UK: Oracle Exhausted By The Court Of Justice

The Court of Justice of the European Union (CJEU) recently handed down its judgment in UsedSoft v Oracle¹ - a case which defined the extent to which downloaded software can be re-sold without the permission of the right-holder. The case turned on whether the exhaustion of rights principle applies to intangible copies of a computer program in the same way it affects software distributed on tangible media

The CJEU found that once software was downloaded by a user in the EU, under a perpetual licence for a one-off fee, then the right-holder's ability to prevent distribution of that software is exhausted and it cannot stop the resale of the used licence to a third party.

BACKGROUND

Oracle owns and distributes client-server software called databank. In 85% of cases, licensees download a copy of the software directly from Oracle's website. The software is licensed on a perpetual basis and provides a non-exclusive, non-transferable user right which permits the licensee to store a copy of the program permanently on a server and allow access to a set number of end users who download it to their workstations. The end user licences are sold in blocks of 25; so if a licensee needs 27 end user licences then it must purchase two lots of 25.

UsedSoft acquires used software licences and resells them. In October 2005, UsedSoft acquired and offered for resale used licences of Oracle's databank software.  Oracle issued proceedings against UsedSoft in Germany, seeking an injunction restraining UsedSoft from continuing to sell the used licences. At first instance, Oracle was granted the injunction and this was upheld on appeal. However, on a further appeal to the German Federal Court of Justice, the case was referred to the CJEU.

APPLICABLE LAW

The exhaustion principle states that once a product containing intellectual property rights is first placed on the market in a Member State of the European Union, then the holder of those IP rights no longer has the power to prevent a sale in a different Member State, otherwise this could lead to partitioning of the single market. The key legislative provisions in this case that relate to the principles of exhaustion as they apply to copyright in computer programs are as follows.

(i) Information Society Directive² ("InfoSoc")

• Recital 28 – "Copyright protection under this Directive includes the exclusive right to control distribution of the work incorporated in a tangible article. The first sale in the Community of the original of a work or copies thereof by the rightholder or with his consent exhausts the right to control resale......."
• Recital 29 – "The question of exhaustion does not arise in the case of services and on-line services in particular. Unlike CD-ROM or CD-I, where the intellectual property is incorporated in a material medium, namely an item of goods, every on-line service is in fact an act which should be subject to authorisation where the copyright or related right so provides."

• Article 3 provides:

(ii) Software Directive³

CJEU'S FINDINGS

The CJEU was asked 3 questions by the German Court – it answered the 2nd question first and then went on to consider questions 1 and 3 together.

Question 2 - Where the computer program is downloaded from the internet, is the right-holder's right to control distribution of that copy exhausted?

The CJEU held that downloading a copy of a computer program from the internet, under a perpetual licence for a one-off fee, exhausts the right-holder's right to distribute the computer program in the EU. In making this finding, the CJEU essentially had to consider two issues – a) what is meant by a 'first sale of a copy of a computer program' and b) whether the exhaustion principle applies to intangible copies of a computer program.

a) 'First sale' and 'copy'

The CJEU said that it had to be ascertained whether the contractual relationship between the right-holder and its customer constituted a 'sale'. Oracle argued that it does not 'sell' copies of its computer programs, but instead makes them available to download free of charge to users who sign up to a licence. Further, neither the offering of the program to download free of charge, or the entering into of the licence agreement, constitute a transfer of ownership of a copy of the program. However, the CJEU held that the word 'sale' constitutes any agreement by which a person, in return for payment, transfers to another person his rights of ownership in an item of tangible or intangible property. So, in order for a commercial transaction to 'exhaust' the distribution right, it must involve a transfer of the right of ownership in that copy. In Oracle's case, the downloading of a copy of the databank software, together with the receipt of a user licence to use the downloaded copy, are indivisible from each other.  The licence granted was in perpetuity, which suggested that the software had been transferred to the licensee in return for a fee corresponding to the economic value of the copy to Oracle. Accordingly, the transaction did involve a transfer of ownership of a copy of the program.

The CJEU made clear that it is immaterial whether the copy of Oracle's program was downloaded from the internet or provided as a CD-ROM or DVD – from an economic point of view, the effect was the same.  Further, if the term 'sale' is not given a broad interpretation, the effectiveness of the principle of exhaustion espoused in Article 4(2) of the Software Directive would be undermined, as licensors would merely have to call an agreement a licence to avoid exhaustion of their rights.

