Stopping The Sale of Gray-Market Medical Devices

by Burns & Levinson LLP
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On November 3, 2016, the US Court of Appeals for the Second Circuit approved an injunction against about 200 importers and sellers preventing them from importing and selling gray market blood-glucose test strips. The case was brought by Abbot Laboratories because the gray market sellers had distributed international versions of Abbot’s blood-glucose test strips that were not intended for sale in the United States.  This case is the latest illustration of the rule that manufacturers of medical devices can stop the unauthorized importation and sale of their products by using trademark law.

DEFINING GRAY-MARKET GOODS

Gray goods are genuine goods that the manufacturer sells abroad but are then imported into the United States without the manufacturer’s permission. The goods are often sold on the internet or by unauthorized wholesalers, sometimes at prices below the manufacturer’s prices in the United States.

MEDICAL DEVICES AND THE GRAY MARKET

The medical device gray market is substantial, although companies are reluctant to provide estimates; however, figures from other industries can be instructive. The accounting firm KPMG estimates that the gray market costs the information technology industry more than $40 billion in annual sales.

A burgeoning gray market is forcing manufacturers to compete with their own lower-priced products in the marketplace, causing problems with authorized resellers and distributors. The widespread availability of foreign products on internet trade boards and B2C sites has also worsened the problem.

The Abbott case is one of a few medical device cases reported in legal publications despite a substantial gray-market problem in the medical device industry. A prime example of the problem is in the glucose testing area.  Diabetes is a national epidemic with an estimated 30 million diabetics in the United States.  Diabetics must monitor their blood for glucose levels several times daily, with each test requiring a new glucose test strip. Billions of glucose test strips are sold in the United States each year; the individual retail value per strip is about $1.

Unauthorized wholesalers obtain these test strips in foreign countries and import them into the United States, where they are sold to U.S. consumers by direct mail or through independent pharmacies. These test strips, however, are designed for sale in foreign countries. A few key differences include that the packaging differs from that of domestic test strips, instructions are often in a different language, the box does not include a U.S. toll-free number to call for assistance, and storage temperatures may be listed in Centigrade rather than Fahrenheit.

Since consumers are likely to consider these differences as relevant factors in their decision to buy a product — particularly when the product affects their health — it is surprising that there are few gray-market cases involving medical devices or health and safety issues. These cases may present the next frontier in gray-market litigation.

LEARNING FROM THE DENTAL DEVICE MARKET

Large dental companies such as 3M ESPE, Dentsply and Kerr reportedly have significant problems with gray-market products. Some dental supply companies estimate that 5 percent to 8 percent of their products are gray market or counterfeit.

The medical device industry can adopt practical lessons from the dental industry and can use similar strategies to identify gray-market products. The dental industry has identified several ways to detect gray market or counterfeit products:

  • Deeply discounted product
  • Unknown distributor name
  • Foreign packaging
  • Expiration date has passed.

THE TRADEMARK REMEDY

A seminal case for using trademark law involved gray-market Perugina chocolates. In Societe des Produits Nestle S.A. v. Casa Helvetia Inc., 982 F.2d 633 (1st Cir. 1992), the defendant imported Perugina chocolates from Venezuela. The imported chocolates differed from the U.S. chocolates in subtle ways, such as quality control, the arrangement of chocolates in a box, packaging and price.

The First Circuit held that these differences could be “material” to a consumer and barred the unauthorized importation. The court also ruled that:

  • The material difference can be subtle, “for it is by subtle differences that consumers are most easily confused.”
  • The material difference need not be physical. Differences in warranty protection, quality control or service commitments can suffice.

Using trademark law, the successful plaintiff can obtain an injunction against the defendant’s gray market activity and recover substantial damages. This method, therefore, can provide a potent weapon against the gray market.

RECENT CASES HAVE EXTENDED THE LAW ESTABLISHED BY NESTLE

The case of Kia Motors America Inc. v. Autoworks Distributions, 2009 WL 499543 (D. Minn. 2009) reflects the current state of gray-market law. Kia Motors sued an auto parts dealer that imported gray-market auto parts.

The defendants argued that the goods were identical. Kia, however, countered that its warranty did not cover the defendants’ auto parts and, therefore, this constituted a “material difference.”

The court agreed with Kia and it barred the unauthorized sale of gray-market Kia auto parts.

A similar result occurred in Hyundai Construction Equipment v. Chris Johnson Equipment, 2008 WL 4671749 (N.D. Ill. 2008). The defendant had imported Hyundai equipment that was intended for sale in Asia. The “material differences” of the imported machines included:

  • Altered or defaced serial numbers.
  • No manufacturer’s warranty.
  • Instruction manuals in Korean, not English.

The court held that these differences were material. It awarded Hyundai the defendant’s profits in the amount of $1.2 million.

