PATENT EXHAUSTION POSTLEXMARK Yar R Chaikovsky Advanced Patent

PATENT EXHAUSTION POST-LEXMARK Yar R. Chaikovsky Advanced Patent Law Institute, December 2017

OUTLINE • Overview of the Patent Exhaustion Doctrine • The Supreme Court’s Lexmark Decision • District Court Decisions and Post-Sale Restrictions After Lexmark 2

OVERVIEW OF THE PATENT EXHAUSTION DOCTRINE

THE PATENT EXHAUSTION DOCTRINE • Under 35 U. S. C. § 154(a), the Patent Act grants patentees “the right to exclude others from making, using, offering for sale, or selling [its] invention through the United States or importing the invention into the United States. ” • The Patent Exhaustion or First Sale Doctrine terminates a patent owner’s rights under patent law to control a patented article following the initial authorized sale of an item that substantially embodies a patent. • Rationale: “[T]he purpose of the patent law is fulfilled with respect to any particular article when the patentee has received his reward for the use of his invention by the sale of the article[. ]” United States v. Univis Lens Co. , 316 U. S. 241, 251, 62 S. Ct. 1088, 1094 (1942). 4

HISTORICAL LIMITATIONS TO THE PATENT EXHAUSTION DOCTRINE • Lawful restrictions on post-sale use or resale. Mallinckrodt, Inc. v. Medipart, Inc. , 976 F. 2 d 700 (Fed. Cir. 1992). • Foreign sales. Jazz Photo Corp. v. ITC, 264 F. 3 d 1094 (Fed. Cir. 2001). 5

THE SUPREME COURT’S LEXMARK DECISION

LEXMARK – FACTS • Lexmark is a leading developer of laser printers and toner cartridges in the United States and abroad. • Lexmark’s customers had two options when purchasing printer cartridges: o o Buy the cartridge at full price with no restrictions or; Buy the cartridge at a discount through the “Return Program, ” which required customers to sign a contract agreeing to use the cartridge only once and to refrain from giving the empty cartridge to anyone but Lexmark. 7

LEXMARK – FACTS • Impression Products acquired empty cartridges, including those subject to the “Return Program, ” refilled them, and resold them in the United States. • Lexmark sued Impression for patent infringement with respect to: o The “Return Program” cartridges sold by Lexmark within the United States; and o Printer cartridges Lexmark sold abroad, which Impression bought and then imported into the United States. 8

LEXMARK – POST-SALE RESTRICTIONS UNENFORCEABLE UNDER PATENT LAW • Lexmark argued that because there was a contract prohibiting the reuse and resale of the “Return Program” cartridges, Impression had infringed Lexmark’s patents by refurbishing and reselling them. • The Supreme Court held (8 -0) that Lexmark’s patent rights were exhausted after an initial authorized sale of its product, regardless of any post-sale restrictions. 9

LEXMARK – FOREIGN SALES TRIGGER PATENT EXHAUSTION • Lexmark argued that foreign sales did not trigger patent exhaustion. • The Supreme Court held (7 -1, with Justice Ginsburg dissenting) that patent exhaustion is triggered by the patentee’s decision to sell a product, regardless of location. 10

DISTRICT COURT DECISIONS AND POST-SALE RESTRICTIONS AFTER LEXMARK

POST-SALE RESTRICTIONS AFTER LEXMARK • Two avenues for downstream control left open by the Supreme Court’s decision: • Restrictions on licensees remain lawful (sales must still be authorized to trigger patent exhaustion doctrine). • Single-use/no-resale restrictions are still enforceable under contract law. 12

PATENT EXHAUSTION ONLY TRIGGERED BY AN INITIAL AUTHORIZED SALE Sunoco Partners Mktg. & Terminals L. P. v. U. S. Venture, Inc. , No. 15 C 8178, 2017 U. S. Dist. LEXIS 159109 (N. D. Ill. Sept. 27, 2017) • Sunoco sued Technics, Inc. and Venture, Inc. for infringement of three patents directed to a gasoline blending system. • Prior to the lawsuit, Technics sold and installed three of the accused systems in Venture’s gasoline dispensing facilities. • Sunoco and Technics settled, and Technics was dismissed from the case with prejudice. The settlement agreement provided that Sunoco would not sue Technics for infringing activities that occurred before the date of the agreement, but it also specified that it was not a license for future use of the patented technology by Technics or Technics' customers. 13

