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Should IP law be used to disrupt the “gray market”?

Intellectual Property News, Fall 2011

Not long ago in a less-globalized market, global companies were able to market their goods in a nationally differentiated manner. Goods that were basically the same were sold at quite different prices, with the developed markets (read “U.S. and Europe”) paying a premium price. As trade barriers and tariffs dropped, and especially as the Internet developed, the capacity to arbitrage in these goods, previously available only to the astute few, became available to the techno-savvy many.

Although the global price differentiation business model does not really have a name, the arbitrage does. It is called the “gray market,” or somewhat less pejoratively, “parallel importation.”

The gray market is at work when cameras manufactured in Japan and exported to Canada end up being sold by New York City photo shops. The gray market is at work when you buy KODAK film at a closeout store, only to discover it was manufactured for sale in Australia (maybe that is why the pictures were upside down).

In a natural reaction to stop this attack against price integrity, the global companies tried to use trademark laws. After all, the essence of trademark law is to protect the consumer from confusion, and consumers, seeing different prices in the market, were undoubtedly confused. However, the Supreme Court dealt a severe blow to this attempt.1 The problem that the companies had is that branding was (and is) “job one.” The primary trademarks used by the companies were the same, regardless of the country.2

Patent law has never really been used to try to stop the gray market and is not well-adapted for the job. Just as the trademark owners used the same major trademarks on the goods sold into different markets3, we’ve already noted that the goods are basically the same. The one case that stands out, and it stands out pretty strongly because of the length of the litigation, is the battle waged by Fuji Film against Jazz Photo and several other defendants over “lens-fitted film packages.” You may called them “disposable cameras,” but Fuji calls them lens-fitted film packages (LFFPs). Although the International Trade Commission held that refurbishing spent LFFPs outside the United States and returning them was a prohibited “reconstruction” and not a permitted “repair,” the Federal Circuit did not agree.4

If you have followed along so far, you may see a trend—the global companies have decided that intellectual property law is the way to battle gray market arbitrage. And they may have finally hit on a winner, thanks to a complex maze of law that we find at Title 17 in the United States Code.5

The first shot, while unsuccessful, got as far as the Supreme Court. In Quality King Distributors, Inc. v L’Anza Research International, Inc.,6 the copyrighted subject matter was the label affixed to their hair care products. L’Anza had manufactured the products in the United States and exported them at considerable discount to be resold in Malta.7 Somehow, the hair care products found their way to Quality King stores in California. United States copyright law has a “first sale”8 exception that limits the copyright owner’s exclusive right to “distribute” the work in copies.9 The trial court and the Ninth Circuit rejected Quality King’s first sale defense and entered judgment for L’Anza.10 These courts also rejected an argument that the first sale defense would apply against a claim of importation of unauthorized copies acquired outside the United States, under 17 USC §602.

Critically, Justice Stevens and a majority of the Court decided that the U.S. origin of the goods determined the issue. The goods were manufactured in the United States under L’Anza’s “reproduction” right11, so the first sale doctrine applied, regardless of where the goods were ultimately purchased. The case left two dangling legal “gems” out there for the taking. First, Justice Stevens, on protecting the price differentials, wrote, “whether or not we think it would be wise policy to provide statutory protection for such price discrimination is not a matter that is relevant to our duty to protect the text of the Copyright Act.”12 And Justice Ginsburg, concurring, wrote that “I join the Court’s opinion recognizing that we do not today resolve cases in which the allegedly infringing products were manufactured abroad.”

It was not long before Justice Ginsburg’s anticipated case arrived. In 2010, the Supreme Court heard oral argument in Costco Wholesale Corp v. Omega S.A., but nothing was resolved, as an even number of justices came to a 4-4 tie. Justice Kagan, who had replaced Justice Stevens on his retirement earlier in the year, recused herself.

Which brings us, at long last, to the present case. The facts are quite simple. John Wiley and Sons publishes textbooks around the world, directly and through affiliates. Some of the textbooks are published in editions that are specially directed at foreign markets. These books, while very similar or identical in written content, may be printed on thinner paper with different binding, fewer illustrations, fewer ink colors and sometimes without supplemental CD-ROM content.13 They also bear a designation that they are authorized for sale only in a specific geographic region.14 It would appear that none of these differences take the foreign work outside the scope of an underlying U.S. copyright for the U.S. edition, since the foreign editions differ only in reduced content, and the changes in print quality, etc., are irrelevant to copyright.

