Canada: How to Stop Grey Goods

By Louis S. Ederer and Andrew Bernstein

Published in Brand Management Focus 2004, April 2004.

The liberalization of international trade means big challenges for IP rights owners. Louis S. Ederer and Andrew Bernstein of Torys LLP analyze how brand owners can combat grey goods in Canada using trademark and other laws.

The liberalization of international trade in the past decade has been of tremendous benefit to North American businesses. However, it has also posed certain challenges, particularly for trademark owners whose products are sold in many countries. A trademark owner has the right, among other things, to authorize the making and selling of its products in particular countries, through particular trade channels. But trademark owners have been unable to control the diversion of goods, originally intended to be sold only in certain countries, to other countries where they were not intended to be sold. When imported into countries such as Canada and the United States, where they were not intended to be sold, these diverted products are known as grey market goods.

Trademark law, which ordinarily permits only a trademark holder (or his designee) to sell goods bearing its marks within a particular territory or country, will not typically prevent the sale of diverted grey market imported goods that were originally authorized to be made or sold only in another territory or country. The doctrine of exhaustion or the right of first sale generally means that once legitimate goods bearing a mark are sold anywhere in the world, the purchaser has the right to import or resell them. This permits an unauthorized entrepreneur to purchase trademarked goods in a low-price jurisdiction, and import and resell them into a high-price jurisdiction.

This, of course, can have serious adverse consequences for businesses. By depleting the products in the low-price jurisdiction, grey marketing elevates local prices, making the product less attractive to local buyers. More important, grey market products imported into a high-price jurisdiction compete at a low price with the manufacturer’s own products and diminish the manufacturer’s control over its own brands. Hence, businesses with widespread international sales have a strong interest in resisting and controlling grey marketing.

This article analyzes the avenues available to businesses seeking to challenge grey marketing in Canada, using trademark law as well as some other available legal regimes.

Under Canadian law, the sale of grey market goods does not typically constitute trademark infringement. In a nutshell, that is because of the underlying purpose of trademark law, which is intended to protect consumers from confusion about the source of goods (that is, ensuring that the cola inside the can marked Coca-Cola is actually made by The Coca-Cola Company or its licensee). Because, by definition, grey market goods originate with or are ultimately authorized by the mark holder or a licensee (over whom the mark holder must assert quality control), there cannot be any confusion about the source of the goods, and therefore no infringement.

The fact that prohibiting grey market goods does not further the purpose of trademark law, combined with the doctrine of exhaustion and the common-law courts’ natural reluctance to extend a mark holder’s monopoly further than necessary, means that courts have been unwilling to regulate their sale. Nevertheless, it is still possible to enforce trademarks against grey market products under certain circumstances, and this can be done through an action for infringement, an action for passing off, or an action for depreciation of goodwill.

Where a Canadian company is the registered owner of a Canadian trademark, the courts have been willing to stop the importation and sale of the grey goods bearing that trademark under certain circumstances. Section 19 of the Trademarks Act of 1985 (the Act) grants the owner of a registered Canadian trademark the exclusive right to use the trademark throughout Canada. That right would, arguably, be infringed by the sale of grey products that did not originate in Canada.

For this argument to be successful, the international manufacturer/seller of the goods must be distinct from the trademark owner in Canada. This permits the Canadian trademark owner to argue that it did not exercise its right of first sale over the goods, and therefore its trademark rights are not exhausted. Helpfully, Canadian courts have also extended this protection to Canadian subsidiaries of multinational corporations. Generally, if a multinational corporation produces and sells a product abroad, and that product is imported by a grey marketer into Canada, the corporation cannot complain of trademark infringement. This would be true even if the Canadian subsidiary of the corporation owned the Canadian trademark, since the corporation would have exhausted its rights by the sale of the product abroad. However, according to Canadian courts, if a Canadian subsidiary of a multinational can sufficiently distance itself from its parent, the subsidiary can assert its rights in a Canadian trademark against the grey marketer. Although at least one case (Remington Rand Limited v Transworld Metal Company Limited, [1960] Ex CR 463) has held that all that is required is a separate corporate existence (which is as simple as setting up a subsidiary), the current law also requires a differentiated product. This makes sense in the context of trademark law, since if a foreign product has characteristics that are different from the domestically marketed product, such as a different composition, different warranty, different after-market service, or it conforms to different standards, it would be more likely to confuse consumers, who believe they are buying the Canadian version of the product that they are accustomed to (H J Heinz Co of Canada Ltd v Edan Food Sales Inc (1991), 35 CPR (3d) 213).

Of course, for an infringement case to be brought, the domestic producer must have sufficient rights in the trademark. That is, the mark must be sufficiently distinctive to the Canadian owner of the trademark, as opposed to the international manufacturer. For example, the courts invalidated the Canadian registration of an international trademark that had long been owned in Canada by the multinational trademark owner before Canadian registration by a Canadian distributor (Wilkinson Sword (Canada) Limited v Juda, [1968] 2 Ex CR 137; Breck’s Sporting Goods v Magder (1976), 1 SCR 527; Havana House Cigar & Tobacco Merchants Ltd v Skyway Cigar Store (1998), 81 CPR (3d) 203). Indeed, raising this issue in an interlocutory injunction application with respect to grey market goods has been sufficient to avoid the injunction (Ulay (Canada) Ltd v Calstock Traders Ltd (1969), 59 CPR 223 (Ex Ct)). On the other hand, H J Heinz Co of Canada Ltd, owner of the Heinz trademark in Canada, successfully used its Canadian trademark to stop the unauthorized importation of Heinz ketchup that was manufactured and marked by its US parent (see above).

