Intellectual Property Licenses in Bankruptcy

In bankruptcy proceedings, a business’s assets—including executory contracts—are pooled together to create a bankruptcy estate. Executory contracts are contracts requiring on-going performance by both parties such that if one party does not perform, then that party commits a material breach of the contract.

License agreements for intellectual property normally constitute executory contracts, because performance remains for both the licensor and the licensee of license agreements through the term of the license. The Bankruptcy Code defines intellectual property as trade secrets, patents, patent applications, plant varieties, copyrights, and mask works. Notably missing from that list are trademarks, trade names, and service marks.

What can a business do with an intellectual property license covered under the Bankruptcy Code when declaring bankruptcy? Whether the business is the licensee or licensor determines what options are available for the debtor.

If the debtor in bankruptcy is the licensor of a license agreement, then the trustee of the debtor-licensor’s bankruptcy estate can either reject the agreement or assume the contract with the approval of the bankruptcy court. By rejecting the contract, the trustee gives the non-debtor-licensee the option to terminate the agreement, with or without seeking damages. By assuming the contract, the trustee continues to perform under the contract, but must first complete the specific requirements for assuming a contract under the Bankruptcy Code.

If the debtor in bankruptcy is the licensee of a license agreement, the trustee of the debtor-licensee’s bankruptcy estate can reject the contract, assume the contract, or assign the contract to a third party. Similarly to assuming a contract, assigning a contract can only be done by completing specific requirements under the Bankruptcy Code.

What about licensees not covered under the Bankruptcy Code: licensees of trademarks, trade names, and service marks? In 1985, the Fourth Circuit decided in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., to defer to a debtor-licensor’s decision whether to reject a license agreement, giving the debtor-licensor great power over the non-debtor-licensee. The Fourth Circuit held that while the non-debtor-licensee could seek money damages, the non-debtor-licensee could not seek specific performance of the agreement. This puts licensees at high risk of losing their licenses upon a licensor’s bankruptcy.

Congress combatted the Lubrizol decision by enacting Section 365(n) of the Bankruptcy Code, somewhat balancing the scales between debtor-licensors and non-debtor-licensees. Upon rejection of a license agreement by a debtor-licensor, Section 365(n) gives the non-debtor-licensee the right to treat the license as terminated and pursue a claim for damages or retain its rights under the license but waive a claim for damages. However, Section 365(n) only applies to “intellectual property” licenses as defined under the bankruptcy code – and does not include trademarks.

In 2012, the Seventh Circuit revisited the Lubrizol decision in Sunbeam Products, Inc. v. Chicago American Manufacturing. There, the Seventh Circuit held that a debtor-licensor’s rejection of a trademark license agreement does not terminate the non-debtor-licensee’s rights under the agreement. While Sunbeam gives more power to the non-debtor-licensee of a trademark license agreement, the decision creates a conflict between the circuit courts.

Congress may, again, attempt to resolve this conflict. H.R. 9, a House of Representatives bill referred to as the Innovation Act, was introduced in the House on February 5, 2015, and is currently the subject of Committee Hearings. The bill seeks to amend Section 365(n) of the Bankruptcy code to include trademarks, service marks, and trade names. This would provide for trademark licenses to be retained, instead of voided in bankruptcy. We will keep you posted!

If you have a concern, question, or if you would like additional information about intellectual property licenses in bankruptcy, e-mail or call one of our Intellectual Property Team members at (920) 437-0476.

Written By:
Law Firm of Conway, Olejniczak & Jerry, S.C.