PATENT EXHAUSTION ONLY TRIGGERED BY AN INITIAL AUTHORIZED SALE • Issue: Whether Sunoco’s patent rights were exhausted by Sunoco's covenant not to sue Technics for infringing activities prior to the Sunoco-Technics settlement. o Venture alleged that, under Lexmark, a sale no longer need be “initially authorized” to trigger patent exhaustion and that the Sunoco-Technics settlement agreement retroactively authorized the sale of patented systems from Technics to Venture. • Held: A sale must still be authorized by the patent holder to trigger patent exhaustion. o “[Lexmark] concerned sales that were undisputedly authorized when they occurred; the question was whether the patent holder could retain some patent rights after a sale of a patented item and enforce those rights through an infringement suit. Sunoco, 2017 U. S. Dist. LEXIS at *30 -*31. 14

RESTRICTIONS ON LICENSEES STILL VALID Chrimar Sys. v. Alcatel-Lucent, No. 6: 15 -CV-00163 -JDL, 2017 U. S. Dist. LEXIS 122002 (E. D. Tex. Aug. 3, 2017) • Chrimar sued Alcatel-Lucent (“ALE”) for infringement of four patents directed to an Ethernet-related technology alleging that ALE sold products implementing that technology. Chrimar also sued Accton, one of ALE’s suppliers of the accused products, in a separate action for infringement of the same patents. • The Chrimar-Accton litigation settled with Chrimar granting Accton a license to the asserted patents, which explicitly excluded Accton’s sales to companies currently involved in litigation against Chrimar (i. e. , ALE). • A final judgment was entered in the Chrimar-ALE case, before ALE procured the Chrimar-Accton settlement agreement. ALE moved to modify the judgment once the license agreement was produced. 15

RESTRICTIONS ON LICENSEES STILL VALID • Issue: “Whether Chrimar exhausted certain rights in the patents-in-suit when it licensed those patents to Accton, a [supplier of the accused products to] ALE. ” Chrimar Sys. , 2017 U. S. Dist. LEXIS at *10. o • ALE asserted that the license agreement granted by Chrimar to Accton exhausted Chrimar’s rights to sue for infringement based on ALE’s sales of the accused products originally purchased from Actonn. Held: License that restricts the licensee from selling products to particular third parties are still valid. o “[T]his is not a post-sale restriction, as was the case in [Lexmark], but rather a sale that exceeded the scope of the license agreement and was therefore not authorized. In fact, this very concept was confirmed in Impression Products when distinguishing and reaffirming the Court's decision in General Talking. See Impression Prods. , 137 S. Ct. at 1535. ” 16

RESTRICTIONS ON LICENSEES STILL VALID Miics & Partners Am. , Inc. v. Toshiba Corp. , No. 14 -cv-803 (RGA), 2017 U. S. Dist. LEXIS 127745 (D. Del. 2017) • Miics sued Toshiba and Funai for infringement of 12 patents based on sales of products containing LCD components purchased from third-parties Samsung and Panasonic. • Samsung and Panasonic had licenses to sell the accused LCD components, but both licenses contained language prohibiting them from making end-user products with the licensed LCD components. • After intervening in the case, Samsung moved for summary judgment on behalf of Toshiba and Funai, arguing that the asserted patents were exhausted when the accused products were sold by Samsung to Toshiba and Funai. 17

RESTRICTIONS ON LICENSEES STILL VALID • Issue: Did plaintiff exhaust its rights in the asserted patents when it licensed those patents to a third party, which sold the accused products to defendants for placement in end-user products. ? o • Miics opposed the motion, arguing that the sales were not authorized because Samsung exceeded the scope of its license by selling the accused LCD components to third-parties who used the components to manufacture end-user products. Held: Miic’s rights in the asserted patents were exhausted by Samsung’s sale of the accused LCD components to the defendants. o “The licenses limit the ability of the licensees to manufacture enduser products themselves by clarifying that those products are not LCD modules. There is nothing in the licenses, however, that limits to whom the licensees can sell the licensed products. ” Miics, 2017 U. S. Dist. LEXIS 122745 at *13 -*14. 18

