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Selling Your Digital Media Made (Not) Easy

7/15/2013 Articles

Published in The Recorder, Intellectual Property Special Report

On March 30, the U.S. District Court for the Southern District of New York decided in Capitol Records v. ReDigi, 12-cv-95, that the online resale of lawfully made and purchased digital media is excluded from the first sale doctrine and is not protected by fair use.

Background and Technology

Plaintiff Capitol Records LLC owns copyrights in the sound recordings of many prominent artists, such as Frank Sinatra and the Beatles. Defendant ReDigi Inc. provides an online marketplace that allows users to upload legally purchased music files from iTunes or other ReDigi users to a "Cloud Locker" on ReDigi's servers, and to sell those "used" music files to others. ReDigi claims its software "migrates" the files packet by packet so that the data does not exist in two places at the same time. The seller does not retain a copy of the file, and the purchaser can stream the file, sell it or download it to her computer or other devices. ReDigi earns a transaction fee of 60 percent on each sale.

Early last year, Capitol sued ReDigi for copyright infringement, alleging that ReDigi's marketplace infringes Capitol's exclusive rights under the Copyright Act. On March 30, the court granted Capitol's motion for partial summary judgment on the claims that ReDigi directly and secondarily infringed Capitol's reproduction and distribution rights.

The court's legal analysis started with the question of whether ReDigi infringed Capitol's reproduction rights under 17 U.S.C. §106(1) — that is, whether transferring copyrighted digital files over the Internet "where only one file exists before and after the transfer" constitutes an infringing "reproduction." The court concluded that it does, noting the packet by packet transfer notwithstanding: "Because the reproduction right is necessarily implicated when a copyrighted work is embodied in a new material object, and because digital music files must be embodied in a new material object following their transfer over the Internet ... the embodiment of a digital music file on a new hard disk is a reproduction." The court also held that the sale of digital music files infringed Capitol's distribution right under 17 U.S.C. §106(3), relying on precedent holding that electronic file transfers constituted a "distribution."

Moving to the heart of the analysis, the court found that uploading and downloading from the Cloud Locker incident to sale, as occurs over ReDigi, did not constitute a "fair use." Applying the four factor balancing analysis of 17 U.S.C. §107, the court reasoned that: (1) ReDigi's commercial use does not add "something new, with a further purpose or different character" to the copyrighted works; (2) the "creative" nature of the sound recordings is close to the "core" of the intended copyright protection; (3) the copyrighted works are transmitted in their entirety; and (4) ReDigi's sales are likely to undercut the market for the copyrighted works. Notably, Capitol did not contest, and the court did not disagree, that the uploading to and downloading from the Cloud Locker for storage and personal use is a protected fair use.

The court further held that ReDigi's service is not protected by the first sale defense under 17 U.S.C. §109(a), which provides that "once the copyright owner places a copyrighted item in the stream of commerce by selling it, he has exhausted his exclusive statutory right to control its distribution." Quality King Distribs. v. L'anza Research Int'l, 523 U.S. 135 (1998).

The court first noted that because the first sale doctrine only applies to the distribution right, and the court had already held that ReDigi's service also violates the separate reproduction right, the first sale doctrine was therefore not a defense to infringement of the reproduction right. The court then held that ReDigi's distribution was not protected because distributing an unlawful reproduction is not a distribution that is "lawfully made under this title." The court reasoned that, because a ReDigi user must produce a new copy of the song on the ReDigi server in order to sell it, it is impossible for the user to sell her "particular" phonorecord. Rather, ReDigi is "distributing reproductions of the copyrighted code embedded in new material objects." The court also noted that the Copyright Office had already rejected extension of the first sale doctrine to the distribution of digital works, noting that the justifications for that doctrine in the physical world (e.g., that physical copies of works degrade with time) could not be imported into the digital domain (e.g., where a "used" copy is just as desirable as a new copy of that work).

