FEATURE

FEATURE

The First Sale of Software

Copyrights have, for a long time, served the dual purposes of rewarding the author of the work while allowing for maximum public access to the work by making it affordable and available. This article introduces the reader to the Doctrine of First Sale in copyright law, which maintains a delicate balance between the rights of the copyright owner and the buyer of a copyrighted work. The article then examines whether the Doctrine of First Sale continues to be relevant in the digital era and in particular, in the first sale of computer software.

Copyright owners have  traditionally used price discrimination to maximise their profits. Price discrimination occurs when buyers of a particular product pay differentiated prices which are manipulated by the seller. The ideal form of price discrimination, from the seller’s point of view, is to charge each buyer the maximum that the buyer is willing to pay.¹Every seller would price discriminate if not for two major obstacles standing in the way. First, the seller must be able to distinguish between those buyers who are willing to pay a high price from those who are not. Second, there must be substantial difficulty for a low-price buyer to resell to those willing to buy at a high price.

Copyright works bought by the low-paying buyers are often simply resold or imported into the high-paying market thus preventing the seller from maintaining an economically efficient supply of the works in that market. This practice known as ‘Parallel Importation’ essentially means the importation into a country of copies lawfully made overseas and which are imported without the consent of the owner of the rights in that particular country.²

The phenomena of ‘parallel imports’  stems from the inherent right of resale that a buyer acquires through his purchase. This right has been embodied in the Doctrine of First Sale (‘Doctrine’) which has its origins in American jurisprudence.³ The Doctrine holds that the copyright owner’s rights in a copy of the work extend only up to the first sale of that copy, as once a copy is lawfully acquired, the new owner is entitled, without the copyright owner’s permission to sell, lease, rent, give away or otherwise dispose of that particular copy. The Doctrine has its roots in the law of sale and personal property and is a safeguard for consumer rights since it permits consumers to fully exploit their purchased property.

The Doctrine was first introduced into US law in 1894 by way of court decisions;⁴ however, it has subsequently found its way into American copyright law.⁵ Under the existing copyright laws, a sale of a lawfully made copy terminates the copyright holder’s authority to interfere with subsequent sales or distribution of that particular copy.⁶ This provision allows the purchaser of a lawfully made copy or a phonorecord to resell or dispose of in any manner that specific copy or phonorecord, without the prior permission of the owner of the copyright.⁷ Thus, the US law has clearly taken a stance in the interests of the consumers and for maximum public access to works of intellectual effort.

This does not augur well for owners of copyrights in electronic works available in CDs, DVDs and other forms of electronic media as purchasers of such works have attempted to use the defence provided by the Doctrine to commit acts in relation to the works that would otherwise have been the exclusive right of the copyright owner such as:

• reselling the media (containing the data), after installing the copy of the work;⁸

• disassembling and reverse engineering the source code (in the case of software);⁹

• distributing and renting out the work;¹⁰ and

• reselling lower-priced copies of the work at higher prices thereby defeating the profit maximisation potential for the copyright owners themselves.¹¹

To attempt to control such possible fall-outs of the application of the Doctrine, software vendors often use contractual provisions to vary the rights conferred upon the purchaser of the digital work. These contracts which appear as shrink-wrap or click-thru agreements that buyers enter at the time of the purchase or access to the digital work often stipulate that they are ‘licenses to use’ as opposed to ‘contracts for sale of software’.¹² The distinction between ‘license’ and ‘sale’ is significant as no legal protection is conferred under the Doctrine upon licensees. The first sale doctrine does not, unless authorised by the copyright owner, extend to any person who has acquired possession of the copy, by rental, lease, loan or otherwise, without acquiring ownership of it.¹³

There has been substantial litigation on the issue of whether contracts for transfer of software are sales or licenses. A license, as opposed to a sale, is only a revocable permission to do certain acts and does not imply a complete relinquishment of its rights by the seller. American courts have in the past used a four-fold test to determine whether a particular contract is a sale or a license.¹⁴ The test has the following four requirements:

(a) the copy must have been purchased lawfully;

(b) the copyright owner must authorise the purchaser to transfer the copy;

(d) the purchaser must distribute/resell that copy further.

