In Design v. K-Mart Apparel Corp., K-MART

• Decision Date: 05 January 1994
• Docket Number: 841,Nos. 703,K-MART,D,s. 703
• Citation: 13 F.3d 559,29 USPQ2d 1356
• Parties: 1994 Copr.L.Dec. P 27,198, 29 U.S.P.Q.2d 1356 IN DESIGN, also known as Hukafit Sportswear, Inc., Plaintiff-Appellee-Cross-Appellant, v.APPAREL CORP., Defendant-Third-Party-Plaintiff-Appellant-Cross-Appellee, Selective Knitwear, Incorporated, Third-Party-Defendant-Appellant. ockets 92-7779, 92-7841.
• Court: U.S. Court of Appeals — Second Circuit

Page 559

13 F.3d 559

1994 Copr.L.Dec. P 27,198, 29 U.S.P.Q.2d 1356

IN DESIGN, also known as Hukafit Sportswear, Inc. Plaintiff-Appellee-Cross-Appellant, v. K-MART APPAREL CORP. Defendant-Third-Party-Plaintiff-Appellant-Cross-Appellee Selective Knitwear, Incorporated, Third-Party-Defendant-Appellant.

Nos. 703, 841, Dockets 92-7779, 92-7841.

United States Court of Appeals Second Circuit.

Argued Jan. 11, 1993.

Decided Jan. 5, 1994.

Stuart E. Abrams, New York City (Sandor Frankel, Bender & Frankel, New York City, of counsel), for K-Mart Apparel Corp.

George Gottlieb, New York City (John R. Mugno, Gottlieb, Rackman & Reisman, New York City, of counsel), for In Design.

Before: VAN GRAAFEILAND, CARDAMONE and JACOBS, Circuit Judges.

CARDAMONE, Circuit Judge:

This appeal involves concepts of copyright law and retail business practices. K-Mart Apparel Corp. (K-Mart), the well-known discount retailer, was held liable for copyright infringement because it sold certain sweaters bearing the copyrighted "Damask" design. A trial was then held on the amount of damages it owed to In Design, also called Hukafit Sportswear, Inc. (Hukafit), the copyright holder. The trial resulted in an amended judgment for over $630,000 against K-Mart. It is from this judgment that K-Mart appeals and Hukafit cross-appeals.

One of the principal questions before us is what an infringer may properly claim as deductible expenses from gross revenues derived from the sale of an infringing item. K-Mart regularly employs a policy of markdowns as part of the logistics of moving manufactured goods to its customers in a timely and cost-efficient manner, to keep inventories low, to make room on its shelves, and to prevent the supply pipeline from becoming plugged. It tried unsuccessfully to demonstrate how this policy reduced its revenues on some of the 52,800 copyrighted sweaters sold at an initial retail selling price of $19.97. This practice of retail discounting, which is well-known to shoppers, was not included in the district court's computation of damages. For this and several other reasons explained below, the case must be remanded.

BACKGROUND

Hukafit commenced this copyright infringement action against K-Mart on November 25, 1987 in the United States District Court for the Southern District of New York before Judge Kenneth Conboy, claiming that the retailer was selling a sweater bearing a design copyrighted by Jeffrey Rogers Knitwear Productions, Ltd. (Rogers Knitwear), and exclusively licensed by it to Hukafit in 1984. Hukafit had sold sweaters bearing the Damask design until 1986. In September 1987 K-Mart purchased from a wholesale supplier named Selective Knitwear, Inc. (Selective) 52,800 garments with the same design. K-Mart then sold the sweaters nationwide for at least 11 weeks from November 7, 1987 through January 23, 1988 in its 2,200 stores.

Hukafit had first notified K-Mart of the claimed infringement on November 3, 1987. Upon learning of this claim, K-Mart and its counsel investigated the matter and concluded that K-Mart was not infringing. It continued therefore to sell the Damask design sweaters. Several weeks later the instant litigation began. K-Mart then sued its supplier, Selective, in a third-party indemnity action because Selective had agreed to indemnify K-Mart for all costs and damages it might incur as a result of the Hukafit suit.

The parties agreed to a bifurcated bench trial on the issues of liability and damages. In an opinion and order dated May 14, 1991 Judge Conboy found K-Mart liable for copyright infringement in violation of 17 U.S.C. Sec. 501 (1988 & Supp. II 1990). He further found that Hukafit was a valid licensee of the Rogers Knitwear copyright, and rejected Selective's three affirmative defenses purporting to explain the origin of the design on its similar sweaters. Although the district court found K-Mart liable for copyright infringement, it expressly reserved decision on whether the infringement was willful until the damages phase of the proceedings.

