Bulletin, February/March 2006

The Legal Landscape After MGM v. Grokster: Part 2, Understanding the Impact on Innovation

by Tomas A. Lipinski

Tomas A. Lipinski is associate professor and co-director, Center for Information Policy Research, University of Wisconsin-Milwaukee. He can be reached by phone at 414-229-4908 or by email at tlipinsk <at> uwm.edu

Editor's Note: This article continues Dr. Lipinski's discussion of the U.S. Supreme Court’s recent Grokster decision. Part 1, which covers the legal background of the case and the findings of the court, appeared in the October/November 2005 issue of the Bulletin.

In Part 2 of this paper we address the following questions: Will the "inducement" rule created by the Supreme Court in Grokster stifle development of Internet technology or other copyright-related technologies? Will the Groskter rule prove more restrictive than the Sony "“substantial noninfringing uses" rule? Future events alone may offer a definitive answer. However, in the aftermath of Sony the VCR did not sink the movie industry - in fact such technology opened new legitimate markets or revenue streams to copyright owners in the same way DVDs are doing now for film and video.

Justice Souter observed in Metro-Goldwyn-Mayer Studios Inc. v. Grokster, Ltd. [_ U.S. __, 125 S.Ct. (2005)] that the Sony safe harbor rule allowed "breathing room for innovation and a vigorous commerce" because "where an article is 'good for nothing else' but infringement [Canda v. Michigan Malleable Iron Co., supra [124 F. 486 (6th Cir. 1903)] at 489,] there is no legitimate public interest in its unlicensed availability, and there is no injustice in presuming or imputing an intent to infringe." Likewise the Grokster inducement rule only seeks to penalize those entrepreneurs who demonstrate a desire to have their devices put to infringing uses through affirmative acts that encourage infringement.

Even in those cases heretofore governed by Sony, where consumers could make substantial noninfringing uses of the technology, the Grokster inducement rule recognizes that those entrepreneurs who foreclose that choice – by steering consumers down the path of infringement from the outset, thus precluding any real chance of the legitimate uses to develop or at least not to develop without some difficulty – should shoulder some responsibility. Developers without any ill will should have little to fear under this new rule. It would be unlikely for lower courts to find such inducement by mistake, for example. However, the major task of the lower courts will be to sort out the legitimate actors from the illegitimate ones, using the parameters set forth in Grokster as a guide. While Grokster created a new form of copyright liability and positioned it as an exception to the Sony safe harbor, it positioned that standard as applicable in limited circumstances.

Distinguishing the Old Sony Safe Harbor from the New Grokster Standard

The Court was quick to comment in Grokster on the misapplication of the Sony precedent by the Ninth Circuit: “Because the [Ninth] Circuit found the StreamCast and Grokster software capable of substantial lawful use, it concluded on the basis of its reading of Sony that neither company could be held liable, since there was no showing that their software, being without any central server, afforded them knowledge of specific unlawful uses. This view of Sony, however, was in error, converting the case from one about liability resting on imputed intent to one about liability on any theory.” The Sony rule still is law, but the analysis does not end with blind application of the standard. In other words, if there are substantial noninfringing uses but the entrepreneur encourages (induces) only infringing ones – as the evidence indicated Grokster and StreamCast did (“clear expression or other affirmative steps to foster infringement”) – then Sony will not bar a finding of secondary liability. Moreover, the Grokster inducement rule will now enable courts and juries to make such a finding.

Second, the Court rejected the copyright owner’s request to “add a more quantified description of the point of balance between protection and commerce when liability rests solely on distribution with knowledge that unlawful use will occur. It is enough to note that the Ninth Circuit’s judgment rested on an erroneous understanding of Sony and to leave further consideration of the Sony rule for a day when that may be required.” In other words, the Court refused to insert a quantifiable amount into the Sony safe harbor rule, leaving the decision as to how much use qualifies as substantial noninfringing use for subsequent courts, perhaps baiting lower courts to do so.

Finally, the Court did not reach the question of whether the defendants could be found vicariously liable. (“Because we resolve the case based on an inducement theory, there is no need to analyze separately MGM’s vicarious liability theory.” “One infringes … vicariously by profiting from direct infringement while declining to exercise a right to stop or limit it.”) But it is important to recall that the relationship between Grokster and StreamCast and the consumer is at arms length, whereas the relationship between an employer and employee is not. As far as vicarious copyright liability is concerned, employers remain vicariously (strictly) liable for the infringement committed by employees. Thus the comment by Justice Souter quoted above should not cause anyone to doubt the potential for liability among employers such as schools, colleges and universities or libraries for the infringing acts of employees.