These cases demonstrate the power of using the Lanham Act, 15 U.S.C.A. § 1051, to defeat the gray market. The successful plaintiff can obtain an injunction against the defendant’s gray-market activity and recover substantial damages. Trademark law, therefore, provides a potent weapon against the gray market.

THE PATENT REMEDY

In February 2016, the Federal Circuit affirmed that a patent owner can prevent the unauthorized importation and sale of its products in the U.S., if the product was first sold abroad. In reaching its decision, the Court ruled that patent rights are not “exhausted” by a foreign sale. This means that a manufacturer can stop the importation and sale of its patented product in the U.S., if the product was intended for use abroad and was imported into the U.S. without authorization. The case is Lexmark v. Impression Products. It has been appealed to the Supreme Court and the Supreme Court’s decision whether to grant certiorari is expected shortly.

PRACTICAL LESSONS FOR MEDICAL DEVICE MANUFACTURERS

The medical device industry can use trademark and patent law to defeat the gray market. In fact, the argument for stopping gray-market medical devices is much stronger than the argument for stopping gray-market chocolates, beauty products, cars and other products. Additional lessons include:

  • The product itself need not be different, so long as the packaging and instructions differ.
  • The gray market can be successfully attacked if the manufacturer does not warrant the gray-market product or even if the warranty protection is different.
  • It is a clear violation of trademark law to sell goods with bar codes or serial numbers removed.
  • Gray-market goods are frequently mixed together with counterfeit goods. The presence of counterfeits entitles the manufacturer to powerful remedies, including the recovery of statutory damages up to $2 million, the ability to conduct ex parte civil seizures and potential criminal liability of the defendants.

DEALING WITH THE IMPORTER’S DEFENSES

In preparing the case, medical device manufacturers should be aware that the diverters may assert that the manufacturer is trying to control downstream distribution. The case needs to be carefully prepared and presented in order to avoid these issues.

Counsel should also be aware that the choice of forum can be important. The 4th Circuit and the D.C. Circuit may be less receptive to a “material differences” argument under trademark law.

Finally, medical device manufacturers asserting the trademark remedy should be extremely watchful that they have not themselves released any foreign products bearing the “material difference” into the United States market.

STRATEGIC ADVICE FOR MEDICAL DEVICE MAKERS

First, to invoke the “material difference” gray-market remedy, the product itself need not be physically different.

There is a worldwide emphasis today on product standardization to save on manufacturing costs. Manufacturers can still fight the gray market even if the product is identical, so long as the packaging and instructions differ.

Second, the gray market can be attacked if the brand owner does not warrant the gray-market product or even if the warranty protection is different. Some brand owners will insist on honoring a warranty even for gray-market products, perhaps because they feel responsible to stand behind all their products.

Others openly declare that that they will decline gray-market repairs. Several prominent computer and video game companies will honor their warranties on gray-market products if the serial number has not been defaced, altered or removed.

Third, it is a clear violation of the Lanham Act to sell goods with bar codes or serial numbers removed. Gray marketers will often remove this information so that the manufacturer will not be able to track the source of the gray-market products. This occurs frequently with cosmetics.

For example, the drugstore chain CVS was held liable for selling gray-market Davidoff Cool Waters cologne. Since Davidoff refused to sell to CVS and other non-luxury outlets, CVS obtained the cologne elsewhere and removed the bar code labels. The 2nd Circuit held that removal of the bar code violated the Lanham Act because it interfered with Davidoff’s quality control and because the altered packages were materially different from intact, authorized packages, Zino Davidoff SA v. CVS Corp., 571 F. 3d 238 (2d Cir. 2009).

Fourth, gray-market goods are frequently mixed with counterfeit goods. In the CVS case, Davidoff found counterfeit versions of its cologne among the gray-market goods. Similarly, in the Kia case, the automaker asserted that counterfeit Kia auto parts were being sold with gray-market auto parts.

Accordingly, manufacturers should be watchful for the presence of counterfeit goods in gray-market investigations. The presence of counterfeits entitles the manufacturer to powerful remedies including the recovery of statutory damages up to $2 million, the ability to conduct ex parte civil seizures, and potential criminal liability of the defendants.

THE FUTURE OF MEDICAL DEVICES AND GRAY-MARKET IMPORTS

The gray market will continue to be a focus of discussion in legal circles as manufacturers continue to be troubled by unauthorized imports that are not intended for sale in the United States. The problem is especially acute for medical devices because gray market products can cause health and safety issues.

Knowledgeable manufacturers of medical devices should be aware that they already have potent weapons against gray-market imports by using trademark and patent law. These cases, if properly presented, can be effective in protecting consumers from variations in foreign medical devices and, thereby, in enhancing the manufacturer’s reputation and protecting consumers.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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