Supreme Court Is Asked To Leave Its Mark On Trademark Licensee’s Rights in Bankruptcy

The Bottom Line

We previously blogged (see blog dated February 20, 2018) about the First Circuit’s decision in Mission Product Holdings, Inc. v. Tempnology, LLC (In re Tempnology, LLC), 879 F.3d 389 (1st Cir. 2018), affecting the rights of a non-debtor trademark licensee following rejection of the trademark agreement by the debtor.  The First Circuit ruled against the non-debtor licensee, holding that the Bankruptcy Code’s protections under section 365(n) do not apply.  On June 11, 2018, the trademark licensee filed a petition for certiorari with the Supreme Court, seeking cert on two questions: (1) whether a debtor-licensor’s rejection of a license agreement under Section 365 of the Bankruptcy Code terminates the rights of the licensee that would survive the licensor’s breach under applicable non-bankruptcy law, and (2) whether an exclusive right to sell certain products practicing a patent in a particular geographic territory is a “right to intellectual property” under Section 365(n). If the Supreme Court grants cert, it could resolve the circuit split over whether Section 365(n) allows a trademark licensee to retain its rights to use the trademark post-rejection.

What Happened?

The Debtor made specialized products designed to remain at low temperatures even when used during exercise. A significant intellectual property portfolio supported the Debtor’s products, including, for example, patents and registered trademarks. Mission Product Holdings, Inc. (“Mission”) and the Debtor were parties to a Co-Marketing and Distribution Agreement (the “Agreement”). The Agreement granted Mission: (i) a non-exclusive, worldwide, perpetual license to use all of the Debtor’s products, inventions, and designs and all of its intellectual property rights (excluding trademarks and domain names) with respect thereto; (ii) a non-exclusive, worldwide license to use the Debtor’s trademarks on its products that Mission distributed for the term of the Agreement; and (iii) the exclusive right to sell certain products within the United States. The Debtor-licensor sought to reject the Agreement pursuant to Section 365(a) of the Bankruptcy Code. Mission, the licensee, objected to the rejection, arguing that Section 365(n) allowed it to retain both its trademark license and its exclusive distribution rights. 

By way of background, under Section 365(n) of the Bankruptcy Code, despite contract rejection, a licensee may elect to “retain its rights (including a right to enforce any exclusivity provision of such contract . . . ) under such contract and under any agreement supplementary to such contract, to such intellectual property (including any embodiment of such intellectual property to the extent protected by applicable nonbankruptcy law).”  11 U.S.C. § 365(n)(1)(B). 

The bankruptcy court granted the Debtor’s motion to reject, subject to the licensee’s election to preserve its rights under Section 365(n).  The Debtor then moved for a determination of the scope of Mission’s rights under Section 365(n) post-rejection. The bankruptcy court held that rejection terminated Mission’s trademark and exclusive distribution rights.  The licensee appealed to the Bankruptcy Appellate Panel for the First Circuit (the “BAP”).  The BAP affirmed the holding that the licensee could not retain its exclusive distribution rights but reversed as to the licensee’s trademark rights, following the Seventh Circuit’s ruling in Sunbeam Products, Inc. v. Chicago American Manufacturing, LLC, 686 F.3d 372 (7th Cir. 2012). The Debtor appealed to the First Circuit.

The First Circuit affirmed the bankruptcy court in full. First, the court found that rejection terminated Mission’s exclusive distribution rights, reasoning that the protection of Section 365(n)(1)(B) is limited to exclusivity provisions related to intellectual property and does not extend to exclusive distribution rights. Next, regarding the trademark rights, the panel split 2-1 with the majority holding that rejection terminated the licensee’s rights. In so holding, the First Circuit refused to follow the Seventh Circuit’s decision in Sunbeam, and held that rejection stripped the licensee of its rights to use the Debtor’s trademarks and left it with only a pre-petition damages claim. Mission filed the petition for cert with the Supreme Court.