Divining the Future Course in the Courts

Looking most favorably on the Supreme Court decision one could conclude that the rule created in Grokster is a rather sage approach to the wink-wink reality of many peer-to-peer (P2P) environments: While this technology could be put to good use, we trust it won’t! The Court was simply unwilling to let such entrepreneurs survive legal review in instances where the Sony rule had evolved from a safe harbor for legitimate developers into a loophole for low-minded ones. “Thus, where evidence goes beyond a product’s characteristics or the knowledge that it may be put to infringing uses, and shows statements or actions directed to promoting infringement, Sony’s staple-article rule will not preclude liability.” So, too, if the previous lower court decisions post-Sony are any indication, subsequent courts will likely tread carefully in applying the new rule set forth in Grokster in determining inducement, separating the true cases of culpable behavior from the innocent and accidental. The Court observed the culpable nature of the inducing message from the companies’ communications such as Internet-based advertisements and newsletter announcements. For example “[o]ne proposed advertisement read: ‘Napster Inc. has announced that it will soon begin charging you a fee. That’s if the courts don’t order it shut down first. What will you do to get around it?’” Other evidence in the record suggested that Grokster was banking on legal trouble for the free publicity it would generate!

A New Safe Harbor of Sorts

To be sure Grokster and StreamCast were easy cases, where the evidence of inducement was overwhelming. But what if the facts are close? Then what? Justice Souter was not so forthcoming with examples of what circumstances might constitute a safe harbor of sorts, more comfortable instead with articulating the scope of inducement liability. The opinion nonetheless offers several guideposts for entrepreneurs when producing and distributing technologies in the future. In this articulation Justice Souter outlined three factors, additional circumstances in the wake of Napster that supported the conclusion of unlawful intent or objective in the design and operation of the defendant’s technology. Entrepreneurs should avoid doing anything resembling them.

First, in the Grokster case there was an aim to “satisfy a known source of demand for copyright infringement,” evidenced by a similarity of product name, offering of similar program functionality and Grokster’s attempts to divert queries for Napster to its own site. Context is everything! And this factor recognizes the reality of the circumstances surrounding the infringement. For some content and for some technologies there is, for better or for worse, a culture of infringement. In the future it may mean that a legitimate entrepreneur may on occasion need to bypass a particular market because the likely threat of infringing uses by customers is simply too great. Yet, as the preservation of the Sony safe harbor indicates, there is a vast difference between creating a technology that others in their greed or ignorance – or perhaps greedy ignorance – may choose to put to infringing uses and creating a technology that requires Gandhian restraint among users if they are to avoid infringement.

Second, Justice Souter observed the absence of any attempt by either defendant to “develop filtering tools or other mechanisms to diminish the infringing activity using their software.” It is not clear whether this observation now requires entrepreneurs to take affirmative steps to prevent infringement such as cooperating with copyright owners to insert safety mechanisms or switches into such systems, some sort of “content governor” or tracking protocols. Such a requirement would appear burdensome indeed. Again, context is everything and Justice Souter may have been suggesting that relying on the Sergeant Schultz defense (“I know nothing, nothing!”) in light of other circumstances will carry little evidentiary weight and in fact requires counter-balancing evidence of legitimizing steps of good faith to the contrary. That is, perhaps one must show a concomitant intent to incorporate design features that prevent, slow or at least place the proverbial monkey wrench into the pathway of users intent on making infringing uses of the technology.

Can an entrepreneur be subject to a claim of inducement upon failure to make such design attempts? In a footnote the Justice added “in the absence of other evidence of intent [the first and third factors, market space and revenue trace, respectively], a court would be unable to find contributory infringement liability merely based on a failure to take affirmative steps to prevent infringement, if the device otherwise was capable of substantial noninfringing uses. Such a holding would tread too close to the Sony safe harbor.” Arguably, the use of defensive measures is the goal here, that is, safeguards built into the technology. Again context is everything. Perhaps a shifting scale is appropriate here as well – the more other evidence of intent exists (the other factors), the greater becomes an obligation to intervene or at least be proactive in design.

