In the Red – The Business Bankruptcy Blog

In the Red – The Business Bankruptcy Blog

The Business Bankrupty Blog

What Did The ABI Chapter 11 Commission Recommend On Intellectual Property Licenses And Bankruptcy Issues?

Posted in Business Bankruptcy Issues, Recent Developments

3089698096_e33b630292_z

The American Bankruptcy Institute‘s Commission to Study the Reform of Chapter 11 issued its report last week, capping more than two years of hearings, meetings, and hard work. Having had the honor of testifying before the Commission on intellectual property and bankruptcy issues at one of its hearings in New York in June 2013, I wanted to take a closer look at its intellectual property recommendations when a licensor or licensee files bankruptcy.

You can download the Commission’s entire report for all the details, but the Commission’s main IP recommendations address five key issues:

  1. Should rejection of an intellectual property license under Section 365(g) terminate an IP licensee’s rights to the IP (absent Section 365(n) protection);
  2. Should a bankrupt licensee or trustee be able to assume an in-bound IP license;
  3. Should a bankrupt licensee or trustee be able to assign an in-bound IP license;
  4. Should Section 365(n) expressly cover foreign IP when a licensor is in bankruptcy; and
  5. Should trademarks be covered by Section 365(n)’s protections when a licensor is in bankruptcy?

Let’s examine the Commission’s recommendations on each in turn.

The Consequences Of Rejection. A threshold issue addressed was the proper impact of rejection of an executory contract, including an intellectual property license, under Section 365(g). The Commission recommended that rejection end a non-debtor counterparty’s right to continued use of property of the estate, subject to specific protections such as Section 365(n). In doing so, it appeared to follow the long-standing Fourth Circuit decision in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir. 1985) and not the Seventh Circuit’s more recent decision in Sunbeam Products, Inc. v. Chicago American Manufacturing, LLC,  686 F.3d 372 (7th Cir. 2012). As a side note, the Commission also recommended that all IP licenses be deemed executory. In combination, these positions would make the scope of Section 365(n) even more important and, as we will see on the final two questions, the Commission had a series of specific recommendations on Section 365(n) protections.

Resolving The Hypothetical/Actual Test Issue. A key question that arises when a licensee files bankruptcy is whether the debtor licensee can assume an in-bound license of another party’s intellectual property. The circuits have split on this “hypothetical vs. actual test” reading of Section 365(c)(1) and the Commission sided squarely with the actual test when a debtor in possession, as licensee, proposes to assume but not assign an IP license. The Commission believed a licensor would be receiving the benefit of its bargain in that situation since the debtor in possession as licensee would be assuming, and therefore continuing to perform under, the license. This makes sense for a debtor in possession, but the Commission’s recommendation speaks of the right of a “trustee” to assume a license, which would introduce a new party (the trustee) in the role of licensee. Although a full discussion of this “hypothetical vs. actual test” split is beyond the scope of this post, you can read about it — and the Supreme Court’s interest in the issue a few years ago– in this earlier post discussing the issues, or of course in the Commission’s report.

Making IP Licenses Assignable To Non-Competitors. In addition to voting to codify the actual test when a debtor in possession or trustee proposes to assume an IP license, the Commission also recommended that debtor licensees and their trustees be permitted to assign those licenses to a single assignee under Section 365(f), notwithstanding applicable nonbankruptcy law such as federal patent, copyright, or trademark law, or any contrary provision in the license.

  • If the proposed assignee is a competitor of the licensor or an affiliate of such competitor, the Commission recommended that the bankruptcy court be permitted to deny the assignment if it determined, after notice and a hearing, that the harm to the nondebtor licensor resulting from the proposed assignment “significantly outweighs the benefit to the estate derived the assignment.”
  • The burden of proof would be on the nondebtor licensor in such a hearing.
  • If adopted, this would make in-bound IP licenses more assignable in bankruptcy than out, similar to non-residential real property leases, and licenses could potentially become a source of value for creditors.
  • However, even if owners of patents, copyrights, and trademarks could accept adoption of the actual test for assumption of IP licenses, they might have a harder time giving up control over whether and to whom licenses of their IP could be assigned.

The Foreign IP Issue. Section 101(35A) of the Bankruptcy Code defines “intellectual property” for purposes of the protections of Section 365(n), using either general terms or references to provisions of the United States Code. The Commission seemed to believe foreign IP was not covered by the current definitions (although several arguments suggest that it is), and to resolve any uncertainty the Commission recommended that foreign patents and copyrights expressly be included in Section 101(35A)’s definitions. It found no reasonable basis for treating foreign IP differently. In addition, the Commission recommended that foreign trademarks also be included in this definition subject to the same limitations and conditions, discussed below, as it proposed should apply to domestic trademarks.