RESTRICTIONS ON LICENSEES STILL VALID 19 Audio MPEG Inc. v. Dell Inc. , No. 2: 15 -cv-73, 2017 U. S. Dist. LEXIS 127560 (E. D. Va. 2017) • Audio MPEG sued Dell for infringement of three patents directed to a technology that facilitates the playing of music and other audio on electronic devices, alleging Dell sold devices pre-installed with infringing software. • Audio MPEG had previously entered a license agreement, which authorized Microsoft "to make, have made, use, import, copy, have copied, sell, license, offer for sale or license, and otherwise distribute PC Software for use solely on Personal Computers. ” • Microsoft licensed its Windows operating system to Dell for installation on personal computers. • Dell moved for summary judgment, arguing that the Audio MPEGMicrosoft License Agreement included a license for third party software to use the Windows codecs by "calling" the codecs.

RESTRICTIONS ON LICENSEES STILL VALID • Issue: Whether the Microsoft Windows codecs are included in the Audio MPEG-Microsoft License Agreement as ‘PC Software, ’ thereby exhausting Audio MPEG’s patent rights with respect to sales made by Microsoft to Dell. o • “In this case, the parties disagree about whether the Microsoft Windows codecs are included in the Audio MPEG-Microsoft License Agreement as ‘PC Software’ and thus licensed for use by third party software operating in Windows. ” Audio MPEG, 2017 U. S. Dist. LEXIS at *19. Outcome: The court denied Dell’s motion, finding summary judgment improper because there was a genuine material dispute as to “whether third party software that calls a Windows codec is considered ‘PC Software’ under the License Agreement. Id. at *24. 20

TAKEAWAYS • An authorized sale of an item will exhaust all patent rights to that item, regardless of where the sale takes place. • Although some courts have held that authorized sale does not occur when the initial sale does not comply with the terms of the license agreement, it is unclear whether these holdings will be affirmed by the Federal Circuit. Patentees may have to rely on contractual remedies if an initial sale does not comply. 21

TAKEAWAYS 22 • Lexmark also makes it difficult to condition sales such that the patentee can go after downstream purchasers that disregard the conditions. • But, privity issues will be a major roadblock to relying on contractual remedies – will be very difficult to enforce contract restrictions against downstream parties. • License agreements will be interpreted under backdrop of public policy where restraints against alienation are disfavored.

EXHAUSTION DEFENSE IN LITIGATION • In general, Lexmark will make it easier for defendants to benefit from exhaustion based on third-party licenses. • Defendants’ vendors’ agreements will be important to determine whether a potential license defense exists. • Third party agreements involving the relevant component supplier of the vendors’ products will also be important; e. g. , Microsoft-MPEG agreement. 23

EXHAUSTION DEFENSE IN LITIGATION • Notable provisions that may have previously precluded an exhaustion defense which may now be viable. • Field of use restrictions – e. g. , patents licensed for 3 G, but not LTE, Wi. Fi. • Combination restrictions – e. g. , patents licensed for specified combination of components, while excluding other combinations. • Stream of commerce restrictions – e. g. , patent license extinguished if licensed product resold. • Party restrictions – e. g. , patents licensed to a particular entity, while expressly excluding others that may acquire a licensed product. • Territory restrictions. 24

LICENSING IP • Parties will need to more closely watch how it licenses their IP so as to not exhaust its rights. • Consider re-working existing license agreements and/or template license agreements so they do not have post-sale restrictions. • Includes patent pool license agreements to which party is a licensor. • Focus pricing policies on first authorized sales. • Consider bundling international IP into the license and charging the licensee a royalty based on total units sold worldwide. • Alternatively, consider splitting IP up between multiple entities, domestic and international. (May be limited by tax implications. ) 25

LICENSING IP • If licensee is paying royalties on a per-unit basis, consider mechanisms to prevent or capture international sales that are imported into the U. S. by third parties; e. g. , • Licensee must charge the same price for units regardless of whether domestic or international sale. • Develop benchmark to measure third-party importation, for which licensee must pay a royalty. • Place a greater emphasis on contractual remedies. • Consider imposing/developing technological restrictions that limit how licensed items are used – similar to the Lexmark chips (but need to make them work). 26

QUESTIONS