Third, there was a positive relationship between infringing use, advertisements and advertising revenue, a main source of income for Groskter and StreamCast. This concept is at work in the existing law of vicarious copyright infringement where liability can be established if there exists a direct financial interest in the infringing activity along with the right and ability to supervise the infringing activity (thus preventing its occurrence). Fee structures that depend on the amount of infringing activity versus those that treat infringing and noninfringing users alike generally satisfy the required direct financial interest element there. As with the second factor, Justice Souter indicated that this factor alone was insufficient to infer “unlawful intent” or “unlawful objective.” As a result, the occurrence of the second (lack of intervention mechanisms) or third factor (revenue stream) alone is insufficient for liability but both present in tandem or alone in conjunction with the first factor (attempts to exploit known market for infringement) could trigger liability or perhaps other unidentified factors that it would be up to subsequent courts to articulate. Observe also that Justice Souter made no such disclaimer with respect to the first factor, satisfying a known source of demand for copyright infringement. In other words, this first factor alone might be sufficient to trigger liability but perhaps that is reading too much into what was left unsaid by the Justice. However, with all three factors in place, in the words of Justice Souter, objective of ill intent is “unmistakable.”

The lessons then are threefold. Entrepreneurs, or any copyright intermediary for that matter (in a legal sense, any actor that could be liable for secondary copyright infringement), should not make any statements suggesting illegitimate use be made of the technology provided. The marketing plan (or acceptable use policy for internal users) should be clear for entrepreneurs or other purveyors of technologies: Do not induce or encourage or suggest infringing uses of that technology especially in the following situations:

·         In sensitive environments where students, patrons, customers and others look to representatives of the institution for guidance, or

·         Where the connection between the technology and the user base is close, that is, more easily controlled, or

·         Where the connection between the user and the content is likewise close, that is, infringement is tempting and easy.

Deliberate acts of good faith should be the rule of the day. As a result, communicating such admonishments to users of technology is wise and otherwise consistent with the developing codified law.

Second, network protocols should be designed where feasible to respond to blatant abuses through system flags for excessive downloading, for example, or ensure that copyright “leakage” (accessibility to copyrighted works in digital form) is minimized through such measures as the use of password-dependent access to copyrighted material that is also restricted to employees, students or otherwise limited user groups. Again this advice is also consistent with the developing codified law, for instance 17 U.S.C. § 110(2)(C)

Third, if any fee structures are imposed upon system users, do not structure payment based upon the use made of the system, so that a larger amount of infringing activity generates greater revenue. Flat fee periodic payments are preferred over contingent or variable ones related to the amount of infringing activity such as the number of times the system was used. Charges based on file size or connect time may also be neutral. A diffused revenue system might be an even better option. In Grokster not only was the defendant’s revenue generation related to infringing uses, it appeared also to be the sole or significant source of income for Grokster and StreamCast.

Hopefully the lower courts will not employ a standard of any financial interest whatsoever, whether in actual revenues or exchange value, to this prong, but restrict it to Justice Souter’s formulation of direct use of the product. Of course critical here is the Court’s conclusion that most of the activity was indeed infringing, thus by logic most of the revenue tainted. In other words, the revenue generated from the product when put to infringing uses did not represent a mere windfall or unexpected bonus. It was the banked-upon result of a successful strategy to become the leading P2P music sharing system after the demise of Napster.

The Future of P2P and E2E (Educator-to-Educator)

P2P is not dead, nor is the sky falling. Suppose a faculty member at an IS school develops an Internet protocol (an E2E system) designed to facilitate the exchange of large amounts of data among researchers and calls the program NotTheNextNapster. Unfortunately some students figure out that the program can also be used to efficiently transfer large media files such as digitized VHS tapes. Would the faculty member have liability under Grokster? Would the Sony safe harbor be available? In theory the conduct would come under the Sony safe harbor since there is no evidence of inducement.

Change the facts and a different result might occur. Suppose the campus has been on the receiving end of numerous notices of infringing material or activity and of subpoenas for identification of infringers – in other words the campus is a hotbed of infringing activity. To the dismay of many students the administration is responding in an aggressive fashion by rolling out an information campaign, cooperating with copyright owners, employing several security features and even suspending accounts. Now suppose in light of the circumstances and buzz generated on campus by the institution’s compliance-oriented responses the professor developed and distributed the protocol to registered students in her class, encouraging them in light of the university’s crackdown to see if use can be made of the technology without discovery by campus administrators as the system is designed to execute commands in stealth.

