The existence of a selective distribution network may be included among the ‘legitimate reasons’ for not exhausting trademark rights, provided that it complies with antitrust law, the trademarked product is a luxury item and there is a real harm to the image of prestige the manufacturer seeks to maintain through the adoption of a selective distribution system as a result of product marketing by third parties not belonging to the network.

Selective distribution is defined in Article 1, letter e) of Regulation (EU) No. 330/2010 as “selective distribution system’ means a distribution system where the supplier undertakes to sell the contract goods or services, either directly or indirectly, only to distributors selected on the basis of specified criteria and where these distributors undertake not to sell such goods or services to unauthorised distributors within the territory reserved by the supplier to operate that system”.

Therefore, the prohibition of reselling products to resellers outside the network represents the distinctive feature of selective distribution, since by means of such system products are sold exclusively through resellers who meet specific standards of professional competence. This allows the manufacturer to ensure service consistency at the points of sale, coordinated management of logistics, training of specialists and monitoring of the disposal phase of unsold products.

Two recent orders of the IP Chamber of the Court of Milan sanctioned the interference with the selective distribution system legitimately implemented by the trademark holder, making findings of trademark infringement. These rulings have confirmed the situations in which there may be exceptions to the principle of trademark exhaustion once the products have been put on the market by the brand owner.

The first action was brought by L’Oréal and Helena Rubinstein against a retailer outside their selective distribution network and decided with an interim order issued on 19 November 2018. It also concerned the resale of products under the trademarks “Giorgio Armani”, “Lancôme”, “Cacharel”, “Yves Saint Laurent Beauté” and others of which the claimants in the action are licensees, in the outlets and on the e-commerce platform of an unauthorized reseller. The claimant argued, in particular, that (i) the principle of trademark exhaustion does not apply if packaging is altered by removing the Anti-Diversion Code; (ii) the lack of consent to the placing on the market of products parallelly imported from countries outside the European Economic Area; (iii) and that a deliberate interference with the selective distribution system had occurred.

The second decision was brought by Landoll as proprietor of the trademarks ‘Nashi’ and ‘Nashi Argan’, and decided with an interim order issued on 18 December 2018. It also concerned the resale of the claimant’s professional cosmetic products bearing its trademark by a reseller not belonging to its selective distribution network, who resold products online both on its own website and a third-party e-commerce platform.

Both decisions are in line with the established case-law which, in order to come within the exceptions to the principle of exhaustion, requires the following conditions to be satisfied:

(i) the selective distribution system implemented by the trademark owner complies with the antitrust rules;

(ii) the adoption of a selective distribution system is necessary to protect the trademarked products, which is particularly the case for luxury items;

(iii) the reselling methods put in place by third parties outside the network damage the image of luxury and prestige that the trademark owner seeks to maintain by means of a selective distribution system, or produce a confusing effect regarding the existence of an actual commercial link between the trademark holder and the unauthorized reseller.

 

(i) The legitimacy of the selective distribution system

The first requirement to be met is the legitimacy of the selective distribution system implemented by the trademark owner, i.e. its compliance with antitrust law is met.

According to established case law of the EU Court of Justice, a selective distribution system can be considered compliant with the rules set forth in Article 101 of the EEC Treaty, if selectivity is made necessary by particular technical requirements, linked to the peculiarities of the trademarketed products (e.g. they require special pre- and after-sales assistance services that not all dealers are able to provide), or it is necessary to protect the prestige and reputation of the brand, provided that the selection of distributors is based on “objective criteria relating to the qualifications of the seller, his staff and his facilities”, which are “laid down uniformly for all potential resellers” and “not applied in a discriminatory fashion” (CJEU, 11 December 1980, C-31/80; CJEU, 13 October 2011, C-439/09).

More recently, in a well-known case concerning the resale of luxury cosmetic products on a third-party e-commerce platform, it was confirmed that Article 101 TFEU should be interpreted as meaning that a selective distribution system for luxury items primarily aiming at preserving the luxury image of products complies with such provision on condition that the choice of retailers is made in accordance with the criteria developed by the EU case-law referred to above (CJEU, 6 December 2017, C-230/16, ‘Coty’).

