Microsoft Corporation v Ling & Ors

This is an application on the part of the claimant against the third, fourth, fifth and sixth defendants (“the defendants”) for summary judgment under CPR Part 24. Summary judgment is sought on the question of liability with damages to be assessed or an account to be taken.

The claimant (“Microsoft”) is a well-known computer software company operating world-wide. The third defendant (“Digital”) is a limited company incorporated in England and Wales which, at least until recently, has carried on the business of, among other things, the sale of purported Microsoft products. It now claims to have ceased trading. The fourth defendant, Edward Hill, was the principal salesman employed by Digital. The fifth defendant, Gail Parker, is the managing director of Digital. She owns 76 per cent. of the shares in that company. The sixth defendant, Ronald Hill, is the sales director of Digital. He owns 24 per cent. of the shares in the company.

In summary, the claim is a claim for relief in respect of the defendants’ acts of

The claim form was filed and served on 26th October 2005. The particulars of claim were filed and served on 14th November 2005. The defendants’ defence was filed and served on 10th February 2006. This application was filed on 25th April 2006.

Microsoft has pleaded the subsistence and its ownership of the copyright in the computer software and associated documentation including manuals and COAs. The defendants have not denied that allegation but have put Microsoft to proof of it. There is before me uncontradicted evidence of the truth of the allegation. There was thus no live issue before me as to subsistence or ownership of the copyright.

The subsistence, validity and Microsoft’s proprietorship of the relevant trade marks is admitted in the defendants’ defence.

The defendants admit in their defence that Microsoft has goodwill in the United kingdom in relation to the trade marks relevant to the present proceedings, namely

The following description of the distribution channels of Microsoft software is not in controversy between the parties. There are two kinds of channel: the Authorised Replicator/Authorised Distributor OEM channel and the Royalty OEM channel. (OEM stands for original equipment manufacturer). The former operates as follows. An authorised replicator operates with the consent of Microsoft under a licence granted by either Microsoft Ireland Operations Limited or Microsoft Licensing GP (depending upon geographic location). The authorised replicator is supplied by Microsoft with the necessary master computer files to enable it (by copying the software) to manufacture Microsoft compact discs (“CDs”) and accompanying documentation (manuals etc.). It is not provided with the ability to manufacture COAs. COAs must be purchased from Microsoft or from a COA manufacturer authorised by Microsoft.

The CD, documentation and COA are then packaged by the authorised replicator into OEM system builder packs. Those packs are sealed packs which have the full terms of an OEM System Builder Licence Agreement printed on the outside of the pack. The authorised replicator supplies the packs to authorised distributors. Authorised replicators are not authorised to issue COAs, media or any other component parts in separate form. Consequently, COAs cannot legitimately leave the authorised distributor otherwise than as part of a sealed OEM System Builder Pack. A royalty is paid by the authorised distributor to Microsoft for each system builder pack which it distributes.

Authorised distributors are bound by Authorised Distributor Agreements only to distribute unopened packs. The authorised distributors distribute the sealed packs to OEM System Builders. OEM system builders are small to medium sized enterprises who supply ready-built personal computers (“PCs”) to end users. They buy in computers (i.e. the hardware with empty hard drive), instal the software in the computer and stick the COA on to the computer. They supply the product to end users together with a manual and back-up CD. By opening each OEM System Builder pack the OEM system builder is deemed to agree acceptance of the OEM system builder licence. It is common ground that such deemed agreement is effective in law as agreement. The OEM system builder licence provides, so far as material, as follows:

In order to start using the PC, the end user has to signify his acceptance of the terms of the EULA by an appropriate operation of the computer. If he does not do so, the software will not work. He may then return the PC for a refund.

The End User License Agreement provides, so far as material, as follows:

The other distribution channel is the Royalty OEM channel. That channel is similar to the authorised replicator/authorised distributor channel except that the three distinct roles of replicator, distributor and OEM system builder are combined in a single large company such as Dell, Compaq or IBM. Such companies obtain COAs from Microsoft or its authorised COA manufacturer and build systems for supply directly to end users. The software is required to be loaded directly on to the PC hard disc drives, the COA attached and the system supplied together with a media disc and accompanying documentation, including a copy of the EULA. Royalties are paid by the Royalty OEM to Microsoft, either upon receipt of the COAs, or when each system is sold by the Royalty OEM.