Giving Trademark Licensees Protections Under Section 365(n). An important recent trend at the intersection of IP and bankruptcy law has been the efforts of courts to protect trademark licensees from the effects of rejection of their licenses by trademark licensors in bankruptcy. The Third, Seventh, and Eighth Circuits have sided with trademark licensees in recent cases, and a New Jersey bankruptcy court recently went so far as to extend Section 365(n) protections to trademark licensees on equitable grounds. In addition, the House of Representatives (but not the Senate) passed the Innovation Act, which would have added trademarks to Section 101(35A) and therefore grant them Section 365(n) protection. Addressing this issue, the Commission recommended the following:

  • Trademarks, service marks, and trade names as defined in Section 1127 of Title 15 of the U.S. Code should be added to the definition of Section 101(35A).
  • If the trustee or debtor in possession rejects a license of a trademark, service mark, or trade name, Section 365(n) would apply with certain modifications. First,  the nondebtor licensee would be required to comply with the license and related agreement, including with respect to (i) the products, materials, and processes the license permitted or required, and (ii) its obligations to maintain sourcing and quality of the licensed products or services. The trustee (or debtor in possession) should maintain the right to oversee and enforce quality control but without any continuing obligation to provide further products or services.
  • The concept of “royalty payments” would be expanded to include “other payments” contemplated by the license of the trademark, service mark, or trade name.

These trademark recommendations are similar to the Innovation Act’s provisions and, as such, might find support in Congress.

Conclusion. The ABI’s Chapter 11 Commission has presented a comprehensive set of recommendations on many fundamental aspects of Chapter 11. In its intellectual property recommendations, the Commission tackled some of the most common bankruptcy and IP issues being litigated today. If enacted by Congress, its recommendations would resolve circuit splits, clarify licensee and licensor’s rights in bankruptcy, and squarely extend protection to trademark licensees. Whether or not you agree with every recommendation, the Commission should be commended for its serious, thoughtful, and diligent effort to improve Chapter 11 for debtors, creditors, and the general public.

Image Courtesy of Flickr by O Palsson

Amendments To The Federal Rules Of Bankruptcy Procedure, Including One Shortening The Time For Serving A Summons, Take Effect December 1, 2014

Posted in Business Bankruptcy Issues, Recent Developments

Summons2 IMG_2094

Almost every year, changes are made to the set of rules that govern how bankruptcy cases are managed — the Federal Rules of Bankruptcy Procedure. The changes address issues identified by an Advisory Committee made up of federal judges, bankruptcy attorneys, and others.

Rule Amendments. This year the rule amendments, which go into effect on December 1, 2014, mainly address bankruptcy appeals, as well as an important one on service of a summons (discussed below).

  • Follow this link for a copy of the amendments, in both clean and redline, together with the transmittal letters and helpful Advisory Committee comments.  
  • This year’s rule changes include revisions to the Federal Rules of Appellate Procedure governing bankruptcy appeals, including direct appeals from a district court exercising bankruptcy jurisdiction, rule and form revisions regarding elections to appeal to a bankruptcy appellate panel or a district court, rules favoring the use of electronic notice in bankruptcy appeals, the impact on a bankruptcy appeal of a post-judgment motion for a new trial or to amend a judgment, and technical amendments to implement these revisions. 

No Waiting On Service Of A Summons. Aside from the appeals-related amendments, one rule change will impact every bankruptcy lawyer that files an adversary proceeding, the bankruptcy term for a lawsuit filed within a bankruptcy case.

  • Federal Rule of Bankruptcy Procedure 7004(e) has been revised to require service of a summons in an adversary proceeding within seven days of its issuance, cutting in half the fourteen day time period that had previously been permitted.
  • Although nationwide service of process via U.S. mail is still allowed as before, the summons and complaint will need to be served promptly after issuance of the summons. Otherwise, the originally issued summons will become “stale” — meaning ineffective — and a new summons will have to be issued and promptly served.
  • Why the change? In adversary proceedings, Federal Rule of Bankruptcy Procedure 7012(a) provides that a defendant has 30 days from the date the summons is issued to respond, not from the date of service. The rule change will give defendants an extra week, give or take depending on the mail, to respond to a complaint.

Revised Bankruptcy Forms And Fees. To implement the rule amendments, several national bankruptcy forms will also be revised. Copies of the revised bankruptcy forms are available at the link in this sentence, and you should also check your local bankruptcy court’s website for local rule and form revisions. There are also fee changes, specifically, the fee for direct appeals from the bankruptcy court to the court of appeals goes up, and a new $25 fee kicks in for redacting documents previously filed in a bankruptcy case.

The Trend Of Protecting Trademark Licensees In Bankruptcy Continues: For The First Time A Court Extends Section 365(n) Protections To Trademark Licensees On Equitable Grounds

Posted in Business Bankruptcy Issues, Recent Developments

3990917040_5339950e40_z

If you doubted it before, you can stop now. The trend of courts finding ways to protect trademark licensees from the harsh effects of losing their trademark license rights in bankruptcy is in full swing.

The latest example comes in the Crumbs Bake Shop, Inc. Chapter 11 bankruptcy case in New Jersey. On October 31, 2014, Judge Michael B. Kaplan of the U.S. Bankruptcy Court for the District of New Jersey rejected a motion by the buyer of the assets of Crumbs to clarify, among other things, that it purchased the Crumbs trademarks free of trademark licenses previously entered into by Crumbs. In a 22-page revised decision dated November 3, 2014, Judge Kaplan identified three issues facing the court:

I. Whether trademark licensees to rejected intellectual property licenses fall under the protective scope of 11 U.S.C. § 365(n), notwithstanding that “trademarks” are not explicitly included in the Bankruptcy Code definition of “intellectual property”;

II. Whether a sale of Debtors’ assets pursuant to 11 U.S.C. § 363(b) and (f) trumps and extinguishes the rights of third party licensees under § 365(n); and

III. To the extent there are continuing obligations under the license agreements, which party is entitled to the collection of royalties generated as a result of third party licensees’ use of licensed intellectual property.

