The validity of conditional sales: competing views of patent exhaustion in Quanta Computer, Inc. v. LG Electronics, Inc.

• Author: McCammon, Jason

The doctrine of patent exhaustion limits the ability of a patentee to control the disposition of a patented article after the item is sold. In some instances, however, patentees may contract with buyers in order to exercise downstream control of patented items. When and to what extent patentees may use contract law to limit patent exhaustion, generally through restrictive licenses or conditions at the time of sale, (1) remains an open question. (2) The Supreme Court has not articulated a bright-line test for determining when the transfer (3) of an item from a patentee triggers the doctrine of patent exhaustion. Last Term, in Quanta Computer, Inc. v. LG Electronics, Inc., (4) the Supreme Court unanimously reaffirmed that an unrestricted sale of a patented good triggers patent exhaustion. The Court's decision, however, does not squarely address the underlying question of whether a patentee may impose restrictions or conditions through licenses or other notice at the time of sale. By declining to address this issue directly, the Court left open at least two potentially competing interpretations of how the exhaustion doctrine should deal with restrictions or conditions. As a result, lower courts have insufficient guidance to apply the Court's holding consistently and correctly.

LG Electronics (LG) owns a number of computer technology patents, three of which were at issue in Quanta. (5) Simply stated, these patents deal with technology and processes for transferring information to and from random access memory (RAM). (6) LG licensed the patents to Intel, authorizing Intel to manufacture and sell processors and chipsets that used the LG-patented technology. (7) Specifically, the LG-Intel License Agreement authorized Intel to "make, use, sell (directly or indirectly), offer to sell, import or otherwise dispose of" Intel products that practiced the licensed patents. (8) The License Agreement went on to limit the scope of the license with respect to third parties, stating that no license may be

granted by either party hereto.., to any third party for the combination by a third party of Licensed Products of either party with items, components, or the like acquired ... from sources other than a party hereto, or for the use, import, offer for sale or sale of such combination. (9) Finally, the License Agreement stated that "[n]otwithstanding anything to the contrary contained in this Agreement, the parties agree that nothing herein shall in any way limit or alter the effect of patent exhaustion that would otherwise apply when a party hereto sells any of its Licensed Products." (10)

In a separate agreement between LG and Intel (the Master Agreement), Intel agreed to notify its customers that Intel's license to sell the LG technology did "not extend, expressly or by implication, to any product that you make by combining an Intel product with any non-Intel product." (11) Intel sold components of the LG-patented systems to, among others, Quanta Computers. (12) Although Quanta received the notice specified in the Master Agreement, it manufactured computers combining Intel parts and non-Intel parts in a way that practiced the LG patents. (13) LG then sued Quanta for patent infringement. (14)

The district court granted summary judgment to Quanta, finding that the components in question, although not fully practicing the patents at the time of sale, sufficiently embodied the patents to trigger patent exhaustion. (15) In a later ruling clarifying its original summary judgment order, however, the district court ruled that patent exhaustion does not apply to method claims (that is, claims covering processes rather than devices). (16) Because each of the patents in question contained at least one method claim, the district court reasoned, the defense of patent exhaustion did not apply. (17)

The Court of Appeals for the Federal Circuit affirmed in part and reversed in part. (18) As to the method claims argument, the Federal Circuit agreed that patent exhaustion did not apply. (19) However, the Federal Circuit disagreed with the district court's conclusion that exhaustion applied to the other claims at issue. (20) The court reasoned that because the License Agreement did not authorize Intel to sell the products in question for use in combination, and because there had been no authorized, unrestricted sale of the goods, patent exhaustion did not apply. (21)

The Supreme Court reversed. (22) Writing for a unanimous Court, Justice Thomas held that the sale of the components by Intel did trigger the doctrine of patent exhaustion and that method claims are subject to patent exhaustion. (23) He employed broad language to describe patent exhaustion, beginning with his opening statement: "For over 150 years this Court has applied the doctrine of patent exhaustion to limit the patent rights that survive the initial authorized sale of a patented item." (24) Similarly, he noted that "[t]he longstanding doctrine of patent exhaustion provides that the initial authorized sale of a patented item terminates all patent rights to that item." (25) Applying the doctrine to the present facts, Justice Thomas determined that the LG-Intel License "authorize[d] the sale of components that substantially embody the patents in suit, [and therefore] the sale exhausted the patents." (26)

In reaching his holding, Justice Thomas first recited the language of the License Agreement between Intel and LG. He characterized the language of the license as "broad" (27) but also noted the apparent limitation of the License Agreement and notice provision contained in the Master Agreement. (28) Justice Thomas then briefly reviewed the history of patent exhaustion, noting only one "short lived" instance, subsequently overruled, when the Court permitted "post-sale restrictions on the use of a patented article." (29)

Justice Thomas then turned to United States v. Univis Lens Co., (30) the Supreme Court's most recent discussion of patent exhaustion. The patents at issue in Univis Lens covered certain types of lenses for use in eyeglasses. (31) The patent holder, Univis, attempted to set up a system whereby it sold unfinished blanks for the lenses to wholesale outlets, and the lenses subsequently were finished in stages and sold down the chain to wholesale and retail outlets then on to consumers. (32) Univis attempted to extract a license fee at each level of this chain of distribution. (33) Although the product did not fully practice the patent until the blanks were ground and the product finished, (34) the Court determined that the blanks "embodie[d the] essential features" of the patent because the blanks' "only use" was to practice the underlying patent. (35) The Univis Lens Court therefore held that the sale of the lens blanks exhausted the patent holder's right to collect further royalties. (36)

Holding for Quanta, the Court found...