars, the Federal Circuit’s ruling contradicts statements in a 2008 Supreme Court decision, Quanta Computer, Inc. v. LG Electronics, Inc. [PDF].

Both Quanta and Impression Products concern a patentee seeking infringement damages against a purchaser that violated a post-sale restriction on the use of patented items. However, there is a major distinction between the two cases. In Quanta, the Supreme Court unanimously determined that the patentee failed to impose any post-sale restriction on the initial authorized sale. Thus, the initial sale exhausted all patent rights in the items sold.

Quanta’s narrow holding does not answer the question presented in Impression Products: Are post-sale conditions immune to patent exhaustion? Language in Quanta, however, suggests that there is no such immunity. “Quanta expresses the view that you can’t get around patent exhaustion with a contract that says rights are not exhausted,” stated Prof. Rochelle C. Dreyfuss of New York University School of Law.

Encumbering Policy

Public policy in the US generally opposes encumbrances on chattels, such as post-sale conditions on how purchased items may be used. This policy arises out of concern that such encumbrances would clog the free flow of commerce – by increasing transaction costs and hindering competition. (A printer manufacturer could, for instance, require customers who purchase its patented printers to use those printers only in conjunction with the manufacturer’s high-priced ink, even though less expensive ink would work fine.) There is also a concern that such encumbrances could impose unfair conditions on purchasers. (See the prior example.)

However, US law does enforce encumbrances if they are contractually agreed to, and there is a good reason for this, according to Prof. Robert Gomulkiewicz of University of Washington Law School. “Conditional sales and licensing allows companies to create different products and price points for different customers. It allows for creativity in business. It is incredibly important,” he said.

Many companies, particularly in the software and life science industries, rely heavily on conditional sales or licenses. “A lot of commercial software companies offer the same product at a high price for businesses, a lower price for consumers, an even lower price for schools, and sometimes free for nonprofits.  It would be unfortunate if software companies weren’t able to do that kind of price differentiation, which can be done only if the conditions in the software licenses are enforceable,” said Gomulkiewicz.

Reasonable people could reach different conclusions on the best policy for post-sale conditions, noted Matthew M. D’Amore, a partner in the law firm of Morrison & Foerster. He added, “It will be interesting to see how the Supreme Court rules on this issue.”