U.S. Patent Rights Are Not Exhausted By Restricted U.S. Sales or By Any Foreign Sales

The U.S. Court of Appeals for the Federal Circuit has issued a significant new opinion on February 12, 2016, Lexmark International, Inc. v. Impression Products, Inc., Nos. 2014-1617, 2014-1619. The impact of this new opinion on the Exhaustion Doctrine is discussed below.

In 2008, the U.S. Supreme Court issued a decision concerning the Exhaustion Doctrine in Quanta Computer, Inc. v. LG Electronics, Inc., 553 U.S. 617; 128 S.Ct. 2109; 86 USPQ2d 1673 (2008). The Exhaustion Doctrine states that, when a patented item is lawfully made and sold through an authorized sale made or authorized by the patent owner, the patent owner exhausts its patent rights in the product. When the patent rights are exhausted, the patent owner can no longer assert any patent rights in the products.

There were three parties involved in the Quanta Computer case. The first party was LG Electronics, who owned and licensed several patents. The second party was Intel, a licensee of the LG patents, who made chips and chipsets that were to be used in equipment that was covered by the LG patents. The third party was Quanta Computer, Inc., who purchased the chips from Intel and sold finished products in the United States.

There were at least two relevant agreements between LG and Intel. The first agreement, referred to as the "License Agreement", permitted Intel to make, use, sell, offer to sell or import its own products practicing the LG patents. However, the license indicated that products made by a third party were not licensed under the LG patents if the products had been made using components that were acquired from anyone other than Intel or LG. Specifically, the License Agreement stated that no license is granted to any third party for a combination by the third party of the Licensed Products of either party with items, components or the like, acquired from sources other than a party.

It is important to note that, as construed by the U.S. Supreme Court, nothing in the License Agreement specifically restricted Intel's right to sell its microprocessors and chipsets to purchasers who intended to combine them with non-Intel parts. In fact, the Court found that the agreement broadly permitted Intel to "make, use or [sell]" products free of LG's patent claims. Thus, nothing in the License Agreement restricted Intel’s rights to sell its microprocessors and chipsets to purchasers who intend to combine them with non-Intel parts. The License Agreement merely stated that third parties were not licensed under certain circumstances.

A second agreement between LG and Intel, as construed by the U.S. Supreme Court, did not prohibit Intel from selling its microprocessors and chipsets to purchasers who intend to combine them with non-Intel parts. It merely required Intel to give notice to the purchasers that the purchasers were not licensed by LG.

Quanta Computer, Inc. purchased chips and chipsets from Intel and combined them with non-Intel memory and buses to manufacture computers that practiced the technology claimed in the LG patents. LG filed a complaint against Quanta asserting that the products made by combining the Intel products with non-Intel memory and buses constituted an infringement of the LG patents. In response to the complaint by LG, Quanta argued that Intel's sales of the chips exhausted LG's rights in the patents, and therefore, LG could not sue Quanta for patent infringement.

The U.S. Supreme Court concluded that Intel’s sales to Quanta were authorized by the LG – Intel License Agreement. However, the opinion does little to explain what an authorized sale is, other than to state that: (a) nothing in the License Agreement restricted Intel’s right to sell its products to purchasers who intend to combine them with non-Intel parts; and (b) Intel was broadly permitted under the license agreement to make, use or sell products free of LG’s patent claims. Specifically, the Court found that the LG-Intel contract did not prohibit Intel from selling to third parties, such as Quanta.

However, according to some commentators, the Quanta opinion cast doubt on an earlier case relating to conditional sales, Mallinckrodt, Inc. v. MediPart, Inc., 976 F.2d 700 (Fed. Cir. 1992). In the Mallinckrodt case, the patent owner sold patented medical devices with a clear "single use" restriction, and the hospital-purchaser of the medical devices shipped the devices to a third party to refurbish the devices. The refurbished devices were then returned to the hospital-purchaser and reused. The patent owner sued the refurbishing company for patent infringement.

The Mallinckrodt Court found that since the sales to the original purchasers of the medical device were authorized for only a single use, the sale was "validly conditioned" and "violation of the restriction may be remedied by action for patent infringement," supra at 709. The Mallinckrodt opinion determined that the sales at issue were conditional sales, and that only an unconditional sale exhausts a patentee’s patent rights in a sold product. Therefore, in Mallinckrodt, the court found liability for patent infringement.

