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Treatment Of Trademark Licenses In Bankruptcy Proceedings
1. Treatment of Trademark Licenses in Bankruptcy Proceedings
Tenesa S. Scaturro
I. INTRODUCTION
It is a common theme etched into the minds of law students throughout their time in law
school: legislators cannot draft laws that are neatly and cleanly applicable to every possible
situation. This being so, it is logical to assume that legislators cannot ensure that all laws are
harmonious with all other laws.1 One such example exists within the Bankruptcy Code2 as it
pertains to treatment of trademark licenses in bankruptcy proceedings. As one commentator
summarized “for better or worse, filtering…trademark law through the procedures and processes
of the bankruptcy system can result in the creation of a parallel universe: the surroundings are
familiar, the landmarks are recognizable, but everything is skewed by just a few degrees.”3
Part II of this paper discusses the background and competing purposes of trademark law
compared to bankruptcy law. Part III outlines the two tests, the hypothetical test and the actual
test, that the Courts have applied to the issue of assignment under section 365(c)(1) and benefits
and drawbacks to each of the tests. Part IV reviews the most current reaction to the use of the
hypothetical test found in the Supreme Court’s denial of certiorari in N.C.P. Marketing v. BG
1
See Bass, et al., BAPCPA in the Courts: How Judicial Interpretation of the New Provisions
Affects Your Cases, Am. Bankr. Inst., 19th Annual Leadership Conference, 071206 ABI-CLE 15
(Dec. 2007) (“Though drafters try to be crystal clear in writing laws, when those laws are applied
to specific facts, it is not always clear what the words plainly mean or what the drafters intended
or the legislators enacted. In fact, the justices haven’t even always agreed on when the text is
ambiguous or what method of interpretation should be used when it isn’t”) (citing Bruce A.
Markell, Alive at 25? A Short Review of the Supreme Court’s Jurisprudence, 1979-2004, 78
AMER. BANKR. L.J. 373, 387 (2004)).
2
11 U.S.C. § 101, et seq. (2005).
3
Stuart M. Ribak, Intellectual Property Licenses: The Impact of Bankruptcy, Practising Law
Inst., Understanding the Intellectual Property License 2009, 985 PLI 657, 657 (2009).
1
2. Star Productions, Inc. Finally, Part V offers suggestions for handling trademark licenses in
bankruptcy.
II. TRADEMARK LAW VERSUS BANKRUPTCY LAW
A. IN THIS CORNER, TRADEMARK LAW . . .
Intellectual Property is comprised of copyrights, patents, and trademarks. Each of these
individual components is codified in its own section of the United States Code4 and each has its
own function and purpose. The Copyright and Patent Acts, respectively, seek to encourage
invention and artistic creation to foster the proliferation of the arts and sciences and ensure those
individuals profit from their efforts.5 Trademarks, conversely, are not for the purpose of
encouraging arts and sciences, but rather are to prevent confusion among consumers by
identifying the source of the goods.6 Another significant difference between copyrights, patents,
and trademarks is that trademark protection is use-based, rather than for a fixed duration, such as
copyrights and patents.7 Thus, the purpose of trademark law “is to prevent consumer confusion
and protect the value of identifying symbols, not to encourage invention by providing a period of
exclusive rights.”8 In addition to preventing consumer confusion, trademark owners use
trademarks to “preserve the value of their business name and products.”9
A trademark “includes any word, name, symbol, or device, or combination thereof … to
identify and distinguish…goods and services…from those manufactured or sold by others and to
4
Copyright Act, 17 U.S.C. § 101, et seq. (West 2009); Patent Act, 35 U.S.C. § 101, et seq. (West
2009), Lanham Act (governing trademarks), 15 U.S.C. § 1051, et seq. (West 2009).
5
Charles H. Jeanfreau, Intellectual Property Issues in Bankruptcy, 1 BLOOMBERG CORP. L.J.
371, 371 (2006).
6
Id. at 374.
7
MARY LAFRANCE, UNDERSTANDING TRADEMARK LAW 12, (Matthew Bender) (2005).
8
J. Thomas McCarthy, MCCARTHY ON TRADEMARKS AND UNFAIR COMPETITION, § 6:3 (4th ed.
2009).
9
N.C.P Mktg. Group, Inc. v. BG Star Prods., 337 B.R. 230, 236 (2005).
2
3. indicate the source of goods.”10 Trademarks are symbols of good will and the trademark and
good will cannot be separated.11 Good will is a somewhat abstract concept that generally refers
to public confidence in a product and name recognition in the trademark and of the trademark
owner as the source of quality goods.12 It is well settled that trademarks and their associated
good will are property rights.13
Trademark owners can broaden the coverage and use of their trademarks by licensing
their trademarks to third parties.14 A trademark license allows a licensee to use the trademark for
particular goods or services within a geographic area.15 The trademark licensee pays the
trademark owner royalty fees for the privilege of manufacturing and marketing products bearing
the trademark. The Lanham Act permits a trademark owner to license trademarks where the
trademark “is or may be used legitimately by related companies.”16 Section 1127 of the Lanham
Act defines “related company” as “any person whose use of a mark is controlled by the owner of
the mark regarding the nature and quality of goods or services on or in connection with which
the mark is used.”17 Thus, the Lanham Act requires the trademark owner, as licensor, has “the
affirmative duty of policing in a reasonable manner the activities of his licensees” to ensure that
10
15 U.S.C. § 1127.
11
N.C.P. Mktg., 337 B.R. 230, 236; In re The Travelot Co., Inc., 286 B.R. 447, 458 (Bankr. S.D.