It is up to the national court, which is called upon to determine whether there are ‘legitimate reasons’ for the trademark holder to be able to oppose the further marketing of its goods, to determine whether selective distribution contracts comply with antitrust law. In particular, it should verify that the distribution agreement does not contain any of the hard-core restrictions set out in Article 4 of Regulation (EU) No. 330/2010 (price, territory, consumer sales and cross-selling), or that it is exempted from market share threshold set forth in Article 3 (market share not exceeding 30%), and that the agreement complies with the three conditions for selective distribution, based on purely qualitative criteria, laid down in paragraph 175 of the Guidelines on Vertical Restraints of the European Commission – i.e. (i) the nature of the product in question must necessitate a selective distribution system, in the sense that such a system must constitute a legitimate requirement, having regard to the nature of the product concerned, to preserve its quality and ensure its proper use; (ii) resellers must be chosen on the basis of objective criteria of a qualitative nature which are laid down uniformly for all and made available to all potential resellers and are not applied in a discriminatory manner; (iii) and that the criteria laid down must not go beyond what is necessary.

In the above rulings, the Court of Milan examined the distribution contracts put in place by L’Oréal and Landoll and concluded that the quality criteria developed, implemented and used in selecting authorised dealers were fully consistent with the aim of safeguarding the luxury image of the products being distributed, that they had been applied in a non-discriminatory manner and were proportionate to the objective pursued.

In particular, the Court noted that “the general sales conditions applied by L’Oréal, in accordance with the Guidelines on Vertical Restraints of the European Commission, expressly specify that the trademarked products were intended to be sold throughout the European Economic Area through a network of authorised selective distributors on the basis of quality criteria which are described in detail …. establish in detail the quality and location of the sales outlets, the characteristics of the brand and the sales outlet, and the minimum professional skills of authorised retailers’ (L’Oréal Order, p. 11). In the same way, the Landoll ruling also noted that the adoption of a selective distribution system ‘appears to be aimed at ensuring, by means of the proven professional training of authorised persons – or by means of training and specialisation – the appropriate use of the products in relation to the needs of the final customer, thereby also contributing in this respect to the need to safeguard the image and prestige of the products’ (Landoll Order, p. 3).

 

(ii) Luxury products

Having established the existence and lawfulness of the selective distribution system, there is a requirement to assess whether there is a need to protect the trademarked products which is particularly the case for luxury items.

In this respect, EU case-law affirmed that the quality of luxury goods is not only the result of their material characteristics, but also of the style and prestigious image which bestow on them an aura of luxury, which is essential for them in order to be distinguished by consumers from other similar products. Damage to said luxury aura may therefore affect the quality of the products themselves (see CJEU, 6 December 2017, C-230/16; CJEU, 23 April 2009, C-59/08).

Therefore, according to EU case law, due to their characteristics and nature, luxury products may require the implementation of a selective distribution system to preserve their quality and ensure their proper use. However, no criteria were established to determine when a product can be considered as ‘luxury’.

In the two cases examined by the Court of Milan, the products in question were clearly considered luxury items, so that no in-depth examination of the applicability of the judgement of EU case-law was necessary in this case.

The reasoning in Coty specifically concerned luxury goods, since this was the reference subject for the preliminary ruling. However, one might ask whether it can also be applied to products of a different nature. It seems reasonable to presume that the reasons justifying the legitimacy of the provisions for the distribution of luxury products can also be applied in other contexts where the same sort of protection that legitimize the adoption of a selective distribution system is necessary, or where the access of dealers to third-party e-commerce platforms is likely to undermine the legitimate objectives pursued by choosing this form of distribution, such as, for instance, ensuring pre-sales consultancy for a proper use of the product.

 

(iii) The Existence of Prejudice

The trademark owner must then prove that the resale methods put in place by the third party outside the network is such as to damage the reputation of the products bearing the mark and the image of luxury and prestige that the trademark owner seeks to maintain precisely by means of the adoption of a selective distribution system.

The existence of a prejudice is undoubtedly the most controversial requirement, as it implies an assessment by the Court of both the third party’s specific selling methods and the conditions applied by the owner to his authorised dealers.