Mr. Kirtsaeng is from Thailand. He came to the United States as a student in 1997 and was a graduate student in mathematics when the alleged infringing acts occurred. To help finance himself, Kirtsaeng had friends and family in Thailand purchase foreign edition text books and send them to him in the United States, where he sold them on online sites such as eBay.15 Kirtsaeng relied on an online “answer” site as his legal advice for his ability to resell the foreign editions.

Although these facts are simple, the law is not, as is clear from the Supreme Court’s struggle with the text in Quality King. The first sale doctrine at 17 USC §109(a) limits the copyright owner’s exclusive right to “distribute” under 17 USC §106. Section 109(a) does not specifically mention 17 USC §602, which deals with importation and makes the importation of an unauthorized copy “an infringement of the exclusive right to distribute copies or phonorecords under section 106.” Also, section 109(a) requires that the first sale doctrine only applies to a “particular copy … lawfully made under this title.”

From the facts, and since John Wiley and Sons is apparently proceeding under its U.S. copyright registration, it is a viable argument that the foreign editions are “lawfully made under this title.” The majority in the case does not agree, but Judge J. Garvan Murtha, sitting by designation, does agree. I think Murtha has the better position.

Section 602 is interesting, because it remains in the copyright law long after 17 USC §601 has been repealed. Under Section 601, generally referred to as the “Manufacturing Clause,” non-dramatic literary works by U.S. authors domiciled in the United States had to be printed “within the limits of the United States,” thereby protecting the U.S. publishing industry.16 Section 602 was intended to prohibit importation of books not complying with this requirement. After the Berne Convention was adopted by the United States, the manufacturing clause was eliminated, but section 602 remained.

It would appear to be well-settled that the limiting language used by Wiley in the books is a contract matter and not a copyright matter.17 Since the Berne Convention would give John Wiley and Sons the right to proceed against an infringer outside the United States based on the U.S. copyright, then arguably the foreign editions were “lawfully made under [Title 17].”

Although the trial judge spent considerable time and effort with section 602 and its legislative history (which predates Berne), he ignored the relationship with former section 601 completely.18 He ignored Berne completely. He even justified his position by suggesting that the textbooks are of “high social utility.” If the courts fail to protect the publisher’s decision to use “second- or third-degree geographic price discrimination,” even though it imposes an “export subsidy” on the U.S. customer, he infers that this could limit the access to people in the foreign countries to the works.19

I ask the trial court and the majority of the Second Circuit panel the following two questions:

  • What makes John Wiley and Sons a superior source for a textbook than a publisher in the foreign country, especially when Wiley is publishing in English and not the native tongue?
  • How does this reading of Title 17 support the Constitutional mandate of Art I, section 8, clause 8?

This issue is sure to be back in the courts again sometime soon.

By St​​​ephen L. Grant, a senior attorney at Standley Law Group, Dublin.

Endnotes
1K-Mart Corp. v. Cartier, 486 US 281 (1988).
2A footnote in the Quality King case infra states that an easy solution for the global manufacturers would be to use different marks in different countries.
3KODAK Australian film packages look like KODAK US film packages
4Jazz Photo Corp. v. Int’l Trade Commission, 264 F3d 1094 (2001).
5The United States Copyright laws are found at Title 17.
6523 US 135, 118 SCt 1125, 140 L.Ed2d 254 (1998).
735 to 40 percent below the US distributor price.
817 USC 109.
917 USC 106.
1098 F3d 1109, 1114 (1996).
1117 USC 106.
12I find this comment by Justice Stevens strikingly similar to his closing comment in Sony Corp. of Amer v. Universal City Studios, Inc., 464 US 417 (1984): “It may well be that Congress will take a fresh look at this new technology, just as it so often has examined other innovations in the past. But it is not our job to apply laws that have not yet been written.”
13Slip opinion at 3.
14Slip opinion at 4.
15Id.
16Brown and DeNicola, Copyright, 10th ed., Foundation Press (2009), p 863.
17Under Bobbs-Merrill Co. v. Strauss, 210 US 339 (1908).
18Donald C. Pogue, sitting by designation.
192009 US Dist Lexis 96520, at fn 23.
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