Let’s examine how the court addressed these three issues, one by one. As discussed below, the court’s Section 365(n) analysis raises the most questions.

Another Lubrizol Rejection. Before turning to the Section 365(n) question, the court first looked at the impact of rejection on an intellectual property license. The court examined the 1985 Fourth Circuit decision in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir. 1985), which held that, upon rejection of a license agreement by a debtor-licensor, the licensee loses its rights to the intellectual property. The Crumbs bankruptcy court stated that it “is not persuaded by the decision.” It cited the Seventh Circuit’s decision in the Sunbeam Products case (which disagreed with Lubrizol‘s interpretation of the effect of rejection under Section 365(g)), and noted that it is “not alone in finding that its reasoning has been discredited.” The Crumbs court decided not to follow Lubrizol but did not adopt the Seventh Circuit’s approach to the issue. Instead, it turned to Section 365(n) and equitable considerations.

Section 365(n) And Trademarks. The court reviewed the language and legislative history of Section 365(n) of the Bankruptcy Code and its companion definition of “intellectual property” in Bankruptcy Code Section 101(35A). Looking at Third Circuit precedent, it examined Judge Ambro’s concurrence in the Third Circuit’s 2010 decision in In re Exide Technologies. The Crumbs court then considered the consequences of the congressional decision not to include trademarks in Section 101(35A)’s definition of intellectual property.

  • Like Judge Ambro in Exide Technologies, the bankruptcy court pointed to the passage in the legislative history of Sections 365(n) and 101(35A) about postponing congressional action on trademark licenses “to allow the development of equitable treatment of this situation by bankruptcy courts.”
  • The Crumbs court stated that reasoning by negative inference — and thereby to hold that Congress’s omission of trademarks from Section 101(35A)’s definition of intellectual property means that Section 365(n)’s protections do not extend to trademarks and trademark licensees lose their rights — would be improper.
  • The court concluded that “Congress intended the bankruptcy courts to exercise their equitable powers to decide, on a case by case basis, whether trademark licensees may retain the rights listed under § 365(n)” and found “it would be inequitable to strip” the trademark licensees “of their rights in the event of a rejection, as those rights had been bargained away by Debtors.”
  • The Crumbs court also commented on the passage of the Innovation Act by the House of Representatives, which if enacted would add trademarks to Section 101(35A)’s definition of intellectual property. While not dispositive, the court noted that the legislation showed that Congress was aware of the prejudice to trademark licensees that would result from the position advanced by the buyer.
  • Without explicitly holding that Section 365(n) itself applies to all trademark licenses, the Crumbs court granted the trademark licensees Section 365(n)’s protections on equitable grounds.

A Closer Look At The Court’s Section 365(n) Analysis. The Crumbs decision appears to be the first holding that Section 365(n)’s protections can be extended to trademark licensees, despite Section 101(35A)’s intentional omission of trademarks. The other courts protecting trademark licensees, including the Third and Eighth Circuits, found the trademark licenses at issue no longer executory, while the Seventh Circuit in Sunbeam Products held that rejecting a trademark license does not terminate the licensee’s IP rights. Although the Crumbs court did not expressly hold that Section 365(n) applies to trademark licenses in all cases, the court held it could invoke the specific protections of Section 365(n) (and that section’s royalty requirements) for trademark licensees on equitable grounds.

Does “Means” Mean Anything? Although the Crumbs court’s result is consistent with the recent trend, its analysis is questionable. Extending Section 365(n) rights to trademark licenses, even on an equitable basis, appears to conflict with the statute’s language. Section 101(35A), the definition of intellectual property on which Section 365(n) is based, begins with “The term ‘intellectual property’ means” and then lists six specific categories of intellectual property. As we know, trademarks, service marks, and trade names are not among them. Section 101(35A)’s use of the word “means” is significant, notwithstanding the legislative history about the development of equitable treatment, a subject on which the statute itself is silent. The bankruptcy court’s decision in Crumbs did not discuss the use of the term “means” in Section 101(35A), but that term and its significance has been construed by the U.S. Supreme Court in another context.

  • In Burgess v. United States, 128 S.Ct. 1572 (2008), citing 2A N. Singer & J. Singer, Statutes and Statutory Construction § 47:7, pp. 298-299, and nn. 2-3 (7th ed. 2007), the Supreme Court held, in the context of a criminal statute: “‘As a rule, [a] definition which declares what a term `means’ … excludes any meaning that is not stated.’ Colautti v. Franklin, 439 U.S. 379, 392-393, n. 10, 99 S.Ct. 675, 58 L.Ed.2d 596 (1979) (some internal quotation marks omitted).”
  • In footnote 3 of the Burgess decision the Court actually examined several Bankruptcy Code definitions, two of which used the term “means,” in support of its statutory construction that “means” is exclusive.
  • Although the Crumbs decision did not hold that Sections 101(35A) and 365(n) apply to trademarks in all cases, it extended Section 365(n) rights, expressly by name, to trademark licensees on equitable grounds. Given Congress’s use of the restrictive term “means” in the statutory definition, and its intentional omission of trademarks, service marks, and trade names from Section 101(35A), extending Section 365(n)’s statutory protections to trademark licensees seems to create an unnecessary conflict with the language of the statute.
  • Instead of invoking Section 365(n), the Crumbs court could have used alternatives approaches to protect the trademark licensees and avoided a conflict with Section 101(35A)’s language. It could have ruled, as Judge Ambro suggested in his Exide Technologies concurrence, that on equitable grounds rejection of a trademark license does not deprive the licensee of its rights. Likewise, it could have held, as the Seventh Circuit did in Sunbeam Products, that rejection does not terminate a counterparty’s license rights at all.