Turning first to the trademark license issue, Mission requests that the Supreme Court grant cert to resolve the circuit split over whether rejection terminates a licensee’s rights. With its decision in Tempnology, the First Circuit aligned itself with the Fourth Circuit, which held in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir. 1985), that a debtor-licensor’s rejection of an agreement to license intellectual property terminated the licensee’s rights to continue using the intellectual property. Congress enacted Section 365(n) in response to Lubrizol, explaining that Section 365 was not intended to be a way to strip a licensee of its rights. Since Section 365(n)’s enactment, courts have divided on whether Lubrizol’s reasoning applies to trademarks or other rights not expressly protected by Section 365(n).  For example, on the other side of the circuit split is the Seventh Circuit, which in Sunbeam held that the rejection of a trademark license does not strip the licensee of its right to use the trademark. The Seventh Circuit reasoned that a trademark licensee’s rights were not necessarily eliminated upon rejection because Section 365(g) deems the effect of rejection to be a breach of contract, and a licensor’s breach of a trademark agreement outside of bankruptcy does not necessarily terminate the licensee’s rights.

Mission argues that the First Circuit’s ruling in Tempnology is wrong because as the Seventh Circuit held in Sunbeam, rejection of an executory license agreement does not terminate a licensee’s rights.  Mission notes that the rule under Lubrizol, embraced by the First Circuit, has been criticized as misconstruing rejection as an “avoiding” power that enables the debtor to undue a deal that was completed pre-petition.  Mission also argues that the omission of trademark licenses from the definition of “intellectual property” set forth in Section 101(35A) of the Bankruptcy Code does not create any inference that trademark rights do not survive rejection. Finally, Mission argues that this question is of great importance and is ripe for review. Specifically, Mission contends that under the First Circuit rule, a licensee who contracts with a financially unstable licensor risks losing the benefit of its bargain if that licensor files for bankruptcy and rejects the license. Accordingly, licensees need to account for that risk and resolution of this question will allow commercial actors to conform their behavior to a settled rule of law.

Turning to the second question presented – whether an exclusive right to sell patented products is a “right to intellectual property” under Section 365(n) – Mission argues that the First Circuit erred by narrowly construing the “right[s] to intellectual property” covered by Section 365(n). Mission contends that the First Circuit incorrectly concluded that the right to sell a patented product is not included in the definition of intellectual property and that Mission’s exclusive distribution rights could not be an intellectual property right because its license was limited to a particular field of use. Mission argues that under the plain text of the Bankruptcy Code and the Patent Act, the right to sell a patented invention is a right to intellectual property. “Intellectual property” is defined under Section 101(35A) to include any “invention, process [or] design . . . protected under title 35” (the Patent Act). Mission states that a key attribute of a patent is the right to sell the patented invention and exclude others from doing so. Accordingly, Mission contends that because the patentee has the right to exclude others from selling its invention, any grant of rights to another party to sell that invention is a right to intellectual property within the meaning of Section 365(n).  Mission contends that the exclusive right to practice a patent within a particular field of use is a well-recognized type of intellectual property right and is entitled to protection under Section 365(n). Finally, Mission contends that the First Circuit’s narrow interpretation eviscerates the protections Congress intended to grant to intellectual property licensees.

Why This Case Is Interesting

The circuit split on whether a trademark licensee retains rights post-rejection has heated up in recent months with the Bankruptcy Court for the District of Connecticut in In re Sima Int’l, Inc., Case No. 17-21761, 2018 WL 2293705 (Bankr. D. Conn. May 17, 2018), aligning with the Seventh Circuit and permitting a trademark licensee to retain rights post-rejection. For certain distressed businesses, trademarks can be a valuable right.  Because of the current circuit split, the treatment of this potentially valuable property right varies depending on where a case is filed.  Accordingly, licensees are left unsure knowing how to protect against the risks that a licensor may file for bankruptcy and reject the license. Resolution of this question could eliminate that uncertainty.  Such a resolution would also help economically distressed licensors, as if there is a set rule of law, licensees will perhaps be more willing to bargain with them because the licensee can protect its rights in other ways.  There is however, no circuit split on the exclusivity rights issue. Therefore, the court could grant cert but limit its review to the trademark licensee issue.