Ga. 2002) (internal citations omitted) (“good will and trademarks go hand in hand, at least to the
extent that an attempted transfer of a trademark is void without a transfer of the good will
associated with the trademark”); J. Thomas McCarthy, MCCARTHY ON TRADEMARKS AND
UNFAIR COMPETITION, §18:20 (4th ed. 2009).
12
Id. at § 2:16.
13
Id. at § 2:20.
14
Xuan-Thao N. Nguyen, Bankrupting Trademarks, 37 U.C. DAVIS. L. REV. 1267, 1276-77
(2003).
15
Id. at 1275. Licensing arrangements can encompass many types of trademark schemes,
including, individual trademarks, character licensing, franchise licensing, and brand licensing,
among others. Id. For purposes of this Note, “trademark license” includes all of the
aforementioned types of licensing.
16
15 U.S.C. § 1055.
17
15 U.S.C. § 1127.
3
4. the public is not being misled or exposed to deceptive uses of the trademark.18 In addition, a
trademark owner has an interest in monitoring the quality of goods bearing its trademark to
ensure that the associated good will maintains a high value.19 Thus, in order to have a valid
trademark license, the licensor must grant permission to the licensee to use its trademarks and
must obligate the licensor to maintain quality standards and control.20
B. . . . AND IN THIS CORNER, BANKRUPTCY LAW.
The purpose of bankruptcy is to provide a “fresh start” for a debtor and as it pertains to
businesses, attempts to reorganize businesses rather than liquidate in order to save jobs.21 For
creditors of a bankrupt business, the bankruptcy code serves to “secure a prompt and effectual. . .
settlement of the estate . . . within a limited period.”22
I. THE INTELLECTUAL PROPERTY BANKRUPTCY PROTECTION ACT
On August 7, 1987, Senator Dennis DeConcini, Chairman of the Senate Subcommittee
on Patents, Copyrights, and Trademarks introduced the Intellectual Property Bankruptcy
Protection Act (IPBPA).23 In his introduction of the IPBPA, Senator DeConcini expressed
concern over the bankruptcy court’s ability to decide that reselling intellectual property rights
18
Dawn Donut Co. v. Hart’s Food Stores, Inc., 267 F.2d 358, 367 (1959). Quality control and
inspection provisions need not be expressly set forth within the license agreement to comply with
the Lanham Act. Id. at 368.
19
N.C.P. Mktg., 337 B.R. at 236 (noting that the “value of the trademark is entirely based on
good will”).
20
In re The Travelot Co., Inc., 286 B.R. at 455 (Bankr. S.D. Ga. 2002) (citing Bunn-O-Matic
Corp. v. Bunn Coffee Serv., 88 F. Supp. 2d 914 (C.D. Ill. 2000).
21
1-1 COLLIER ON BANKRUPTCY at ¶ 1.01 (Alan N. Resnick & Henry J. Sommer eds., 16th ed.
rev.).
22
Id.
23
S. 1626, 100th Cong. (1988).
4
5. could yield greater royalties than honoring an existing license.24 Further, Senator DeConcini
cited the decision in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc.25 as
demonstrating the need for the IPBPA. Lubrizol involved a debtor licensor seeking to reject a
technology license agreement. The technology at issue was the principal asset of the debtor, and
thus the source of money that would allow the debtor to emerge from bankruptcy. Rejection of
the license agreement would strip the licensee of its rights to the agreement. The Court noted
that the outcome of the case could have a “chilling effect” on parties entering into these types of
agreements.26 Senator DeConcini stated that “[t]he Lubrizol ruling occurred because Congress
never considered this issue, because no courts had considered it before the Bankruptcy Reform
of 1978 and because it requires the application in bankruptcy cases of the very specialized area
of intellectual property law.”27
The proposed IPBPA legislation included a definition of intellectual property, which
included trademarks, trade names, and service marks, and allowed for expansion in to “other
products of intellectual or creative effort now or hereafter protected by applicable nonbankruptcy
law.”28 The proposed legislation also included a provision applicable to trademarks, trade
names, and service mark licensees to “continue in concert the quality assurance procedures of the
24
S. 1626 at S11654. See also S. Rep. No. 100-505 at *2 (1988), reprinted in 1988
U.S.C.A.A.N. 3200, 3201 (acknowledging that it “will nearly always be arguably beneficial to
the bankruptcy estate and any exercise of business judgment” to reject the license agreement); In
re Blackstone Potato Chip Co., Inc., 109 B.R. 557, 560 (Bankr. D. R.I. 1990); Nguyen, supra
note 14, at 1268 (stating that “the property value of some trademarks is significantly greater than
that of the trademark owner’s physical assets”); Jason B. Binford, Supreme Court Passes on
Assumption and Assignment of Trademark License Agreements, 28 AM. BANKR. INST. J. 36, 36
(2009) (noting that “trademark license agreements are often among the most valuable assets in a
debtor’s estate” and “can result in a successful reorganization – or a rapid liquidation”).
25
Lubrizol Enters., Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043, 1047-48 (4th Cir.
1985).
26
Id.
27
S. 1626 at S11654.
28
S. 1626 at S11654, (n)(1)(B).
5
6. licensor.”29 Despite the stated purpose of “keep[ing] secure the rights of intellectual property
licensors and licensees…,” the only provision of the proposed legislation dealing with debtor
licensees required them only to maintain the confidentiality of information under the subject
agreement.30
In 1988, President Ronald Regan signed a significantly modified version of the IPBPA
into law. The IPBPA,31 as enacted, states in pertinent part:
(n)(1) If the trustee32 rejects and executory contract under which
the debtor is a licensor of a right to intellectual property, the licensee under such
contract may elect –
(A) to treat such a contract as terminated by such rejection
if such rejection by the trustee amounts to such a breach as would entitle the
licensee to treat such contract as terminated by virtue of its own terms, applicable
nonbankruptcy law, or an agreement made by the licensee with another entity; or
(B) to retain its rights (including a right to enforce any
exclusivity provision of such contract, but excluding any other right under
applicable nonbankruptcy law to specific performance of such contract) under
such contract and under any agreement supplementary to such contract, to such
intellectual property . . . as such rights existed immediately before the case
commenced . . .
