File-sharing decision raises questions about third-party liability.

In a ruling that could have liability implications for a host of technology firms and their insurers, the U.S. Supreme Court ruled unanimously that providers of file-sharing software and networks could be held responsible for their users' unauthorized exchange of copyrighted materials.

The court ruled unanimously that a prior 1984 high court decision insulating Sony Corp. from liability for copyright infringement by users of its Betamax video recorders didn't apply in cases where the "intent" of the technology was to facilitate unlawful exchanges. The June 27 ruling reversed a decision by the 9th U.S. Circuit Court of Appeals, as well as an earlier ruling by a district court granting summary judgment to so-called "peer-to-peer" networking firms Grokster Ltd. and StreamCast Networks Inc. in suits brought by the recording and motion picture industries.

While the lower courts had relied on the standard illuminated in the Sony vs. Universal Studios case that providers of a product or service that could be used to infringe copyright protections weren't liable so long as their product or service also had "substantial noninfringing uses," the Supreme Court found that Grokster and StreamCast--makers of the Morpheus file-sharing service--profited from promotion of their products as allowing illegal file-sharing, and that the firms didn't take reasonable steps to reduce infringing uses.

The decision didn't overturn the Sony ruling but appeared to agree substantially with an amicus brief filed by a number of noted economists--including Nobel Prize winners Kenneth Arrow and Gary Becker--that argued the lower courts' "narrow interpretation" of the Sony decision "gives manufacturers no incentive to deter infringement even when deterrence could be accomplished at low cost and without any significant interference with non-infringing uses."

"If firms that produce peer-to-peer technology know that they are completely immune from liability as long as their technology makes possible some qualifying amount of noninfringing use, they will have no incentive to attempt to discourage infringing uses even if the costs of doing so are very low," the economists wrote. "By offering blanket immunity the moment a firm can demonstrate sufficient legitimate use, the rule completely destroys any incentive for the firm to do better."

The case was brought by 28 entertainment companies, including such motion picture industry plaintiffs as Metro-Goldwyn-Mayer Studios, Disney Enterprises, Time Warner Entertainment and Twentieth Century Fox Film Corp., as well as such recording industry plaintiffs as Arista Records, Bad Boy Records, Elektra Entertainment, Motown Records, BMG Entertainment, Sony Music Entertainment Inc. and Virgin Records America.

It was watched closely not only in Hollywood and Silicon Valley, but also by intellectual property attorneys and liability insurers. T.R. Franklin, a vice president with the Internet, tech and media unit of professional liability underwriter and managing general agent Euclid Managers LLC, said after the ruling that it "has not been a good day for developers of technology."