Canada: Update On Gray Marketing

Last Updated: December 13 2007

Article by John Koch © 2007, Blake, Cassels & Graydon LLP

Originally published in Blakes Bulletin on Intellectual Property, December 2007

In July, the Supreme Court of Canada confirmed that, in certain circumstances, selling genuine products in their original packaging infringes copyright. The decision in Kraft Canada Inc. et al. v. Euro-Excellence Inc. provides a potentially powerful remedy to brand owners who previously had little success in controlling gray market goods through trade-mark law.

Gray marketing refers to the sale of goods, originating from or manufactured in one jurisdiction under the authority of an intellectual property owner, in another jurisdiction in which the intellectual property owner has not granted rights to the vendor to sell the goods.

Sometimes foreign brand owners choose to appoint exclusive distributors to direct the marketing of the brand owner’s products in Canada. The distributor will usually be required to conduct advertising and promotional activities, and may also have responsibility for warranty and repair services. The expense associated with the distributor’s obligations will generally be reflected in the price charged by the distributor to wholesalers and retailers in Canada. Wholesalers and distributors may find that the same or similar products outside Canada, manufactured by or with the authority of the brand owner, are available at prices more favourable than those charged by the authorized distributor in Canada. Importing these goods into Canada can undermine the Canadian distributor’s business. In such circumstances, brand owners have on many occasions asserted that such importation constitutes a breach of the owner’s trademark rights. Where the owner of the foreign trade-mark rights is the same party that owns the Canadian trade-mark rights, Canadian courts have generally held that there is no basis for asserting confusion or a misrepresentation. Given the limited scope of protection afforded by trade-mark rights, brand owners have searched for other means to constrain unauthorized imports.

On July 26, 2007, the Supreme Court of Canada recognized that copyright can, in many cases, provide the brand owner with recourse when trade-mark law will not. The appeal involved an attempt by two brand owners and their exclusive authorized Canadian distributor (all members of the Kraft family of companies) to prevent the importation and sale of gray market products by asserting copyright in the labels and logos on the packaging of the products. In a complex decision where the court delivered four separate sets of reasons, the defendant’s appeal was allowed, but the holdings indicate that copyright may be a useful tool for preventing gray market goods in Canada.

The Copyright Claim

The case concerned chocolate bars. Kraft Foods Schweiz AG (KFS) manufactures chocolate bars under the TOBLERONE trade-mark. A related company, Kraft Foods Belgium SA (KFB), makes CÔTE D’OR brand chocolate. The two products each have distinctive packaging. The two companies own Canadian trade-mark registrations for the TOBLERONE and CÔTE D’OR trade-marks, respectively.

Until 2000, Euro-Excellence had been the exclusive Canadian distributor of CÔTE D’OR products. That relationship was terminated, and Kraft Canada Inc. (Kraft Canada) took over as the exclusive authorised distributor. Euro-Excellence, however, was not prepared to walk away from this business. It found a source of authentic TOBLERONE and CÔTE D’OR products and imported the chocolate bars into Canada. Euro-Excellence then placed stickers on the packaging, so that the ingredients lists complied with Canadian labelling laws, and sold the bars in Canada.

Paragraph 27(2)(e) of the Copyright Act (the Act) provides that it is an infringement of copyright to import into Canada a copy of a work for the purpose of, among other things, selling the work where the importer knows (or should have known) that the copying of the work abroad would infringe copyright if the copy had been made in Canada by the person who made it. KFS sought and obtained Canadian copyright registrations for logos displayed on the packaging of the chocolate bars and granted an exclusive license to Kraft Canada in this artwork. On the basis of this license, Kraft Canada sought to enjoin Euro-Excellence from importing and selling chocolate bars packaged in the wrappers bearing this artwork.