29
S. 1626 at S11654, (n)(2)(C).
30
S. 1626 at S11654-55, (n)(3). But see S. Rep. 100-505, *1 (1988), reprinted in 1988
U.S.C.A.A.N. 3200, 3200 (stating that the purpose of the amendment to Section 365 is “to make
clear that the rights of an intellectual property licensee to use the licensed property cannot be
unilaterally cut off as a result of the rejection of the license… in the event of the licensor’s
bankruptcy”) (emphasis added); see also S. Rep. No. 100-505, *4 (1988), reprinted in 1988
U.S.C.A.A.N. 3200, 3204 (explicitly stating “[t]he bill does not deal with debtor licensees”).
31
11 U.S.C. § 365(n).
32
Reviewing Section 365 in the context of a Chapter 11 proceeding, in most cases the term
“trustee” would be substituted for “debtor in possession.” 11 U.S.C. § 1107, 1108; N.C.P. Mktg.
Group v. BG Star Prods., Inc., 556 U.S. ___, 129 S. Ct. 1577, 1577 (2009) (“a debtor in
possession operates its business and performs many functions that would fall to the trustee under
other chapters of the Bankruptcy Code”). But see In re Footstar, 323 BR. 566, 572 (Bankr.
S.D.N.Y. 2005) (stating that only a trustee, and not a debtor in possession, can assume or assign
a contract because Section 1107 “does not provide in words or substance that ‘trustee’ means or
includes ‘debtor in possession’”).
6
7. The language of the IPBPA parallels the language of 365(h)(1) pertaining to the treatment of real
property leases.33 Congress noted a similarity between intellectual property licenses and real
estate leases34 because in both circumstances, the property at issue is unique and when
“threatened with the loss of use . . . it is not possible to obtain precise cover from another
source.”35
As indicated in Section 365(n)(1), the IPBPA applies only in the case of a debtor-
licensor and provides that a licensee can treat the rejection as a termination of the agreement and
can elect to retain rights under the agreement.36 If the licensee elects to retain its rights under the
license agreement, the licensee is obligated to continue to pay royalties,37 waives any right to a
set-off,38 and waives the right to a claim under Section 503(b).39
Congress also included a definition of intellectual property as part of the IPBPA:40
(35A) The term “intellectual property” means –
(A) trade secret;
(B) invention, process, design, or plant protected under title 35;
(C) patent application;
(D) plant variety;
(E) work of authorship protected under title 17; or
(F) mask work protected under chapter 9 of title 17. . .
Notably absent from the definition of intellectual property is trademarks; this was not by
accident. The Senate Report sheds some light on the omission:
…trademark, trade name and service mark licensing relationships depend to a
large extent on control of the quality of products or services sold by the licensee.
Since these matters could not be addressed without more extensive study, it was
33
S. Rep. No. 100-505 at *3 (1988), reprinted in 1988 U.S.C.A.A.N. 3200, 3203.
34
Id.
35
Id.
36
11 U.S.C. § 365(n)(1)(B).
37
11 U.S.C. § 365(n)(2)(B).
38
11 U.S.C. § 365(n)(2)(C)
39
11 U.S.C. § 365(n)(2)(C).
40
11 U.S.C. § 101(35A).
7
8. determined to postpone congressional action in this area and to allow the
development of equitable treatment of this situation by bankruptcy courts.41
II. SECTION 365(A) AND SECTION 365(C)
As a threshold issue to determine whether a license falls under the ambit of Section 365,
the court must determine whether the license agreement is an executory contract. An executory
contract is a contract “on which performance remains due to some extent on both sides.”42
Intellectual property licenses have consistently been held to be executory contracts due to the
ongoing nature of customary obligations such as the payment of royalties and maintenance of
intellectual property.43
Under Section 365(a), subject to court approval, a debtor can assume or reject an
executory contract.44 Although the court is required to approve the assumption or rejection of
the agreement,45 the court is deferential to the choice of the debtor as long as the choice meets
sound business judgment.46 Under the business judgment standard, rejection of an executory
contract (in this case, a trademark license) is appropriate if rejection of the agreement would
benefit the estate47 and if it is not “so manifestly unreasonable that it could not be based on sound
41
S. Rep. No. 100-505 at *4 (1988), reprinted in 1988 U.S.C.A.A.N. 3200, 3204.
42
NLRB v. Bildisco & Bildisco, 456 U.S. 513, 522 n.6 (1984).
43
In re Exide Techs., 340 B.R. 222, 239 (Bankr. Del. 2006) (listing examples of cases where
trademark licenses found to be executory contracts); Darren W. Saunders, Should the Bankruptcy
Code be Amended to Protect Trademark Licensees? 22 AM. BANKR. INST. J. 44, 44 (2004).
44
11 U.S.C. § 365(a).
45
Id.
46
Riback, supra note 3, at I(B)(1); Debra A. Dandeneau, The Interplay Between Intellectual
Property Rights and Bankruptcy, Practising Law Inst., Handling Intellectual Property Issues in
Bankruptcy in Business Transactions 2009, 956 PLI 127, 141 (2009) (noting that it is difficult to
challenge debtor’s business judgment). But see In re Petur U.S.A. Instr. Co., Inc., 35 B.R. 561
(Bankr. W.D. Wash. 1983) (balancing equities, rather than analyzing debtor’s business judgment
in determining whether to approve rejection of contract).