In sum, it appears that under the right circumstances (a separate corporate entity, a differentiated product and a mark that is actually distinctive to that entity and product), an action for trademark infringement may assist in preventing the importation and resale of grey market goods.

If there is no Canadian registered trademark, an attempt can be made to prevent importation of grey market goods through an action for passing off (Consumers Distributing Co v Seiko Time Canada Ltd (1984), 1 CPR (3d) 1 (SCC)). This involves making a claim that the grey goods are being misrepresented as products authorized for distribution in Canada by the manufacturer. Nevertheless, like an action for infringement, such an action will only be possible when the entity and the products are sufficiently differentiated. Indeed, according to the Supreme Court of Canada in the above case, passing off requires "a misrepresentation or deceit of some kind to the public by reason of the sale of grey goods". In other words, a Canadian distributor cannot prevent the importation and sale of grey products as long as the products are identical and come from the same source. However, where the grey goods differ sufficiently from the original products, preventing their sale may be possible. Of course, the standard for what constitutes a "misrepresentation or deceit" is relatively high. Indeed, products that did not include warranties were found to be acceptable for sale as long as customers were given notice that no after-sale support would be available to them. On the other hand, an interlocutory injunction was successfully obtained against products that had not received Canadian Standards Association certification, even though the grey products were identical to the Canadian versions and the grey products had received certification in the United States (Sharp Electronics of Canada Ltd v Continental Electronic Info Inc (1988), 23 CPR (3d) 330 (BCSC)).

Like an action for trademark infringement, an action for passing off against a grey market reseller requires a distinct Canadian entity. Indeed, despite an earlier ruling to the contrary (Matell Canada Inc v GTS Acquisitions & Nintendo of America Inc (1989), 27 CPR (3d) 358 (FCTD)), the Federal Court of Appeal also held that licensees and registered users of international trademarks cannot take advantage of most of these legal remedies (Smith & Nephew Inc v Glen Oak Inc (1996), 198 NR 302 (FCA)). It is therefore not surprising that, as the Court commented in this case, "the action in passing off, whether statutory or common law, has not met with marked success as a weapon against grey marketing".

Section 22 of the Act prohibits a person from using a trademark registered by another person in a manner that is likely to depreciate the value of the goodwill attaching to the trademark. Of course, such a depreciation can occur only when the foreign marked product is different from the domestic one. However, this difference alone is insufficient to establish a case. The plaintiff must also establish that grey market goods will, in fact, result in a loss of goodwill. Courts have taken a relatively strict view of this element and rejected mere speculative evidence of this loss (Havana House Cigar, above, at para 80). For example, in this case it was argued that unauthorized importation of lower quality cigars would depreciate the goodwill associated with the cigar’s trademark since consumers receiving the lower quality cigars would stop buying them. The Federal Court held that this was mere speculation and that actual market evidence would have to be presented before the Court could find depreciation. Given the difficulties associated with developing this evidence in a timely way, and that the usual context to prevent the importation of grey market goods is a motion for an injunction, it is safe to predict that this section will be of limited use in preventing the importation or sale of grey market goods.

There may be other ways to stop the sale of grey market goods. Recourse may be available under several regulations. For example, natural health products, cosmetics, and drugs are regulated by the federal government. Health Canada, no doubt, would have significant issues with any imported products that are improperly registered or packaged. Failure to comply with federal and provincial packaging and labelling requirements could also result in preventing the importation of grey products. For example, virtually all consumer products require bilingual and metric labelling. Any products that lack these elements in their packaging cannot be legally marketed in Canada. Finally, if the manufacturer or distributor of a product owns Canadian patent or industrial design rights to that product, unauthorized importation of the product would constitute an infringement of those rights.

Copyright ownership may also provide another venue for challenging the importation of grey goods. The US Supreme Court in Quality King Distributors, Inc v L’anza Research International, Inc, 118 US 1125 (1998) held that a US copyright owner’s right to prevent prevent unauthorized importation of a copyrighted good made in the United States is extinguished upon the first sale of that good (referred to as the first-sale doctrine). However, the Supreme Court excluded from this ruling goods lawfully manufactured in another country.

Canadian courts have taken a similar stance. Several Canadian courts held that importing goods lawfully manufactured and sold outside Canada infringes the rights of the Canadian copyright holder (Clarke, Irwin & Co Ltd v C Cole & Co Ltd, [1960] OR 117 (Ont HC); Fly by Night Music Co Ltd v Record Warehouse Ltd (1975), 20 CPR (2d) 263). Indeed, the Canadian Copyright Act expressly forbids parallel importation of books, works, sound recordings, and communication signals. However, if only a minor portion of a product is copyrightable (a small part of the packaging, for example), infringement of that copyright may not persuade the courts to bar the importation of the infringing product.

In conclusion, although resisting grey products through trademark law seems attractive, such a path provides limited recourse. To benefit from the protections offered by trademark law, corporations must plan ahead and obtain Canadian trademarks through their Canadian subsidiaries. Other venues such as patents, copyrights, and regulatory actions may also provide viable protection against grey market goods, and, if available, may even form the preferred route in place of trademark litigation.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.