The Defences

By the time the case reached the Supreme Court, Euro-Excellence rested its case on two defences: first, that the use of graphic elements on a chocolate bar label is not an infringement of copyright since people who purchase chocolate bars only incidentally purchase the wrapper and such incidental use of a copyrighted work should not amount to infringement; and second, that Kraft Canada, as an exclusive licensee but not an assignee of the copyright in the artwork, cannot establish infringement under paragraph 27(2)(e) because the person who made the copies (the European Kraft companies that were the owners of the copyright) would not have infringed copyright if they had made the copies in Canada.

Defences Rejected

Ultimately, clear but differently composed majorities of the Supreme Court rejected each of those defences. With respect to the first defence, a majority of the Court held that "according to Canadian copyright law, it is skill and judgment – not the size of the work – that determines whether a work receives protection under the Copyright Act." This means that there is no exception under the Act to permit "incidental" copying, other than that specifically provided in section 30.7, which was not applicable in this case.

With respect to the second defence, the Court divided differently. Nevertheless, a clear majority rejected that defence as well. On this point, a minority of the Court reasoned that a copyright owner who grants an exclusive license may be in breach of contract if it reproduces and sells copies of the works in which it has granted an exclusive license, but it does not infringe copyright by doing so. For the prohibition in paragraph 27(2)(e) to apply, therefore, the person making the copy abroad would have to be in a position where it would infringe copyright if it made the copy in Canada. Where, as in this case, the person making the copy is the copyright owner, the owner would not infringe copyright no matter where it made the copies. Accordingly, in the view of four judges, paragraph 27(2)(e) did not provide Kraft Canada with a cause of action.

The remainder, and a clear majority, of the Court, however, rejected the distinction between assignees of copyright and exclusive licensees. The position of the majority on this point was summarized by one of the judges by stating that "a grant is a grant" and the grant in the present case is for an exclusive license giving the "sole and exclusive right" to the copyright. He therefore concluded that KFS and KFB could not have made a copy of the work in Canada without infringing the copyright.

Paradoxically, even though majorities of the Court rejected each of Euro-Excellence’s defences, given the different compositions of the majorities on each point, the end result was that the appeal was allowed and Kraft Canada’s claim was dismissed.

Strategy For The Future

Where does this leave a brand owner that wants to rely on copyright to control gray market goods? The objections raised by the minority with respect to s. 27(2)(e) could apparently be overcome if the copyright owners assigned, rather than exclusively licensed, the Canadian copyright in the logos. Assigning copyright outright, therefore, may provide a means of overcoming the paragraph 27(2)(e) defence.

Brand owners however must be careful in doing so for several reasons. The owner needs to ensure that the copyright assignment does not result in a partial assignment of trade-mark rights. This could potentially undermine the distinctiveness and validity of the trade-mark. Another possibility is to assign both the copyright and trade-mark rights to a Canadian entity. In that case, it is important that there be an effective transfer of goodwill, or the public be made aware of the change in ownership. Canadian assignees of trade-marks who have sued to restrain gray market goods soon after receiving an assignment, but without making the Canadian public fully aware of their ownership, have lost their claims on the basis that the trade-mark is not distinctive of the Canadian assignee.

One or both of an assignment of copyright and an assignment of trade-marks may also undermine the intellectual property owner’s international tax planning and subject both the assignor and the assignee to a range of undesirable consequences. A majority of the Court held that an exclusive license of copyright is, for all practical purposes under the Act, an assignment. At this point, it is unclear whether this holding may have consequences from a tax perspective.

Before launching a paragraph 27(2)(e) copyright claim, a plaintiff must have its copyright house in order. Among the matters to be considered are: (i) the creation of the work required the degree of skill and judgment to give rise to a work in which copyright can subsist; (ii) the plaintiff can identify the author of the work; (iii) the author has assigned copyright to the plaintiff (or the plaintiff’s licensor) in a manner that is valid and enforceable in the country in which the work was created; and (iv) the gray marketer could successfully remove or cover the copyrighted work from the product packaging without rendering the product unfit for sale. A review of these and the related tax issues should always be undertaken before beginning proceedings to enforce a copyright claim against a gray marketer.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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