47
Id.
8
9. business judgment, but only on bad faith, or whim or caprice.”48 If a debtor elects to reject a
contract, the nondebtor is left only with a claim for damages for breach of contract as of the date
of the filing of the bankruptcy petition.49 Upon rejection of a trademark license agreement by a
debtor licensor, the licensee must stop use of the trademark.50 The licensor’s rejection of a
trademark license acts to restore the licensor’s right to use the trademark for the goods and
services and/or geographic location previously designated to the licensee.51
Exclusion from 365(a), that is, when a trademark license agreement may not be assumed
or assigned, is governed under Section 365(c)52 of the Code, which states in part:
(c) The trustee may not assume or assign any executory contract…of a
debtor, whether or not such contract…prohibits or restricts assignment of rights or
delegation of duties, if –
(1)(A) applicable law excuses a party, other than the
debtor, to such contract…from accepting performance from or rendering
performance to an entity other than the debtor or the debtor in possession,
whether or not such contract…prohibits or restricts assignment of rights or
delegation of duties; and
(B) such party does not consent to such assumption or
assignment…
Thus, the debtor in possession cannot assume an agreement if “applicable law” excuses the
nondebtor from accepting performance from an entity other than debtor and if the nondebtor
does not consent to the assumption of the agreement.53
48
Lubrizol Enters., 756 F.2d at 1047.
49
11 U.S.C. § 365 (g)(1); 11 U.S.C. § 502(g)(1). See also In re Chipwhich, Inc., 54 B.R. 427,
431 (Bankr. S.D.N.Y. 1985).
50
In re HQ Global Holdings, Inc., 290 B.R. 507, 513 (Bankr. Del. 2003) (noting that since
trademarks do not fall under Section 365(n), Lubrizol controls and thus trademark use must
cease).
51
In re Exide Techs., 340 B.R. at 250.
52
11 U.S.C. § 365(c) (emphasis added).
53
Id.; In re Wellington Vision, Inc., 364 B.R. 129, 136 (S.D. Fl. 2007).
9
10. C. TRADEMARK AND BANKRUPTCY CONVERGE
When trademark law and bankruptcy law converge, there are several sub-issues that are
key to analyzing the treatment of trademark licenses. First, under 365(c) what is “applicable
law” in the context of trademark licenses? Second, is the trademark license exclusive or non-
exclusive, and what difference does it make? Third, how do the circumstances change in the
case of a debtor licensor versus a debtor licensee?
I. “APPLICABLE LAW”
As it pertains to trademarks, “applicable law” under Section 365(c) has been generally
split into two categories: analysis as a personal service contract or analysis under the Lanham
Act.54
A. PERSONAL SERVICE CONTRACT
A personal service contract involves contracting for the unique services of a particular
person; services that could not “equally be performed by another.”55 For example, contracting
with a famous singer to perform a concert would be considered a personal services contract. At
common law, personal service contracts are not assignable without consent.56 Thus, the singer
could not assign her duties to perform under the contract because her services are unique to her
and are a material aspect of the contract.57
54
Binford, supra note 24, at 82 (2009).
55
3-365 COLLIER ON BANKRUPTCY at ¶ 365.06(1)(b) (Alan N. Resnick & Henry J. Sommer eds.,
16th ed. rev.).
56
HD Supply Facilities Maint., Ltd. v. Bymoen, 210 P.3d 183, 186 (D. Nev. 2004); 3-365
COLLIER ON BANKRUPTCY at ¶ 365.06(1)(b) (Alan N. Resnick & Henry J. Sommer eds., 16th ed.
rev.).
57
Michelle Morgan Harner, et al., Debtors Beware: The Expanding Universe of Non-
Assumable/Non-Assignable Contracts in Bankruptcy, 13 AM. BANKR. INST. L.R. 187, 204
(2005).
10
11. Some courts have used personal service contract analysis in the context of assignment in
bankruptcy to determine whether the rights and obligations under the license constitute personal
services, which involve “the exercise of special knowledge, judgment, taste, skill, or ability” that
would not be assignable without the consent of the licensor.58 Analysis of a trademark license as
a personal service contract has unpredictable results.59 Generally, however, the theory is that if
the license is treated as a personal service contract, the identity of the licensee is a material
element of the license, and thus the license would not be assignable absent licensor consent.60 At
least one commentator argues that applying the personal services contract analysis to trademark
licenses would serve to balance the rights of licensors and of debtor licensees.61
B. THE LANHAM ACT
Although courts have cited the Lanham Act as “applicable law,” the Lanham Act’s only
restriction regarding assignment is that assignments be in writing.62 This restriction, however,
applies to the assignment of actual trademarks and does not pertain to trademark licenses.63
Courts have thus cited the Lanham Act’s requirement for licensors to control the use of their
trademarks as the basis for determining that trademark licenses cannot be assigned without the
consent of the licensor.64 One commentator notes that it would be more accurate for courts to
58
In re Rooster, 100 B.R. 228, 232 (E.D. Pa. 1989). Some have argued that since corporations
delegate duties to individuals, the corporation’s duties should always be assignable. However,
when a corporation enters into a contract based on the “personal performance of individuals
within that company,” delegation would prove fruitless. Id. at 233, n. 12.
59
Stuart M. Riback, Trademark Issues in Bankruptcy, 93 TRADEMARK REP. 867, 887 (2003)
(discussing whether personal services contracts were found in cases of an automobile dealership,
Burger King franchise, and Bill Blass ties).
60
Binford, supra note 24, at 83.
61
Id.
62
15 U.S.C. § 1060(a)(3); Binford, supra note 24, at 82.
63
Id.
64
Binford, supra note 24, at 82.
