By He Fang (Partner), Lou Jiayu (Intern)
The exhaustion of intellectual property rights is a topic of heated debate around the world. The Agreement on Trade-Related Aspects of Intellectual Property Rights leaves much room for more clarity on how to handle this issue, with its Article 6 stating: “For the purposes of dispute settlement under this Agreement, subject to the provisions of Articles 3 and 4 nothing in this Agreement shall be used to address the issue of the exhaustion of intellectual property rights.” In practice, the exhaustion of intellectual property rights is concerned mostly with parallel imports.
In China, parallel imports of patented goods have been legitimized by Article 69 of the PRC Patent Law, but there is no explicit provision covering parallel imports of trademarked goods. In practice, Chinese courts tend to avoid directly addressing the issue, as can be seen in three high-profile cases trials, i.e., the “LUX” soap, the “MICHELIN” tire and the “VICTORIA‘S SECRET” cases. This article aims to explore solutions for trademark rights holders in their fight against other importers by analysing court cases, one of the International Trademark Association’s Board Resolutions and selected countries’ legislative practices.
Parallel imports of trademarked goods
There is no comprehensive definition of parallel imports of trademarked goods. Generally speaking, parallel importing is when trademark protected goods, without the permission of the trademark owner or user in a country, are imported and sold in that country by an unauthorised third party who has imported them from another country where they have been legally produced and protected by that trademark.
The root cause of parallel importing of trademarked goods lies in the conflict between IPR protection and trade liberalization. Trademark protection is subject to territoriality, which means a trademark is only recognized in the specific country or jurisdiction where it is registered. With the globalization of trade, however, goods bearing trademarks are being circulated around the world. To further liberalize global trade, the “international exhaustion” principle has been introduced to provide an academic basis for the legitimization of parallel importing which helps consumers to acquire cheaper goods. Nevertheless, legitimization of parallel imports does have many downsides. The most striking one is that it weakens the trademark rights holder’s interest in the mark, because consumers may be misled to believe that the imported goods originate from the rights holder’s country. Given the rights holder’s heavy investment in marketing and promotion, the parallel importer is in essence taking a free ride, and getting a price advantage. Basically, this confusion damages the interests of the rights holder.
Chinese courts: conflicting views
The Beijing Higher People's Court, has commented on whether parallel importing constitutes trademark infringement in an article titled Some Noteworthy Issues Concerning the Trial of Intellectual Property Rights Cases, observing:
It is true that the PRC Trademark Law does not explicitly designate the “nominative use of a trademark” as a defense to trademark infringement. But, the Trademark Law protects the correspondence between a mark and the source of a product, and the right to prohibit the use of a trademark is created to protect such correspondence rather than to grant a distribution monopoly to the rights holder. That is to say, exhaustion of trademark rights must be one of the essential rules for free market competition. It then follows that if an alleged infringing product does come from a trademark rights holder or his authorized entities, the rights holder has already extracted the trademark’s commercial value from the “original selling”, so he is not entitled to prevent others from “re-selling” or reasonably marketing the imported goods, or else he is obstructing free market competition. Therefore, “parallel imports” should be acceptable to the courts and will not be deemed to constitute trademark infringement.
But in the “MICHELIN” tire case, the Changsha Intermediate People’s Court held that:
“The role of a trademark is to ensure product quality and indicate the reputation of those who provide the product. Any damage to such function and role constitutes trademark infringement. In this case, despite the fact that the plaintiff admits that the alleged infringing products were manufactured by its factory in Japan and that the series trademark “MICHELIN” on those products were affixed in Japan as well, such products are sold in China without the plaintiff’s authorization or quality certification. The selling of such products in China violates the law. It may pose potential function failure or danger, and it damages the role of the plaintiff’s trademark in ensuring product quality and indicating the reputation of those who provide the product. The defendant’s selling of such products has actually damaged the plaintiff’s exclusive right to use the registered trademark, and its behavior infringes upon the plaintiff’s exclusive right to use the registered trademark.”
“One of the essential functions of a trademark is to save the cost of searching by consumers, because a trademark is designed to identify products or services. Once the trademark registrant starts to sell a product, the registered trademark and the trademark holder’s reputation indicated by that trademark develop a one-to-one correspondence with that product and its various characteristics. Any change to the trademark or the product potentially damages the trademark’s function to identify products and services and to guide consumers. In this case, the tire in question involves a change of speed ratings, and it threats the trademark registrant’s reputation in its guarantee for product quality. Therefore, it constitutes trademark infringement.”
As we can see, Chinese courts hold different views on parallel imports of trademarked goods. The Beijing Higher People's Court prefers to cite international exhaustion and to give legitimacy to parallel imports, while the Changsha Intermediate People’s Court tends to view parallel imports as trademark infringement under certain circumstances.
The International Trademark Association: the “material differences” standard
Founded in 1878, the International Trademark Association (“INTA”) is a global association of trademark owners and professionals. It is the largest international organization of trademarks and brands and it is a non-state observer of the United Nations. Resolutions of the Board of Directors of INTA are based on in-depth analysis by specialized committees. INTA’s positions are considered the primary official opinions on trademark-related issues worldwide.
