Five Things You Should Know for 2017 About Cross-Border IP Licensing and Insolvency Law

Brexit. Trump. The year 2016 can be characterized as one of unpredicted results and impending uncertainty. In June, the UK electorate voted to leave the European Union and in November, a tumultuous presidential campaign in the United States ended in a stunning win by Donald Trump. Businesses throughout the world sought not only to understand the possible implications of these and other major events, but also to take strategic advantage of them. As we move on to 2017, both domestic and internationally based companies are looking beyond their borders to protect against risks and capitalize on strategic opportunities across a changing international business landscape. As a result, many companies are re-evaluating their IP agreements and assessing the risks of cross-border licensing. International insolvency law can add another layer of complexity to such transactions. Here are five insolvency-related issues to keep in mind while transacting for and in connection with intellectual property across borders.

1. U.S. bankruptcy law is far more protective of the rights of IP licensees than other legal regimes.

Companies seeking to license intellectual property to or from entities in other countries should be aware that licensees are not likely to be given the same protections as they are afforded in the United States in the event their licensor enters insolvency proceedings. In the United States and in most countries around the world, the bankruptcy trustee or administrator has the right to reject certain pre-petition contracts of the debtor.

However, the United States Bankruptcy Code contains a special protection for licensees of intellectual property against such rejection powers in section 365(n), which provides:

(1) If the trustee rejects an executory contract under which the debtor is a licensor of a right to intellectual property, the licensee under such contract may elect…(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 (including any embodiment of such intellectual property to the extent protected by applicable nonbankruptcy law), as such rights existed immediately before the case commenced, for (i) the duration of such contract, and (ii) any period for which such contract may be extended by the licensee as of right under applicable nonbankruptcy law.

These provisions protect licensees from being stripped of their rights under a license agreement and allow them to retain rights thereunder (subject to making all royalty payments due, pursuant to related subsection 365(n)(2)) , including rights to exclusivity. Other countries, such as Germany for example, do not afford special protections to intellectual property contracts and they are treated the same as other executory contracts, as discussed in greater detail below. See, e.g., Jaffe v. Samsung Elecs Co., Ltd., 737 F.3d 14 (4th Cir. 2013) (“Qimonda”). Companies within the United States should be mindful of this difference when contemplating entering into license agreements with entities outside of the United States. Companies outside of the United States may want to consider this benefit of licensing intellectual property from U.S.-based companies.

Companies should also be aware of the limits of section 365(n). While it clearly applies to patents and copyrights, its application to trademarks has been the subject of litigation. Some recent cases have afforded the protections of 365(n) to trademark licensees. See, e.g., In re Crumbs Bake Shop, Inc., 522 B.R. 766 (Bankr. D.N.J. 2014); Sunbeam Prods., Inc. v. Chicago Am. Mfg., LLC, 686 F.3d 372 (7th Cir. 2012). In addition, there is some debate as to whether “intellectual property” includes foreign copyrights or trademarks, as the Bankruptcy Code defines the term to include patents and copyrights entitled to protection under the U.S. federal law.

2. A foreign debtor can obtain the protections of the United States Bankruptcy Code through Chapter 15 of the Bankruptcy Code.

U.S.-based companies transacting with foreign parties with regard to U.S.-based assets and intellectual property should also be aware of Chapter 15 of the Bankruptcy Code. By filing Chapter 15 bankruptcy proceedings in the United States and obtaining recognition of a foreign main proceeding, a foreign debtor (through its “foreign representative”) can obtain the assistance of the United States Bankruptcy Courts in protecting U.S.-based assets of the foreign debtor.

For instance, after recognition of a foreign proceeding as a foreign main proceeding under Chapter 15, a foreign debtor immediately obtains the protection of the automatic stay, which is a very broad protection prohibiting any attempt by a creditor to enforce a pre-petition debt or foreclose on an interest in property. In addition, U.S. bankruptcy courts can bind creditors and other parties to rulings of the foreign debtor’s foreign bankruptcy proceedings, even if such rulings are at odds with the United States Bankruptcy Code. For example, Section 365 and its subsection (n), discussed above, is not automatically applicable in a Chapter 15 bankruptcy case. However, bankruptcy courts are authorized to order that it is applicable, as the bankruptcy court did in Qimonda.

