Lasercomb America, Inc. v. Reynolds

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United States Court of Appeals,

Fourth Circuit.

LASERCOMB AMERICA, INC., Plaintiff-Appellee,

v.

Job REYNOLDS; Larry Holliday, Defendants-Appellants,

and

Holiday Steel Rule Die Corporation, Defendant.

911 F.2d 970

[Most citations and footnotes omitted; emphasis mine]

Decided Aug. 16, 1990.

SPROUSE, Circuit Judge:

Appellants Larry Holliday and Job Reynolds appeal from a district court judgment holding them liable to appellee Lasercomb America, Inc., for copyright infringement and for fraud, based on appellants' unauthorized copying and marketing of appellee's software. We affirm in part, reverse in part, and remand for recomputation of damages.

I

Facts and Proceedings Below

Appellants and defendants below are Larry Holliday, president and sole shareholder of Holiday Steel Rule Die Corporation (Holiday Steel), and Job Reynolds, a computer programmer for that company. [FN1] Appellee is Lasercomb America, Inc. (Lasercomb), the plaintiff below. Holiday Steel and Lasercomb were competitors in the manufacture of steel rule dies that are used to cut and score paper and cardboard for folding into boxes and cartons. Lasercomb developed a software program, Interact, which is the object of the dispute between the parties. Using this program, a designer creates a template of a cardboard cutout on a computer screen and the software directs the mechanized creation of the conforming steel rule die.

In 1983, before Lasercomb was ready to market its Interact program generally, it licensed four prerelease copies to Holiday Steel which paid $35,000 for the first copy, $17,500 each for the next two copies, and $2,000 for the fourth copy. Lasercomb informed Holiday Steel that it would charge $2,000 for each additional copy Holiday Steel cared to purchase. Apparently ambitious to create for itself an even better deal, Holiday Steel circumvented the protective devices Lasercomb had provided with the software and made three unauthorized copies of Interact which it used on its computer systems. Perhaps buoyed by its success in copying, Holiday Steel then created a software program called "PDS-1000," which was almost entirely a direct copy of Interact, and marketed it as its own CAD/CAM die-making software. These infringing activities were accomplished by Job Reynolds at the direction of Larry Holliday.

There is no question that defendants engaged in unauthorized copying, and the purposefulness of their unlawful action is manifest from their deceptive practices. . . When Lasercomb discovered Holiday Steel's activities, it registered its copyright in Interact and filed this action against Holiday Steel, Holliday, and Reynolds on March 7, 1986. Lasercomb claimed copyright infringement, breach of contract, misappropriation of trade secret, false designation of origin, unfair competition, and fraud. Defendants filed a number of counterclaims. On March 24, 1986, the district court entered a preliminary injunction, enjoining defendants from marketing the PDS-1000 software.

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Holliday and Reynolds raise several issues on appeal. They do not dispute that they copied Interact, but they contend that Lasercomb is barred from recovery for infringement by its concomitant culpability. They assert that, assuming Lasercomb had a perfected copyright, it impermissibly abused it. This assertion of the "misuse of copyright" defense is based on language in Lasercomb's standard licensing agreement, restricting licensees from creating any of their own CAD/CAM die-making software. . . .

Misuse of Copyright Defense

A successful defense of misuse of copyright bars a culpable plaintiff from prevailing on an action for infringement of the misused copyright. Here, appellants claim Lasercomb has misused its copyright by including in its standard licensing agreement clauses which prevent the licensee from participating in any manner in the creation of computer-assisted die-making software. The offending paragraphs read:

D. Licensee agrees during the term of this Agreement that it will not 
permit or suffer its directors, officers and employees, directly or
indirectly, to write, develop, produce or sell computer assisted die
making software.
E. Licensee agrees during the term of this Agreement and for one (1)
year after the termination of this Agreement, that it will not write,
develop, produce or sell or assist others in the writing, developing,
producing or selling computer assisted die making software, directly
or indirectly without Lasercomb's prior written consent. Any such
activity undertaken without Lasercomb's written consent shall nullify
any warranties or agreements of Lasercomb set forth herein.