Of Justice Souter’s three factors, two, possibly three might exist. Based on the fact and circumstances of this campus there is a known market for the infringing technology, a so-called culture of infringement. (The author intends no indictment of tertiary education in general.) Second, there exists no evidence of safety mechanisms within the NotTheNextNapster; in fact the evidence supports a finding of deliberate subterfuge. Finally, there may be a related financial link here, as students must register and attend the professor’s class in order to receive a current password for activation of the protocol, thus students flock to her classes and the faculty member receives reinforcing “negative” feedback as a result of this popularity, with possible increases in merit ratings or salary. It could be argued that there is some link between the infringing software distributed, the amount of infringing users and at least the possibility of increased revenue. The last factor appears the most tenuous of the three. However, in Justice Souter’s formulation, two of the three might be enough.

Concluding Thoughts

In general, the case stands for the proposition that members of the Court are cognizant of the gigantic scale of infringement online – and elsewhere as well perhaps – and are not reluctant to fashion a new basis for liability in response to a new mode of infringement. While Justice Souter was quick to point out the advantages of P2P networks (popularity, bandwidth capability, storage capacity, speed and network maintenance) in a footnote he recounted the costs as well: “Peer-to-peer networks have disadvantages as well. Searches on peer-to-peer networks may not reach and uncover all available files because search requests may not be transmitted to every computer on the network. There may be redundant copies of popular files. The creator of the software has no incentive to minimize storage or bandwidth consumption, the costs of which are borne by every user of the network. Most relevant here, it is more difficult to control the content of files available for retrieval and the behavior of users.” As a result, the decision also signals that the court will not hesitate to fashion a remedy when faced with new technology environments. That is exactly what the court did with VCR technology in the 1980s in Sony and that is what the Court did in 2005 with P2P systems.

The decision stands as a victory for copyright owners against infringers and especially targets intermediaries (candidates for secondary copyright liability) as part of the enforcement equation. This victory may embolden copyright owners to challenge the other practices of intermediaries relating to copyright in other contexts of relevance to libraries, schools, colleges, universities and other institutions, for example, e-reserve practices. All things considered the number of copyrighted works placed on e-reserve is likely also staggering. However, unlike Grokster, there is a higher percentage of use that is likely fair. The point is that the ire of the industry is raised and seems unlikely to subside any time soon.

If there is any criticism here, it is that borrowing from the patent law might not be the best strategy overall as the nature of patent versus copyright laws, while both are based on the grant of monopolistic rights, is different in that copyright is better characterized as a limited monopoly. The copyright statutes are populated with numerous exceptions or limitations on the exclusive rights of copyright owners, while the patent law is far less forgiving. Whether the lower courts will keep this distinction in mind and allow for the appropriate breathing room the copyright law demands is unclear.

The course of sail towards future safe harbors remains uncharted. Justice Souter spent so much time articulating the new legal inducement standard that he left untouched the more pressing question: where lawful conduct ends and contributory liability begins in a networked world. The concept of inducement online or otherwise is well articulated now, but what conduct short of inducement can still be infringing? What legal standards apply to those who link to infringing material or provide network access and services to those who put that access to infringing use? Questions, alas, for another day and for other cases. Beyond the pundits, the true impact will have to wait for the passage of time or at least until the first few lower court cases applying these concepts are decided. What is certain is that if a copyright safe harbor is still sought by an intermediary, the Grokster decision offers another underwater obstacle that must also be avoided.

Summary Points

  • The Sony decision is still good law. The Court refused to place a quantitative value on how much legitimate use qualified as a “substantial noninfringing” use, the Sony safe harbor.
  • The narrow interpretation of the Sony standard offered by the Ninth Circuit (if substantial noninfringing uses, then liability only where actual knowledge and failure to act exist) was rejected.
  • The Court appears mindful of the scope of infringement in networked environments.
  • The Court is willing to fashion a remedy targeted at bad actors, specifically by adopting the inducement rule from the patent law for use in the copyright arena.
  • The new Grokster rule operates to assign liability to a distributor of a product capable of both lawful and unlawful uses when the distribution is made with the object of promoting its use to infringe copyright, as shown by clear expression or other affirmative steps taken to foster infringement, and is liable for the resulting acts of infringement by third parties.
  • Direct evidence of intent to induce infringing conduct is needed. Pandering to an existing demand, market or pattern of infringement, the absence of any safeguard measures within the network or technology, and a correlation among the entrepreneur’s revenue stream, the supply of the technology and the infringing use made of it are three factors that can evidence this intent. Neither the second or third factor alone is sufficient, but the first might be sufficient.

© Tomas A. Lipinski 2005