On June 9, 2008, the Supreme Court in Quanta Computer, Inc. v. LG Electronics, Inc. unanimously reversed the Court of Appeals for the Federal Circuit and held that the doctrine of patent exhaustion applies to method patents. 06-937, 553 U.S. ___ (2008) It is now settled that a licensee’s authorized sale of components, which embody a patented apparatus or method and which have no reasonable use other than to practice the patent, exhausts the patent holder’s rights.

Background
The longstanding doctrine of patent exhaustion provides that “the initial authorized sale of a patented item terminates all patent rights to that item.” After a patent holder, or the holder’s licensee acting within the scope of the license, sells a product embodying the patented invention, the patent holder may not bring a patent infringement suit against the purchaser for using or reselling that product. The doctrine limits “the monopoly of the patent law” by precluding patent claims against downstream purchasers or users.

Respondent LG Electronics (“LGE”) became the holder of the patents at issue when it “purchased a portfolio of computer technology patents in 1999.” LGE licensed several of these patents to Intel Corporation (“Intel”) in an agreement that permitted Intel to manufacture and sell microprocessors and chipsets that use the patented technology. The license agreement did not extend to third parties that purchased Intel products to combine them with non-Intel products. Intel was also required, in a separate agreement, to notify purchasers that its license with LGE does not extend to products those purchasers made by combining licensed Intel products with non-Intel products.

Petitioner Quanta Computer (“Quanta”), despite receiving such notice, purchased microprocessors and chipsets from Intel and combined them with non-Intel products to manufacture computers in ways that were found to practice the LGE patents. LGE filed a complaint against Quanta for infringement.

The district court held that patent exhaustion only applied to patent claims that describe a physical device and did not extend to method claims. Since each of the asserted patents included at lease one method claim, the district court found patent exhaustion to be inapplicable. The Federal Circuit affirmed, holding that patent exhaustion did not apply to method claims.  The Federal Court also held in the alternative that restrictions in the license made the use of the license products unauthorized and, therefore, patent exhaustion did not apply.

Opinion
The Court’s opinion, written by Justice Thomas, relies heavily on United States v. Univis Lens Co., 316 U.S. 241 (1942), which held that patent exhaustion applies when a sold item “sufficiently embodies the patent—even if it does not completely practice the patent---such that its only and intended use is to be finished under the terms of the patent.” Similar to the unfinished products in Univis, the Intel products “constitute a material part of the patented invention” and have “no reasonable use” other than being incorporating into computer systems that practice the LGE patents. In both cases, “the final step to practice the patent is common and noninventive.” The Court concluded that the Intel products sold to Quanta substantially embodied the LGE patents.

The Supreme Court rejected the theory that method patents do not trigger the patent exhaustion doctrine. Otherwise, “[p]atentees seeking to avoid patent exhaustion could simply draft their patent claims to describe a method rather than an apparatus” and thus a “patent drafter could shield practically any patented item from exhaustion.” LGE’s argument that method claims are never exhaustible was therefore rejected by the Court.

The Court also rejected LGE’s argument that Intel’s sales to Quanta were “unauthorized” and therefore did not trigger the patent exhaustion doctrine. The license allowed Intel to “make, use [or] sell” chips embodying the LGE patents. A “Master Agreement” only required Intel to provide notice to its customers that the customers did not receive a license under the LGE patents if the Intel products were combined with non-Intel products. Intel complied with this notice requirement. For the Supreme Court, the issue did not turn on whether Quanta, the customer, had received a license, express or implied, but on whether Intel was acting within the scope of its license. Once Intel made an authorized sale under the license, patent exhaustion attached, regardless of whether Intel’s customer was licensed.

Consequences / Scope
Quanta Computer is consistent with Supreme Court precedent which limits patent holders’ rights against downstream purchasers when the sold items embody the patent by having “no reasonable noninfringing use” and by including “all the inventive aspects of the patented methods.”

The decision still leaves open the possibility of contractual restrictions on the licensee’s right to sell. Here, the license agreement precluded extension of the license to certain downstream purchasers but did not forbid Intel from selling to those purchasers. Since the sale to Quanta was “authorized,” the patent was exhausted and whether or not the license extended to Quanta was irrelevant. Conceivably though, patent holders still have the ability to draft agreements that, in addition to not extending the license, also prohibit or place conditions on licensee sales. For instance, LGE could have included a provision that only allowed Intel to sell to other licensees; thereby forcing Quanta to obtain its own license. By contractually limiting which sales are “authorized,” a patent holder may be able to control when patent exhaustion attaches and retain rights over some downstream purchasers.

Co-authored with David Cheng, a Summer Associate in Dorsey & Whitney’s New York Office.