The "term of this Agreement" referred to in these clauses is ninety-nine years.

Defendants were not themselves bound by the standard licensing agreement. Lasercomb had sent the agreement to Holiday Steel with a request that it be signed and returned. Larry Holliday, however, decided not to sign the document, and Lasercomb apparently overlooked the fact that the document had not been returned. Although defendants were not party to the restrictions of which they complain, they proved at trial that at least one Interact licensee had entered into the standard agreement, including the anticompetitive language.

The district court rejected the copyright misuse defense for three reasons. First, it noted that defendants had not explicitly agreed to the contract clauses alleged to constitute copyright misuse. Second, it found "such a clause is reasonable in light of the delicate and sensitive area of computer software." And, third, it questioned whether such a defense exists. We consider the district court's reasoning in reverse order.

A. Does a "Misuse of Copyright" Defense Exist?

We agree with the district court that much uncertainty engulfs the "misuse of copyright" defense. We are persuaded, however, that a misuse of copyright defense is inherent in the law of copyright just as a misuse of patent defense is inherent in patent law.

The misuse of a patent is a potential defense to suit for its infringement, and both the existence and parameters of that body of law are well established. Although there is little case law on the subject, courts from time to time have intimated that the similarity of rationales underlying the law of patents and the law of copyrights argues for a defense to an infringement of copyright based on misuse of the copyright. The origins of patent and copyright law in England, the treatment of these two aspects of intellectual property by the framers of our Constitution, and the later statutory and judicial development of patent and copyright law in this country persuade us that parallel public policies underlie the protection of both types of intellectual property rights. We think these parallel policies call for application of the misuse defense to copyright as well as patent law.

1. Overview

Because of the paucity of precedent in the copyright misuse area, some historical perspective of the elements underlying intellectual property law is helpful to our inquiry. Fortunately, respected treatise authors have captured well the essence of the relevant historical perspective.

During the sixteenth century, it became common for the English Crown to grant "letters patent" which gave individuals exclusive rights to produce, import and/or sell given items within the kingdom. 1 Walker on Patents §§ 1:1-1:2. These monopolies were granted for such commonplace items as salt, vinegar, and calfskins, to name but a few. Id. at § 1:2. The practice of granting monopolies led to widespread abuses, such as shortages and inflated prices for items that would otherwise be easily and cheaply available. Id. Consequently, Parliament passed the Statute of Monopolies (1623-24), prohibiting the creation of such monopolies by the Crown. Id. at § 1.5. An exception was made, however, to permit a patent to be granted for a period of fourteen years to the creator of a new invention. 21 Jac., ch. 3, § 6.

The rationale for allowing patents for new inventions was and is to encourage their creation for the benefit of society. 1 Walker on Patents § 1:6. The monopolies granted by the Crown had been odious because they restrained trade in articles that had previously been a part of the public domain. An invention, however, does not withdraw anything from public traffic; rather, it introduces something new. To encourage and reward inventors for increasing the inventory of useful objects, the government grants them, for a limited time, the right to exclude others from making and selling their inventions.

The development of copyright law in England likewise grew out of a differentiation by Parliament between a monopoly that restricts publication of works and a limited copyright that encourages the efforts of authors. In sixteenth-century England, the Crown granted to the Stationers' Company the exclusive right to publish and print all published works (apparently to enable censorship of Protestant materials). In the early 1700s, the Stationer's Company petitioned Parliament to recognize that these rights inured to it in perpetuity. Instead, Parliament passed the Statute of Anne (1709-10), the first known copyright legislation. That statute gave authors the sole right of publication for up to twenty-eight years. Thus, the English statutory treatment of copyright was similar to that of patent in that it granted the creator a monopoly for a limited time only.

