Technology: Cutting edge changes in the ‘patent exhaustion’ doctrine

Two recent court decisions have given the 'disposable component' business strategy a cut and shave

A well-known business strategy is to sell (or give away) a reusable device, then profit from repeat sales of a proprietary disposable component. Think razors and blades (or today, blade servers and software). A complementary legal strategy has been to patent the disposable component, keeping competitors’ compatible components off the market. But two recent decisions have given this strategy a cut and shave.

Since the 1800s, a patentee’s sale of his patented device has “exhausted” his right to recover for infringement by the buyer or any downstream user. In 2008, the Supreme Court in Quanta Computer, Inc. v. LG Elecs., Inc. extended this rule to method patents, holding that the sale of an article that substantially embodies a method patent prevents the patentee from using such a patent to control post-sale use of the article. In Quanta, LG patented a method for using the computer parts it sold but did not patent the parts themselves. Still, because the parts “had no reasonable noninfringing use and included all the inventive aspects of the patented methods,” their sale was held to exhaust LG’s rights in its method patents, preventing LG from suing buyers for their infringing uses.

November’s decision in LifeScan Scotland, Ltd. v. Shasta Techs. takes Quanta’s “substantial embodiment” rule a step farther. LifeScan sold (or, in many cases, gave away) reusable blood glucose testers to diabetics that required the use of disposable “testing strips.” LifeScan tried to use method claims to restrict competitors’ sales of compatible strips. Those method claims included steps referencing the tester and steps referencing the strips, so LifeScan argued that selling the tester alone could not exhaust its rights under those claims.

But LifeScan had argued to the Patent and Trademark Office years earlier that its testers, and not its strips, embodied the novel aspects of its invention. The LifeScan court held that, because by LifeScan’s prior admission the tester performed the “inventive aspects” of the claims, the tester “substantially embodied” the patent under Quanta, and tester sales alone exhausted LifeScan’s patent rights entirely. The court also ruled that any unencumbered transfer of title, even for free, exhausted LifeScan’s patent rights over a tester. The court also found that LifeScan’s tester packaging, which purported to limit use to Lifescan’s strips, created no binding contractual obligation on the buyer.

The Federal Circuit may soon have more to say on method claim exhaustion. JVC owns patents essential to the DVD standard. The patents include claims to an optical disc and to methods for playing and recording data. Last year, JVC tried to extract royalties whenever users played and recorded their own DVDs with an application called Nero. But the Central District of California held that when disc manufacturers licensed the DVD standard (and paid royalties to JVC), they exhausted JVC’s right to sue if downstream users infringe the method claims by writing or reading DVD data on those discs. The Federal Circuit in JVC Kenwood Corp. v. Nero, Inc. is now considering JVC’s argument that the unlicensed Nero software, and not the licensed discs, “substantially embodied” the claimed invention. This case could resolve whether a manufacturer can use artful claim drafting and contracting to side-step exhaustion by licensed component manufacturers. The result may also clarify an ambiguity arising in recent cases as to whether exhaustion applies to an entire patent, or only on a claim by claim basis.

These opinions should expand the freedoms of tech companies to sell components for others’ patented devices. Under LifeScan, one who obtains a method patent by emphasizing the novelty of his reusable device can no longer enforce a patent directed to use of compatible components. And if the reasoning in JVC survives appeal, one who secures method and apparatus claims for a product, then licenses manufacture of that product, may be prevented from “double-dipping” by suing end-users for using the product as claimed.

But before selling a component compatible with a competitor’s device, tech companies should consider some questions left open by these opinions. If LifeScan had limited the use of its testers to its own strips through a legally-enforceable license, would its patent (and contract) rights have remained enforceable? If JVC had clearly licensed only its apparatus claims to disc manufacturers, could it have controlled post-manufacture use of those discs? Given these potential loopholes, careful analysis of how a device was patented, licensed, and distributed is essential before planning to sell components or software compatible with that device. Despite the haircut, avoiding infringement when selling components compatible with a competitors’ product remains a bit tangled.

Contributing Author

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James Batchelder

James Batchelder is managing partner of Ropes & Gray’s Silicon Valley office, a co-chair of Ropes & Gray’s technology, media & telecommunications group,...

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Contributing Author

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Matthew Moffa

Matthew Moffa is an IP litigation associate based in Ropes & Gray’s New York office. He advises and protects clients in IP-related matters in...

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