Chapter §25.07 Gray Market Patented Goods

JurisdictionUnited States

§25.07 Gray Market Patented Goods

Transborder patent disputes frequently involve "gray market" goods. Such goods, also termed "parallel imports," are not counterfeit, illegal, pirated, or products of the "black market."143 Rather, gray market goods are legitimate products, manufactured by or under the authority of the patent owner. Whether manufactured domestically or offshore, gray market goods are first sold in a foreign market by the patent owner or its authorized agent, then purchased by third parties for unauthorized importation to the patent owner's home market, where they compete with authorized (and typically higher-priced) channels of distribution. Because these goods are often sold by the patent owner at discounted prices in foreign markets, they are attractive targets for purchase by gray marketeers, who will import them into the patentee's domestic market to undercut higher prices there.

The divisive legal issue raised by parallel imports is whether the patent owner, having first sold its patented goods outside its domestic market, can prevent their subsequent importation into that market by an unauthorized third party as a violation of the underlying patent right. The patentee's ability to use its patent as a weapon to prevent competition from gray market goods turns on a legal doctrine rather inaptly named "exhaustion of rights."144 Three forms of exhaustion should be distinguished: (1) domestic exhaustion, (2) regional exhaustion (e.g., within the European Union), and (3) international exhaustion. Each is discussed below.

[A] Domestic Exhaustion

The concept of domestic exhaustion in the patent context is well established in the national laws of all countries and is not directly implicated in parallel imports disputes. Domestic exhaustion simply means that after the first authorized sale of a product in a given domestic market, the owner of the patent right(s) under which that particular item was produced no longer has any enforceable right to control the disposition or profit from the subsequent resale of that same physical item within the domestic market.145

For example, a consumer who purchases a new Ford brand automobile in the U.S. state of Michigan, which automobile contains one or more internal components covered by Ford-owned patents in the United States, owes no further patent royalty or other remuneration to the Ford Motor Company if and when she resells the same car in the U.S. state of California. Ford received full value or "tribute" for the value of its patented automotive inventions at the time of the first authorized sale of the car, and the purchaser obtained the right to dispose of the car in any manner without having to seek Ford's permission.146 The principle of domestic exhaustion recognizes that the fundamental legal policy against restraints on alienation of personal property outweighs any patent right of Ford.

[B] Regional (European Community-Wide) Exhaustion

A second variety of exhaustion theory applies within the member states (i.e., countries) of the European Union.147 The European Court of Justice (ECJ) has adopted a "community-wide exhaustion" approach, which is in essence domestic exhaustion for a marketplace that comprises the entire European Union (EU). In practice, Community exhaustion means that once a patented item is put on the market anywhere in the EU with the patent owner's consent, the patent owner cannot thereafter prevent the importation of that patented item into another EU member state.148 The ECJ's adoption of Community exhaustion reflects the Treaty of Rome's bedrock principle of "free movement of goods," which grounds the EU's antipathy toward barriers to trade between EU member states.149

[C] International Exhaustion

[1] Generally

The third and final variety of exhaustion, international exhaustion, is a more complicated and unsettled legal concept than the two previous forms; international exhaustion is directly implicated in parallel imports disputes that span national borders. In contrast with domestic exhaustion, countries do not uniformly agree whether to adhere to the principle of international exhaustion.

Proponents of international exhaustion contend that a patent owner's rights are extinguished at the first authorized sale of a patented item anywhere in the world, and that subsequent importation of that same item into the patentee's home country cannot be a legal wrong. This faction, which includes discount retailers, consumer action groups, and some economists, contends that consumers benefit from the price competition created by parallel imports. Advocates of international free trade and international harmonization of IP rights also favor parallel imports, because permitting entry of gray goods will lessen, if not eliminate, the patent owner's ability to price-discriminate on an international scale.