Was The Sale Free And Clear Of The Trademark Licenses? Having concluded that the protections of Section 365(n) should apply to the trademark licensees in this case, the Crumbs court addressed whether the asset sale under Sections 363(b) and (f), which included the trademarks, was “free and clear” of the licensees’ interests. The buyer argued that the licensees were given notice of the proposed “free and clear” sale but failed to object, thereby impliedly consenting to the extinguishment of their Section 365(n) rights. However, after examining the notice given in the case, the Crumbs court concluded that the licensees were not provided with adequate notice that the sale put their rights at risk.

  • The court observed how a party had to “traverse a labyrinth of cross-referenced definitions and a complicated network of corresponding paragraphs with annexed schedules” to determine what was being sold. The court admitted that it had difficulty following the “definitional maze” and observed that “there is no clear discussion as to what rights were purported to be taken away as a result of the sale,” meaning that the trademark licensees had no apparent reason to believe that an objection was needed to retain their rights under Section 365(n).
  • The court acknowledged that a proposed order was part of the Debtors’ moving papers, and “addressed that the sale was to be clear of licensees’ rights.” However, the court noted that this reference was “a mere ten words, buried within a single twenty-nine page document, which itself was affixed to a CM/ECF filing totaling one hundred twenty-nine pages.”
  • Under these circumstances — with no other express reference to the licensees, Section 365(n) rights, or the stripping of those rights — the Crumbs court held it would be inequitable to find that the licensees consented to the termination of their rights.
  • The Crumbs court also held, as a matter of statutory construction, that Section 365(n), a more specific provision, is not overcome by the broad text of Section 363(f) and its free and clear language. “Nothing in § 363(f) trumps, supersedes, or otherwise overrides the rights granted to Licensees under § 365(n).” This ruling again raises the issue whether Section 365(n) can be applied to trademark licenses in the first place.

Which Party Is Entitled To Royalties Under The License Agreements? The court also addressed whether the buyer, as the new owner of the trademarks, or the debtor, as the party to the trademark licenses that were not assigned to the buyer, was entitled to payment of ongoing royalties under those agreements. The court cited the Third Circuit’s decision in In re CellNet Data Sys., Inc., 327 F.3d. 242 (3d Cir. 2003), and its ruling that Section 365(n) links royalties to the license agreement rather than the intellectual property. The Crumbs court concluded that because the license agreements had not been assigned, the buyer did not obtain royalty rights under the licenses going forward (although it did purchase any unpaid pre-closing royalties through its acquisition of accounts receivable). However, since the Debtors no longer owned the trademarks, the court questioned how anyone other than the buyer could perform under the trademark license agreements and, accordingly, concluded that rejection likely is necessary.

Conclusion. Over the past four years, one of the most significant developments at the intersection of IP and bankruptcy law has been how courts have used factual, legal, and equitable approaches to protect trademark licensees from the harsh effects of rejection. The Crumbs case, pending in New Jersey in the Third Circuit, built on Judge Ambro’s concurring opinion in Exide Technologies and extended, on an equitable basis, the protections of Section 365(n) to trademark licensees. However, the Crumbs court seems to have gone too far in applying Section 365(n) itself to trademark licenses — despite the fact that Section 101(35A)’s definition of intellectual property does not include trademarks. Given Section 101(35A)’s use of the restrictive term “means,” the Crumbs court’s statutory interpretation, and its reliance on legislative history, is questionable. Although the Crumbs decision is further evidence of the continuing trend of courts protecting trademark licensees in bankruptcy, courts would be on stronger ground if they did so without applying Section 365(n) itself to trademark licenses.

 

Image Courtesy of Flickr by Steve Snodgrass

U.S. Supreme Court Denies Review In Jaffe v. Samsung, Letting Stand The Fourth Circuit’s Decision Applying Section 365(n) To Protect Licensees In A Chapter 15 Bankruptcy Case

Posted in Business Bankruptcy Issues, Recent Developments

5554035521_f6b59ccafa_z

On Monday, October 6, 2014, the U.S. Supreme Court issued an order denying the petition for a writ of certiorari in the Jaffe v. Samsung case, also known as the Qimonda case. The Supreme Court let stand the Fourth Circuit’s December 2013 decision that affirmed the bankruptcy court’s order applying Bankruptcy Code Section 365(n) in a Chapter 15 cross-border bankruptcy case.