With respect to parallel importing, one of INTA’s 2015 Board Resolutions is:
- “National exhaustion” of trademark rights in relation to the parallel imports of goods should be applied; and
- In those countries that currently adopt “international exhaustion”, and in which political or other conditions make it highly improbable that “national exhaustion” will be implemented, a “material differences” standard should be adopted in order to exclude some parallel imports.
INTA calls for the need of a “material differences” standard to balance “exhaustion of rights” and “protection of trademark holders’ interests”: parallel imports that are materially different from those products authorized for sale by the trademark holder in the domestic market are considered infringing products. Anything that could affect the consumer’s willingness to purchase a product, or that could create consumer dissatisfaction after the purchase, should be considered “material”.
Legislative practices in different countries
Parallel imports of trademarked goods are regulated differently in different countries based on respective policy considerations. Legislation in several major countries/regions is as follows:
1. The EU
To establish a single market, parallel imports are generally permissible within the EU. But there are certain exceptions where it will be illegal if a parallel importer damages the quality of goods, or damages the trademark or its owner’s reputation as a result of repackaging or relabeling, or omits or distorts the information contained in the trademark. However, parallel imports from outside the EU are strictly restricted. It can be seen that the EU adopts an exhaustion of regional rights approach to parallel imports.
2. The U.S.
In principle, parallel imports are prohibited in the U.S. by virtue of Section 526 of the Tariff Act. U.S. federal law also prohibits parallel imports of trademarked goods. The “same owner exception” and “common control exception”, however, were later established in Customs Service regulations and the U.S. Supreme Court’s decision in K Mart Corp. v. Cartier, Inc. These exceptions particularly apply to circumstances where a U.S company is somehow related to a foreign company: 1) the products manufactured by a U.S. trademark owner in a foreign country are imported into the U.S.; 2) a U.S. trademark owner is a subsidiary of a foreign company through which the foreign company sells products in the U.S.; and 3) a U.S. trademark owner owns a foreign subsidiary which produces products bearing a U.S. trademark owned by the U.S. trademark owner and such products are imported into the U.S. for sale. These three exceptions are allowed in the U.S.
Additionally, the so-called Lever rule established in Lever Bros v. United States applies when an imported product is different in quality from the domestic counterpart bearing the same brand. To avoid confusion among consumers caused by any difference in quality, the Lever rule provides that if such a difference exists then a consumer is entitled to remedies under Section 32, 42 or 43 of the Lanham Act even if a U.S. trademark rights holder is affiliated with a foreign manufacturer. Under the rule, even in the case of parallel imports by a related company allowed by the “same owner” and “common control” exceptions, the Customs Service may seize these imports as restricted gray market goods if it believes the imports are materially different from those authorized for domestic sale. This places the burden on the importer to prove that the alleged material difference does not exist.
The Japanese view of parallel importing underwent a change in the past. Before the 1970s, parallel imports of trademarked goods were strictly prohibited. However, the situation changed fundamentally after the 1970 decision in the Parker case. In this case the District Court held that the parallel importer must indicate the original manufacturer and guarantee that the quality of the imported products was the same as that of the product sold by domestic dealers; otherwise, the conduct would be deemed to breach the good faith principle and amount to unfair competition. Therefore, parallel imports are generally allowed in Japan subject to compliance with the good faith principle.
4. South Korea
South Korea’s legislation explicitly prohibits parallel imports. Article 36(2) of the Trademark Act provides that parallel imports infringe trademark rights. However, South Korea’s position has been gradually changing in favor of parallel imports.
Rights holders’ coping strategies
Parallel imports often have a price advantage, which will take market share from domestic trademark rights holders and their validly licensed users. If this happens, domestic trademark rights holders need to take the initiative to deal with it to protect their sales. There are several ways to fend off parallel imports:
1. Creating “material differences”, providing differentiated products and services, and highlighting differences in advertising
Because “material differences” has become an important standard for determining trademark infringement, domestic trademark holders may provide differentiated products and services by differentiating domestically produced products in terms of packaging and shape from those produced by other manufacturers in a foreign country, or by highlighting those differences in advertising. This will help domestic consumers better distinguish between the products on the domestic market to avoid confusion.
2. Use of binding contracts
A parallel importer has to some degree a relationship with the trademark owner. When negotiating a license with a trademark owner, the domestic trademark rights holder may consider the possibility of parallel imports and may require the trademark owner to take steps to prevent parallel imports from entering the domestic market or demand compensation if parallel imports occur.
3. Use of Chinese language trademarks
Parallel imports are common with some well-known foreign brands in the Chinese market. As Chinese consumers are attracted to Chinese trademarks, domestic trademark rights holders should register and widely use Chinese trademarks as early as possible.
4. Taking action based on “material differences”
When parallel imports actually occur, trademark rights holders may take action against a parallel importer on the following grounds: (1) the products have been modified; (2) the original condition of the product has been modified as a result of repackaging; (3) repackaging is not in compliance with labelling requirements or samples; (4) the quality of repackaged products adversely affects the trademark or goodwill; (5) the trademark has been modified.
In conclusion, in view of the fact that there are no specific regulations on parallel imports into China, and that the INTA and major countries adopt the “material differences” approach, trademark rights holders need to take effective measures before and after parallel imports actually happen to prevent losing market share as a result of parallel imports.
Editor’s note: This article was simultaneously published on Chinalawinsight.com