11
12. cite trademark common law where it is generally accepted that a trademark licensee cannot
sublicense (a situation analogous to assigning a license to a third party) without the consent of
the licensor.65
II. LICENSOR-DEBTOR VERSUS LICENSEE-DEBTOR
A debtor licensor can put the licensee in a precarious position by rejecting the license
agreement, thus preventing the licensee from utilizing the trademarks66 as was the case in
Lubrizol.67 Clearly, the debtor licensor holds a strong bargaining position with the threat of
rejection looming for the licensee.68 If the debtor licensor opts to reject the license the licensee is
required to cease use of the trademarks immediately, although some courts will allow a transition
period, which may be as short as thirty days.69 A licensee that can show that rejection of the
license agreement would be devastating to its business, while only providing a small benefit to
the debtor licensor may convince the court to deny the request to reject the agreement.70 Since
the property at issue (i.e. the trademark) is unique, the licensee does not have the ability to
“cover.”71
A debtor licensee can also put the licensor in a difficult position. A debtor is not required
to perform its obligations under the license agreement, absent a court order to do so, until the
agreement is assumed or rejected.72 Since the automatic stay constrains the licensor’s ability to
enforce the agreement, quality control standards may be left unsupervised.73 This can subject
65
Id.
66
Jeanfreau, supra note 5, at 375.
67
Lubrizol Enters., 756 F.2d at 1047; see supra Part II(B)(i).
68
Riback, supra note 59, at 872.
69
In re Exide Techs., 340 B.R. at 250-51; Saunders, supra note 43, at 57.
70
Jeanfreau, supra note 5, at 375.
71
Riback, supra note 3, at I(B)(2).
72
Riback, supra note 59, at 883.
73
Riback, supra note 59, at 880-81.
12
13. the licensor to claims of abandonment for failure to control the quality of products bearing its
trademarks and potentially cause damage to the licensor’s reputation.74 The licensor can seek
relief from stay for “cause” under Section 362(d)(1) to terminate the license for lack of adequate
protection under Section 361.75 Arguably, there is no adequate protection available when a
licensor’s reputation is at stake.76 In practice, however, it appears that a court is unlikely to grant
relief from stay for cause unless the licensor timely demonstrates that quality control is a real
concern.77
III. EXCLUSIVITY VERSUS NON-EXCLUSIVITY
Whether an intellectual property license agreement is exclusive can make a difference in
whether the license will be assumable in a bankruptcy proceeding. For example, under
applicable copyright law, an exclusive license acts as a transfer of the copyright since the
licensee gains a property interest in the copyright,78 thus consent for assignment is not required.
Conversely, since non-exclusive copyright licenses confer no ownership rights to the licensee,
they are not assignable absent licensor consent.79 Under patent law, neither exclusive nor non-
exclusive patent licenses are assignable absent the licensor’s consent and, as such, licenses are
considered to be personal to the licensee.80
74
Id.
75
Jeanfreau, supra note 5, at 377.
76
In re B-K of Kansas, Inc., 69 B.R. 812, 815 (D. Kan. 1989) (“trademarks and service
marks…[are] such a type [of property] that money may never adequately protect the movant.
The movant’s reputation to the general public is at stake”); Riback, supra note 3, at I(C)(4).
77
Riback, supra note 59, at 884.
78
In re Golden Books Family Entm’t, Inc., 269 B.R. 300, 309 (2001).
79
Id. at 310.
80
In re Hernandez, 285 B.R. 435, 440 (Bankr. D. Ariz. 2002) (exclusive patent); In re Catapult
Entm’t, Inc., 165 F.3d 747, 750 (1999) (internal citations omitted) (non-exclusive patent); In re
CFLC, Inc., 89 F.3d 673, 679 (9th Cir. 1996) (internal citations omitted) (non-exclusive patent).
13
14. In the trademark context, only a few courts have addressed the non-exclusive versus
exclusive issue. The most recent cases held a non-exclusive license is personal to the assignee
and not assignable to a third party.81 As such, a “a licensor need not accept performance from or
render performance to an entity other than the licensee.”82 If an exclusive license is treated as a
transfer of rights, then the license is not an executory contract and is thus does not fall under the
ambit of Section 365.83
III. THE DEBATE BETWEEN THE HYPOTHETICAL AND ACTUAL TESTS
The assignment of trademark licenses by a debtor licensee in bankruptcy is at the heart of
the trademark versus bankruptcy issue. The manner in which trademark licenses are treated in
bankruptcy proceedings could have a devastating effect on the parties to the agreement.84 As one
commentator points out, “when a party is suddenly forced to stop use of a trademark that has
become associated with a product and develop a new commercial identity, there will be an
obvious detrimental impact on sales of the product.”85 As discussed in Part II(B)(ii), supra,
under Section 365(a), the trustee has the ability to assume or reject an executory contract, subject
to the exceptions found in Section 365(c). Confusion arises depending on how the court
interprets Section 365(c)(1)’s “assume or assign” language. Courts interpreting the statute’s
based on its disjunctive, plain meaning follow the “hypothetical test,” while courts interpreting
the statute as conjunctive (i.e., “assume and assign”) follow the “actual test.”
81
In re The Travelot Co., Inc., 286 B.R. at 455. But see Riback, supra note 3, at I(C)(5)(c)(i)
(noting that this is dicta and appears to be contrary to other case law).
82
Id.
83
11 U.S.C. § 365(a) (“the trustee, subject to the court’s approval, may assume or reject any
executory contract”) (emphasis added).
84
In re Centura Software Corp., 281 B.R. 660, 674 n. 26 (internal citations omitted) (“rejection
of a trademark license can potentially destroy licensee’s business”); Saunders, supra note 42, at
58. See supra Part II(C)(ii).
85
Saunders, supra note 43, at 58.