For a full discussion of the Fourth Circuit’s decision, follow the link to this prior post discussing the case and its implications for intellectual property licensees, Chapter 15 cases, and more. For a quick refresher, here’s the conclusion from that earlier post:

The Fourth Circuit’s Qimonda decision is important for licensees of intellectual property owned by a foreign entity. It signals that U.S. courts will incline to protect licensees by applying Section 365(n) when an insolvent foreign entity’s administrator or other representative asks for assistance from the U.S. bankruptcy courts. However, the Fourth Circuit did not go as far as some licensees would have liked, stopping short of declaring that an attempt to reject licenses without applying Section 365(n) would be “manifestly contrary” to U.S. public policy. That makes the Qimonda decision a helpful, but perhaps not decisive, tool for IP licensees. It of course remains to be seen whether other courts will follow the Qimonda decision or chart a different path.

Image Courtesy of Flickr by Phil Roeder

A Closer Look At Recent Trends At The Intersection Of Intellectual Property And Bankruptcy Law

Posted in Business Bankruptcy Issues, Recent Developments

5977609373_ee7f95af5b_z (1)

I had the honor of being a panelist at the American Bankruptcy Institute‘s 22nd Annual Southwest Bankruptcy Conference last Friday, speaking on current developments in business bankruptcy. My part of the discussion focused on recent intellectual property and bankruptcy law trends. Among the topics I covered were:

  • the direction U.S. Courts of Appeals have been taking over the last few years in protecting trademark licensees from the harsh effects of rejection of their trademark licenses by a licensor in bankruptcy,
  • whether Section 365(n) of the Bankruptcy Code protecting (non-trademark) IP licensees applies in cross-border cases under Chapter 15 of the Bankruptcy Code, and
  • recent Congressional efforts to reform how IP is treated in bankruptcy cases.

For those who couldn’t attend the conference, you can follow the link in this sentence for a copy of the article I prepared on these topics. I hope you find it of interest.

Image Courtesy of Flickr by BusinessSarah

Cooley GO: A Great New Resource For Entrepreneurs And Their Companies

Posted in Business Bankruptcy Issues

Cooley Go

Cooley GO

Earlier this month, Cooley LLP launched Cooley GO, a terrific new resource center for entrepreneurs with businesses at all stages of the growth cycle. Cooley GO is a mobile-friendly microsite that provides a wide range of free legal and business content covering formation, financing, building a team, working with directors and advisors, intellectual property, M&A, IPOs and more.

I have the pleasure of being a contributor to Cooley GO. A new post I wrote called “A Key Customer Filed for Bankruptcy: Should You Keep Doing Business With Them?” is now on the Cooley GO site. To read the article just follow the link in the prior sentence.

Be sure to explore the full Cooley GO site. Among other tools, Cooley GO provides entrepreneurs with the ability to:

I hope you find Cooley GO to be a helpful resource for your business.

Why Creditors Can’t Afford To Ignore Objections To Bankruptcy Claims

Posted in Business Bankruptcy Issues

5006396635_c5359a439d_n

It’s been several years since I last posted about objections to bankruptcy claims, and the topic is so important to creditors that it’s time to revisit it.

File And Forget? When a customer or other party with which you do business files bankruptcy, it’s important to file a proof of claim on time by the deadline (also known as a “bar date”) set in the case. Once you do, however, months or even years can go by before you hear anything more about your claim from the debtor, bankruptcy trustee, or other party responsible for reviewing claims and ultimately distributing money to creditors. In fact, the only thing you may hear about your claim for quite some time is an offer to purchase it made by one or more claims buyers.

No News Is Not Necessarily Good News About Your Claim. Unfortunately, the passage of time may lull you into thinking that no objection will ever be filed to your claim. However, the urgency of reorganizing a debtor’s business or liquidating its assets means that the claim objection process is typically left until near the end of the bankruptcy case, often after a plan of reorganization has been confirmed in a Chapter 11 case. Likewise, a Chapter 7 trustee may put off filing claim objections until it’s clear there will be money to distribute to unsecured creditors. As a result, an objection to your claim may be brought long after you filed it, often years later.

Is That An Objection To My Claim? When an objection is filed, it may not always be obvious at first that it applies to your claim. In smaller cases the title of a claim objection may list your name as the target of the objection, but don’t count on that in larger cases. In cases with hundreds or thousands of claims, the debtor or other estate representative will almost certainly combine an objection to your claim with others. Instead of a pleading specifically mentioning your name in its title or text, the objection will likely have the word “omnibus” in it and may have a name such asNotice of Debtors’ One Hundred Fifteenth Omnibus Objection To Claims (No Liability)” or some similarly titled document.

  • Be careful: the format of these objections can be a trap for the unwary. Buried within the objection’s many pages of text and attached exhibits may be just a few lines, often only in a list or chart, identifying your claim as one of dozens to which an objection has been filed.
  • Given the passage of time, the debtor may have sold — and changed — its name, so the name of the debtor listed on the objection may not even be familiar to you (although the old name should appear near the new one).
  • When filed, the objection may assert (1) your claim should be zero, (2) the amount doesn’t square with the debtor’s books and records and should be less, or (3) your claim should be reclassified as some lower priority claim (for example, from a priority claim to a general unsecured claim).
  • Whatever the objection’s name or format, the point is the same: ignore it at your peril. If you don’t file a formal response with the bankruptcy court by the deadline set in the objection (and there’s always a deadline) your claim could be disallowed in its entirety. If that happens, you will recover absolutely nothing from the bankruptcy estate.

