United States: Supreme Court Holds That Sale By Patentee Exhausts Patent Rights Regardless Of Restrictions Or Location Of Sale

In Impression Products, Inc. v. Lexmark International, Inc., the Supreme Court held today that a patentee's decision to sell a product exhausts all of its patent rights in that item, regardless of any restrictions the patentee purports to impose or the location of the sale. 581 U.S. ___ (2017), slip. op. at 2. The decision overturns Federal Circuit case law holding that (1) a patentee may bypass the exhaustion doctrine by selling an item under an express restriction on the purchaser's right to use or resell the product, and (2) a patentee does not exhaust its rights under United States patents when selling its product abroad. Id. at 1-2. Chief Justice Roberts delivered the opinion for the Court, in which Justices Kennedy, Thomas, Breyer, Alito, Sotomayor, and Kagan joined. Justice Ginsburg filed an opinion concurring with the decision regarding restrictions on sales, but dissenting with respect to the territorial exhaustion issue. Justice Gorsuch took no part in the consideration or decision of the case.

Background

Lexmark manufactures and sells printers and toner cartridges covered by multiple Lexmark patents in the United States and foreign markets. Toner cartridges are sold under two programs: a "regular" program, under which cartridges are sold at full price and without restriction on resale or reuse of the cartridge; and a "return" program under which cartridges are sold at a 20% discount, but subject to single-use and no-resale restrictions. Impression is a small business that acquires spent toner cartridges originally sold in the United States and abroad for refilling and sale in the United States, including restricted return program cartridges that are altered by microchip replacement to circumvent Lexmark enforcement. Lexmark sued Impression for patent infringement in connection with both United States and foreign toner cartridges. Impression argued that Lexmark's patent rights had been exhausted by Lexmark's first sale of the cartridges both domestically and abroad. Id. at 2-3.

In Lexmark International, Inc. v. Impression Products, Inc., 816 F.3d 721 (Fed. Cir. 2016), the en banc Federal Circuit held that (1) the sale of an article under clearly communicated and otherwise lawful restrictions on use and resale avoids patent exhaustion and preserves the patentee's rights to pursue infringement remedies both against the first buyer and downstream purchasers with knowledge of the restrictions, and (2) a patentee's or licensee's foreign sales of a patented article do not exhaust the United States patent rights in the article sold, even if no reservation of those rights accompanies the sale. 581 U.S. ___ (2017), slip. op. at 4-5.

The Supreme Court granted certiorari to consider the Federal Circuit's decisions with respect to both domestic and international exhaustion and reversed. Id. at 2, 18.

With respect to the single-use/no-resale restrictions in Lexmark's contracts with customers, the Court held that while these restrictions may have been enforceable under contract law, the patent exhaustion doctrine does not entitle a patentee to retain patent rights in an item it has elected to sell. The Court relied principally on the common law's well-established refusal to permit restraints on the alienation of chattels and a string of the Court's decisions in the area of patent exhaustion culminating recently in Quanta Computer, Inc. v. LG Electronics, Inc., 553 U.S. 617 (2008). 581 U.S. ___ (2017), slip. op. at 6. Importantly, the Court corrected the Federal Circuit's reasoning in the underlying appeal, explaining that the exhaustion doctrine is not a presumption about authorization that comes along with the sale of a product, but is instead a limit on the scope of the patentee's rights and thus may not be avoided by contract. Id. at 9-10. The Court's decision has the effect of overruling the Federal Circuit's long-questioned and much-criticized decision in Mallinckrodt, Inc. v. Medipart, Inc., 976 F.2d 700 (Fed. Cir. 1992), which held that exhaustion could be avoided by conditioning the sale on restrictions as to post-sale use or resale.

The Court discussed the impact of its holding on sales by licensees, observing that so long as a licensee complies with the license when selling an item, the patentee has, in effect, authorized the sale. As is the case with sales by patentees, an authorized sale by a licensee exhausts the patent, though the Court noted that a license may require the licensee to impose a contractual restriction on purchasers. On the other hand, consistent with the Court's decision in General Talking Pictures Corp. v. Western Elec. Co., 304 U.S. 175, aff'd on reh'g, 305 U.S. 124 (1938), where a licensee does not comply with the conditions of a license in selling an item, the patentee may bring an infringement suit against the licensee or the purchaser. 581 U.S. ___ (2017), slip. op. at 11-13.

With respect to sales abroad, the Court held that an authorized sale outside the United States, just as one within the United States, exhausts all rights in the patent, again noting the common law's refusal to permit restraints on alienation of chattels and the Court's recent precedents. The Court cited, among other decisions, its recent holding in Kirtsaeng v. John Wiley & Sons, Inc., 568 U.S. 519 (2013), which found international exhaustion in the context of copyright law. 581 U.S. ___ (2017), slip. op. at 13-14. The Court's decision overruled the Federal Circuit's blanket rule that foreign sales do not trigger exhaustion, announced in Jazz Photo Corp. v. International Trade Comm'n, 264 F.3d 1094 (Fed. Cir. 2001).

Importance of the Decision

The Federal Circuit's decision in Lexmark created tension with the Court's recent authority on intellectual property exhaustion announced in Quanta and Kirtsaeng, so the result in this case is not unexpected.

The Court's decision will be viewed by many, especially in the electronics industry, as relieving a great deal of uncertainty as to whether the purchase of patented components in the worldwide market exhausts the patents of manufacturers and their licensors. These purchasers will gladly welcome the decision and concur with the Court's observation that "extending patent rights beyond the first sale would clog the channels of commerce, with little benefit from the extra control that the patentees retain." 581 U.S. ___ (2017), slip. op. at 7-8.

On the other hand, the decision may prove problematic for companies that have a strong interest in differentiated downstream licensing models, such as in the pharmaceutical industry. Licensing models built around field-of-use licenses now face the challenge of how to protect against the use and resale of products that are sold by the licensee under authorization within the designated field, but are used or resold downstream into other, unauthorized fields. The Court's decision suggests that the exhaustion doctrine is absolute and that infringement remedies will not be available against such downstream purchasers, but leaves open the possibility of contractual remedies for breach of field restrictions. Fashioning appropriate contractual restrictions and mechanisms for successfully imposing such restrictions on downstream purchasers that are not in privity with the patentee or licensee will require creativity and discipline in commercial dealings.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Morrison & Foerster LLP. All rights reserved

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