Copyright Conundrum

Michael Sykuta —  4 August 2010

Earlier this year, the US Supreme Court granted a writ of certiorari to Costco in the case of OMEGA SA v. Costco Wholesale Corp. (541 F. 3d 982 (2008)).  At issue is whether the ‘first sale doctrine’ of US copyright law (17 U.S.C. § 109(a)), which limits the copyright owner’s ability to restrict distribution of its product after first sale, applies to foreign-manufactured products whose first sale was outside the U.S. and whose importation to the U.S. was not authorized by the manufacturer. (I happened to run across a July 31 op-ed by Eric Felten at the WSJ lamenting the potential for the case to limit the ability of libraries to lend books, particularly books originally published and purchased overseas.) The case raises some interesting issues about the role and purpose of copyright protection, segregated market price discrimination in a global economy, and the role of the gray markets in arbitraging global price disparities.

Omega markets high-end Swiss watches around the world. The watches have a small “Omega Globe Design” logo engraved on the back, a logo which Omega copyrighted in the US. Omega sells the watches in different countries around the globe at prices the local markets will bear, resulting in prices in the US being significantly higher than prices in some other countries, specifically Latin American countries such as Paraguay.  Some watches originally sold to authorized buyers in Paraguay ended up being imported into the US and eventually sold through Costco’s wholesale stores at a roughly 35% discount to Omega’s usual US price target (based on the WSJ article). Omega filed a copyright infringement case against Costco, which Costco won in district court by arguing that the first sale in Paraguay invalidated Omega’s claim under § 109(a). Omega appealed and the 9th Circuit reversed the lower court ruling, finding that the ‘first sale doctrine’ only applies to the first authorized sale within the US, not to foreign sales of foreign goods that are subsequently imported to the US.

The 9th Circuit goes to some lengths in splitting hairs to support its current finding in light of its previously failed ruling in Quality King v. L’anza. In Qualty King, L’anza exported a US-made product with a copyrighted label to sell at a discount in certain foreign markets. When some of the products were imported back into the US without L’anza’s authorization and sold at a discount relative to L’anza’s domestic prices, L’anza filed the same type of claim filed by Omega.  In that case, the 9th Circuit ruled in favor of L’anza, arguing that the § 602 restriction on unauthorized importation was not subject to the first sale doctrine.  The US Supreme Court, however, reversed that decision (see 523 U.S. 135 (1998)), arguing that the ‘first sale doctrine’ applied to L’anza’s initial sale to the foreign distributor(s). In Omega, the 9th Circuit argues that their original interpretation holds despite Quality King because in the Omega case the watches in question were never authorized in a US transaction for sale, whether domestic or foreign.  Now the Supreme Court has another chance to address the 9th Circuit’s reasoning.

I won’t pretend to be a copyright lawyer. Perhaps there are some technical, doctrinal rationalizations around boundaries of authority for US copyright law that might preserve the 9th Circuit’s ruling in Omega. However, the larger question is whether such use (or abuse) of copyright law is reasonable economic policy, particularly in a global marketplace. In that vein, Justice Stevens’ unanimous opinion in Quality King is instructive (with emphasis added):

In construing the statute, however, we must remember that its principal purpose was to promote the progress of the “useful Arts,” U. S.Const., Art. I,§ 8, cl.8, by rewarding creativity, and its principal function is the protection of original works, rather than ordinary commercial products that use copyrighted material as a marketing aid.

It is clear in both Omega and Quality King that the copyrighted logo or design served, at best, as a marketing aid. I say ‘at best’ because the use of the copyright in these particular cases is not about preserving a brand name or image from piracy or unauthorized replication per se, but is simply using US copyright law to enforce larger price differentials across discriminated geographic markets than the global market would otherwise allow.

Don’t get me wrong. I’m not suggesting that manufacturers should not be able to determine the price at which they are willing to sell their products across different markets, and to set prices that reflect local market demand conditions. Price discrimination happens all the time across all sorts of distinguishable margins (e.g., geography, time, gender, age, student-status). The key–and the limit–to price discrimination is the ability of the ‘gray market’ to effectively arbitrage those price differences by purchasing in one (lower value demand) market and reselling the product in another (higher value demand) market. In a global economy, the ability of arbitragers to legally purchase and transport products across geographic regions for resale imposes competitive pricing discipline on global markets. It’s the underlying assumption of what economists refer to as the ‘law of one price’ (subject to a variety of transaction costs, of course).

Instead, I’m simply suggesting that US copyright law was not intended to restrict the workings of the global market in such a way as to arbitrarily inflate the price differentials across markets. From an agnostic perspective, the Supreme Court would seem to concur in their unanimous Quality King ruling (again, emphasis added):

The parties and their amici have debated at length the wisdom or unwisdom of governmental restraints on what is sometimes described as either the “gray market” or the practice of “parallel importation.” In K mart Corp. v. Cartier, Inc., 486 U. S. 281 (1988), we used those terms to refer to the importation of foreign-manufactured goods bearing a valid United States trademark without the consent of the trademark holder. Id., at 285-286.We are not at all sure that those terms appropriately describe the consequences of an American manufacturer’s decision to limit its promotional efforts to the domestic market and to sell its products abroad at discounted prices that are so low that its foreign distributors can compete in the domestic market. But even if they do, 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 interpret the text of the Copyright Act.

The Copyright Act was not intended as a means of allowing a domestic manufacturer to more effectively discriminate between domestic and foreign markets. The question is whether the Court will come to the same conclusion in the case of a foreign manufacturer. Regardless the legal lines, the underlying economic principle is no different in a global economy.