Is a trademark licensee out of luck if a bankrupt licensor rejects its license agreement in a Chapter 11 proceeding? The Supreme Court will resolve a circuit court split on the question after granting certiorari in Mission Product Holdings, Inc. v. Tempnology, LLC.
The possibility that a trademark licensee may lose its rights if the trademark owner files for bankruptcy is one that licensees should prepare for when negotiating and drafting such agreements, says Michelle Zimmermann, a shareholder in Leydig’s Chicago office.
“If the Court affirms the First Circuit and finds that trademark license rights terminate upon rejection in bankruptcy, a licensee could see its entire business model suddenly upended without warning or recourse,” she says. “License agreements should include notice provisions regarding a licensor’s potential insolvency so the licensee has time to prepare for that outcome.”
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At issue is Section 365 of the Bankruptcy Code. Section 365(a) allows a debtor in a Chapter 11 bankruptcy to “reject” executory contracts as part of its reorganization efforts. Such rejections are treated as breaches of contract with the effect of such breaches being the same as they would be under non-bankruptcy law.
Section 365(n) carves out an exception to a debtor’s broad rejection authority by limiting the right of a debtor to terminate certain enumerated intellectual property licenses, including those involving trade secrets, patents, and copyrights. Trademarks are notably not included in the list of protected intellectual property under that section.
After Tempnology filed for Chapter 11 bankruptcy protection, it rejected several contracts, including a trademark license agreement with Mission. After Mission objected to the rejection, the bankruptcy court concluded the rejection terminated Mission’s rights because Congress excluded trademarks from intellectual property protected under Section 365(n).
The Bankruptcy Appellate Panel reversed, however, relying on the U.S. Court of Appeals for the Seventh Circuit’s decision in Sunbeam Products, Inc. v. Chicago American Manufacturing. Noting that a licensor’s breach of contract does not necessarily terminate a trademark licensee’s rights, the Seventh Circuit concluded in Sunbeam that since Section 365(g) deems a rejection to be a breach of contract, a licensee’s rights survive that rejection.
Ruling on Mission’s appeal, the U.S. Court of Appeals for the First Circuit saw things differently. In affirming the bankruptcy court’s initial decision, the First Circuit adopted the view of the Fourth Circuit by deciding that the effect of trademarks’ omission from 365(n) is the termination of a licensee’s rights to continue using the licensed mark upon rejection.
While it is unclear how the Supreme Court will resolve the divergent holdings on the issue, Stella Brown, an associate in Leydig’s Chicago Office, believes the Court may find one aspect of the First Circuit’s reasoning particularly compelling.
“A trademark licensor has on ongoing obligation to monitor and oversee the licensee’s use of its mark to prevent dilution or the abandonment of its mark,” she says. “As the First Circuit noted, imposing these continuing – and often costly – burdens on a bankrupt licensor seems contrary to the whole idea of rejection, which is to free a debtor from such burdens to facilitate a successful reorganization.”