Stay Vigilant To Protect Your Rights. Protecting your rights in a bankruptcy case requires diligence and timely action – often no easy task. In mega bankruptcy cases, literally thousands of pleadings can be filed during the course of a case. Many will be served, whether in paper or electronic form, and yet only a few may be directly relevant to you or your claim. For this reason, it’s critical that you or your attorney keep track of the pleadings served in a bankruptcy case. The bottom line is, if you see anything that looks like a claim objection, review all of the pages carefully, including the exhibits. If an objection to your claim is filed, you have to respond on time and defend your claim. Otherwise, despite your efforts earlier in the case to file a timely proof of claim, you may well find yourself with a disallowed, and worthless, claim.

Image Courtesy of Flickr by Sam Howzit

A New Way Of Looking At Termination On Bankruptcy Contract Clauses

Posted in Business Bankruptcy Issues, The Financially Troubled Company

Contract photo

Image Courtesy of NobMouse

Ken Adams, Professor Adrian Walters, and I recently collaborated on an article about the ubiquitous “termination on bankruptcy” or ipso facto clauses in contracts. The article was just published by the American Bar Association’s Business Law Section in its online publication, Business Law Today. It’s titled “Termination-On-Bankruptcy Provisions: Some Proposed Language” and is available by following the link. You can also download a PDF of the article.

The article offers proposed language for agreements governed by U.S. law and also by foreign law. I have posted on termination on bankruptcy provisions in the past, discussing how U.S. bankruptcy law usually — but not always — renders those clauses unenforceable. This new article recognizes those limitations but suggests proposed model language to address settings in which the provision is enforceable, together with an analysis of the specific language proposed.

I hope you find the article of interest.

Rejecting Jewel v. Boxer, The District Court’s Heller Decision Is A Potential Knock-Out Punch Against Unfinished Business Claims By Insolvent Law Firms

Posted in Business Bankruptcy Issues, Recent Developments, Uncategorized

10754076193_f87d498f2b_z

U.S. District Court in San Francisco

Image Courtesy of Ken Lund

The Order Re Summary Judgment issued on June 11, 2014 by Judge Charles R. Breyer of the U.S. District Court for the Northern District of California in the Heller Ehrman LLP bankruptcy case may prove to be a knock-out punch against “unfinished business” claims by insolvent or bankrupt law firms and their trustees. Judge Breyer not only granted summary judgment to four law firms that hired former Heller partners and engaged former Heller clients, but he also distinguished and rejected the 1984 California Court of Appeal decision in Jewel v. Boxer, 156 Cal.App.3d 171 (1984), the case that for years has been the foundation for unfinished business claims involving California law firms.

(For bankruptcy buffs, Judge Breyer’s decision may also have been one of the first to cite the Supreme Court’s Executive Benefits Insurance Agency v. Arkinson decision on de novo review of bankruptcy court decisions.)

The Heller Law Firm Bankruptcy. The Heller litigation arose out of a fairly common scenario when a law firm becomes insolvent or files bankruptcy. After Heller’s bank declared a default, Heller was unable to continue in business and voted to dissolve. Heller notified its clients that it would no longer be able to provide legal services and later filed Chapter 11 bankruptcy. The dissolution plan Heller adopted contained a “Jewel Waiver” purporting to waive any rights under the Jewel v. Boxer case to seek payment for legal fees generated on non-contingency matters after the departure of any Heller attorney.

The Trustee Sues Other Law Firms. After the bankruptcy, the trustee sued various law firms, which had hired Heller partners (called shareholders under Heller’s structure), alleging that under Jewel v. Boxer the Heller estate had property rights in the unfinished hourly matters pending at the time the former Heller lawyers joined other law firms. The trustee alleged that the Jewel Waiver was a fraudulent transfer of Heller’s property rights in those unfinished hourly matters.

The Jewel v. Boxer Case. To give some context, the Jewel case involved a four-partner law firm that voluntarily chose to dissolve into two, two-partner firms. Each new firm continued representing their respective clients under fee agreements entered into between each client and the old law firm. On those facts, the California Court of Appeal in Jewel ruled that by taking that business with them after dissolution, the former partners violated their fiduciary duty not to take any action with respect to unfinished business of the partnership for personal gain. This principle has prompted bankrupt law firms and their trustees to bring so-called “unfinished business” litigation against law firms that hire former partners and take on continuing matters from a failed law firm.

Jewel Distinguished (If Not Extinguished). In Heller, Judge Breyer framed the issue presented this way:

A law firm—and its attorneys—do not own the matters on which they perform their legal services. Their clients do. A client, for whatever reason, may summarily discharge counsel and hire someone else. At that point, the client owes fees only for services performed to the date of discharge, and his former lawyer must, even if fees are in dispute, cease working on the matter and immediately cooperate in the transfer of files to new counsel.

It is in this context that the Court is asked to address a question of first impression: namely, whether a law firm—which has been dissolved by virtue of creditors terminating their financial support, thus rendering it impossible to continue to provide legal services in ongoing matters—is entitled to assert a property interest in hourly fee matters pending at the time of its dissolution.

In the heart of the decision, Judge Breyer distinguished Jewel from the facts in Heller, highlighting “five key, related reasons.” He went even further and, aiming directly at the Jewel decision, stated that the Court “is also of the opinion that the California Supreme Court would likely hold that hourly fee matters are not partnership property and therefore are not ‘unfinished business’ subject to any duty to account.”