The above channels relate only to software supplied with a new PC. It is possible to purchase Microsoft’s products “over the counter” for installation in or upgrading of an existing PC. Such channel is not relevant for the purposes of this application.

Loading of the software on to a hard disc during installation results in a copy being made of the software. Using the software necessarily results in at least a transient copy of the software being made in the memory of the PC.

It is common ground that the defendants have been trading in loose COAs, that is COAs not attached to computers It is in issue whether such trade can be carried on without infringement of Microsoft’s rights. It is clear from the licence agreements that COAs can be transferred in accordance with those agreements only as part of a bundle with the software, media and documentation. Mr. Lambert submitted that the restrictions in the intermediary and end user licence agreements were unlawful and unenforceable both under competition law and also at common law as unreasonable restraints of trade, since their effect was to extract multiple licence fees in respect of the same licence. He further submitted that there was in any event a legitimate trade in individual COAs and in individual media.

Mr. Lambert gave an example in support of two features of his contention, viz the legitimacy of trade in loose COA’s and the point that the effect of Microsoft’s licensing system is to exact two royalties for the same software. The example was this. A large user of computers, such as a bank, might order a number of computers containing Microsoft software, but prefer to have other software on those computers. It could delete the Microsoft software on the computers, without having agreed to accept the EULA terms. It or its employees could then peel off the COAs from the computers and sell the COAs. Such trade was legitimate, went the argument, since the bank had never agreed to the terms. The fallacy in the argument is that if the bank does not accept the EULA terms, it receives no licence. Thus it can confer no licence for the use of any Microsoft software by passing on the COA, nor can the COA be evidence of, or itself confer, such a licence. Thus, provided that the licensing system is enforceable in law, the circumstances exemplified cannot give rise to a legitimate trade in COAs.

Mr. Lambert explained that the COAs obtained from the bank or its employees in the example could be purchased by Digital or other traders on the market for loose COAs and then sold with the relevant Microsoft media to a dealer in refurbished computers. If that were not permitted, the relevant software could not be used without the payment of a further royalty to Microsoft, in addition to the royalty paid in connection with the COA on the first use of the COA. In my judgment, there is no reason why Microsoft should not be paid a royalty for the use of its software in a refurbished computer. If that software were already licensed, there should already be a COA sticker on the computer. The objection was, I think, really to the payment by the bank of a price reflecting the royalty for software that it chose not to use. The question arose why the hypothetical bank should enter into such a transaction. Mr. Lambert submitted initially that computers without software were unobtainable. And the bank could not simply return the software since it would have to return the whole package, including the computer, to the OEM. He showed me by way of example condition 12 of the conditions imposed by Dell, a royalty OEM, which does indeed contain such a requirement. He later corrected his submission that computers without software were unobtainable. He adduced evidence, obtained by Edward Hill in part during the course of the hearing, that one particular supplier offered a range of laptops of which over 560 models had a Microsoft operating system and only two had no pre-installed operating system. The same piece of evidence also showed that owing to economies of scale computers with software installed were cheaper than those without. In my judgment, there is no real prospect that at trial the defendants would be able to establish that Microsoft’s licensing system operates unreasonably in restraint of trade by reason of matters of the kind he exemplified, even if the example is realistic.

As to competition law, Mr. Lambert relied on Articles 81 and 82 of the EC Treaty, embodied, so far as concerns trade in the United Kingdom, in sections 2 and 18 respectively of the Competition Act 1998. Section 2 of the Competition Act 1988 reads as follows:

Mr. Lambert put forward no specific reasons, other than his double royalty point, why Microsoft’s licensing agreements should fall within those sections. He submitted that it was for Microsoft to prove that the agreements did not infringe competition law, and that that question should be determined at a trial, and not summarily.

In my judgment, the mere enablement of copyright protection by granting limited licences on agreed terms cannot constitute a matter falling within article 81 or article 82 of the Treaty or section 2 or section 18 of the Competition Act 1998 so as to be prohibited unless exempt. Otherwise, copyright protection in relation to computer software would be largely a dead letter. That is by no means to deny that a particular licensing system can on its facts constitute a prevention, restriction or distortion of competition or the abuse of a dominant position. But it must be for the defendants to put forward a case why the licensing system falls within those provisions. The only case that has been put forward is the double royalty point, and I am satisfied that that case has no real prospect of success at trial.

