Eric E. Bensen on the Seventh Circuit's Holding that a Nondebtor Trademark Licensee can Retain its License After Rejection of the License Agreement in Bankruptcy

Eric E. Bensen on the Seventh Circuit's Holding that a Nondebtor Trademark Licensee can Retain its License After Rejection of the License Agreement in Bankruptcy

Sunbeam Products Inc. v. Chicago American Mfg. ("Sunbeam") upends a long-held, although occasionally challenged, understanding that unlike other nondebtor intellectual property licensees, which receive express safeguards against termination of their licenses in bankruptcy under 35 U.S.C. § 365(n), a nondebtor trademark licensee's license effectively terminates upon rejection of the license agreement in bankruptcy.

Excerpt: Summary of the Case

The pertinent facts of Sunbeam are relatively straightforward. Prior to bankruptcy, the debtor entered into an agreement with Chicago American Manufacturing ("CAM") under which CAM would manufacture box fans and ship them directly to the debtor's customers under debtor's trademark. Cam received the right to sell off its inventory of box fans for its own account if the debtor did not purchase them. After the debtor entered bankruptcy, Sunbeam purchased the debtor's assets, including the trademarks. The trustee rejected the trademark license to preclude CAM from selling fans in competition with Sunbeam. CAM nonetheless continued to sell the fans. Accordingly, Sunbeam filed an adversarial action against CAM.

The bankruptcy court ruled that, as a matter of equity, CAM was entitled to continue selling the box fans under the debtor's trademark pursuant to the parties' agreement. The district certified a direct appeal of the ruling.

The Seventh Circuit's Holding

In Sunbeam, the Seventh Circuit followed a different path to conclude that a nondebtor trademark license could retain its license after rejection. Specifically, the court rejected the notion that bankruptcy courts have the latitude to exercise their equitable powers to preserve a trademark license after rejection of the license agreement because that latitude would run counter to the obligation that courts have "'to interpret the code clearly and predictably using well established principles of statutory construction.'"  However, the court also rejected the "negative inference" approach to construing section 365(n) on the grounds that "an omission is just an omission" and, thus, the omission of trademarks from the definition of "intellectual property" simply left trademark licenses unaffected by section 365(n). In the court's view, the issue of a trademark licensee's rights after rejection is resolved by 11 U.S.C. § 365(g), which provides that the rejection of an executory contract constitutes a breach of the contract.  Because rejection constitutes a breach--rather than a rescission--of an agreement, the court reasoned, rejection merely frees the debtor from the obligation to perform, it has no effect upon the contract's continued existence and, thus, no effect on the nondebtor's rights under the contract that are not dependent on the debtor's performance of an affirmative act.  Accordingly, the court held that the trademark licensee remained licensed under its agreement with debtor notwithstanding the debtor's rejection of the agreement.  In doing so, it expressly rejected the holding of Lubrizol.

Comment

The court's reasoning in Sunbeam, at least viewed in isolation, appears sound. The court's aptly analogized debtor trademark licensor to a lessor who enters bankruptcy and rejects the lease: the lesser may be liable for damages for its failure to perform its obligations under the lease, but, under section 365(g), the tenant can retain possession of the premises. Similarly, it would seem, if a trademark licensor enters bankruptcy and rejects the license, the licensor may be liable for damages for its failure to perform under the agreement, but, under 365(g), the license should be able to maintain possession of its "premises," i.e., its license to the trademark.

Nonetheless, Sunbeam raises some interesting questions.

Does Sunbeam apply to non-trademark licenses? The Seventh Circuit's rationale regarding section 365(g) would appear to apply to all forms of intellectual property licenses. After all, regardless of the type of intellectual property licensed, rejection constitutes a breach and, under the court's reasoning, a breach merely gives rise to a claim for damages, it does not terminate the license.

Does Sunbeam render 365(n) superfluous? Assuming any intellectual property license would survive rejection under section 365(g), it is not clear that there is any substantive difference between section 365(g) and the actual impact of section 365(n). Under either section, a licensee would be able to treat a license agreement as terminated if it could do so under the agreement's terms or nonbankruptcy law or, if it chose, continue to operate under the licensee by paying whatever royalties are due.

While a construction of one provision in a statute that renders another provision superfluous is generally considered incorrect, that canon of construction may not undermine Sunbeam's holding. As noted above, Congress passed section 365(n) in reaction to Lubrizol's holding that intellectual property licenses are not preserved under 365(g). If, as Sunbeam concludes, Lubrizol was wrong about section 365(g), then section 365(n) was superfluous from its inception. Looked at differently, if Sunbeam renders section 365(n) superfluous, it does so for historical reasons, not as the result of an incorrect reading of 365(n).

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