In this regard, both decisions examined here are in line with the quite restrictive approach already adopted in many cases by the Court of Milan, according to which the existence of a selective distribution network, even if lawful and concerning luxury goods, does not in itself exclude the exhaustion of the exclusive rights. Based on this restrictive approach, it is also necessary to prove the existence of significant harm to the trademark (or to the products bearing the trademark) caused by the third party and resulting from the factual circumstances of the case (see Court of Milan 13 March, 2016).

On this point, the L’Oréal order clarified that it would not be sufficient to demonstrate that the method adopted by the retailer outside the network does not comply with the quality standards required of authorised distributors (and therefore with the conditions laid down in the selective distribution contracts). It is still necessary to ascertain the concrete existence of a prejudice. In this respect, the order states that “the sales methods provided for by the L’Oréal selective distribution system do not constitute a parameter for the lawfulness of the defendant’s conduct. As already clarified by this Court, the conditions of sale stipulated by the holder of the right with the resellers, as clauses having inter partes effect, are not enforceable against third parties pursuant to Article 1372, second paragraph of the Italian Civil Code. The methods of selling cash & carry are not incompatible in their essence with the prestige and aura of luxury of the brand … the danger or the possibility of a serious harm would not be sufficient to justify an exception to the principle of exhaustion, but its actual existence is required. It follows thus that the harm in question must result from specific factual circumstances of the case”.

In the Court’s view, it is therefore not sufficient to show that the arrangements adopted by the third party do not comply with those imposed on authorised dealers. The trademark owner needs to prove that they are in fact detrimental to the aura of prestige of the mark.

It could be argued that in this respect the EU case-law highlights the mere lack of control by the trademark owner in the context of a sale by dealers not belonging to the network, which, according to the CJEU, leads to the existence of harm. Specifically, the CJEU in Coty stated that: “The absence of a contractual relationship between the supplier and third-party platforms is, however, an obstacle which prevents the supplier from being able to require, from those third-party platforms, compliance with the quality conditions that it has imposed on its authorised distributors. The internet sale of luxury goods via platforms which do not belong to the selective distribution system for those goods, in the context of which the supplier is unable to check the conditions in which those goods are sold, involves a risk of deterioration of the online presentation of those goods which is liable to harm their luxury image and thus their very character” (cf. “Coty”, pt. 48-49).

It would be reasonable to acknowledge that any sale outside the selective distribution system legitimately established by the trademark holder is liable to cause harm, both to the holder and to its network of authorised distributors, who undertake to comply with the conditions specifically laid down in the contract in order to protect the reputation and renown of the trademarked products. In other words, there is no need to prove a serious and significant harm to the trademark caused by the third party resulting from the factual circumstances of the case.

A landmark decision of the European Court of Justice (ECJ) issued on 6 December 2017 confirmed that a supplier of luxury goods may prohibit authorised retailers part of a selective distribution system from selling its products on third party e-commerce platforms.[1]

In the case at issue the request for a preliminary ruling was submitted by the Oberlandesgericht Frankfurt am Main (Higher Regional Court, Frankfurt am Main) in 2016 in the context of a dispute between Coty Germany GmbH, a supplier of luxury cosmetics established in Germany, and Parfümerie Akzente GmbH, an authorised distributor of those goods, concerning the prohibition, under a selective distribution contract between Coty Germany and its authorised distributors, of the use by the latter, in a discernible manner, of third-party undertakings for internet sales of the contract goods.

Specifically, Coty Germany brought an action before the national court seeking an order prohibiting Parfümerie Akzente from distributing products via the platform ‘amazon.de’.

The Oberlandesgericht Frankfurt am Main, also in view of the divergent interpretations of the earlier ECJ’s Pierre Fabre decision issued in 2011[2], by the courts and competition authorities of the Member States   decided to stay the proceedings and to refer to the European Court of Justice questions concerning whether a selective distribution system that has as its aim the distribution of luxury goods constitutes an aspect of competition that is compatible with Article 101(1) TFEU and, specifically, whether the general prohibition imposed on members of a selective distribution system to use, in a discernible manner, for internet sales, e-commerce platforms of third-party companies, is compatible with that rule.

