Defending intellectual property ("IP") litigation can be expensive and, if unsuccessful, often crippling for the defendant’s business. Sometimes an accused infringer facing IP litigation will seek bankruptcy protection to invoke the automatic stay. Unless lifted by the bankruptcy court, the automatic stay will prevent further litigation against the debtor, outside of the bankruptcy claims process, for pre-bankruptcy claims. 

The collision between infringement litigation and bankruptcy, however, raises issues beyond the automatic stay, especially with respect to continuing and past infringement claims. This post addresses these questions in the context of both corporate and individual debtors.

Continuing Infringement

What if a corporate debtor continues to infringe?

If a corporation or other business debtor in Chapter 11 is continuing to infringe intellectual property rights, the IP owner may have what’s known as an "administrative claim" in the debtor’s bankruptcy case.  Administrative claims, as the name implies, are claims that result from the administration of the bankruptcy estate and include claims for payment for products and services delivered to a debtor post-petition and for fees and expenses of bankruptcy lawyers and other professionals advising the Chapter 11 debtor in possession and creditors committee. Administrative claims are paid ahead of all pre-petition unsecured claims and almost all other priority claims, and sometimes can have a major impact on a debtor’s ability to reorganize. 

A recent decision by the U.S. Court of Appeals for the Sixth Circuit in the Eagle-Picher Industries Chapter 11 case held that post-petition patent infringement claims qualify as administrative claims. In that case, although the debtor faced a $20 million administrative claim related to patent infringement litigation, the court held that the claim survived confirmation of the debtor’s bankruptcy plan.

A non-debtor IP owner may also be able to get relief from the automatic stay (see my earlier post on that topic) to pursue infringement claims, including to seek injunctive relief for continuing infringement, in a court other than the bankruptcy court. It is possible that the automatic stay will not even apply to post-petition acts of infringement, but IP owners and debtors should get advice from a bankruptcy attorney about their specific situation.

Are continuing infringement claims covered by an individual’s bankruptcy discharge?

Individual debtors will generally get a discharge of their pre-bankruptcy debts. A decision from the U.S. Court of Appeals for the Federal Circuit earlier this year, however, makes clear that an individual who files bankruptcy does not get a free pass to keep on infringing a patent. In Hazelquist v. Guchi Moochie Tackle Company, Inc., 437 F.3d 1178 (Fed. Cir. 2006), the court held that the debtor’s bankruptcy discharge was only retrospective, covering claims relating to acts prior to bankruptcy, and did not immunize the debtor from claims for continuing infringement. As a result, the court ruled that the patent holder could assert claims against the debtor outside of bankruptcy court for each act of post-petition infringement.  It’s an interesting decision and the full opinion is available here.  You might also enjoy reading the Patently-O blog’s post on the decision by Dennis Crouch, who seems to like the tackle company’s name as much as I do. 

Past Infringement

What about claims for past infringement? 

An IP owner can file a proof of claim for past infringement claims, but that claim will most likely be considered an unsecured claim and may end up being paid cents on the dollar. Filing a proof of claim is certainly the less costly way to go, and with a corporate debtor may be the principal remedy available for past infringement damages. 

If the infringer is an individual, however, another question is whether claims for past infringement can be declared nondischargeable, allowing the IP owner to pursue the debt notwithstanding the bankruptcy discharge. (As discussed in an earlier post, the notion of nondischargeable debts applies only to individuals and not to corporations or other entities.) Although seeking a nondischargeability determination often doesn’t make economic sense, owners of intellectual property sometimes believe that it’s important to protect those rights through vigorous pursuit of infringers, even against those who file bankruptcy. 

So is an infringement claim nondischargeable? A recent decision from the Bankruptcy Appellate Panel (known in the trade as "the BAP") of the U.S. Court of Appeals for the Ninth Circuit said yes, at least when the claim is for truly willful copyright infringement.  Why?  Well, under the Bankruptcy Code, a debt that results from a "willful and malicious injury" is nondischargeable. In In re: Albarran, decided on July 24, 2006, the BAP held that a judgment for willful copyright infringement, which included an award of statutory damages, interest, and attorney’s fees, involved "willful and malicious injury." The BAP’s decision is available here. 

In essence, the BAP held that willful copyright infringement, involving an intent to harm or knowledge that one’s actions were substantially certain to cause harm, (1) is an injury to the copyright holder and (2) statutory damages under the Copyright Act qualify as a debt arising from this injury even though the plaintiff may not have suffered identifiable economic damage.  Willful injury under the Bankruptcy Code requires that the debtor intend the consequences of his action, generally excluding negligent or reckless conduct.  In In re: Albarran, the BAP concluded that the particularly willful nature of the copyright infringement involved satisfied this requirement.  With willfulness determined, the court was able to imply the element of malice. 

Does the answer depend on the type of IP infringed?

The BAP’s decision involves copyrights and not patents or trademarks, so the question remains whether willful patent or trademark infringement would also be considered a nondischargeable "willful and malicious injury" under the Bankruptcy Code. The BAP’s decision did make several references to the kinship between copyright and patent law and noted that "patent infringement has historically been viewed as a tort because of its invasion of another’s rights."  In 2004, in a case called In re Trantham, a BAP from a different circuit, the Sixth Circuit, held that a claim for willful patent infringement was nondischargeable. You can read that decision here. Although the answer is not settled yet, if a debtor were found to have engaged in intentional patent or trademark infringement, the odds are that a bankruptcy court would find damages for such conduct to be nondischargeable.

Is a BAP the same as the U.S. Court of Appeals?  

Although these BAP decisions are very instructive, a word of caution is in order.  Unlike a U.S. Court of Appeals itself, a BAP is made up of bankruptcy judges only, not federal circuit judges. Given a BAP’s place in the judicial system’s hierarchy, its decisions are not given the same precedential weigh as U.S. Court of Appeals decisions.  This means that it’s possible for a U.S. Court of Appeals itself to reach a different conclusion. (In fact, an appeal to the Ninth Circuit from the BAP’s In re: Albarran decision was just filed last week.) Still, the two BAP decisions in In re: Albarran and In re Trantham are well-reasoned and may be followed by other courts. 

Impact Of Asset Sale

Can a debtor sell assets free and clear of infringement claims?

Generally, a debtor will be able to sell its assets in a Section 363 bankruptcy sale free and clear of claims (see earlier post on asset sales), including claims for past infringement.  However, if an IP owner asserts claims for continuing infringement related to the assets and how they are used, the sale will in all likelihood not be free and clear of those continuing infringement claims. Instead, the purchaser could well end up buying the defense of an infringement lawsuit along with the assets.

A Final Note

Do last year’s bankruptcy law changes have an impact?

Given the amendments to the Bankruptcy Code made by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, even if an individual debtor got a discharge of a willful infringement claim, he or she would have a very hard time getting another discharge within the next eight years. The message to individual infringers in bankruptcy: discharge or not, better stop infringing.