It is significant, we think, that the framers of our Constitution continued the English development of intellectual property law and considered in tandem those property rights protectable by copyrights and those protectable by patents. In giving Congress the power to create copyright and patent laws, the framers combined the two concepts in one clause, stating a unitary purpose--to promote progress. Article I, section 8, clause 8 of the United States Constitution provides:

[The Congress shall have power] To promote the Progress of Science
and useful Arts, by securing for limited Times to Authors and
Inventors the exclusive Right to their respective Writings and Discoveries.

This clause was adopted without debate, and material explaining the intention of the framers is limited. However, a comment in The Federalist papers indicates the public policy behind the grant of copyright and patent powers is essentially the same:

The utility of this power will scarcely be questioned. The copyright
of authors has been solemnly adjudged, in Great Britain, to be a
right of common law. The right to useful inventions seems with equal
reason to belong to the inventors. The public good fully coincides 
in both cases with the claims of individuals.

The Federalist, No. 43 at 279 (J. Madison) (Mod.Lib. ed. 1941).

[* * *]

Supreme Court comment has likewise equated the public policies of copyright and patent. For example, in Mazer v. Stein, 347 U.S. 201, 219, 74 S.Ct. 460, 471, 98 L.Ed. 630 (1953), the Supreme Court stated:

The economic philosophy behind the clause empowering Congress to
grant patents and copyrights is the conviction that encouragement
of individual effort by personal gain is the best way to advance
public welfare through the talents of authors and inventors in
"Science and useful Arts." Sacrificial days devoted to such creative
activities deserve rewards commensurate with the services rendered.

(Emphasis added.) See also Loew's, 371 U.S. at 44-51, 83 S.Ct. at 101- 05; Paramount Pictures, 334 U.S. at 154-59, 68 S.Ct. at 927-29. The philosophy behind copyright, parallel to that discussed above for patent, is that the public benefits from the efforts of authors to introduce new ideas and knowledge into the public domain. To encourage such efforts, society grants authors exclusive rights in their works for a limited time.

2. The Misuse of Patent Defense

Although a patent misuse defense was recognized by the courts as early as 1917, most commentators point to Morton Salt Co. v. G.S. Suppiger, 314 U.S. 488, 62 S.Ct. 402, 86 L.Ed. 363 (1942), as the foundational patent misuse case. In that case, the plaintiff Morton Salt brought suit on the basis that the defendant had infringed Morton's patent in a salt-depositing machine. The salt tablets were not themselves a patented item, but Morton's patent license required that licensees use only salt tablets produced by Morton. Morton was thereby using its patent to restrain competition in the sale of an item which was not within the scope of the patent's privilege. The Supreme Court held that, as a court of equity, it would not aid Morton in protecting its patent when Morton was using that patent in a manner contrary to public policy. Id. at 490-92, 62 S.Ct. at 404-05. The Court stated:

The grant to the inventor of the special privilege of a patent
monopoly carries out a public policy adopted by the Constitution
and laws of the United States, "to promote the Progress of Science
and useful Arts, by securing for limited Times to ... Inventors the
exclusive Right ..." to their "new and useful" inventions. United
States Constitution, Art. I, § 8, cl. 8, 35 U.S.C. § 31. But the
public policy which includes inventions within the granted monopoly
excludes from it all that is not embraced in the invention. It
equally forbids the use of the patent to secure an exclusive right
or limited monopoly not granted by the Patent Office and which it
is contrary to public policy to grant. 

Id. at 492, 62 S.Ct. at 405. Thus, the Supreme Court endorsed "misuse of patent" as an equitable defense to a suit for infringement of that patent.

Since Morton Salt, the courts have recognized patent misuse as a valid defense and have applied it in a number of cases in which patent owners have attempted to use their patents for price fixing, tie-ins, territorial restrictions, and so forth. The patent misuse defense also has been acknowledged by Congress in the 1988 Patent Misuse Reform Act, Pub.L. No. 100-703, 102 Stat. 4676 (1988) (codified at 35 U.S.C. § 271(d)(4) & (5)), which limited but did not eliminate the defense.