International exhaustion is a controversial idea because it flies in the face of traditional thinking that patent rights are merely national, not international, in scope, and that such rights begin and end at national borders. Indeed, the U.S. Patent Act expressly provides that unauthorized importation of goods embodying a patented invention is actionable infringement.150 Patent owners, particularly in the R&D-intensive pharmaceutical industry, contend that sales of their patented product in a foreign market, usually at discounted prices, cannot exhaust their domestic patent rights, which are created by domestic statutes of restricted territorial scope and for which the patentees have not received full value in the lower-priced foreign sales.151

Of all forms of IP protection, the complexity of patent law may make it the most territorial, as reflected historically by extensive substantive differences between national patent laws. Indeed, Article 4bis of the Paris Convention expressly recognizes the principle of independence of patents obtained for the same invention in different countries. Thus, the Japanese Supreme Court's 1997 decision in BBS Kraftfahrzeug Technik AG v. Kabushiki Kaisha Racimex Japan and Kabushiki Kaisha JapAuto Prods.,152 which adopted and applied the international exhaustion doctrine against a Japanese patent owner, surprised many in the international patent community.

Until the Supreme Court held otherwise in May 2017, the United States did not recognize the principle of international exhaustion with respect to patented items (in contrast with the U.S. courts' treatment of copyrighted or trademarked goods153). For those novel and nonobvious products that could qualify, protection under U.S. patent laws thus held the greatest promise for domestic corporations seeking to stop parallel imports. The remainder of this subsection details the progression from the United States' rejection of international patent exhaustion to the Supreme Court's 2017 adoption thereof.

[2] Federal Circuit Rejection of International Exhaustion

In a rare decision touching on parallel imports of patented goods, the U.S. Supreme Court in Boesch v. Graff154 enjoined the importation of a product covered by U.S. patent and acquired abroad from an authorized German source with prior user rights.155 The Court broadly asserted that "[t]he sale of articles in the United States under a United States patent cannot be controlled by foreign laws."156

In 2001, the Federal Circuit relied on Boesch in rejecting the international exhaustion doctrine for patents in Jazz Photo Corp. v. U.S. Int'l Trade Commission.157 The Jazz Photo court confirmed that "United States patent rights are not exhausted by products of foreign provenance" and that for an accused infringer "[t]o invoke the protection of the first sale doctrine, the authorized first sale must have occurred under the United States patent."158

In its 2012 decision Ninestar Tech. Co., Ltd. v. Int'l Trade Comm'n,159 the Federal Circuit reaffirmed the Jazz Photo holding in a case involving the infringement of U.S. patents owned by Epson America Inc. (and related corporations) by Ninestar's unauthorized importation of ink printer cartridges manufactured in China.160 The Federal Circuit in Ninestar roundly rejected Ninestar's defenses that "national patent rights are exhausted by the manufacture and sale in a foreign country of a product covered by a national patent, and thus the importation of that product cannot violate the national patent,"161 and that "the sale in a foreign country of a product manufactured in the foreign country extinguishes any right to enforce a United States patent against that product if it is imported into the United States."162

Notably, the Supreme Court denied certiorari in Ninestar in March 2013,163 even though it had recognized the international exhaustion defense for unauthorized importation of copyrighted works in a separate decision issued one week previously; namely, Kirtsaeng v. John Wiley & Sons, Inc.164 However, the Supreme Court decided to review the issue in a different case in December 2016, as detailed in the following subsections.

[3] Lexmark Int'l (Fed. Cir. 2016) (en banc)

The debate over international exhaustion of U.S. patent rights proceeded when Lexmark International ("Lexmark"), a provider of printing and imaging products, software, and services headquartered in Lexington, Kentucky, sued Impression Products (and others) for patent infringement in 2010. Lexmark made first sales outside the United States of certain toner cartridges for its inkjet printers. Several Lexmark-owned U.S. patents covered the cartridges and their use. Third parties outside the United States acquired and refurbished the cartridges so they could be re-used. Other third parties, including defendant/accused infringer Impression Products, then sold the refurbished cartridges to customers in the United States without Lexmark's permission.165

When Lexmark sued Impression for patent infringement, the U.S. District Court for the Southern District of Ohio refused to dismiss the case, holding that "the...

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