14
15. A. THE HYPOTHETICAL TEST
The Third,86 Fourth,87 and Ninth88 Circuits follow the hypothetical test.89 Following
statutory language, the hypothetical test “examin[es] whether, hypothetically, without looking to
the individual facts of the case, any executory contracts could be assumed under applicable
federal law.”90 Applying the plain meaning of the statute, assumption and assignment are two
separate events, each requiring the nondebtor’s consent, before the agreement can be assigned.91
Courts applying the hypothetical test hold that Section 365(c)(1) prohibits the debtor from
assuming the trademark license without licensor consent, even if the debtor does not intend to
assign the license to a third party, but rather intends to continue using the license.92 The
hypothetical test prevents “the debtor from assuming an executory contract where the licensor
would be excused from accepting performance from a hypothetical third party.”93 Thus if,
hypothetically, the debtor would be prohibited from assigning the trademark license without the
nondebtor’s consent outside of bankruptcy, then the debtor cannot assume the agreement within
the bankruptcy.94 It does not matter if the debtor wants to perform under the agreement, rather
than actually assign the license to a third party.95
86
In re West Elec., Inc., 852 F.2d 79 (3d Cir. 1988).
87
In re Sunterra Corp., 361 F.3d 257 (4th Cir. 2004) (refusing to allow assumption of a software
license agreement even though the debtor did not intend to assign the agreement and the licensor
had consented to an assignment).
88
Catapult Entm’t, 165 F.3d 747 (refusing assignment of a non-exclusive patent license and
acknowledging that the “weight of lower court authority” follows the actual test); N.C.P. Mktg.,
337 B.R. 230.
89
It is unclear whether the Eleventh Circuit applies the hypothetical or actual test. See Jeanfreau,
supra note 5, at n. 48 (noting that the court in In re James Cable Partners, L.P. articulated the
hypothetical test but appears to have applied the actual test)
90
N.C.P. Mktg., 337 B.R. at 234 (internal citations omitted).
91
Sunterra Corp., 361 F.3d at 267.
92
Jeanfreau, supra note 5, at 377.
93
N.C.P. Mktg., 337 B.R. at 234 (internal citations omitted); Jeanfreau, supra note 5, at 377.
94
Riback, supra note 59, at 888.
95
Id.
15
16. Courts following the hypothetical test explain that they are adhering to settled rules of
statutory interpretation because the language of Section 365(c)(1) is clear and unambiguous (“the
trustee may not assume or assign”)96 and does not lead to absurd results.97 Or, put another way,
the Bankruptcy Code does not give any special override to trademark license assignments, as it
does to other assignments in Section 365(f).98
Critics of the hypothetical test point to the Sunterra case as an example of the “mischief”
that the hypothetical test can cause.99 In RCI Technology Corporation v. Sunterra Corp. (In re
Sunterra Corp.),100 the Fourth Circuit, applying the hypothetical test, found that a fully paid,
irrevocable, perpetual non-exclusive software license agreement could not be assumed even
though the licensor had consented to the assignment in the license agreement and the debtor did
not propose assigning the license to a third party, but rather intended to assume the agreement as
debtor in possession.101 The basis for the court’s reasoning is that the assignment provision of
the agreement did not address assumption, and since assignment and assumption are two distinct
events, consent is required for both.102 Although this result was “quite unreasonable,” it did not
reach the level of absurdity required for the court to consult legislative history.103
96
11 U.S.C. § 365(c)(1) (emphasis added).
97
Catapult Entm’t, 165 F.3d at 754.
98
11 U.S.C. § 365(f)(1) states in pertinent part “except as provided in subsection (b) and (c) of
this section, notwithstanding a provision in an executory contract…of the debtor, or in applicable
law, that prohibits, restricts, or conditions the assignment of such contract…, the trustee may
assign such contract…”
99
David H. Kennedy, Bankruptcy Issues in Intellectual Property Transactions, Practising Law
Inst., Handling Intellectual Property Issues in Bankruptcy in Business Transactions 2009, 956
PLI 151, 191 (2009).
100
Sunterra Corp., 361 F.3d 257.
101
Id. at 263.
102
Id. at 271-72.
103
Id. at 268.
16
17. B. THE ACTUAL TEST
The First104 and Second105 Circuits follow the actual test, which examines “whether the
executory contract at hand, in actuality, can be assumed when applying the applicable federal
law.”106 Thus, in these Circuits, the assignment of a license is only relevant if the debtor wishes
to actually assign the agreement.107
Courts following the actual test explain that following the hypothetical test would cause a
debtor to “lose its option to assume the contract, even though it never intended to assign the
contract.”108 In essence, these courts adhere to a case-by-case factual inquiry to determine
“whether the nondebtor …actually was being ‘forced to accept performance…from someone
other than the debtor . . . with whom it originally contracted.’”109 In other words, the actual test
acts to protect a nondebtor from “being forced to accept service from or render service to entities
other than the entities which they originally contracted.”110
Critics of the actual test argue that the actual test rewrites Section 365(c)(1) to prohibit
“assumption and assignment, as opposed to assumption or assignment,”111 while proponents
argue that reading the statute as conjunctive, rather than disjunctive, is “more harmonious” with
bankruptcy policy.112 Citing canons of statutory interpretation, at least some courts are unwilling
to foray into an area that is reserved for the legislative branch.113
104
Institut Pasteur v. Cambridge Biotech Corp., 104 F.3d 489 (1st Cir. 1997).
105
Footstar, 323 B.R. 566.
106
N.C.P. Mktg., 337 B.R. at 234 (internal citations omitted).
107
Riback, supra note 59, at 888.
