United States: Trademark Licenses Survive Bankruptcy, Says The Supreme Court

Can a trademark licensee continue using a licensed trademark (legally, that is) even after the licensor has declared bankruptcy and—as allowed by the Bankruptcy Code—rejected the licensing agreement? As the Supreme Court has now said, the answer is yes.

In 2012, Tempnology, LLC, owner of the COOLCORE trademark, entered into a license agreement with Mission Product Holdings, Inc. that gave Mission two rights: the non-exclusive right to use the COOLCORE trademark in the United States and around the world, and the exclusive right to distribute certain COOLCORE products in the United States. The COOLCORE license expired in July 2016.

Unfortunately, Tempnology filed for bankruptcy in September 2015, leaving it with two options to handle the COOLCORE license under the Bankruptcy Code. Because the COOLCORE license was an "executory contract" (a contract that neither party had finished performing), Tempnology could either "assume" the COOLCORE license, obligating both parties to continue performing as agreed, or "reject" it, relieving Tempnology of its obligations but "breaching" the agreement and allowing Mission to sue for damages. Tempnology opted for the latter, believing that by rejecting the COOLCORE license, it also terminated Mission's right to continue using the COOLCORE trademark for the remainder of the license period.

The Bankruptcy Court agreed, finding that Tempnology's rejection terminated the COOLCORE license. The Bankruptcy Appellate Panel reversed, and on appeal, the First Circuit reversed again, reinstating the Bankruptcy Court's initial opinion.

Enter the Supreme Court.  Despite nearly a three-year gap between the expiration of the COOLCORE license (July 2016) and the Supreme Court's opinion (May 20, 2019), the Court found that the case was ripe for determination based on Mission's lost-profits claim arising from Mission's inability to use the COOLCORE trademark after Tempnology rejected the COOLCORE license. While Justice Gorsuch dissented, believing the case was moot because the license had expired, the majority disagreed and proceeded to the merits.

The Court began by looking to the text of the Bankruptcy Code, which provides that "rejecting" an executory contract during bankruptcy "constitutes a breach." Because Congress intended the Bankruptcy Code to incorporate the established meanings of terms with settled definitions, like "breach," the Court held that a "breach" in the bankruptcy context is equivalent to a "breach" in other contexts.

The Court thus looked to contract law to determine what consequences flowed from a rejected, i.e., breached, contract. In doing so, the Court crafted a clever hypothetical (something the opinion's author, Justice Kagan, is well known for) concerning the lease of a photocopier.  In the hypothetical, a lessor leased a photocopier, which the lessor was obligated to service on a monthly basis, to a lessee. The Court assumed the lessor breached its service obligations and asked whether that breach affected the lessee's ability to continue using the photocopier. Answer: no.  The lessor's breach gave the lessee the option to either continue using the photocopier and paying the lessor or return the photocopier and stop making payments. But the breach did not allow the lessor to unilaterally force the lessee to return the photocopier.

Relying on this hypothetical, the Court held that the consequences flowing from a rejection of a contract in bankruptcy are no greater than those flowing from a breach of contract in other contexts. In other words, "a rejection does not terminate the contract." And because the Bankruptcy Code speaks broadly to "any executory contract," the Court found that this principle applies to trademark licenses—just as the breaching lessor could not force the lessee to give up the photocopier, Tempnology could not force Mission to stop using the COOLCORE trademark simply by rejecting the license during bankruptcy.

The Court supported its decision with two fundamental bankruptcy principles.  First, "the estate cannot possess anything more than the debtor itself outside of bankruptcy." But if a rejection operated as a termination, the debtor's estate may recapture interests otherwise given up pre-bankruptcy. Second, equating rejection with termination would undermine the exceptional (and narrow) scenarios where an estate legally can undo pre-bankruptcy transfers—called "avoidance"—since it would make rejection the functional equivalent of avoidance.

The Court also rejected Tempnology's "negative inference" argument that because the Bankruptcy Code identifies several types of contracts where the counterparty may retain rights notwithstanding the bankrupt party's "rejection" of the contract, it should be inferred that "the ordinary consequence of rejection must be something different" —i.e., the contract's termination. The Court noted that this argument failed to account for the Code's statement that rejection "constitutes a breach." And the Court also observed that the argument ignored the history of the provisions Tempnology relied on. Specifically, each of these provisions "emerged at a different time, over a span of half a century"—and each was passed by Congress to respond to "a discrete problem." In fact, the Court noted that "as often as not," the provisions had been passed to correct "a judicial ruling of just the type that Tempnology urges." In the end, as a result, the Court held that these provisions actually weighed against construing rejection as termination.

And finally, the Court rejected Tempnology's argument that allowing Mission to retain rights in the license may hinder a debtor's ability to reorganize by forcing it to "choose between expending scarce resources on quality control [of the licensed trademark] and risking the loss of a valuable asset [through naked licensing]." The Court noted, in particular, that while this argument was "trademark-specific," Tempnology's reading of the Bankruptcy code as meaning that rejection of a contract terminates the counterparty's rights unless an express exception applies was not, thus its arguments were "mismatch[ed]." And beyond that, the Court noted that in enacting the Bankruptcy Code, Congress weighed the interests not just of the debtor but also of its counterparties, so it could well be that it would impede the ability of some debtors to reorganize. 

Plus, as Justice Sotomayor stated in her concurrence, it may not always be the case that a licensee's rights under a licensing agreement would survive the agreement's rejection in bankruptcy.  As she said, "[s]pecial terms in a licensing contract or state law could bear on that question in individual cases." As a result, at least in Justice Sotomayor's view, parties would presumably be free to include a termination clause in a trademark licensing agreement that would terminate the license when the debtor rejected it in bankruptcy.

The case is Mission Product Holdings, LLC v. Tempnology, LLC, No. 17-1657 (2019).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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