I quote from the decision below, but here’s a quick thumbnail of these five key reasons the Court distinguished Jewel:

  1. Cause of dissolution: The dissolution in Jewel was voluntary; in Heller it was forced.
  2. New fee agreements: In Jewel the old firm’s fee agreements were used; in Heller clients signed new agreements with the new firms.
  3. Different firms: In Jewel all partners were from the old firm; in Heller the partners joined pre-existing firms that never owed duties to Heller.
  4. No contingency matters: Jewel did not distinguish between hourly or contingency matters; Heller involved no contingency matters.
  5. Superseding law: Jewel was decided under old Uniform Partnership Act; Heller involved the Revised Uniform Partnership Act.

Given the importance to the decision, here’s Judge Breyer’s discussion of these five reasons:

First, the dissolution of the firm at issue in Jewel was voluntary, while Heller’s dissolution was forced when Bank of America withdrew the firm’s line of credit. This is significant because the partners in Jewel could have, but chose not to, finish representing their clients as or on behalf of the old firm. Here, Heller lacked the financial ability to continue providing legal services to its clients, leaving clients with ongoing matters no choice but to seek new counsel and Heller Shareholders no choice but to seek new employment. Second, in Jewel, “[t]he new firms represented the clients under fee agreements entered into between the client and the old firm.” Id. at 175. Here, the clients signed new retainer agreements with the new firms. Third, in Jewel, the new firms consisted entirely of partners from the old firms: one firm with four partners had become two firms with two partners each. Here, Defendants are preexisting third-party firms that provided substantively new representation, requiring significant resources, personnel, capital, and services well beyond the capacity of either Heller or its individual Shareholders. Where in Jewel, the departed partners continued to have fiduciary duties to each other and the old firm, here, the third-party firms never owed any duty, fiduciary or otherwise, to the dissolved firm. Fourth, Jewel treated hourly fee matters and contingency fee matters as indistinguishable. Here, there are no contingency fee cases at issue. Finally, Jewel was decided in 1984 and thus applied the Uniform Partnership Act (the “UPA”) which the materially different Revised Uniform Partnership Act (the “RUPA”) has since superseded. The RUPA, which applies after 1999 to all California partnerships, allows partners to obtain “reasonable compensation” for helping to wind up partnership business, Cal. Corp. Code § 16401(h), and thus undermines the legal foundation on which Jewel rests.

RUPA, Equity, and Policy. In addition to these five key reasons, Judge Breyer expanded his analysis and concluded that legal, equitable and policy considerations all supported the decision.

  • He found the impact of RUPA on Jewel claims to be “significant” because under RUPA, the duty not to compete with the partnership ends on dissolution, unlike the continuing fiduciary duty not to take action on unfinished partnership business the Jewel court found under the old UPA. Judge Breyer also noted that the California Supreme Court has never ruled on this issue and has cited Jewel only once, in a pre-RUPA case, for an unrelated issue.
  • Turning to the equities, Judge Breyer had little trouble concluding they favored dismissal of the unfinished business claims. As a matter of equity, he stated, “it is simple enough to conclude that the firms that did the work should keep the fees” and further, since clients own the matters, goodwill is not a recognized property interest of law firms.
  • Likewise, the Court found policy considerations supported dismissal. Among other reasons, the trustee’s position would “discourage third-party firms from hiring former partners of dissolved firms and discourage third-party firms from accepting new clients formerly represented by dissolved firms.”  This “would all but force former Heller clients to retain new counsel with no connection to Heller or their matters,” contrary to “the primacy of the rights of clients over those of lawyers.” Clients should have access to a market for legal services “unencumbered by quarrelsome claims of disgruntled attorneys and their creditors.”

A Post-Heller World. It’s not an overstatement to say that the Heller decision essentially dismantles the applicability of Jewel v. Boxer to insolvent or bankrupt law firms. If upheld after any appeal and followed by other courts, the Heller decision could mark the end of California “unfinished business” claims against law firms in the non-contingency, hourly fee context. There may yet be more twists and turns in the Heller case and in other law firm bankruptcies, so stay tuned for further developments.

In A Reversal, Eighth Circuit Sitting En Banc Protects Trademark Licensee Whose Licensor Went Bankrupt

Posted in Business Bankruptcy Issues, Recent Developments

3222442854_dc90239199_z

Image courtesy of  Kazuhisa Otsubo

Trademark Licenses At Risk. I have written a number of times on the blog about the impact of bankruptcy on trademark licenses, with a special focus on the risk that trademark licensees face if their licensors file bankruptcy. Trademark licensees have no protection under Section 365(n) of the Bankruptcy Code, and legislative efforts to give that protection have stalled. As a result, if a trademark license is determined to be executory and it’s rejected by the licensor or bankruptcy trustee, the licensee could find itself without any further rights to the trademark.

Some Rays Of Hope For Licensees In Third And Seventh Circuits. A series of decisions over the past few years from various U.S. Courts of Appeals has given some hope to trademark licensees. First, in In re Exide Techs., 607 F.3d 957 (3d Cir. 2010), the Third Circuit held a trademark license that was part of a long-completed sale of assets was not executory and could not be rejected. Then in Sunbeam Prods., Inc. v. Chicago Am. Manuf., LLC, 686 F.3d 372 (7th Cir. 2012), the Seventh Circuit went much farther and held that rejection does not terminate the licensee’s rights to continue to use the trademark, refusing to follow the 1985 Fourth Circuit decision in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir. 1985). Follow the links in the prior sentences for more details.