In its ruling the ECJ’s, referring to its settled case-law, stated first of all that a selective distribution system for luxury goods designed primarily to preserve the luxury image of those goods does not breach the prohibition of agreements, decisions and concerted practices laid down in EU law, provided that the resellers are chosen on the basis of objective criteria of a qualitative nature, which are laid down uniformly and are not applied in a discriminatory fashion, nor go beyond what is necessary.

The Court then found that EU law does not preclude a contractual clause which prohibits authorised distributors of a selective distribution network of luxury goods from using, in a discernible manner, third-party platforms for internet sales of the goods in question, provided that the clause is appropriate to preserving the luxury image of the goods, it is laid down uniformly, not applied in discriminatory manner and is proportionate in the light of the objective pursued.

The ECJ further noted that, in circumstances such as those of the main proceedings, these conditions are met and therefore prohibition of the use, in a discernible manner, of third-party undertakings for internet sales does not constitute a restriction of customers nor a restriction of passive sales to end users. Such latter restrictions are automatically excluded from the benefit of a block exemption because they are liable to have severely anticompetitive effects.

1. Selective distribution system: general remarks

The adoption of a selective distribution system for companies operating in the field of luxury and fashion is one of the key factors in the process of evaluation, which allows the trademark owner to protect the prestige and renown of its brand and to guarantee the quality of the products to be distinguished, from the time of the product ideation to its delivery to the final user.

Article 1, let. e) of  Regulation (EU) No 330/2010 broadly defines it as a distribution system where the supplier undertakes to sell the contract goods or services, either directly or indirectly, only to distributors selected on the basis of specified criteria and where these distributors undertake not to sell such goods or services to unauthorised distributors within the territory reserved by the supplier to operate that system.

Therefore, the ban on the resale of products to subjects other than end consumers, unrelated to the network established by the manufacturer, is therefore the “heart” of selective distribution, because through it the goods bearing the trademark are marketed exclusively through retailers who meet certain standards of professional competence, which allows the manufacturer to guarantee uniformity of service at points of sale, coordinated management of logistics, training of personnel specialized in the sale of prestigious products and the control of the disposal of unsold products.

The products subject to selective distribution are usually high-class goods with a high symbolic value, bearing trademarks which convey a message of exclusivity, which can be jeopardized even in the absence of likelihood of confusion.

Selective distribution systems are therefore justified not only in the interests of the trademark owner to consolidate its brand awareness and to preserve around its own products an aura of luxury which enables consumers to distinguish them from similar goods, but also in the interest of the consumers to be guaranteed a high level of quality of service, in line with the standard set by the manufacturer.[3]

These principles have been applied and confirmed by the European Court of Justice in the Coty case, where the Court noted that the quality of luxury goods is not simply the result of their material characteristics, but also of the allure and prestigious image which bestows on them an aura of luxury.

These aspects, the ECJ further noted, are essential for luxury goods since they enable consumers to distinguish them from other similar goods. Therefore any impairment to that aura of luxury is likely to affect their actual quality.

2. Selective distribution and trademark exhaustion

The success of this kind of distribution system cannot, in any case, be independent of effective control by the trademark owner.

The development of the free riding phenomenon in the context of a selective distribution system lies in the fact that third party resellers, not belonging to the system, appear on the market as apparent authorized retailers generating in consumers the belief that the reseller belongs to the selective distribution network arranged by the trademark owner.

In recent years this phenomenon has been the subject of a wide debate amongst scholars and case-law, often with opposing positions on the interpretation of trademark exhaustion doctrine and unfair competition by the unauthorized reseller.

Article 5 of the Italian IP Code (likewise Article 15 of the EU Directive No. 2015/2436) provides that the exclusive rights of the trademark’s owner “are exhausted once the products protected by an industrial property right have been put on the market by the owner or with his consent in the territory of the Country or in the territory of a Member State of the European Union or the European Economic Area”. Paragraph 2 further specifies that “This limitation on the powers of the owner does not however apply when there are legitimate reasons for the owner himself to oppose further marketing of the goods, in particular when the condition of the same has been modified or altered after being put on the market”.