The Mallinckrodt conclusion is consistent with the language in earlier Supreme Court cases concerning exhaustion: "The right to construct and use… had been purchased and paid for without any limitation as to the time…" Bloomer v. McQuewans, 55 U.S. 539, 553 (1852); "…and sold it without any conditions…" Mitchell v. Hawley, 83 U.S. 544, 547 (1872); "…sold…without condition or restriction…" Adams v. Burke, 84 U.S. (17 Wall.) 453, 455 (1874); "…sold it without any conditions…" Keeler v. Standard Folding Bed Co., 157 U.S. 659, 663 (1895); and "… the right to vend is exhausted by a single, unrestricted sale…" Motion Picture Patents Co. v. Universal Film Manuf. Co., 243 U.S. 502, 516 (1917) emphasis added.

Thus, in Mallinckrodt, it was found that conditional sales by the patentee did not exhaust Mallinckrodt's patent rights to the products used in violation of the conditions of sale. Accordingly, the issue decided by Mallinckrodt was whether or not a conditional sale by a patentee exhausts the patentee’s patent rights. In contrast, the issue decided in Quanta relates to the effect of a sale presumably made without conditions and under a license that did not impose conditions on the licensee’s authority to sell the products. ("No conditions limited Intel’s authority to sell products substantially embodying the patents." 128 S.Ct. at 2122)

In an en banc decision issued on February 12, 2016, Lexmark International, Inc. v. Impression Products, Inc., 2014-1617, 2014-1619, the U.S. Court of Appeals for the Federal Circuit confirmed that the Supreme Court Quanta decision did not overrule Mallinckrodt.

There were two distinct issues decided in the Lexmark decision. First, does the sale of a patented article in the United States with a single use restriction exhaust the patent owner's patent rights in that article? Second, does the sale of a patented article in a foreign country, with or without restrictions, exhaust the patent owner's patent rights in that article?

The sale of a patented article in the United States with a single use restriction does not exhaust the patent owner's patent rights in that article.

In the Lexmark case, the plaintiff sold certain toner cartridges in the United States, at a discounted price, subject to an express single-use/no-resale restriction. Notwithstanding the restriction, the defendant acquired used Lexmark cartridges and resold them in the United States in violation of the restriction. The defendant argued that the Quanta decision had overturned Mallinckrodt, and that Lexmark had exhausted its patent rights in the products once it had sold them - even though the products were sold with a restriction.

The Court of Appeals held that the Quanta decision did not overturn Mallinckrodt. Although the decision spends many pages analyzing the issue, the important factors can be summarized as follows:

1. Supreme Court precedent held that authorized, unrestricted sales exhausted a patent owner's rights in a patent;
2. The facts in the Quanta case related to authorized, i.e., unrestricted sales of articles, therefore, there was exhaustion;
3. In Mallinckrodt, the sales were restricted, and were thus not authorized sales, therefore there was no exhaustion; and
4. In Lexmark, the facts also related to restricted sales of articles, which therefore, as concluded in Mallinckrodt, did not amount to authorized sales.

Accordingly, the en banc decision in Lexmark concluded that Lexmark's restricted sales in the United States did not exhaust Lexmark's patent rights in the toner cartridges, and Lexmark was thus able to pursue patent infringement claims against the defendant.

The sale of a patented article in a foreign country does not exhaust the patent owner's U.S. patent rights in that article.

The second issue decided in the Lexmark decision is whether the unrestricted sales of Lexmark's products in foreign countries exhausted Lexmark's patent rights in the products.

Previously, in Jazz Photo Corp. v. International Trade Comm'n, 264 F.3d 1094 (Fed. Cir. 2001), the Court of Appeals for the Federal Circuit held that a U.S. patentee, merely by selling or authorizing the sale of a U.S.-patented article abroad, does not authorize the buyer to import the article and sell and use it in the United States, which are infringing acts in the absence of patentee-conferred authority. In other words, the Court had held that foreign sales did not exhaust a patent owner's rights in the articles.

In the Lexmark case, the defendant argued that this principle decided in Jazz Photo was overturned by the recent U.S. Supreme Court decision in Kirtsaeng v. John Wiley & Sons, Inc., 133 S. Ct. 1351 (2013). In the Kirtsaeng decision, the Supreme Court held that foreign sales of a copyrighted book exhausted the copyright owner's copyright in the book. As such, the copyright owner was not able to successfully sue for infringement when the defendant purchased its books in a foreign country and resold them in the United States. The defendant in the Lexmark case argued that, as a result of the Supreme Court decision in Kirtsaeng, the earlier Jazz Photo case was overturned, and that Lexmark's sales of the cartridges in foreign countries exhausted Lexmark's U.S. patent rights in the products that were initially sold in a foreign country.

