In an earlier post I discussed how a recent district court case gave trademark owners a leg up when a licensee files for bankruptcy. This begs the question: Does the advantage switch back to the licensee if the trademark owner files for bankruptcy? The answer generally, and perhaps surprisingly, is no.
Limited protection of Section 365(n). Of course, it can be devastating for a licensee to lose access to licensed intellectual property. Often a licensee will build in licensed technology into its products or develop an entire business line or brand around a licensed trademark. Recognizing how important in-licensed IP can be, in 1988 Congress added Section 365(n) of the Bankruptcy Code, giving licensees of certain types of intellectual property special protections in bankruptcy. These protections allow licensees to retain their rights to the licensed intellectual property – but there’s a catch. The Bankruptcy Code’s definition of “intellectual property” includes, among other things, patents, patent applications, copyrights, and trade secrets, but unfortunately for trademark licensees, it does not include trademarks.
Trademark licensee’s special risk. With no special protection, the trademark licensee faces the risk of having its license, a form of executory contract, rejected by the trademark owner in bankruptcy. If the trademark owner decides that the license is now unfavorable and a better deal can be had under a new license agreement with someone else, the trademark owner likely will reject the existing trademark license agreement and terminate the licensee’s rights to use the mark. The enforceability of phase-out provisions, which allow a licensee to continue to use a mark for a limited time period after a license is terminated, is unclear. Regardless, the trademark licensee eventually will lose its rights to the trademark following rejection. In some cases the ability to re-license can be of great value to a trademark owner in bankruptcy, and thus to its creditors, but it puts the licensee at substantial risk.
The bundled license. What about a license covering both trademarks and other intellectual property that is protected by Section 365(n)? Often a license of software or other products that involve copyrights or patents will include a license to use an associated trademark. In that case, even if the license were rejected, the licensee would have Section 365(n) rights to retain the "bankruptcy intellectual property" — in this example the rights to the copyrighted or patented IP — but would still lose the trademark license. One case so holding is In re Centura Software Corp., 281 B.R. 660 (Bankr. N.D. Cal. 2002). You can read that interesting decision here.
How can trademark licensees protect themselves? There are a few, albeit limited, strategies available for trademark licensees to protect themselves. Whether you are a trademark licensee or licensor, be sure to get advice from a bankruptcy attorney on your specific situation.
- Unbundle the payments. In negotiating bundled licenses, the licensee should anticipate the prospect of losing rights to the trademark if a bankruptcy is filed. One approach would be to separate out any royalty or license payments for the trademark from those related to the other intellectual property being licensed. This way, the licensee can avoid having to pay amounts allocable to the rejected trademark license in order to retain its other IP license rights under Section 365(n).
- Take ownership of the mark. Would-be licensees with enough leverage sometimes demand that the trademark and its goodwill be transferred to them, coupled with a license back to the now-former trademark owner. This is perhaps the most effective method, but also the least likely to be achieved.
- Get a security interest. Another strategy involves taking a security interest in the mark or the licensor’s other assets to secure the damage claim that the licensee would have if the trademark owner rejects the license. Licensees pressing for a security interest do so in part hoping that a debtor licensor faced with a secured claim for rejection damages may decide against rejecting the license in the first place.
- Oppose a rejection motion. Once a bankruptcy is filed, a trademark licensee should engage counsel right away and consider challenging a debtor or trustee’s decision to reject the trademark license. If little good would come of the rejection for the debtor or its creditors, the licensee could oppose the motion arguing that the decision to reject is an inappropriate exercise of the debtor’s business judgment. Although such objections are rarely sustained, if successful this strategy could allow the licensee to continue to use the trademark without facing the consequences of a rejected license.
Short of these approaches, there is precious little trademark licensees can do to protect themselves from this bankruptcy risk. It is a fact that gives debtor licensors clear advantages and sometimes keeps trademark licensees up at night.