A bench trial on damages held in September, 1991 resulted in a March 10, 1992 order directing K-Mart to pay Hukafit $560,245.59 in damages. This sum represented K-Mart's profits before taxes on the Damask sweaters. K-Mart's November 1987 investigation of the Hukafit claim was reviewed by the trial court, which found the legal advice given to K-Mart, based on the facts then known, was carefully prepared and that K-Mart was justified in relying upon it. The district court also ruled that two previously settled infringement actions by Hukafit against K-Mart were irrelevant to the issue of willful infringement. The district judge then ruled K-Mart not to be a willful infringer and declined to award Hukafit attorneys' fees or prejudgment interest. Judgment on these findings was entered on March 26, 1992.

Hukafit and Selective each moved for reconsideration of the damage award. On June 9, 1992 the district court reaffirmed its findings concerning the profits K-Mart earned from the sale of the sweaters, but corrected a mathematical error it had made that had overstated the damages owed by K-Mart in the amount of $77,473.05. The error resulted when the court applied an overhead deduction figure of 26.89 percent to K-Mart's gross profits ($766,305) instead of to K-Mart's gross sales ($1,054,416). The trial court then awarded Hukafit attorneys' fees and costs in the amount of $150,000 based upon its revised finding that "K-Mart and Selective have protracted this action by several years through the interposition of bogus defenses, a direct consequence of which conduct has been large and necessary legal bills infl[ic]ted upon Hukafit."

An amended judgment entered on June 24, 1992 awarded Hukafit total damages of $632,772.54 against K-Mart. From this judgment K-Mart appeals, no longer disputing liability for infringement, but instead contending that the district court erroneously calculated its profits because it failed to use the actual wholesale price or the proper retail price of the sweaters after sales and markdowns, and because it failed to take into account K-Mart's tax expense as an item that reduced its profits. K-Mart also contests the $150,000 award of attorneys' fees to Hukafit, in light of the fact that the district court had not altered its original finding that K-Mart was not a willful infringer. Hukafit cross-appeals challenging the amount of the damage award, which it believes was based on an inflated overhead figure proffered by K-Mart, and because the judgment does not award it prejudgment interest.

DISCUSSION

I Determination of K-Mart's Profits

Section 504(b) of the Copyright Act provides that a "copyright owner is entitled to recover the actual damages suffered by him or her as a result of the infringement, and any profits of the infringer that are attributable to the infringement." 17 U.S.C. Sec. 504(b) (1988). Because Hukafit stopped selling its Damask sweaters a year before K-Mart began selling them in 1987, the copyright holder did not seek actual damages, typically the reduced market value of the copyrighted work, see 3 Melville B. Nimmer & David Nimmer, Nimmer on Copyright, Sec. 14.02[A] (1993), but sought instead to recover K-Mart's profits attributable to the infringing sale of Damask sweaters.

Under Sec. 504(b) the copyright holder initially must present proof of the infringer's gross revenue. See 17 U.S.C. Sec. 504(b). The burden of going forward then shifts to the infringer "to prove his or her deductible expenses and the elements of profit attributable to factors other than the copyrighted work." Id. Computations of gross revenues, expenses and profits present questions of fact, see Sheldon v. Metro-Goldwyn Pictures Corp., 309 U.S. 390, 409, 60 S.Ct. 681, 688, 84 L.Ed. 825 (1940), to be decided by the trial court, subject on appeal to the clearly erroneous standard of review, see Business Trends Analysts, Inc. v. Freedonia Group, Inc., 887 F.2d 399, 404 (2d Cir.1989). Since the term "profit" is not defined in the Copyright Act, the word has been assigned its usual meaning, such as the excess of return over expenditures realized from the conduct of a business or the gain derived from an investment represented by the difference between its selling price above its cost. See MCA, Inc. v. Wilson, 677 F.2d 180, 186 (2d Cir.1981). We address in turn K-Mart's and Hukafit's challenges to the trial court's profit calculation.

A. Sweater Retail Price

Hukafit presented evidence that the 52,800 sweaters were offered for sale at an initial retail price of $19.97 per sweater. The trial court multiplied these two numbers to find that K-Mart's gross revenue on the sale of the sweaters was $1,054,416. K-Mart offered evidence that due to sale prices and markdowns many of the sweaters sold at prices substantially lower than $19.97 each. According to the retailer, its gross revenue from the Damask sweaters only amounted to $901,915. The trial court refused to consider this evidence. K-Mart contends that the district court erroneously placed the burden of proving gross revenue as required by Sec. 504(b) on K-Mart, and insists that its evidence of reduced sweater prices was the only proof offered on the issue of gross revenue so it must be credited. K-Mart also asserts that it was error for the trial court to refuse to consider its evidence of markdowns.

We address these arguments in turn. Hukafit presented a prima facie case when it established the number of sweaters sold and their initial retail price. The copyright holder cannot realistically be required to offer more proof than this since the facts and figures of the sales and markdowns is a subject exclusively within the infringer's knowledge. Once a prima facie case of gross revenue was established, the burden shifted to K-Mart to prove its deductible expenses. See 17 U.S.C. Sec. 504(b). In discharging that burden it is not necessary for K-Mart's proof to be precise and perfect...