3. The "Misuse of Copyright" Defense

Although the patent misuse defense has been generally recognized since Morton Salt, it has been much less certain whether an analogous copyright misuse defense exists. See supra note 9. This uncertainty persists because no United States Supreme Court decision has firmly established a copyright misuse defense in a manner analogous to the establishment of the patent misuse defense by Morton Salt. The few courts considering the issue have split on whether the defense should be recognized, see Holmes, Intellectual Property § 4.09 (collecting cases), and we have discovered only one case which has actually applied copyright misuse to bar an action for infringement. M. Witmark & Sons v. Jensen, 80 F.Supp. 843 (D.Minn.1948), appeal dismissed, 177 F.2d 515 (8th Cir.1949).

We are of the view, however, that since copyright and patent law serve parallel public interests, a "misuse" defense should apply to infringement actions brought to vindicate either right. As discussed above, the similarity of the policies underlying patent and copyright is great and historically has been consistently recognized. Both patent law and copyright law seek to increase the store of human knowledge and arts by rewarding inventors and authors with the exclusive rights to their works for a limited time. At the same time, the granted monopoly power does not extend to property not covered by the patent or copyright.

Thus, we are persuaded that the rationale of Morton Salt in establishing the misuse defense applies to copyrights. In the passage from Morton Salt quoted above, the phraseology adapts easily to a copyright context:

The grant to the [author] of the special privilege of a
[copyright] carries out a public policy adopted by the
Constitution and laws of the United States, "to promote
the Progress of Science and useful Arts, by securing for
limited Times to [Authors] ... the exclusive Right ..."
to their ["original" works]. United States Constitution,
Art. I, § 8, cl. 8, [17 U.S.C.A. § 102]. But the public
policy which includes [original works] within the granted
monopoly excludes from it all that is not embraced in
the [original expression]. It equally forbids the use of
the [copyright] to secure an exclusive right or limited
monopoly not granted by the [Copyright] Office and which
it is contrary to public policy to grant.

Having determined that "misuse of copyright" is a valid defense, analogous to the misuse of patent defense, our next task is to determine whether the defense should have been applied by the district court to bar Lasercomb's infringement action against the defendants in this case.

B. The District Court's Finding that the Anticompetitive Clauses Are Reasonable

In declining to recognize a misuse of copyright defense, the district court found "reasonable" Lasercomb's attempt to protect its software copyright by using anticompetitive clauses in their licensing agreement. In briefly expressing its reasoning, the court referred to the "delicate and sensitive" nature of software. It also observed that Lasercomb's president had testified that the noncompete language was negotiable.

If, as it appears, the district court analogized from the "rule of reason" concept of antitrust law, we think its reliance on that principle was misplaced. Such reliance is, however, understandable. Both the presentation by appellants and the literature tend to intermingle antitrust and misuse defenses. A patent or copyright is often regarded as a limited monopoly--an exception to the general public policy against restraints of trade. [FN18] Since antitrust law is the statutory embodiment of that public policy, there is an understandable association of antitrust law with the misuse defense. Certainly, an entity which uses its patent as the means of violating antitrust law is subject to a misuse of patent defense. However, Morton Salt held that it is not necessary to prove an antitrust violation in order to successfully assert patent misuse:

It is unnecessary to decide whether respondent has
violated the Clayton Act, for we conclude that in any
event the maintenance of the present suit to restrain
petitioner's manufacture or sale of the alleged infringing
machines is contrary to public policy and that the
district court rightly dismissed the complaint for want
of equity.

So while it is true that the attempted use of a copyright to violate antitrust law probably would give rise to a misuse of copyright defense, the converse is not necessarily true--a misuse need not be a violation of antitrust law in order to comprise an equitable defense to an infringement action. The question is not whether the copyright is being used in a manner violative of antitrust law (such as whether the licensing agreement is "reasonable"), but whether the copyright is being used in a manner violative of the public policy embodied in the grant of a copyright.

