Costco may revolutionise the way brand owners combat grey-market goods

United States of America
In Costco Wholesale Corp v Omega SA (Case 08-1423, December 13 2010), in a 4-4 per curiam ruling - with the newly appointed Justice Kagan recusing herself from the case, an evenly divided US Supreme Court affirmed without opinion the Ninth Circuit’s narrow interpretation of the first sale copyright exhaustion doctrine and, in so doing, potentially revolutionised the way brand owners combat grey-market goods. 
The retail giant Costco Wholesale Corp purchased Omega watches that had been manufactured abroad and imported into the United States without Omega SA’s authorisation, and sold the watches in its California stores. The back of each watch bore a small copyrighted globe engraving – the 'Omega globe design' (protected by US Copyright Registration VAu 574-660). Based on this registration, Omega brought suit against Costco for copyright infringement under 17 USC §§106(3) and 602(a), arguing that the sale violated its distribution right and the prohibition against the unauthorised importation of copyrighted works. 
In its defence, Costco asserted the first sale exhaustion doctrine, and argued that Omega’s rights to restrict the distribution of watches bearing its copyrighted 'Omega globe design' were exhausted after the first sale of those products. Costco further argued that the location of the first sale - in this case, Europe - was immaterial.  
As the facts were undisputed, the district court was left to consider whether the first sale exhaustion doctrine applied to foreign sales of foreign-made goods bearing US copyrights. On summary judgment, the district court ruled in favour of Costco, holding that first sale exhaustion applied. It relied, in part, on Quality King Distributors Inc v L’Anza Research Int’l Inc (523 US 135 (1998)).
Omega appealed and the Ninth Circuit reversed. The Ninth Circuit distinguished Quality King because it dealt with US-made goods initially sold to foreign markets, and held that §109 could not apply to foreign sales, as a matter of law, because the Copyright Act lacks extraterritorial application. Costco petitioned to the Supreme Court, which granted certiorari, agreeing to review the Ninth Circuit’s decision.
Whether §109 applies to foreign-made goods depends on the interpretation of the phrase “lawfully made under this title”. One school of thought, including the Ninth Circuit, interprets the phrase as a geographical limitation. A second school interprets the phrase to require compliance with US copyright law, regardless of geography (see Bobbs-Merrill Co v Straus (210 US 339 (1908); Sebastian Int’l Inc v Consumer Contacts (PTY) Ltd (847 F.2d 1093, 1098 n 1 (3rd Cir 1988); 2 Nimmer on Copyrights § 8.12[A]).
Ultimately, the Supreme Court affirmed the Ninth Circuit’s ruling without opinion. The affirmance, however, falls far short of a ringing endorsement of the Ninth Circuit’s reasoning. While it affirms the Ninth Circuit’s decision, it is, at most, a temporary validation, one that could be overturned swiftly when the entire court rules on another similar case. 
In the meantime, it creates uncertainties and disparities in copyright protection. Under the Ninth Circuit’s reasoning, which is left standing, “lawfully made under this title”, at least as far as §109 is concerned, limits the first sale exhaustion doctrine to goods sold in the United States. A copyright owner who uses a US company to manufacture its goods cannot, after the first sale, prohibit the re-importation of those goods into the United States. But a copyright owner who uses a foreign manufacturer can prohibit US distribution indefinitely. The disparity not only encourages the foreign manufacture of goods bearing US copyrights, it may also impair the ability for US-manufactured goods to compete in foreign markets that do not sustain US prices, because discounted goods sold abroad can be freely imported back into the United States and drive down the value of the product domestically.
Though facially limited to §109 of the Copyright Act, that interpretation could be extrapolated throughout other sections of the act, which also use the phrase “lawfully made under this title”. The affirmance also legitimises the use of copyright as a tool to restrict trade, rather than a tool to protect the arts - an interpretation that is potentially contrary to the Copyright Clause of the US Constitution (Article I, Section 8, Clause 8).
The post-Costco world requires greater caution on the part of vendors. A prudent US vendor dealing in foreign-made goods must:
  • identify any good bearing a copyrightable work;
  • identify whether the work is copyrighted in the United States;
  • if yes, identify the owner, which may not be the manufacturer;
  • obtain express authorisation from the copyright owner to sell the goods in the United States; and
  • secure the supply chain against unauthorised or illicit goods bearing the work.
US and foreign brand owners must also take note. The Costco affirmance hands brand owners an extraordinarily powerful tool to combat foreign-made grey-market goods. Brand owners may now include copyrighted works on their foreign-made products, much like trademarks. The copyrighted work, apparently no matter how small or trivial, allows the brand owner to control the down-stream sale of foreign-made goods, and seek statutory damages for their unauthorised importation under §§106(3) and 602(a) without demonstrating confusion or proving damages (see 17 USC § 504(c)). Under Costco, copyright may become a more powerful tool in combating grey-market goods.
With the United States importing more than $1 trillion of goods annually, Costco could affect global trade in any good bearing a copyrighted work. The affirmance of the Ninth Circuit’s approach could also affect the way foreign manufacturers prevent the importation of their goods in practice. Until the Supreme Court rules definitively on the subject, and resolves the uncertainties and disparities now pervading this area of the law, purveyors of foreign-made goods should adopt the mantra: caveat vendor.

James L Bikoff, David K Heasley and Michael T Delaney, Silverberg Goldman & Bikoff LLP, Washington DC

Get unlimited access to all WTR content