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Argument analysis: Justices skeptical of categorical “exhaustion” of patent rights

For a court that has heard so many crucial intellectual property cases over the last several years, October Term 2016 is remarkable in that it was not until this morning that the court heard an intellectual property case that has the potential to be a “major” decision. But they faced a case of potentially momentous importance for modern commerce when they heard argument in Impression Products, Inc. v Lexmark Int’l, Inc.  Unfortunately, I don’t think many people left the courtroom knowing much more about the case than they did when they entered. Perhaps the justices wore themselves out with so much incisive questioning in the morning’s first argument (Microsoft v. Baker), but this argument was much more like the Monday argument in Howell v. Howell on which Amy Howe reported here: a cold bench largely leaving the advocates to their own devices.

The case involves the doctrine of “exhaustion,” under which a patentholder’s rights to enforce its patent ordinarily are “exhausted” with regard to any particular object at the moment the patentholder sells the object. As applied to this case, for example, Lexmark’s rights to control the use of its patented refillable print cartridges would be “exhausted” when it sells those cartridges to retail buyers, even if Lexmark conditions the sale on the promise that the buyer will not refill the cartridge. That, at any rate, is the argument of Impression Products, which makes a business out of refilling Lexmark cartridges in violation of those agreements. Lexmark’s argument, by contrast, is that modern commerce requires that innovators have the flexibility to devise contracting structures that segment the market into separate sectors, each of which gets a different price commensurate with the uses to which products will be put in that sector.

The terrain of the case is complex. There is a recent case (Kirtsaeng v John Wiley & Sons, Inc.,) in which the justices adopted a broad rule of exhaustion under copyright law, but that case affords little guidance because the Copyright Act, unlike the Patent Act, codifies the exhaustion doctrine. Justice Anthony Kennedy seized on that distinction early, asking Andrew Pincus, counsel for the defendant Impression Products, “[w]hy hasn’t this been codified? …. Too busy or what? …. Did the failure to codify mean we should be somewhat cautious in extending … or in interpreting [it]?”

It says something about the ill-defined nature of the problems before the court that the parties can’t even agree on the basis for the exhaustion doctrine. For his part, Pincus argued that the exhaustion doctrine rests on common-law rules that are hostile to restraints on alienation. Conversely, Malcolm Stewart, appearing on behalf of the U.S. solicitor general in support of Impression Products, argued that the doctrine was an interpretation of the exclusive rights granted to inventors by the Patent Act, a view shared by Constantine Trela, who argued on behalf of the patentholder, Lexmark.

Although counsel spent a great deal of the argument in largely uninterrupted presentations about the best way to read a large group of old cases examining contractual restraints in the patent area – no surprise that both sides believe the cases support them – most of the justices’ relatively sparse interjections involved more practical problems. Justice Sonia Sotomayor, for example, seemed impressed by what Pincus had to say about the cases, but moments before the end of his argument, stopped him to comment that “there are serious issues about this rule and its consequences,” and to ask him “[h]ow do you address all the negative consequences that your rule appears to be creating?” In the same vein, Justice Samuel Alito commented to Pincus: “The Federal Circuit’s rule on this is 25 years old. Has it caused a lot of problems?”

Chief Justice John Roberts and Justice Stephen Breyer also probed repeatedly as to why the patentholders like Lexmark cannot rely solely on contract law, but instead need patent law to enforce these restrictions. Roberts, for example, asked “Why is normal contract law and normal State law inadequate, for your purposes?” After listening to a few minutes of Trela’s response , Breyer asked “[w]hy can’t you enforce the contract downstream?” And when Trela explained that Lexmark (and other licensors) would lack privity with downstream purchasers, Breyer pressed yet again: “Then why don’t you require the person who sells it to just resell it with the requirement that they promise [to comply].”

In my judgment, the argument had only three significant revealing moments. In one of them, Breyer displayed an apparently visceral perspective that the kinds of provisions that Lexmark wants to impose should be routinely condemnable:

[A]ny monopolist, including a patent monopolist, would love to be able to go to each buyer separately and extract from each buyer and user the maximum amount he would pay for that particular item. …. But by and large, that’s forbidden under many laws, even though it does mean slightly restricted output, and it also means a lower profit for the monopolist.

That is not the comment of somebody predisposed to accept the idea that the realities of 21st-century commerce require updating of traditional restrictions on commercial contracting.

The other two moments involved the international aspect of the case: whether an overseas sale exhausts rights under the United States patent. On that topic, Alito and Breyer were deeply skeptical of Pincus’ argument. Alito was the more forceful:

[I]t’s somewhat surprising to me that none of the briefs in this case talk about our cases regarding extraterritoriality. In recent years, we’ve … said … that a statute does not apply outside the United States unless it says that it applies outside the United States. I don’t see why that shouldn’t be the same for a common-law rule like the rule here. And if what’s involved here is the application of U.S. patent law abroad, where is the clear statement that the exhaustion rule applies outside of the borders of the United States? I … don’t see where that can be found.

Alito hardly does the briefs justice; amicus briefs for IBM and Qualcomm, for example, included extended sections emphasizing the court’s precedents counseling against extraterritorial application of domestic statutes.

Breyer took a different tack, but reached a similar point, as he discussed the consequences of a hypothetical sale in Germany by an American holder of multiple patents on a single invention:

[T]hey have received money for that first sale under, let’s say, a German patent, and they have not received any money on this American patent. So they say, well, how could you be subjecting us to a rule that that first sale exhausted our right to money under the American patent when we never received any money under the American patent?”

My take on this is that the justices are well aware of the major implications here and don’t see any obvious way to avoid doing something that will have real economic consequences. None of the parties suggested any obvious narrowing strategy that would allow the justices to limit their decision. Rather, it seems, they are going to have to decide if these kinds of restrictions will, or will not, remain a product of 21st-century innovation policy. About the most to be gleaned from the argument is that Impression Products might have a harder time on the international point than it will on the domestic one. I would not count on hearing anything more about this case until June.

Recommended Citation: Ronald Mann, Argument analysis: Justices skeptical of categorical “exhaustion” of patent rights, SCOTUSblog (Mar. 21, 2017, 5:43 PM),