The Supreme Court’s New Take on Patent Exhaustion

“…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.”

On Tuesday, May 30, 2017, the United States Supreme Court issued its opinion in Impression Products, Inc. v. Lexmark International, Inc., expanding the scope of patent exhaustion and in turn minimizing patent rights post-sale. This ruling, authored by Chief Justice John Roberts, places new restrictions on businesses’ ability to control the marketplace after an initial sale. The Court’s holding was two-fold: (1) a patentee loses all patent rights in an item subsequent to the sale of that item, regardless of any contractual restrictions with the purchaser, and (2) this exhaustion occurs regardless of whether the sale occurs domestically or abroad.

Factual Background:

Lexmark International, Inc. (“Lexmark”), designs, manufactures and sells toner cartridges, and owns a number of patents that cover both the components of those cartridges as well as the manner in which those cartridges may be used. Impression Products, Inc. (“Impression Products”) is a remanufacturer, which acquires used Lexmark cartridges, refills the cartridges with toner, and then resells them at a lower price than the new cartridges Lexmark sells.

As this recycling practice is neither new nor secret, in the past Lexmark had structured its sales strategy to encourage customers to avoid purchasing from remanufacturers, such as Impression Products. Specifically, Lexmark’s “Return Program” offered a discount of approximately 20% to those who signed a contract agreeing to only use each cartridge once and to refrain from transferring empty cartridges to a third party. Lexmark went to great lengths to enforce this program, installing microchips on each cartridge that would prevent reuse. Ultimately, remanufacturers developed methods to counteract the effects of the microchips.

This lawsuit originated in 2010, when Lexmark sued numerous remanufacturers, including Impression Products, for patent infringement. Lexmark’s claims targeted two groups of cartridges: (1) Return Program cartridges Lexmark had sold domestically, and (2) all toner cartridges that Lexmark sold abroad and remanufacturers then imported into the United States.

Appellate Decision:

The Federal Circuit found in Lexmark’s favor regarding both groups of cartridges. As to the Return Program cartridges, the appellate court ruled Lexmark’s sales had not exhausted all of its patent rights since Impression Products knew about Lexmark’s post-sale restrictions.

Therefore, the Federal Circuit found Landmark could properly sue for patent infringement when Impression Products refurbished and resold Return Program cartridges. With regard to toner cartridges sold abroad, the Federal Circuit found because an American patent offers no protection overseas, Lexmark had not exhausted its patent rights and could properly sue for bringing foreign-sold cartridges to market in the U.S.

Supreme Court Decision:

In a decision that was 8-0 with respect to holding sales exhaust patent rights regardless of post-sale restrictions and 7-1 that foreign sales exhaust patent rights, the U.S. Supreme Court reversed the Federal Circuit on both counts. Justice Ginsburg offered the lone dissent, and only as to the concept of international exhaustion.

1. Initial Sale Exhausts Patentee’s Rights.

The Supreme Court first addressed the Return Program cartridges, and held that the sale of these cartridges exhausted any patent rights Lexmark previously possessed, regardless of any contractual post-sale restrictions on purchasers. The Court reasoned that Lexmark received the benefits of its patent rights upon the initial sale, and that continuing to enjoy patent rights would essentially qualify as double dipping. Importantly however, the Court noted Lexmark’s contractual restrictions with its customers may be enforceable, leaving a potential legal remedy available via contract law.

Since many patentees license others to make and sell their products, and may place restrictions on those licenses, the Court addressed this issue as well. In such cases, where the licensee breaches the license, such as by making sales outside the scope of the license, the patentee can still sue the licensee for infringement because licensing focuses on expanding the number of authorized producers of a product and not the transfer of title. Nonetheless, the Court made clear that patent law does not allow patentees to impose patent infringement liability on purchasers of a product from a licensee; the sale from licensee to consumer exhausts the patentee’s rights in that item as if the patentee had made the sale himself. Seemingly, the only exception is if the purchaser knowingly conspires with the licensee to buy products with knowledge the purchase is outside the scope of the license.

“In sum, patent exhaustion is uniform and automatic. Once a patentee decides to sell—whether on its own or through a licensee—that sale exhausts its patent rights, regardless of any post-sale restrictions the patentee purports to impose, either directly or through a license.”

2. Patent Rights are Exhausted Internationally Upon Sale.

The Court next addressed the issue of international patent exhaustion, holding “[a]n authorized sale outside the United States, just as one within the United States, exhausts all rights under the Patent Act.” The Court stressed the value of a patentee’s ability to choose when, and at what price, to enter into a sale, stating:

Exhaustion does not depend on whether the patentee receives a premium for selling in the United States or the type of rights that buyers expect to receive. As a result, restrictions and location are irrelevant; what matters is the patentee’s decision to make a sale.

Implications:

The Supreme Court’s ruling is likely to have several primary impacts going forward.

While this ruling almost entirely extinguishes the ability to pursue post-sale patent infringement actions, the Court left open the ability to control products after a sale by way of contract law. As a practical matter, this ruling increases the difficulty for a patentee to recover damages, especially under any patent infringement theory, and will not govern those companies such as Impression Products, who were never bound by the single-use contractual language. Furthermore, the Court’s discussion on licensing and the ability for a patentee to restrict licensees may sway patentees towards characterizing their transactions as “licenses” instead of “sales,” blurring the lines as to the applicable law. What is certain is that moving forward, this new precedent will continue to evolve and both the courts and the markets will adapt in their own particular ways. For example, patentees may raise prices of their patented goods knowing they cannot impose patent rights—and demand additional sales income—after the initial sale.

If you have any questions regarding this ruling, or how to best protect your intellectual property rights generally or in light of this decision, please do not hesitate to contact us.

Article brought to you by:
Nathan A. Evans
Of Counsel
Intellectual Property Practice Group

Dylan R. Denslow
Associate
Intellectual Property Practice Group