3. U.S. licensees of intellectual property may face challenges when seeking to benefit from the protections of section § 365(n) in cross-border insolvency proceedings.

When a foreign licensor of U.S. intellectual property goes bankrupt, will its U.S.-based licensees be entitled to the protections of section 365(n)? A recent case suggests that U.S. courts may be inclined to answer “yes.”

In Qimonda, a foreign licensor of U.S. patents filed for bankruptcy protection in Germany. The bankruptcy administrator also petitioned the U.S. Bankruptcy Court in Virginia under Chapter 15 for recognition of the German bankruptcy proceeding as a foreign main proceeding. The U.S. Bankruptcy Court granted the petition and provided, on its own, that section 365 would apply (as mentioned above, it does not automatically apply in Chapter 15 cases).

As part of liquidating the foreign debtor’s assets, the German bankruptcy administrator determined that several license agreements for U.S. patents were no longer favorable to the debtor. The German administrator rejected the licenses in the foreign proceeding and filed a motion with the U.S. Bankruptcy Court to determine (contrary to the court’s earlier order) that section 365(n) would not apply. Over the opposition of many licensees, the U.S. Bankruptcy Court effectively granted the German administrator’s motion, holding that 365(n) did not apply unless the German administrator was seeking to reject a contract pursuant specifically to section 365 (rather than pursuant to German law).

On appeal, the district court remanded and ordered that the Bankruptcy Court consider whether the interests of the creditors and other interested entities, including the debtor, were sufficiently protected pursuant to section 1522(a) of the Bankruptcy Code. Section 1522(a) states that the court may recognize a foreign proceeding “only if the interests of the creditors and other interested entities, including the debtor, are sufficiently protected.” On remand, the Bankruptcy Court determined that, after balancing the interests of the creditors and the foreign debtor, 365(n) should apply. The Fourth Circuit affirmed this holding.

The Qimonda decision is an important tool for licensees of intellectual property owned by a foreign entity, but its holding appears somewhat limited to its facts. For instance, the Fourth Circuit declined to impose a broad, across-the-board prohibition on rejecting license agreements without applying section 365(n). As a result, some uncertainty remains as to whether U.S.-based licensees of a foreign debtor can count on obtaining the protections of section 365(n)’s protections in the context of a Chapter 15.

4. Various strategies can help licensees protect their IP rights against risks of insolvency of foreign debtors.

Licensees transacting with foreign licensors have a range of options for protecting against the risk that the license will be rejected in a foreign bankruptcy. These options include the following:

• requiring that the licensor deposit the technology to a bankruptcy-remote special purpose entity (SPE) in the United States; 
• obtaining a lien on the intellectual property to secure performance on the license; and 
• including provisions in the license improving the licensees’ position in litigation should they become embroiled in a Qimonda-type situation, including provisions expressly recognizing the section 365(n) protections, the materiality of the 365(n)-type obligation, and the importance of the license.

5. U.S. bankruptcy law can also more robustly protect the rights of IP licensors than foreign law.

Licensors’ rights can also be put at risk by the bankruptcies of their license counterparties. Section 365(f)(1) of the Bankruptcy Code generally empowers a debtor or trustee in bankruptcy to assume and assign executory contract rights to third parties notwithstanding non-assignment provisions. However, section 365(c) of the Bankruptcy Code creates a narrow exception to this general rule, excusing the non-bankrupt party from accepting performance from a party other than the debtor. This exception is generally held to apply to non-exclusive licenses of U.S. patents and copyrights because applicable non-bankruptcy U.S. law favors the ability of owners of such intellectual property rights to control the identity of their licensees. However, where a license is governed by foreign law, the result may differ from U.S. law. As a result, in assessing risk, intellectual property licensors should be mindful of this potential difference when contracting for a license governed by non-U.S. law.

For more information, contact Marshall Hogan at Foley & Lardner LLP by email at [email protected] or by phone at (858) 847-6743.