Using the above test, courts have held that the contract for transfer of software is a ‘license to use’ which therefore does not confer the rights of a purchaser upon the licensee.¹⁵ In Microsoft Corp v Harmony Computers & Electronics Inc, the defendant had unbundled the software that was pre-installed by the Original Equipment Manufacturer in personal computers and re-sold it separately.¹⁶ The defendant claimed immunity under the Doctrine. However, the court held that since there was no transfer of ownership or title, the purchaser had no defence under the Doctrine for infringing the license agreement. The court also concluded obiter that on the basis of trade usage and expert evidence, licensing seemed to be the ‘preferred’ method for software distribution.

In Adobe v One Stop Micro, the validity of shrink-wrap licenses was challenged.¹⁷ The defendant had acquired educational versions of Adobe’s software, cut open and removed Adobe’s shrink-wrap licenses, peeled off and destroyed package identification stickers and labels, and then re-shrink-wrapped and sold the software. The defendant argued that the software had been ‘sold’ and that Adobe’s ‘On Campus Reseller Agreement’ (‘OCRA’) was not applicable as it was not signed by the defendant. However, these arguments were rejected by the court holding that the OCRA was a ‘license’ and was valid even if the purchaser was not a signatory.

This generally consistent view taken by US courts vis-à-vis software contracts was, however, not followed in the cases of Novell v Network Trade Center¹⁸ and more recently in SoftMan Products Co v Adobe Systems, Inc.¹⁹ In both the above cases, the respective courts held that the shrink-wrap agreements were non-binding and hence, the transfer of software constituted ‘sale’. In SoftMan, the court referred to the decision in Novell Inc v CPU Distributors Inc²⁰ and held that the shrink-wrap End-User License Agreement constituted a sale for the end user since the user paid consideration and bore the risks of damage and loss.

The SoftMan decision was, however, criticised and distinguished in Adobe v Stargate,²¹ where the court preferred the One Stop Micro decision and distinguished Softman on the basis of its facts. Similarly in Novell Inc v Unicom Sales Inc, the defendants argued that Novell’s copyright was barred under the Doctrine as the software in issue had been sold by the defendants after having previously sold by Novell to others.²² However, the court accepted Novell’s argument that the first transfer of the software itself had not been a sale, but a license. The court held that there was no ‘good faith purchaser’ exception to the Doctrine and that even an unwitting purchaser who buys a copy in the secondary market can be held liable for infringement if the copy was not the subject of a first sale by the copyright holder. Thus, unless title to the copy passes through a first sale by the copyright holder, subsequent sales do not confer good title.

In civil law countries such as the European Union (‘EU’) the equivalent to the Doctrine is the Exhaustion Principle (‘Principle’). The Principle is similar in its concept to the Doctrine and is concerned with the free movement of goods in the European Economic Area (‘EEA’). The Principle holds that the right-holder in a work can no longer control the distribution of a copy of the work after the first sale of the copy. The EU first adopted the Principle in its Software Directive, which stipulated that ‘the first sale in the Community of a copy of a program by a right-holder or with his consent shall exhaust the distribution right in the Community of that copy, with the exception of the right to control further rental of the program or a copy thereof’.²³ A similar provision also exists in the Database Directive²⁴ and the Copyright Directive,²⁵ which provides for exhaustion of distribution rights only for European territory with the exception of goods and services distributed online.

Thus, the Principle applies to products that have been placed in the EEA with or by the consent of the right-holder in the work. Also, under the Principle, there is a regional exhaustion of the right holder’s rights as opposed to the Doctrine which recognises international exhaustion of rights.²⁶ What this means is that once a product has been placed for first sale anywhere in the EU market, the right- holder in that product can only prevent the re-distribution of that copy of the product outside the EU. Another point of differentiation from the US Doctrine is that the EU Principle affords the purchaser only the right of distribution and not reproduction or adaptation.