In addressing this issue, the Court of Appeals stated, on pages 62 - 63 of the slip opinion, that:

In short, this court has held since 2001 that the foreign sale of a U.S.-patented article, when the sale is either made or authorized by the U.S. patentee, does not, standing alone, confer on the buyer "authority" to import the item into the United States or to sell and use it here, and so does not save those acts from being infringing under § 271(a). See Ninestar Tech. Co. v. Int’l Trade Comm’n, 667 F.3d 1373, 1378 (Fed. Cir. 2012). The court has not curtailed the ability of an accused infringer to show that the patentee conferred such authority by words or implications. Exhaustion cannot rest on a foreign first sale, but an express or implied license might be found based on the circumstances of particular foreign sales. (emphasis added)

In analyzing the difference between the copyright action in Kirtsaeng and the patent issue in Lexmark, the Court noted that the analysis in Kirtsaeng concerned a statutory provision in the copyright laws which has no counterpart in the patent laws. Accordingly, the Court concluded that Kirtsaeng did not require a conclusion that the foreign sales of patented articles exhausted a U.S. patent owner's rights in the articles.

After a lengthy analysis based on public policy, as well as numerous earlier cases, not all of which supported the Court's conclusion, the Court held that foreign sales of patented articles did not exhaust a U.S. patent owner's rights in the articles.

Implied License

In the Quanta decision, the Supreme Court noted the difference between an exhaustion defense and an implied license defense: "…Quanta asserts its right to practice the patents based not on implied license but on exhaustion." 553 U.S. at 637. In the Lexmark case, as noted in the opinion in several locations, the defendant similarly did not preserve an implied license defense, but instead relied only on exhaustion.

A U.S. patentee, when selling a U.S.-patented article abroad, could give the buyer permission, expressly or by implication from the circumstances, to import the purchased article into the United States and sell and use it here. Such a license would make those acts non-infringing. As quoted above, the Court in Lexmark stated that, whereas exhaustion cannot rest on a foreign first sale, an express or implied license might be found based on the circumstances of particular foreign sales. In fact, the Court specifically stated its conclusion, i.e., that no exhaustion was created by Lexmark's foreign sales, "…leaves undisturbed the availability of an express or implied license defense to infringement."

However, none of the defendants in Quanta or Lexmark relied on an implied license defense. Accordingly, that principle is not discussed herein. However, the potential availability of such a defense should be noted and considered when undertaking an analysis of exhaustion.

Post-sale Restrictions

For now, the Lexmark decision resolves the dispute over whether Quanta overruled Mallinckrodt, and whether Jazz Photo survived the Kirtsaeng decision. However, given the U.S. Supreme Court's increased interest in intellectual property issues and the philosophical nature of the foreign sales issue discussed above, it is by no means clear that the issues are finalized. It will be interesting to see if either of the two issues discussed herein are considered by the U.S. Supreme Court.

With this in mind, when developing licensing and related programs, it is important to consider including remedies in such sales or license agreements that could be enforced outside of the patent laws, such as through a breach of contract action. For example, even if a sale exhausts the patent rights in a product, the patent owner or licensee may still incorporate enforceable contract rights in sales or licensing agreements associated with the sales.
Such a tool for enforcing post-sale restrictions in a patented product is mentioned in footnote 7 of the Quanta decision. In that footnote, the Court states that "…we express no opinion on whether contract damages might be available even though exhaustion operates to eliminate patent damages." 128 S.Ct. at 2122.

For example, in Arizona Cartridge Remanufacturers Assoc. v. Lexmark International Inc., 421 F.3d 981 (9th Cir. 2005), the Court found that a license agreement¹ printed on the outside of a printer cartridge package created an enforceable contract between the manufacturer and the ultimate purchaser. The Court found that the agreement was enforceable in spite of the plaintiff's argument that there was no privity between the purchaser and the manufacturer. The Court held that the contract on its face appears to be enforceable based on the district court's findings that consumers: (1) have notice of the condition; (2) have a chance to reject the contract on that basis; and (3) receive consideration in the form of a reduced price in exchange for the limits placed on reuse of the cartridge.

Thus, a situation may exist where a patentee has exhausted its patent rights in a product through a sale of the product, but may still retain some control through the use of contracts. Of course, enforcement of a contract would require some relationship between the patent owner and the defendant being sued. In contrast, if the patent owner’s rights in the patent were not exhausted by the sale, no such privity would be required in a patent infringement action.

Conclusion

For now, the law is clear that: (1) the sale of a patented article in the United States with a single use restriction does not exhaust the patent owner's patent rights in that article; and (2) the sale of a patented article in a foreign country, with or without restrictions, does not exhaust the patent owner's patent rights in that article. However, the Supreme Court has not yet weighed in on these issues.

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