Mr. Lambert drew my attention to Practice Direction—Competition Law (Civil Procedure 2006, volume 1, paragraph B12-003), paragraph 3 of which required the defendants to serve a copy of their statement of case on the Office of Fair Trading at the same time as it was served on the other parties. The defendants notified the Office of Fair Trading out of time during the course of the hearing before me. There is no material before me which raises even a prima facie case that the agreements fall within Article 81 of the EC Treaty or section 2 of the Competition Act 1998. Moreover, the existence of section 56(1) and (2) of the Copyright, Designs and Patents Act 1988, which I set out below, strongly suggests that prima facie agreements of the kind in question do not fall foul of competition law.

Mr. Lambert accepted that resale of COAs was unlawful if they were counterfeit or stolen, or if they were sold to someone who was making many different machines and selling them to the public. But he submitted that their resale was not necessarily unlawful. Edward Hill gave evidence that much of Digital’s merchandise was bought in distress sales. He wrote:

Mr. Andrew Hosking, an insolvency practitioner employed by Grant Thornton UK LLP, gave this evidence:

Edward Hill went on to say:

I come now to the question of counterfeit COAs. Microsoft has adduced evidence that numerous counterfeit Microsoft CDs and COAs were found on Digital’s premises. The defendants deny that they knowingly traded in such products. Edward Hill, in a witness statement dated 30th May 2006, stated:

Gail Parker said in a witness statement dated 31st May 2006 that she had read a draft of the above statement of Edward Hill and believed it to be correct. She also said:

Ronald Hill, in his witness statement, said that he had read drafts of the above witness statements of Edward Hill and Gail Parker and believed them to be correct. He also said:

Mr. Peto made the cogent submission that if the intention had been to avoid dealing in counterfeit products it would have been more useful to Digital to have genuine products, rather than counterfeit products, for comparison.

Microsoft has adduced evidence that Edward Hill knowingly dealt in counterfeit goods, including Microsoft products. A number of messages have been put before me. They were letters, documents and emails (in paper form) obtained during the execution of a search order against Digital, together with emails from computer hard drives copied during the execution of that order. Examples are as follows:

There is evidence before me of a sheet of paper on which 18 various COAs, ostensibly of Microsoft Windows XP Professional, have been stuck. There is a manuscript note in the margin in the handwriting of Gail Parker saying “Is this any better will ship anyway if not happy return Regards Gail”. The identity of the writer was not in dispute. It was said that that was evidence of counterfeit COAs with the accuracy of which the customer was not happy. Mr. Lambert submitted that the question “Is this any better” could be a reference to the photocopy of the sheet. He did not suggest that that was what Ms. Parker in fact meant.

There is evidence before me that between August 2002 and October 2005 Microsoft’s investigators made a number of test purchases of purported Microsoft CDs and COAs from Digital. Some of those CDs and COAs were found to be counterfeit. Many of the COAs were genuine, but had been tampered with. On one occasion, 4th July 2005, whilst the negotiations on behalf of Digital were primarily conducted by Edward Hill, Ronald Hill was present and personally offered the purchaser five Windows 2000 COAs, of which one was found to be counterfeit and four were found to be genuine but to have been tampered with.

There is also evidence before me that Edward Hill has made statements to a test purchaser, Mr. Kenneth Anderson, indicating that he knew that he was infringing Microsoft’s rights. For example, on 17th May 2004, the following conversation is recorded as having taken place:

Edward Hill answered that evidence in his own witness statement:

The defendants have admitted that to their knowledge Digital had counterfeit products of Microsoft in its possession. It is clear on the totality of the evidence that there is no real prospect of any of the defendants successfully defending the claim against them that Digital to their knowledge traded in counterfeit products of Microsoft.

I now consider the individual bases on which Microsoft makes its claim. Mr. Peto said that his primary case was that the defendants had been committing the tort of passing off by issuing an instrument of deception. They offered for sale and sold COAs which could only be used to allow another (some downstream purchaser of the COA) to pass off an unlicensed copy of a Microsoft product as a licensed product. (This clearly does not apply to the test purchases themselves). Mr. Peto relied on the following passage in the judgment of Aldous, L.J., with whom Swinton Thomas and Stuart-Smith L.JJ. agreed, in British Telecommunications Plc v. One In A Million Ltd. [1999] 1 WLR 903, 920G:

Mr. Peto further submitted that by trading in loose COAs, genuine or otherwise, the defendants were authorising infringement of Microsoft’s copyright. By installation and use of unlicensed Microsoft software, customers would unavoidably infringe Microsoft’s copyright. Mr. Peto submitted that such authorisation constituted infringement of Microsoft’s copyright in the software by virtue of section 16(2) of the Copyright, Designs and Patents Act 1988. It is common ground that such authorisation would constitute an infringement of Microsoft’s rights if the defendants knew or had reason to know or believe that the COAs were likely to be used to facilitate copyright or trade mark infringement or passing off. On the evidence before me, there is a strong inference of such knowledge on the part of all the defendants. And there is an overwhelming inference of the defendants’ having reason to know of or believe in the likelihood in question. It is unrealistic to think that at a trial any of the defendants could successfully rebut either such inference.

Mr. Peto further submitted that by selling the loose COAs the defendants were procuring or inducing their customers or the ultimate users of the COAs to infringe Microsoft’s copyright, and the defendants and each of them thereby had an accessory liability for such infringements. Further, by possessing counterfeit COAs in the course of their business whilst knowing them to be the same, the defendants infringed Microsoft’s copyright in the underlying COAs under section 23 of the Copyright, Designs and Parents Act 1988. Finally in connection with copyright, Mr. Peto submitted that by electronically copying COAs (by scanning and photocopying them) the defendants have further infringed Microsoft’s copyright by virtue of section 16(2) of that act. Apart from the general arguments of Mr. Lambert that I have considered above, it has not been suggested that those arguments are incorrect in law. It has not been drawn to my attention what particular scanning or photocopying has taken place, though I have mentioned above the copy of 18 COAs made by Ms. Parker. The same arguments as are mentioned in this paragraph in relation to COAs also apply to Microsoft software media.

Microsoft’s materials contain its trade marks. For example, the CD exhibited is marked Microsoft Windows Server 2003. The COA exhibited is marked Microsoft and Windows XP Professional. By using the materials, whether counterfeit or genuine, in the course of trade, without the consent of Microsoft, all the defendants in my judgment are clearly in breach of section 10(1) of the Trade Marks Act 1994, having regard to section 9(1) of that Act. It is also said that the defendants have infringed subsections (4) and (5) of section 10. It is clear that they have infringed section 10(4)(b). It is unnecessary for me to decide whether section 10(5) comes into play.

Mr. Lambert pointed out correctly that there was no dispute that the trade mark issue arose only if or in so far as the defendants were selling unlicensed, stolen or counterfeit goods. I have already indicated that in my judgment there is no real prospect of defending the claim that they were selling such goods. In relation to such goods, Mr. Lambert’s only argument in relation to the trade mark issue was an argument under section 12 of the Trade Marks Act 1994 that by putting the goods on the market Microsoft had exhausted its rights. He accepted that Microsoft was entitled to use its trade marks to interdict the distribution of software that it has not written, but not the distribution of copies made under its authority upon which the licence fee is likely already to have been paid or could have been or could still be extracted. To succeed under any of the subsections of section 10 of the 1994 Act or any of the paragraphs of Article 9 of the Community Trade Mark Regulation Microsoft must prove that the goods distributed by the defendants did not replicate faithfully its software. The making and distribution of perfect but unlicensed copies was certainly actionable but the complaint lay under the Copyright, Designs and Patents Act 1988.

Mr. Lambert relied on the case of Centrafarm BV v. American Home Products Corporation [1978] ECR 1823. The material part of the judgment of the European Court was

In my judgment, no question of partitioning the United Kingdom market or the market in the European economic area arises in this case. Moreover, when the software bearing the mark is sold it is “put into circulation” in a limited way, that is, that it can be used on only one computer at a time (or the computers of one entity in the case of multiple licences). Section 12 of the Trade Marks Act 1994 takes account of European competition law. It provides as follows:

It is clear that defendants (4), (5) and (6) have all been involved in commission of the foregoing wrongs on behalf of Digital and have adopted those wrongs of Digital as their own. I conclude that there is no real prospect of any of the defendants successfully defending this claim.

Section 97(2) of the Copyright, Designs and Patents Act 1988 provides as follows:

There is no other compelling reason why the case should be disposed of at a trial.

Accordingly, I give judgment for Microsoft on their claim including the claim for additional damages to be assessed. I shall hear counsel on the terms of my order including any interim payment.