In Singapore, the Copyright Act (Cap 63) was amended in 1999 to incorporate the Doctrine of First Sale. Prior to the amendment, the law was not clearly defined on the issue as parallel imports and consequent sales without the license of the copyright owner were not infringements so long as the copy had been purchased lawfully. In Television Broadcasts Ltd & Ors v Golden Line Video the court commented ‘It would therefore appear that in the area of copyright protection our legislature has adopted a mercantile policy of allowing in Singapore a free market where copyright articles, whether parallel imports or made under license in Singapore, may be sold or dealt with in competition with one another’²⁷ and in PP v Teoh Ai Nee & Anor ‘Where the articles which are the subject of parallel importing are in some way connected to the Singapore copyright holder, by virtue of having been manufactured by or with the consent of the Singapore copyright holder, then it seems reasonable that his rights in those articles should be regarded as exhausted.’²⁸

Singapore’s position on parallel imports has since been clarified by the 1999 amendment to the Copyright Act. The term ‘infringing copy’ in the context of unlicensed imports now implies a copy that was made without the consent of the ‘owner of the copyright’. The owner of the copyright is the person entitled to the copyright in the article where the copy was made or alternatively the person entitled to copyright in the article in Singapore. This legal position was elucidated in the case of Highway Video Pte Ltd v Public Prosecutor,²⁹ where the court differentiated infringing copies from legitimate parallel imports on the basis that a copy would be an infringing copy only if it was not imported with the consent of the Singapore copyright owner and manufactured without the consent of the copyright owner in the country of manufacture; otherwise it was assumed to be legal parallel imports.

The amendment also introduced a new s 193F dealing with first sale of electronic copies of material that were purchased after the amendment came into force.³⁰ Section 193F provides that where the electronic copy has been purchased on terms which, expressly or impliedly or by virtue of any rule of law, allow the purchaser to copy the material, or to adapt it in connection with his use of it, then any subsequent resale of that copy, will allow the next transferee to have all the rights of the purchaser, without taking permission from or making any payments to the owner of the copyright in the material.

While this provision obviously puts to rest the difficult issue of whether a transaction is a sale or a license to use, and following from that whether the defence of the Doctrine applies, this provision is subject to any original terms of sale that have the effect of:

(a) prohibiting the transfer of that copy by the purchaser or imposing obligations upon the purchasers which continue after a transfer;

(b) prohibiting the assignment of any license or terminating any license on a subsequent transfer; and

The amendment makes it clear that no legal restrictions can be imposed upon subsequent transfers of an electronic copy of any copyright work, by its first purchaser. Hence, the purchaser may resell or dispose of the copy of the work without taking permission or making any additional payments to the copyright owner, provided however, that the copy must have been bought and not leased, rented or borrowed by the purchaser. The law would recognise a transaction as a sale if under the terms of the sale or under any rule of law, the buyer is permitted to copy or adapt the material in the work, in connection with his use of the copy.

The ‘permission to copy or adapt’ is a right provided to purchasers of computer software under s 39(3) of the Copyright Act. The section provides that it is not an infringement for the owner of a copy of a computer program to make or authorise the making of another copy or adaptation of that computer program provided that such a new copy or adaptation is created as an essential step in the utilisation of the computer program and that it is used in no other manner. It is further provided that the above right of copying or adaptation cannot be prohibited, restricted or limited by contractual provisions.³²

Such a ‘permission to copy or adapt’ can also be implied from a ‘rule of law’. The reference to the ‘rule of law’ is possibly an allusion to the common law principle of non-derogation from grant as has been suggested by Professor George Wei.³³ The common law principle of non-derogation prevents sellers from exercising any rights upon the subject matter after the conclusion of the sale in the interests of the purchaser’s right to enjoy his property. In Betts v Wilmott³⁴ it was held (per Lord Templeman) ‘that a grantor will not be allowed to derogate from his grant by using property retained by him in such a way as to render property granted by him unfit or materially unfit for the purpose for which the grant was made.’