The court then determined that ReDigi directly and secondarily infringed Capitol's copyrights. On direct infringement, the court determined that, although it was ReDigi's users that actually made the copies, ReDigi's "contribution" to the creation of those copies was substantial enough to warrant holding it liable for direct infringement. The court noted that "ReDigi's founders built a service where only copyrighted work could be sold," that ReDigi's software "scans a user's computer to build a list of eligible files that consists solely of protected music purchased on iTunes," and that ReDigi provided the infrastructure for, and affirmatively brokered, the users' sales. Similarly, the court found that ReDigi was liable for contributory infringement because: ReDigi "knew or should have known" that its service would encouragement infringement; ReDigi "materially contributed" to the infringement by providing the site and facilities for infringement; and ReDigi's system was not capable of substantial noninfringing uses because it was "built to trade only in copyright protected iTunes files." The court also found that ReDigi vicariously infringed Capitol's copyrights because ReDigi had "complete control" over the "content, user access, and sales" on its website, and because it received transaction fees from every sale.

Analysis

ReDigi is significant in that it is the first decision to directly address how the Copyright Act treats secondary markets for digital files. Unfortunately, the court's analysis and conclusions may ultimately impede innovation for new technologies related to digital marketplaces. Under the court's view, content owners control not only the first sale of their individual copyrighted digital goods, but also every subsequent sale of those individual goods, depriving consumers of their ability to sell individual digital goods that they lawfully purchased (even though they would be able to freely do so if those same goods were purchased as "singles" on physical media). Such special treatment for digital goods arguably defies the public's reasonable expectations and understandings of their rights in their private property (e.g., the rights to sell and transfer that property).

The court does a formalistic analysis of the first sale and fair use defenses that gives short shrift to the widely held belief, embodied in the first sale doctrine, that once a person purchases something, it is her property and she can do what she wishes with it, including reselling it. In the recent case Kirtsaeng v. John Wiley & Sons, 133 S.Ct. 1351, the Supreme Court rejected — albeit in a different context — a similarly formalistic attempt to restrict the first sale doctrine to goods manufactured in the United States, emphasizing "the importance of leaving buyers of goods free to compete with each other when reselling or otherwise disposing of those goods" and noting that reliance upon the first sale doctrine is "deeply embedded" in the practices of many players in our economy. ReDigi is arguably at odds with the Supreme Court's strong affirmation of the doctrine.

In a discussion that rings somewhat hollow, the court notes that an individual may still legally resell the entire device (e.g., an iPod) that her digital music file was originally downloaded onto. But as a practical matter, individuals often do not wish to buy someone else's entire music collection, much less with the device it was stored on. Nor would the seller of a digital file likely want to sell the entire device in order to sell the file.

Other aspects of the court's ruling may have unintended consequences. Here, ReDigi took steps to ensure that its service was used solely for "legally acquired digital music files," a necessary predicate for a viable first sale defense. Thus, a file uploaded to ReDigi's server was eligible for sale "only if it was purchased on iTunes or from another ReDigi user," and "music downloaded from a CD or other file-sharing website is ineligible for sale." Yet, the court viewed this measure — designed to prevent improper use of the system — as a focus on "copyrighted" content and held it as a strike against ReDigi. The court also determined that ReDigi's public acknowledgement that the law on copyright was not "well-settled" with respect to ReDigi's system was tantamount to "knowledge" of infringement. By condemning ReDigi for being sensitive to copyright law, the opinion may tend to endanger technological innovation because the law of copyright is often not "well-settled" for new technologies. Indeed, courts high and low were divided over the Sony Betamax technology 30 years ago in Sony v. Universal City Studios, 464 U.S. 417 (1984), wherein the Supreme Court ultimately recognized the flexibility (and concomitant uncertainty) of fair use law when it stated, "there is no disposition to freeze the [fair use] doctrine in the statute, especially during a period of rapid technological change."

Looking beyond ReDigi, it is still possible for secondary markets for digital goods to emerge, but they will most likely be created by leading technology companies pursuant to licenses with major content owners. Indeed, major players in the industry, including Apple Inc. and Amazon.com Inc., have already sought out patents for such marketplaces.

Tony Schoenberg, Deepak Gupta and Rochelle Woods are attorneys in Farella Braun & Martel's San Francisco office. Schoenberg's commercial litigation practice focuses on intellectual property, complex business and technology disputes. He can be reached at [email protected]. Gupta's IP litigation practice focuses on copyright and patent litigation, as well as Internet law. He can be reached at [email protected]. Woods' IP litigation practice focuses on copyright, trademark and patent litigation. She can be reached at [email protected].

This article is reprinted with permission from the July 12, 2013 issue of The Recorder. © 2013 ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved.

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