In this regard, the ECJ settled case law clearly states that the existence of a selective distribution agreement is one of the “legitimate reasons” which excludes the application of the exhaustion doctrine of the trademark after the goods have been put on the market, pursuant to Art. 7 No. 2 of Directive 2008/95/C.E. (now, Article 15 EU Directive No. 2015/2436).

Applying these principles, the ECJ clarifies that what is important for the exclusion of the exhaustion doctrine is the confusing effect of the existence of a commercial link between the unauthorized reseller and the trademark’s owner which jeopardizes, or potentially jeopardizes, the aura of luxury and prestige that the trademark’s owner tries to preserve through the adoption of a selective distribution system.

Leading scholarly literature and settled case law have often acknowledged that also the use of false capacity, i.e. pretending to be an authorized reseller which is part of the selective distribution system implemented by the trademark owner, might amount to trademark infringement.[4]

In this regard, the Court of Catania, in a recent ruling issued on 29 November 2016 in proceedings brought by the fashion company Bulgari against an unauthorized reseller, acknowledged that the use of the brand “BVLGARI” on the unauthorized reseller’s web site in order to advertise the sale of Bulgari’s products generated the belief in the public that reseller was part of Bulgari’s distribution network.[5]

The Court further stated that the burden of proof of the existence of “legitimate reasons” pursuant to Art. 15 EU Directive No. 2015/2436 had been fulfilled by the trademark owner since Bulgari was able to prove:

1 – The implementation of a selective distribution system, based on contractual clauses to impose precise quality standards on distributors;

2 – That the goods at issue were luxury or prestige items;

3 – That the sale of Bulgari’s product by an unauthorized reseller, for its specific methods which were not in accordance with the well-known trademark’s owner standards, resulted in an actual prejudice to the prestigious and exclusive image of Bulgari, not respecting any of the quality standards imposed on authorized resellers.[6]

 3. Violation of a selective distribution system and unfair competition

Italian case law also analysed a further aspect concerning the role of the third party unauthorized reseller in the context of a selective distribution system, i.e. whether inducing an authorized dealer to violate its contractual obligations may amount to a violation of the selective distribution system and therefore a breach of contractual obligations.

Selective distribution agreement is legally binding only between the parties. Therefore, the ban on the resale of products to subjects unrelated to the network established by the manufacturer, other than end consumers, is not binding to third parties, such as the unauthorized reseller.

In the past decade, Italian case law often held the view that the unauthorized reseller is always free to buy the goods intended for selective distribution, pursuant to the constitutional freedom of the enterprise. The violation of a selective distribution system by those who are not contractually bound by such a system does not amount to unfair competition, since the obligations between the manufacturer and its authorized dealer are not binding for the third party.[7]

In this regard, a landmark case of the Court of Palermo, following a more recent trend[8], acknowledged that the interference of a third party with a selective distribution system may amount to an act of unfair competition such as “involving in another’s breach of obligations”, which has to be considered an independent act of unfair competition prohibited pursuant to Art. 2598, No. 3 Italian Civil Code.[9]

If the selective distribution network is legitimately created by the trademark’s owner, in compliance with the antitrust regulations, the acts of third parties not belonging to the network consisting in selling (despite having been made aware of the existence of the selective distribution system) products bearing that mark may be considered acts of unfair competition.

Specifically, the Court noted that there may be unfair competition exclusively in the case whether the unauthorized reseller is aware, or has been made aware, of the existence of a selective distribution agreement. Therefore, “once he receives such communication it is no longer a question of irrelevance due to the relativity of obligations principle exclusively between the manufacturer and the distributer” and then “continuing to sell trademarked products even after the manufacturer has notified that a selective distribution system was implemented amounts to unfair competition”.

4. Practical implications

The above mentioned cases deal with different aspects related to the same issue: enforcing trademark rights in the context of a selective distribution strategy in the luxury field in order to protect brand owners against different forms of free riding.

These rulings provide helpful guidance for companies in the luxury field as to what is permissible and can be done to enforce selective distribution against distributors in breach of their contractual obligations and unauthorized resellers.