108
Institut Pasteur, 104 F.3d at 493 (emphasis in original). This was the case in In re Sunterra,
see supra Part III(A).
109
Institut Pasteur, 104 F.3d at 493 (emphasis in original).
110
Rudolph J. Di Massa, Jr. & Matthew E. Hoffman, Assumption and Assignment of IP License
Agreements in Bankruptcy: Circuit Split Continues, 27 AM. BANKR. INST. J. 20, 55 (2008).
111
Id. (emphasis in original).
112
Sunterra Corp., 361 F.3d at 268-69 (internal citations omitted).
113
Id. at 269 (internal citations omitted).
17
18. In summary, under the hypothetical test, a debtor could not assume an agreement if the
nondebtor was excused from accepting performance from a hypothetical third party. Conversely,
applying the actual test, the debtor would be allowed to assume the agreement if it did not intend
to assign, because the nondebtor would not actually be forced to accept performance from a party
other than debtor.114
The debate between the hypothetical and actual tests was presented to the Supreme Court
in N.C.P. Marketing v. BG Star Productions, Inc.
IV. N.C.P. MARKETING V. BG STAR PRODUCTIONS, INC.
In the late 1990s, Billy Blanks appeared on the scene with the then novel idea of
combining martial arts with boxing, resulting in the pop culture fitness phenomenon known as
Tae Bo®.115 Blanks and his wife own the Tae Bo® trademark, among others, through their
company BG Star.116 In August 1999, BG Star entered in to an agreement with N.C.P.
Marketing for the sale and marketing of Tae Bo® branded products.117 Shortly thereafter, a
disagreement arose over the parties’ obligations under the agreement.118 In 2001, the parties
settled their differences via settlement agreement which confirmed BG Star’s ownership in the
Tae Bo® trademark. In 2002, the parties entered in to a license agreement outlining how the
trademark was to be used in marketing and selling the related products.119
N.C.P. failed to pay royalties to BG Star under the license, thereby materially breaching
the agreement.120 BG Star arbitrated its claim against N.C.P. and won a $2.1 million
114
Sunterra Corp., 361 F.3d at 263.
115
What is Tae Bo – Billy Blanks, http://www.billyblanks.com/category/meet+billy/what-is-tae-
bo.do (last visited Dec. 14, 2009).
116
N.C.P. Mktg., 337 B.R. at 232.
117
Id.
118
Id.
119
Id. The Court found that the 2001 and 2002 agreements superseded the 1999 agreement. Id.
120
Id. at 233.
18
19. judgment.121 N.C.P., unable to pay the judgment, filed for Chapter 11 protection.122 In its
disclosure statement, N.C.P. claimed ownership of the Tae Bo® brand, which the Blanks, on
behalf of BG Star, disputed.123 BG Star moved for an order compelling the rejection of the
license agreement, which the bankruptcy court granted and N.C.P. appealed.124
On appeal to the United States District Court, District of Nevada, the court affirmed the
bankruptcy court’s order and concluded that BG Star had only granted N.C.P. a non-exclusive
license giving N.C.P. the right to assign a non-exclusive license.125 The district court held that
under trademark law, “trademarks are personal and non-assignable without the consent of the
licensor” and thus N.C.P. could not assume the agreement.126
N.C.P. appealed the district court’s decision and the Ninth Circuit Court of Appeals
affirmed without oral argument.127 N.C.P. petitioned the Supreme Court for a writ of
certiorari.128 In denying certiorari, the Supreme Court issued a statement acknowledging the
importance of resolving the dispute between the hypothetical and actual test, but reserving the
decision for a more appropriate case.129
Justice Kennedy joined by Justice Breyer, appeared to suggest a preference for the actual
test, stating that non-debtors under the hypothetical test receive a windfall:
121
Id.
122
Id.
123
Id.
124
Id. at 232.
125
Id. at 237.
126
Id. It appears from the district court’s opinion that there may have been confusion about
whether N.C.P. could assign the non-exclusive trademark license agreement as opposed to
assigning the actual trademarks (“NCP does not have the consent of the Blanks to license to third
parties at this time and therefore cannot assume the trademarks under Section 365(c)(1)”). Id. at
238 (emphasis added).
127
N.C.P. Mktg. Group, Inc. v. BG Star Prods., 279 Fed. Appx. 561 (2008).
128
N.C.P. Mktg. Group, Inc. v. BG Star Prods., 2008 WL 4525353 (Oct. 6, 2008).
129
N.C.P. Mktg., 556 U.S. __ , 129 S. Ct. 1577.
19
20. [i]f the debtor is outside of bankruptcy, then the nondebtor does not have the
option to renege on its agreement; but if the debtor seeks bankruptcy protection,
then the nondebtor obtains the power to reclaim – and resell at the prevailing,
potentially higher market rate – the rights it sold to the debtor.130
Justice Kennedy, did, however, acknowledge that the actual test provides its own
challenges: “[i]t may be argued, for instance, that the actual test aligns with § 365(c) with sound
bankruptcy policy only at the cost of departing from at least one interpretation of the plain text of
the law.”131
V. GOING FORWARD
The treatment of trademark licenses in bankruptcy proceedings is not of little
consequence. In 2008, despite the recent economic downtown, royalty payments for brand
licenses alone topped $5.7 billion.132 Twenty-one years ago when the IPBPA was enacted, the
global marketplace looked very different than it does today. The Internet as we know it today
was just beginning to take shape, and certainly most did not imagine that it would become the
global e-commerce133 resource that it is today. Although there does not appear to be a perfect
solution, there are several options worth investigating further to address the treatment of
trademark licenses in bankruptcy proceedings.