Oracle and the European Commission had further argued that offering a computer program for download on the right-holder's website constitutes "making available to the public" pursuant to Article 3(3) of InfoSoc. It therefore, does not lead to the exhaustion of the right to distribute that copy. However the CJEU followed the Advocate General's finding that the transfer of ownership changes an "act of communication to the public" into an "act of distribution", which gives rise to exhaustion of rights.

b) Exhaustion and intangible property

Oracle had also argued that, under InfoSoc, the principal of exhaustion relates only to copyright works in tangible form⁴. However, the CJEU dismissed this contention and held that the intention of the Software Directive was to assimilate protection for computer programs in tangible and intangible form⁵. Therefore, given that the exhaustion principle is set out in Article 4(2) of the Software Directive, it follows that the principle applies to intangible copies of software (as well as software in tangible form). In finding this, the CJEU noted that the Software Directive related specifically to computer programs, whereas InfoSoc applied to all copyright works. Therefore, the Software Directive took precedence over InfoSoc.

Questions 1&3 - If the right-holder's right to control distribution is exhausted, can the party who acquires the used licence as a "lawful acquirer" also rely on the exhaustion principle to allow it to download a copy from the internet, if the first acquirer has erased his copy of the program or no longer uses it?

The CJEU noted that, under Article 5(1) of the Software Directive, a lawful acquirer does not need the right-holder's consent to reproduce a computer program, if reproduction is necessary for the use of the program in accordance with its intended purpose. Further, the act of downloading software (which amounts to an act of reproduction) is necessary for the use of the program by the lawful acquirer and, pursuant to Recital 13 of the Software Directive, this cannot be prohibited by contract. Therefore, on the basis that exhaustion occurs on first sale and the right-holder can no longer oppose resale, any subsequent acquirers are 'lawful acquirers' within the meaning of Article 5(1), regardless of any provisions to the contrary in the licence. In effect, the exhaustion principle trumps contract. 

Oracle argued that the concept of 'lawful acquirer' in Article 5(1) of the Software Directive relates to a party who is licensed directly by the right-holder to use the software (which subsequent acquirers would not be). However, the CJEU concluded that this would make the exhaustion principle ineffective.  Since the right-holder cannot object to the resale of a copy of software (because the distribution right is exhausted), subsequent acquirers of that copy must be 'lawful acquirers' and are authorised (under Article 5(1) of the Software Directive) to download the program and to use it in accordance with its intended purpose.

However, there were two caveats to this. Firstly, if the licence of the 1st acquirer relates to a greater number of users than it needs, the 1st acquirer is not allowed to divide the licence up and sell only the unused number of user licences to a third party. Secondly on re-sale of its licence, the 1st acquirer must render its version of the program unusable. Otherwise, the 1st acquirer (having sold the right to use the software) will infringe copyright in the program. In that regard, the right-holder is entitled to use all technical means at his disposal, such as product keys, to ensure that this has occurred.

ANALYSIS

This is another example of the European Institutions being challenged to clarify their interpretation of existing competition rules and to apply them to online distribution.⁶

The CJEU reiterated that the key rationale of the principle of exhaustion is "to avoid partitioning of markets, to limit restrictions of the distribution of those works to what is necessary to safeguard the specific subject-matter of the intellectual property concerned"⁷. However, the CJEU felt that restricting the application of the principle of exhaustion to physical copies of computer programs "would allow the copyright holder to control the resale of [intangible] copies downloaded from the internet".  This would enable it to demand remuneration as a result of each new sale over and above the amount that it had received on its first sale, which the CJEU stated is the "appropriate amount". As such this would go "beyond what is necessary to safeguard the specific subject-matter of the intellectual property concerned".⁸

Further, the CJEU stated that, under the principle of exhaustion it is important to look beyond the technical means of distribution (internet or physical sale) to identify the economic effects of such distribution methods. The CJEU declared that, from an economic point of view, "the sale of a computer program on CD-ROM or DVD and the sale of a program by downloading from the internet are similar. The on-line transmission method is the functional equivalent of the supply of a material medium."⁹ Therefore, the law, as it stands, should apply equally to both methods of distribution.

2nd Acquirer's right to use the program

However the decision has, perhaps, led to more questions than answers. In particular, on what basis does the 2nd acquirer would have a right to use the software – is it under contract or under Article 5(1) of the Software Directive? If the 2nd acquirer has not seen or agreed to the terms of the relevant licence, then clearly there can be no 'acceptance' of those terms. On that basis, it seems unlikely that a contract could be formed between the right-holder and the 2nd acquirer. Therefore, one would assume that the 2nd acquirer's right to use the program must emanate from Article 5(1).

The position is complicated further by the fact that the second acquirer could, in theory, obtain the relevant program in one of two ways, each of which would result in a different outcome. The 2nd acquirer could obtain the software either directly from the 1st acquirer, or by downloading it from the right-holder's website.  In the former scenario, the 2nd acquirer would presumably have to agree to the terms of the right-holder's standard licence agreement (i.e. a click-wrap licence) prior to download, thereby ensuring that a contract exists with the right-holder. However, in the second scenario, the 2nd acquirer would have a right to use the software, but there would be no contractual nexus with the right-holder. Clearly, the uncertainty of the basis on which the 2nd acquirer has a right to use the program, and whether a contract exists with the right-holder, is not particularly satisfactory.