In conclusion some basic guidelines in this area of luxury goods are:

1. the selective distribution system implemented by the trademark owner to distribute luxury goods must be based on contractual clauses which impose precise quality standards on distributors, i.e. it must be compliant with the antitrust regulations,

2. it is essential to prove that  the products in questions are luxury items and that the selective distribution system is necessary to protect their luxury image,

3. the restrictions imposed on distributors must be consistent with the aim of protecting that luxury image, they must be applied in a non-discriminatory manner and should not go beyond what is necessary.

4. the requirements of the selective distribution system need to be regularly assessed by the brand owner to guarantee they remain fit for purpose,

5. restrictions on sales on third-party platforms, such as Amazon or Ebay, to protect a luxury image are allowed only provided that this does not give rise to a total prohibition on online sales,

6. beside trademark infringement, in order to prove unfair competition by the unauthorized reseller for interfering in the selective distribution agreement, i.e. involvement in another’s breach of obligation, it is necessary to prove awareness on the part of the unauthorized distributor of the existence of a selective distribution agreement between the trademark’s owner and its reseller.

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[1] ECJ, 6 December 2017, C‑230/16, “Coty”.

[2] ECJ, 13 October 2011, C-439/09, “Pierre Fabre”, which, purely for the goods at issue in that case, stated that the need to preserve the prestigious image of cosmetic and body hygiene goods was not a legitimate requirement for the purpose of justifying a comprehensive prohibition of the internet sale of those goods.

[3] See ECJ, 23 April 2009, C-59/08, “Copad”, which stated that “the quality of luxury goods…is not just the result of their material characteristics, but also of the allure and prestigious image which bestows on them an aura of luxury. Since luxury goods are high-class goods, the aura of luxury emanating from them is essential in that it enables consumers to distinguish them from similar goods. Therefore, an impairment to that aura of luxury is likely to affect the actual quality of those goods. Given that context, it must next be examined whether, in the case in the main proceedings, the sale by the licensee of luxury goods to discount stores which are not part of the selective distribution network set up under the licence agreement, may constitute such impairment…Setting up a selective distribution system such as that at issue in the main proceedings which, according to the terms of the licence agreement between Dior and SIL, seeks to ensure that the goods are displayed in sales outlets in a manner that enhances their value, ‘especially as regards the positioning, advertising, packaging as well as business policy’, contributes… to the reputation of the goods at issue and therefore to sustaining the aura of luxury surrounding them”.

[4]  Please see, amongst others, Court of Rome, 28 April 2004, which granted to Jaguar urgency measures against an unauthorized reseller using its distinctive trademark, stating that “the use of a service mark, if carried out in such a way as to appear to consumers as an indicative sign of the third party’s affiliation to the service network of the trade mark owner, constitutes trademark infringement, since the public falls into error about the inclusion of the retailer in the sales network of the trademark owner”.

[5]  Court of Catania, 29 November 2016.  See also Galli, Bulgari successfully enforces selective distribution network against former distributor, WTR, 27 March 2017.

[6] Specifically, the Court found that there was no assortment of products, nor adequate display stands and the unauthorised reseller was applying excessively high discounts, which were not in keeping with Bulgari’s standards.

[7] Court of Venice, 10 March 2004; Court of Milan, 8 March 2004; Court of Bari, 11 July 2008.

[8] See also Court of Milan, 13 March 2009, which stated that “The entrepreneur who, having been aware of the existence of a selective distribution network for products of a certain brand, since he was specifically excluded, and he led the consumers to believe is an authorized distributor of those products violates unfair competition law”.

[9] Court of Palermo, 28 February 2013, which stated that the unauthorized seller of Thun’s products, the well-known manufacturer of artistic ceramics, was aware of the implementation of a selective distribution network since he has been notified by the trademark owner through a letter prior to the preliminary injunction proceedings.

The famous Italian luxury brand Ferragamo has recently won a case before the Court of Milan (judgement no. 7940/2017) concerning counterfeiting of its signature metallic-plate-ribbon applied at the tip of the “Vara” shoes, as shown in the image below.

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The Florentine maison was taken to Court by two Chinese footwear shops owners located in Milan’s Chinatown; they requested a declaration of non-infringement for their products represented below.

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Continue Reading No matter how rough, it is still counterfeiting!