In the case of Creative Technology Ltd v Aztech Systems Pte Ltd,³⁵ the court was referred to the UK decision in Willmott and British Leyland Motor Corporation v Armstrong Patent,³⁶ which held that the copyright owner was not entitled under copyright to derogate from his grant upon sale to the purchaser by exercising his copyright so as to prevent the purchaser from effectively exercising his right to repair the goods. However, the court in Creative distinguished the British Leyland case on the basis of facts holding that the creation of a compatible and competing sound card was materially distinguishable from a situation of repair. The court also rejected the principle in Willmott as that case concerned patent law. The court held that:

The essential difference between rights granted to the patent owner and the copyright holder was that the rights granted to the former included the right to use and sell the work. … This principle did not sit comfortably with copyright principles. When a patented article was sold to an ordinary purchaser, the patentee had no legitimate expectation or interest in controlling the further use of the article by the purchaser. Effectively, there was nothing left of the patentee’s rights. On the other hand, a copyright owner who sold his work still retained the economic and moral rights of authorship. Sale of such a product did not constitute the implied granting by the copyright owner of permission to do whatever the purchaser wished with the product. The principle in Betts v Willmott was thus inapplicable in the Singapore copyright context.³⁷

The amendment makes the first sale right narrower in scope and application in comparison to the contractual rights and consequent obligations. The first sale rights are subject to any alteration or rescission by the terms of the transfer. Therefore, terms of sale that have the effect of prohibiting successive transfers, of termination of the agreement on transfer or terms that prescribe restrictions on further ownership rights of the purchaser are effective after the conclusion of the transfer, are held as valid qualifications on the first sale doctrine in Singapore. Also for the subsequent transfers to be effective, the purchaser must comply with the requirement that no copies, whether in tangible form or on the hard disk, or any adaptations, will be retained by the transferor at the time of the transfer. Thus the transferor is obligated to transfer or destroy all incidental copies of the work so as to bequeath his erstwhile rights upon the purchaser.³⁸ All copies including the original work that are not transferred will be considered as infringing copies.³⁹

The first sale doctrine is well established in the laws of sale and intellectual property under most jurisdictions. The difference in approach under the US-international exhaustion doctrine and the EU-limited exhaustion principle is an issue which will be a bone of contention in international trade negotiations in time to come. It is believed that the US government has commenced negotiations with the EC to rethink their principle of territorial exhaustion in the interests of international trade and free movement of goods.

In the context of e-commerce transactions also, the First Sale Doctrine will have a key role to play. In the last decade, downloads of software, music and other multimedia through the internet have gained in popularity. To protect their interests, software vendors have started using anti-circumvention measures (‘ACMs’) such as encryption and digital watermarking to protect their intellectual property rights. In the last decade, many countries have outlawed the act of circumventing or bypassing such ACMs.⁴⁰ One important consideration is that ACMs may prevent buyers from applying their first sale rights to such electronic wares by making it unlawful for buyers to access or dispose of such electronic works without the requisite consent of the copyright owner. ACMs have thus further narrowed the scope of consumer rights in the electronic environment. Efforts must therefore be made on an international scale to harmonise the divergence in national approaches towards the issue of exhaustion of rights in electronic goods as well as the preservation of the inherent first sale rights of the consumers.

Abhinav Bhatt

TSMP Law Corporation

E-mail: ab@tsmp.com.sg

Endnotes:

1 See, Michael J Meurer, Price Discrimination, Personal Use and Piracy: Copyright Protection of Digital Works, 45, Buff L Rev 845, 869 (1997).

2 See, George Wei, ‘Law of Copyright in Singapore’, para 8, page 198.

3 This doctrine is not unique to the US, though the specific contours of the copy owner’s rights vary from country to country. In civil law jurisprudence, the doctrine is generally known as ‘exhaustion’ — the copyright owner’s initial authorised transfer of a copy of the work exhausts the owner’s right to control the distribution of that copy.