Lasercomb undoubtedly has the right to protect against copying of the Interact code. Its standard licensing agreement, however, goes much further and essentially attempts to suppress any attempt by the licensee to independently implement the idea which Interact expresses. The agreement forbids the licensee to develop or assist in developing any kind of computer-assisted die-making software. If the licensee is a business, it is to prevent all its directors, officers and employees from assisting in any manner to develop computer-assisted die-making software. Although one or another licensee might succeed in negotiating out the noncompete provisions, this does not negate the fact that Lasercomb is attempting to use its copyright in a manner adverse to the public policy embodied in copyright law, and that it has succeeded in doing so with at least one licensee.

The language employed in the Lasercomb agreement is extremely broad. Each time Lasercomb sells its Interact program to a company and obtains that company's agreement to the noncompete language, the company is required to forego utilization of the creative abilities of all its officers, directors and employees in the area of CAD/CAM die-making software. Of yet greater concern, these creative abilities are withdrawn from the public. The period for which this anticompetitive restraint exists is ninety-nine years, which could be longer than the life of the copyright itself.

We previously have considered the effect of anticompetitive language in a licensing agreement in the context of patent misuse. Compton v. Metal Products, Inc., 453 F.2d 38 (4th Cir.1971), cert. denied, 406 U.S. 968, 92 S.Ct. 2414, 32 L.Ed.2d 667 (1972). Compton had invented and patented coal auguring equipment. He granted an exclusive license in the patents to Joy Manufacturing, and the license agreement included a provision that Compton would not "engage in any business or activity relating to the manufacture or sale of equipment of the type licensed hereunder" for as long as he was due royalties under the patents. Suit for infringement of the Compton patents was brought against Metal Products, and the district court granted injunctive relief and damages. On appeal we held that relief for the infringement was barred by the misuse defense, stating:

The need of Joy to protect its investment does not
outweigh the public's right under our system to expect
competition and the benefits which flow therefrom, and
the total withdrawal of Compton from the mining machine
business ... everywhere in the world for a period of 20
years unreasonably lessens the competition which the
public has a right to expect, and constitutes misuse
of the patents.

Id. at 45.

We think the anticompetitive language in Lasercomb's licensing agreement is at least as egregious as that which led us to bar the infringement action in Compton, and therefore amounts to misuse of its copyright. Again, the analysis necessary to a finding of misuse is similar to but separate from the analysis necessary to a finding of antitrust violation. The misuse arises from Lasercomb's attempt to use its copyright in a particular expression, the Interact software, to control competition in an area outside the copyright, i.e., the idea of computer-assisted die manufacture, regardless of whether such conduct amounts to an antitrust violation.

C. The Effect of Appellants Not Being Party to the Anticompetitive Contract

In its rejection of the copyright misuse defense, the district court emphasized that Holiday Steel was not explicitly party to a licensing agreement containing the offending language. However, again analogizing to patent misuse, the defense of copyright misuse is available even if the defendants themselves have not been injured by the misuse. In Morton Salt, the defendant was not a party to the license requirement that only Morton-produced salt tablets be used with Morton's salt-depositing machine. Nevertheless, suit against defendant for infringement of Morton's patent was barred on public policy grounds. Similarly, in Compton, even though the defendant Metal Products was not a party to the license agreement that restrained competition by Compton, suit against Metal Products was barred because of the public interest in free competition.

Therefore, the fact that appellants here were not parties to one of Lasercomb's standard license agreements is inapposite to their copyright misuse defense. The question is whether Lasercomb is using its copyright in a manner contrary to public policy, which question we have answered in the affirmative.

In sum, we find that misuse of copyright is a valid defense, that Lasercomb's anticompetitive clauses in its standard licensing agreement constitute misuse of copyright, and that the defense is available to appellants even though they were not parties to the standard licensing agreement. Holding that Lasercomb should have been barred by the defense of copyright misuse from suing for infringement of its copyright in the Interact program, we reverse the injunction and the award of damages for copyright infringement. [FN22]

FN22. This holding, of course, is not an invalidation of Lasercomb's copyright. Lasercomb is free to bring a suit for infringement once it has purged itself of the misuse.

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