First, as a matter of which “applicable law” applies in the case of a true assignment to a
third party, the courts could review trademark license agreements as personal service contracts
since the identity of the licensee is a material element of the license agreement. It is a
130
Id. It appears that the Supreme Court may also have confused the license agreement and the
actual trademark since the Court’s statement refers to “resell” and “sold.” Rights under a license
agreement are just that, a license, and not a sale.
131
Id. at 1578.
132
Reuters Business Wire, Licensing Royalty Revenues Decline 5.6% in 2008, Brand Owners
Look to Position Themselves for the Future, June 2, 2009,
http://www.reuters.com/article/pressRelease/idUS151856+02-Jun-2009+BW20090602. See
supra n. 14 (discussing the different types of trademark licenses).
133
Nguyen, supra note 14, at 1302.
20
21. foundational principle of trademark law that the trademark owner has the exclusive choice in
deciding whom to allow to represent its image, brand, and good will. It would be inequitable to
deny the licensor the right to choose its partner in exploiting its valuable trademark assets.
As a starting point for any statutory amendment to Section 365(n), the legislature should
conduct the “extensive study” that is described in the IPBPA legislative history and determine
how trademarks should be handled in light of the results. The study should include soliciting
information from representatives of licensors and licensees, experts in the field of trademark law,
experts in licensing and marketing, representatives from the United States Patent and Trademark
Office, judges, and attorneys. Given that so much time has passed since the IPBPA was enacted,
the study panel can analyze historical information about the importance of quality control and
how trademark law views a lack of quality control, and the effect on the licensor’s rights. The
panel should also seek information from licensees to determine whether simply amending
Section 365(n) to include trademarks, trade names, and services marks would address licensee
concerns. The result of the study would provide a basis to determine a workable solution for
both licensees and licensors.
As noted above, Section 365(n) could be amended to include trademarks, trade names,
and service marks when the court finds that the quality of the goods or services will be
maintained.134 This should provide a workable resolution for licensees when a licensor files for
bankruptcy. Additionally, amendment of Section 365(n) should include a section dealing with
debtor licensees. This provision would need to address quality control procedures to ensure (1)
the licensee maintains its quality in the case of a licensee bankruptcy, and (2) allows the licensor
to continue to monitor quality from the time of filing the bankruptcy petition until any transition
134
Saunders, supra note 43, at 58.
21
22. period expires, without need to seek relief from stay to do so. This resolution would address
quality control issues when a licensee rejects a license agreement.
In the alternative, the Code could provide for the appointment of a trademark
ombudsman, similar to the consumer privacy (Section 332) and patient care ombudsman
(Section 333) may be an appropriate solution. The trademark ombudsman would monitor the
quality of products produced by the licensee and report to the court whether the quality meets
appropriate quality standards. The trademark ombudsman would be a disinterested third party
knowledgeable or expert in trademark law that would be appointed by the court in cases
involving trademark licenses. The cost of the trademark ombudsman could be subsidized by a
nominal fee increase for the filing of trademark applications.
The hypothetical test versus actual test debate does not appear to have an easy resolution
absent revision to the code or interpretation from the Supreme Court. The Supreme Court is
reluctant to address this important issue because of the specialized and sometimes complicated
application of trademark law in the bankruptcy context.135
A true assumption and assignment situation presents problems. Presumably, prior to
entering into a licensing arrangement with a licensee, the licensor investigates the licensee’s
creditworthiness and general suitability. If the licensee is allowed to assign the agreement to a
third party without the licensor’s consent, the licensee is denying the licensor the ability to
perform its due diligence as to suitability, this potentially materially increasing the licensor’s
risk. Thus, under contract principles, the assignment of the agreement should be prohibited.136
The actual test, employing a case-by-case analysis to determine whether there is proposed
performance by a third party, appears to be the least problematic and aligns with bankruptcy
135
N.C.P. Mktg., 556 U.S. at __, 129 S. Ct. at 1578.
136
Restatement (2d) of Contracts § 317(2)(a).
22
23. policy. In a pure assumption situation, absent any legitimate quality control or adequate
protection concerns, it would be inequitable to allow a licensor to use the licensee’s bankruptcy
as a “second bite at the apple” to get out of the agreement.
Finally, the courts can analyze the treatment of trademark licenses under equitable
principles, balancing licensor and licensee concerns to reach a fair result. Although Congress
explicitly encouraged the bankruptcy courts to determine equitable principles for handling
trademark licenses,137 few have elected to do so.138 Courts have cited the plain, unambiguous
language of the Code as the reason they need not consult legislative history.139 However, if
following the plain meaning of the statute would lead to absurd results or a result “demonstrably
at odds with the intent of the drafters” the courts should consult legislative history and other
methods of statutory interpretation to reach the correct result.140 As one group of commentators
point out, canons of statutory construction in bankruptcy court decisions “do not necessarily
compel consistent conclusions.”141
CONCLUSION
The “parallel universe” created by forcing trademark law and bankruptcy law to mesh
together creates numerous nuanced issues and little consistency in application. It is clear that
Congress needs to undertake an extensive study to deal with each of these trademark issues in the
context of the bankruptcy proceeding to ensure that licensors maintain their reputation with the
consuming public and associated goodwill, while protecting licensees who depend on a
licensor’s trademarks for the survival of its business. Until these issues are investigated more
137
See supra Part II(B)(i).
138
Jeanfreau, supra note 5, at 374.
139
In re Centura Software Corp., 281 B.R. 660, 670 (Bankr. N.D. Cal. 2002); Saunders, supra
note 43, at 58.
140
Bass, supra note 1; Catapult Entm’t, 165 F.3d at 753 (internal citations omitted).
141
Bass, supra note 1.
23
24. fully, there will continue to be a disconnect between the two universes rather than a manageable,
if not more harmonious co-existence.
24