Patent Exhaustion May Not Protect Parties Upstream of an Initial Authorized Sale of a Patented Product

April 10th, 2019

SUMMARY: Patent exhaustion can protect parties downstream of an initial authorized sale of a patented product in the chain of commerce but may not protect parties upstream of the sale.  In this respect, when a retailer is granted a license from a patent holder to sell an otherwise infringing product, any upstream parties, such as a manufacturer or a distributor of the product, should not assume that this license has implicitly authorized them to sell such product.

The United States District Court for the Western District of Washington recently addressed the doctrine of patent exhaustion in Perfect Co. v. Adaptics Ltd., No. 3:14-cv-05976-RBL, slip op. at 4 (W.D. Wash. Mar. 19, 2019).  In so doing, the court reaffirmed that the exclusionary rights of a patent holder with respect to a product are not exhausted against an upstream party when a downstream party sells that product in a sale authorized by the patent holder. Id. at 6.

Patent exhaustion is a limitation on the rights of a patent holder to exclude others from making, using, offering for sale, selling, or importing products covered by its patent. Impression Prods., Inc. v. Lexmark Int’l, Inc., 137 S. Ct. 1523, 1530-31 (2017) (citation omitted).  More specifically, when a patent holder sells or authorizes the sale of a patented item, “that product ‘is no longer within the limits of the monopoly’ [created by the patent] and instead becomes the ‘private, individual property’ of the purchaser.” Id. (quoting Bloomer v. McQuewan, 55 U.S. 539, 549-50 (1853)).  That is, “the initial authorized sale of a patented item terminates all patent rights to that item.” Quanta Computer, Inc. v. LG Elecs., Inc., 553 U.S. 617, 625 (2008).  As a result, a patent holder “may not, ‘by virtue of his patent, control the use or disposition’ of the product after ownership passes to the purchaser.” Impression Prods., 137 S. Ct. at 1531 (emphasis omitted) (quoting United States v. Univis Lens Co., 316 U.S. 241, 250 (1942)).  For example, in Impression Products, the Supreme Court held Lexmark International, Inc. (“Lexmark”) could not enforce via a patent infringement suit the “single-use/no-resale provision” attached to sold printer toner cartridges. Id. at 1533.  Instead, Lexmark’s avenue to enforce such a post-sale restriction was via contract law. Id.  As such, according to the doctrine of patent exhaustion, when a party purchases a patented product in a sale authorized by the patent holder, the party may sell that product to a subsequent purchaser without violating the patent holder’s patent rights.

In Perfect Co. v. Adaptics Ltd., defendant Adaptics Limited (“Adaptics”) sold its Drop Kitchen Connected Scale and Drop Kitchen Recipe App (“Drop Products”), which allow users to make food and mix drinks based on weight measurements, through Apple, Inc.’s (“Apple”) App Store and brick-and-mortar locations. No. 3:14-cv-05976-RBL, slip op. at 1.  Perfect Company (“Perfect”) filed suits against Adaptics and Apple, alleging the Drop Products infringed U.S. Patent Nos. 8,829,365 and 9,772,217 (“the ’365 and ’217 Patents”). Id. (citation omitted).  Subsequently, Perfect reached a settlement with Apple. Id. at 2.  While the settlement included a covenant that Perfect would refrain from enforcing the ’365 and ’217 Patents against Apple or any of its customers, affiliates, or suppliers, the settlement contained a specific exemption for patent infringement claims against Adaptics and certain other entities. Id. (citation omitted).  However, Adaptics believed, despite the exemption, Perfect’s settlement with Apple had implicitly authorized it to sell the Drop Products through Apple. Id.

The court in Perfect Co. rejected Adaptics’ argument that the sale of the Drop Products through Apple’s various retail channels exhausted Perfect’s patent rights against Adaptics. Id. at 6.  More specifically, Adaptics asserted that, in Impression Products, the Supreme Court extended the doctrine of patent exhaustion to protect upstream parties in the chain of commerce. Id. (citation omitted).  However, the court disagreed with Adaptics, noting “the description and application of patent exhaustion [in Impression Products] is limited to transactions downstream of the authorized sale and says nothing about whether a patentee’s rights against upstream parties are exhausted.” Id.  Accordingly, because Adaptics is an upstream supplier of the Drop Products to Apple, the court held Perfect’s patent rights against Adaptics were not exhausted by Apple’s authorized sale of the Drop Products. Id.

Moreover, the court in Perfect Co. noted that several other courts have rejected arguments similar to those presented by Adaptics. Id. at 7-8.  For example, in Asetek Holdings, Inc. v. CoolIT Systems, Inc., defendant CoolIT Systems, Inc. (“CoolIT”) asserted that patent exhaustion barred Asetek Holdings, Inc.’s (“Asetek”) patent infringement suit against it because Asetek allowed a third party to purchase and resell CoolIT’s infringing products. No. C-12-3398 EMC, 2013 U.S. Dist. LEXIS 147829, at *5 (N.D. Cal. Oct. 11, 2013).  However, in that case, the court disagreed, stating “[n]o court that this Court is aware of has ever applied the patent exhaustion doctrine to protect anyone ‘upstream’ – e.g., the person/entity’s suppliers – nor has CoolIT identified any such authorities.” Id. at *6.  Furthermore, in Global Communications, Inc. v. DirectTV, Inc., the court held that “Global’s patent-infringement claims against the upstream entities are not barred by the doctrine of patent exhaustion, because the challenged conduct precedes and then comprises the first sale.” 1 F. Supp. 3d 1305, 1308 (N.D. Fla. 2014); see also Crossroads Sys., Inc. v. Dot Hill Sys. Corp., 48 F. Supp. 3d 984 (W.D. Tex. 2014) (holding that patent exhaustion does not apply to an upstream manufacturer).

In addition, the court in Perfect Co. noted the underlying rationale for patent exhaustion, namely, preventing restrictions on alienation of goods in commerce, does not support the application of the doctrine to upstream parties. Perfect Co., slip op. at 8.  The Supreme Court has also noted that a patent holder has enjoyed all of the rights provided by a patent when it sells or authorizes the sale of a patented product. Impression Prods., 137 S. Ct. at 1532 (citation omitted).  As such, “[b]ecause ‘the purpose of the patent law is fulfilled . . . when the patentee has received his reward for the use of his invention,’ that law furnishes ‘no basis for restraining the use and enjoyment of the thing sold.’” Id. (quoting Univis, 316 U.S. at 251).  In this respect, the Supreme Court has held that permitting patent rights to extend beyond the initial sale of an item would “clog the channels of commerce.” Id.  Furthermore, the additional control that patent holders would retain over their products provides minimal benefit. Id.  With this policy in mind, the Perfect Co. court noted that “maintaining rights against an infringing manufacturer while authorizing the re-sale of their product by a distributor does ‘not clog the channels of commerce.’” Perfect Co., slip op. at 8 (quoting Impression Prods., 137 S. Ct. at 1532).