At First, A Setback For Licensees In Interstate Bakeries Case. Just when the Third Circuit decision was starting to give hope to trademark licensees in asset sales, the Eighth Circuit went the other way and held that a trademark license entered into as part of an asset sale was executory and could be rejected. In In re Interstate Bakeries Corp., 690 F.3d 1069 (8th Cir. 2012), a case with facts very similar to Exide, a three-judge panel of the U.S. Court of Appeals for the Eighth Circuit examined whether an exclusive license to use brands and trademarks belonging to Interstate Brands Corporation (“IBC”), which subsequently filed for bankruptcy, was an executory contract.

  • Prior to bankruptcy, IBC entered into a $20 million asset purchase agreement and license agreement with Lewis Brothers Bakeries (“LBB”), and certain baking and business operations in the Chicago area to LBB. Following IBC’s bankruptcy, LBB sought a declaratory judgment that the license agreement was not an executory contract. The bankruptcy court and district court both found the agreement executory, with unperformed obligations on both sides.
  • Although the relevant aspects of the license agreement appeared at first blush to be nearly identical to those in Exide, the Eighth Circuit panel found the license agreement in Interstate Bakeries to be materially different. Specifically, the Eighth Circuit panel found LBB’s obligation to maintain quality standards, and IBC’s obligations of notice and forbearance with regard to the trademarks, material and unperformed. As such, it held the license agreement was executory and could be rejected.
  • The Eighth Circuit panel distinguished Exide because there, “the parties had not even contemplated or discussed any quality standards. . . . Here, it cannot be argued the parties did not contemplate any quality standards, as it is an explicit provision of the License Agreement. Moreover, the plain language of the agreement provides a breach of the quality provision would be material.”

A Rehearing And A Reversal. But the story did not end there. The panel decision was split 2 to 1, and the Eighth Circuit ultimately granted a rehearing en banc. That meant all eleven of the Eighth Circuit judges would consider the case, not just the three judges on the original panel. On June 6, 2014, the full Eighth Circuit issued an 8-3 decision holding that the license agreement was no longer executory. After concluding that intervening events had not rendered the appeal moot, the Eighth Circuit held the proper focus to be on the entire transaction, not just on the license agreement:

The essence of the agreement here was the sale of IBC’s Butternut bread and Sunbeam bread business operations in specific territories, not merely the licensing of IBC’s trademark. The agreement called for LBB to pay $20 million for IBC’s assets. The parties allocated $11.88 million for tangible assets, such as real property,machinery and equipment, computers and licensed computer software, vehicles, office equipment, and inventory. They allocated another $8.12 million toward intangible assets, including the license. IBC has transferred all of the tangible assets and inventory to LBB, executed the License Agreement, and received the full $20 million purchase price from LBB.

IBC’s remaining obligations concern only one of the assets included in the sale—the license. They involve such matters as obligations of notice and forbearance with regard to the trademarks, obligations relating to maintenance and defense of the marks, and other infringement-related obligations. When considered in the context of the entire agreement, these remaining obligations are relatively minor and do not relate to the central purpose of the agreement to sell the Butternut and Sunbeam bread operations and assets to LBB in certain territories.

Unlike the three-judge panel, the full Eighth Circuit commented on the similarity of the facts to the Exide case and found the Third Circuit’s decision persuasive:

We find useful guidance on analogous facts in the Third Circuit’s decision in In re Exide. At issue there was the $135 million sale of Exide’s industrial battery business to EnerSys, which included a trademark license agreement. 607 F.3d at 960. Along with the license, Exide sold to EnerSys physical manufacturing plants, equipment, inventory, and certain items of intellectual property. Id. The Third Circuit held that Exide’s remaining obligations, which included duties to maintain quality standards, to refrain from use of the trademark outside the industrial battery business, and to indemnify EnerSys, did not “outweigh the substantial performance rendered and benefits received by EnerSys.” Id. at 963–64. The court observed that the remaining contractual obligations did not relate to the purpose of the agreement—the sale of Exide’s industrial battery business—and that the trademark license agreement was therefore not executory. Id. at 964. For similar reasons, we conclude that the License Agreement between IBC and LBB is not executory.

In a footnote, the Eighth Circuit noted the circuit split between the Fourth Circuit’s Lubrizol decision and the Seventh Circuit’s Sunbeam decision on whether rejection of a trademark license terminates the licensee’s rights to use the trademark. However, given its holding that the license agreement was not executory, the Eighth Circuit did not need to reach the rejection issue.

The Trend Continues. The full Eighth Circuit’s decision in Interstate Bakeries is yet another ray of hope for trademark licensees. It continues the recent trend of Courts of Appeals finding ways to protect trademark licensees from the harsh result of losing all rights to use a trademark via rejection. Still, unless the Sunbeam decision is adopted broadly or Congress passes one of the bills proposing to include trademarks within Section 365(n)’s protections, trademark licensees whose licensors file bankruptcy — and especially those whose licenses were granted outside of an asset sale context — are by no means out of the woods.