05 Dec Bankruptcy of A Licensor: What are the risks?
The definition of “intellectual property” in Section 11 U.S.C § 101(35A) of the Bankruptcy code omits ‘trademarks’ from its scope. This omission has caused a split amongst the Circuit courts as to the rights of a trademark licensee when its licensor declares bankruptcy. Under 11 U.S.C. § 365(a), the trustee or debtor-in-possession has the right under to reject contracts, allowing it to purge itself of contractual obligations that will hinder reorganization. In this case, the rejected contract is considered breached, but the breaching party cannot be forced to perform the contract. In 1988, Congress codified an exception at 11 U.S.C. § 365(n), such that if the debtor rejects an intellectual property license, the licensee may elect to “retain its rights” for the duration of the contract and continue to perform under the license. However, while the definition of “intellectual property” covered by this exception includes patents, patent applications, copyrights, trade secrets, plant varieties, and even “mask work,” it specifically does not include trademarks. The only insight into the reasoning behind this exception is a Senate Report that noted that trademark licensing relationships rely to a large extent on the notion that the licensor has supervision or control over the quality of the products sold by the licensee under the mark, and then postponed a decision on the issue of Trademarks.
In Sunbeam Products, Inc. v. Chicago American Manufacturing, LLC, 686 F.3d 382 (7th Cir. 2012), Lakewood Engineering entered into an agreement with Chicago American Manufacturing to provide box fan motors and licensed the LAKEWOOD mark, because it was losing money on its sales of box fans. Sunbeam Products purchased the Lakewood assets when Lakewood’s creditors forced it into involuntary bankruptcy, and then rejected the agreement with Chicago American. Chicago American kept making the fans and kept using the LAKEWOOD mark. The bankruptcy judge held that the Senate Report’s reference to “equitable treatment’ suggested that Chicago American could keep using the Lakewood marks on “equitable grounds”, and ruled accordingly. The Seventh Circuit rejected the application of equity but held that just because a license is rejected in bankruptcy, the licensee’s rights have not been “vaporized,” but rather the contract has been breached by the licensor. The Seventh Circuit further held that such breach does not automatically “terminate a licensee’s right to use intellectual property.” Therefore, Chicago American could continue to use the LAKEWOOD mark.
Mission Product Holdings, Inc. v. Tempnology, LLC (In re Tempnology, LLC), 879 F.3d 389 (1st Circ. 2018) addressed a very similar set of fact but came to the opposite conclusion on the ruling. Tempnology, LLC, doing business under the DR. COOL and COOLCORE marks, made cooling fabric sports accessories. Tempnology licensed certain intellectual property to Mission Products, including trademark and patent rights, as well as exclusive distribution rights. After Tempnology filed for bankruptcy protection, the debtor-in-possession of the Tempnology estate rejected that license. The First Circuit agreed with the Seventh Circuit that rejection of the license does not “vaporize” the licensee’s rights, but held that the licensee’s rights are converted to a pre-petition damages claim, and they cannot continue to use the mark. Thus Mission Products could not continue to use the DR. COOL and COOLCARE marks.
On June 11, 2018, Mission Products filed a petition for writ of certiorari. The petition urges the Supreme Court to follow the Seventh Circuit’s approach, and resolve the split created by the First and Seventh Circuit and widened by a Third Circuit concurring opinion in In re Exide Techs., 607 F.3d 657 (3d Cir. 2010), suggesting that extending the protections under Section 365(n) to trademark licenses may be appropriate under equitable principles. Given the possible significant effects of the Supreme Court’s decision in this matter, it is important for trademark licensees to be aware of their rights under their license agreements as well as having legal considerations in place for how the loss of such licenses could affect their business.
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