9TH CIRCUIT PROVIDES INVESTORS WITH “SHELTER” FROM SECONDARY LIABILITY

Date: June 26th, 2012

Copyright infringement: It’s become so commonplace you probably don’t even notice it anymore. At any given time, a good portion of your Facebook news feed may consist of infringing content; shared pictures, videos, music and books. In fact, there is a good chance you’re reading this article from your Facebook news feed. Did you ever wonder how so much copyrighted material ends up on Facebook, seemingly without issue?

The 9th Circuit Court of Appeals’ recent decision in UMG Recordings, Inc. v. Shelter Capital Partners, LLC, 667 F.3d 1022 (9th Cir. 2011), explains how digital content intermediaries (“DCIs”) like Facebook are allowed to carefully navigate the dangerous waters of copyright infringement liability through the use of safe harbors, and goes on to explain why the shareholders of DCIs (think of all the people who just bought into Facebook’s IPO), should be okay too.

Liability for copyright infringement arises under 17 USC 501 – 513, (i.e., the Copyright Act of 1976). Title II, Section 512 of the Digital Millennium Copyright Act of 1998[1. Signed by President Clinton in 1998 as an amendment to and extension of the 1976 Copyright Act.] (the “DMCA”), provides Facebook and other DCIS with a safe harbor from copyright infringement liability so long as they (i) lack actual knowledge or awareness of the infringement; (ii) are not aware of the facts and circumstances from which the infringement is apparent; and (iii) upon obtaining knowledge of the infringement, act expeditiously to remove or disable access to the infringing material. The DCI must also not receive any financial benefit directly attributable to the infringing activity.

This safe harbor is important, because DCIs are critical to the functionality of the Internet we take for granted today – a place where information, including copyrighted information, is stored, distributed, shared, and ultimately experienced by end users. With enough users, DCIs become vast networks of information accessible with the click of a mouse.

Notably, where DCIs may rely on the safe harbor to avoid liability where their end users upload infringing materials, there is no such safe harbor from contributory infringement (secondary liability) for investors (i.e., shareholders), directors and officers of DCIs, causing great concern among investors that investing in or operating a DCI could be a personally risky business move. Investors had become somewhat weary given the 9th Circuits previous ruling in Fonovisa, Inc. v. Cherry Auction, Inc., 76 F.3d 259 (9th Cir. 1996), where the court held that a party could be held liable for the copyright infringement of another where, “with knowledge of the infringing activity, they induce, cause or materially contribute to the infringing conduct of another.”

Thankfully, while investors and control persons don’t have a statutory safe harbor, they now have some reliable “shelter” from contributory infringement liability. The 9th Circuit Court of Appeals in Shelter Capital Partners, refused to hold investors and directors of Veoh Networks, Inc. (“Veoh”), a DCI, liable on a secondary basis where Veoh itself was protected under the DMCA Section 512 Safe Harbor. The Court keenly noted that protecting investors in DCIs is necessary to promote the purpose of the DMCA safe harbor in protecting DCIs, as without the investors, there would be no DCIs.

The plaintiff in Shelter Capital Partners, UMG Recordings, Inc. (“UMG”), argued that certain Veoh investors who controlled 3 of the 5 seats on the Veoh Board of Directors had assumed control over Veoh’s operations and together, provided the site and facilities that allowed the infringing activities . However, the Court found that UMG failed to prove (or even argue) that the three investor-directors had actually worked in concert towards infringement. The Court reasoned that finding secondary liability for 3 of the 5 directors simply because 3 out of 5 is a controlling majority would be to allow all plaintiffs to sue any collection of directors personally making up 51% of the board under a simple theory of control liability.

In light of the fact that Veoh qualified for the Section 512 Safe Harbor, it would have been a stretch to find those in control liable for contributory infringement, let alone more passive investors, as traditionally there can be no secondary liability for copyright infringement absent direct infringement.

The Shelter case was a victory for DCIs and investors looking to invest in DCIs. The ruling provides clarity for investors considering a DCI investment, but it does not provide certainty. The Shelter decision was highly fact-specific and certainly does not stand for the proposition that investors or control persons cannot be held secondarily liable for contributory infringement under different circumstances.

The protections of the DMCA Section 512 Safe Harbor allow DCIs to exist to further the development of the Internet as a tool for the sharing and consumption of information. The UMG lawsuit threatened to defeat this legislation by setting a veil-piercing standard of contributory liability on directors and shareholders who exercised control over the DCI. The specter of such liability would likely leave DCIs unfunded and send their key principals running for safer positions.

Assuming Congress never extends the Section 512 Safe Harbor to directors, officers and shareholders of DCIs, they will need to rely on fact-specific decisions like Shelter Capital Partners for protection from secondary or contributory copyright infringement liability. This makes sense, as it seems to provide extra incentive to control persons to make sure their DCI qualifies for the Section 512 Safe Harbor in the first place.