4 See, Harrison v Maynard, Merrill & Co 61 F 689, 10 CCA 17 and Bobbs-Merrill Co v Straus 147 F 15 (2d Cir 1906).

5 17 USC § 41 (1909) (amended 1947), current version at 17 USC § 109(a) (2002) (enacted 1976).

6 See, Parfums Givenchy Inc v Drug Emporium Inc 38 F 3d 477, 480 (9th Cir. 1994).

7 An exception to this general rule is for computer programs and phonorecords, since they cannot be rented, leased or lent, for direct or indirect commercial gain, except by non-profit libraries and educational institutions. USC Title 17 § 109 (b) (1) (A).

8 See, Adobe Systems Inc v One Stop Micro Inc, 84 F Supp 2d 1086, 1091 (ND Cal 2000); Adobe v Stargate Software Inc, 216 F Supp 2d 1051 (ND Cal 2002).

9 See, Sony Computer Entm’t Inc, v Connectix Corp, 203 F 3d 596 (9th Circ 2000); Sega Enters v Accolade Inc, 977 F 2d 1510 (9th Circ 1992); Atari Games Corp v Nintendo Inc, 975 F 2d 832 (9th Circ 1992).

10 See, Sony Corp v Universal City Studios 464 US 417, 104 S Ct 774, 78 L Ed 2d 574 (1984).

11 See, Novell Inc v Network Trade Center Inc 25 F Supp 2d 1218.

12 See, Scott Spooner, ‘The Validation of Shrink-Wrap and Click-Wrap Agreements…’7 Rich, JL & Tech 27, 34 (2001).

13 See USC Title Code 17, § 109 (d).

14 See, Nimmer MB; Nimmer on Copyright, § 8.12 (2002).

15 But see (subsequently reversed), DSC Communications Corp v Pulse Communications Inc 170 F 3d 1354, 50 USP Q2d (BNA) 1001 (Fed Circ 1999) and Novell Inc v Network Trade Center Inc 25 F Supp 2d 1218, 37 UCC Rep Serv 2d 528 (D Utah 1997).

16 846 F Supp 208, 210 (EDNY 1994).

17 84 F Supp 2d 1086 (ND Cal 2000).

18 25 F Supp 2d 1218 (CD Utah 1997).

19 171 F Supp 2d 1075, 1080 (CD Cal 2001).

20 2000 US Dist Lexis 9975 (SD Tex 2000).

21 216 F Supp 2d 1051 (ND Cal 2002).

22 2004 US Dist LEXIS 16861; Copy L Rep (CCH) P28,900.

23 Section 4(c) of the Directive 91/250 of May 14, 1991, [1991] OJ L122/42.

24 Directive 96/9 of March 11, 1996. See Recitals 33, 34 and ss 5(c) and 7.2(b).

25 Recital 28 of the Directive 2001/29/EC of the European Parliament and of the Council of 22 May 2001 on the ‘Harmonisation of Certain Aspects of Copyright and Related Rights in the Information Society’.

26 The term ‘international exhaustion’ is taken to refer to worldwide exhaustion of IP rights, as distinct from ‘EEA-wide exhaustion’. Whilst the latter is clearly international in that it relates to more than one country, it is confined to rights exhausted essentially as a result of first marketing with consent only within the EEA (being the 15 EU Member States plus the EFTA states of Norway, Iceland and Liechtenstein).

27 [1988] SLR 930.

28 [1994] 1 SLR 452.

29 [2002] 1 SLR 129.

30 15 December 1999.

31 Section 193F (2) of the Copyright Act.

32 Section 39 (4) of the Copyright Act.

33 See, George Wei, ‘Law of Copyrights in Singapore’.

34 [1871] LR 6 Ch App 239.

35 [1997] 1 SLR 621.

36 [1986] 1 AC 577.

37 Ibid, para 4.

38 Section 193 F (3) of the Copyright Act.

39 Section 7(1) of the Copyright Act.

40 Singapore has, pursuant to the recent Free Trade Agreement signed with US, recently enacted the Copyright (Amendment) Act 2004 (No 52 of 2004) which introduces a new s 261B to deal with the circumvention of technological measures.