However, if this were not the case and the CJEU was willing to imply that any re-sale of software included an assignment of the relevant licence (regardless of whether the 2nd acquirer had seen and accepted those terms and whether the right-holder consented to the assignment), it would lead to the equally unsatisfactory position where each party might be bound by certain terms that they had not agreed to in respect of the other (e.g. warranties/indemnities and restrictions on use).

Application to non-perpetual licences?

On the face of it, software licensors who wish to control the re-sale of their software could obviate the effect of this judgment by changing their licensing terms from a perpetual licence to a fixed term. But could principles of the judgment have application to fixed-term licences for a one-off fee?

The CJEU made it clear that its findings were based on the premise that if Oracle receives a fee corresponding to the economic value of the copy to the program, then its rights are exhausted.  Accordingly, one could argue that the decision (and the exhaustion principle) should apply to a fixed-term licence for a one-off fee. Of course, it is debatable whether such a situation could be characterised as 'a transfer of ownership in a copy of the program'. But what if the term of the licence was such that it effectively amounted to such a transfer? For example, if the term was longer than the proprietor's copyright protection and the licensor had little ability to terminate the licence? Such questions have been left unresolved by the CJEU.

Application to other digital works?

Another interesting question is whether this judgment could (or should) be applied to other digital copyright works such as music, e-books, computer games. The exhaustion of rights principle applies to those works when distributed in tangible form. So, if the right-holder receives sufficient remuneration when such works are distributing digitally, it is arguable that exhaustion should apply. Certainly, there is a clear public interest in such an outcome.

However it should be noted that the CJEU only upheld the exhaustion principle in relation to software downloaded from the internet, because it found that the Software Directive took precedence over InfoSoc, which seems to preclude exhaustion of rights in relation to other digital copyright works. Yet the CJEU's finding that a transfer of ownership changes an act of communication to the public into an act of distribution, which gives rise to exhaustion, seems to suggest that the exhaustion principle could be applied to other digital works.

PRACTICAL IMPLICATIONS

But what are the implications for the software industry as a result of this decision? Is there really a commercial impact given changing business models and methods of software distribution?

Amount of software affected?

Firstly, one needs to consider how much software will actually be affected and therefore whether there is likely to be a significant commercial impact. Given the shift in business models to subscription based licensing and alternative distribution methods such as software as a service ("SaaS"), how much software is still distributed on perpetual licences for a one-off fee?

Consequences for licensors

For those licensors that do distribute software on perpetual licences for a one-off fee, there are a number of issues to consider. If such entities wish to prevent the re-sale of their software, they will need to either alter their terms of supply (i.e. by imposing ongoing fees, or a set licence term) or avoid providing a copy of the software (for example, by distributing the program through SaaS).

However, if licensors are willing to allow the re-sale of their software, they will need to put in place measures in order to protect their interests. For example, licensors should consider employing security measures such as product keys to prevent use of their software by multiple users. In addition, licensors will need to consider how they can ensure that there is a contractual link (assuming they want one) to subsequent acquirers. For example, licensors may wish to amend their licence terms to allow the transfer of the licence, but specifying that the current licensee must make its copy of the software unusable and that it cannot provide it to subsequent acquirers, who must download the software from the licensor's website. That way, the licensor ensures that it ties subsequent acquirers into its standard terms and conditions.

Footnotes

^{1.Case C-128/1 UsedSoft GmbH v Oracle International Corp., 3 July 2012}

^{2.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}

^{3.2009/24/EC, Codifying Directive 91/250/EEC}

^{4.See Recitals 28 and 29 and Article 3(3) of InfoSoc}

^{5.E.g. Article 1(2) - protection shall apply to the expression in any form of a computer program}

^{6.See for example the European Commission's Guidelines of Vertical Restraints in relation to their interpretation of sales on the internet .}

^{7.Case C-128/11, UsedSoft v Oracle 3 July 2012, para 62; see Case C-200/96 Metronome Musik [1998] ECR I-1953, paragraph 14; Case C-61/97 FDV [1998] ECR I-5171, paragraph 13; and Joined Cases C-403/08 and C-429/08 Football Association Premier League and Others [2011] paragraph 106.}

^{8.Case C-128/11, UsedSoft v Oracle 3 July 2012, para 62 and Football Association Premier League and Others, paragraphs 105 and 106}

^{9.Case C-128/11, UsedSoft v Oracle 3 July 2012, para 61}

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