Trademarks in Bankruptcy

Last week, in Mission Products, Inc. v. Tempnology, LLC, ___ U.S. ___, Case No. 17-1657 (May 20, 2019), the U.S. Supreme Court resolved a circuit split by clarifying the consequences of a bankruptcy debtor’s rejection of a trademark license when the bankruptcy debtor is the trademark licensor. Rejection under such circumstances has the same effect as a breach outside of bankruptcy. When the bankruptcy debtor rejects the trademark license agreement, the licensee may choose to maintain its rights (and obligations) under the agreement or to terminate the agreement (and to seek damages for the breach in either case).

Mission Products, Inc. entered into a marketing agreement with Tempnology, LLC. Under the marketing agreement, Tempnology granted Mission Products a non-exclusive license to use Tempnology’s COOLCORE mark. Before the marketing agreement expired, Tempnology filed a petition seeking bankruptcy protection.

Under section 365(a) of the Bankruptcy Code, debtors in bankruptcy may choose to assume or reject executory contracts (subject to the approval of the Bankruptcy Court). Executory contracts are contracts in which neither party has fully performed (i.e., performance is ongoing for both parties). The agreement between Mission Products and Tempnology was an executory contract. Tempnology chose to reject it. Rejecting an executory contract constitutes a breach of the contract that is deemed to have occurred immediately prior to filing the bankruptcy petition. This leaves the non-breaching party with a pre-petition claim against the bankruptcy estate, and places it alongside other unsecured creditors seeking remedies from the bankruptcy debtor.

Section 365 of the Bankruptcy Code gives certain rights to those whose executory contracts have been rejected (and therefore breached) by a bankruptcy debtor. Section 365(n) allows a licensee of intellectual property rights to continue exercising the rights granted to it under the license, so long as it continues to fulfill its corresponding obligations (e.g., royalty payments). However, the definition of “intellectual property” under the Bankruptcy Code covers patents and copyrights (and certain other intellectual property rights), but not trademarks.

Because of trademarks’ absence from Section 365(n), different courts have treated the consequences of a bankruptcy debtor/trademark licensor’s rejection of a trademark license differently (thus creating a split among the circuits). In this case, the Bankruptcy Court held that Tempnology’s rejection of the license meant Mission Products no longer had permission to use Tempnology’s trademarks. The Bankruptcy Court reasoned that because trademarks were not included within the scope of Section 365(n), this was an intended consequence of Tempnology’s rejection of the marketing agreement. The Bankruptcy Appellate Panel reversed, noting that (according to Section 365(g) of the Bankruptcy Code) rejection of an executory contract is a breach of such agreement. Breaching an agreement does not ordinarily eliminate rights previously conferred by the agreement. However, the U.S. Court of Appeals for the First Circuit agreed with the Bankruptcy Court’s original decision, and thus reversed the decision of the Bankruptcy Appellate Panel’s decision. In doing so, the First Circuit reasoned that trademark licensors must exercise quality control over the use of their marks by licensees. By allowing the licensee to continue using the marks after the debtor in bankruptcy rejects the license agreement, the Bankruptcy Appellate Panel’s decision would impose obligations on the debtor in bankruptcy. This would undermine some of the objectives of the Bankruptcy Code, to relieve debtors in bankruptcy of burdensome obligations. The U.S. Supreme Court accepted Mission Products’ petition for certiorari.

The Supreme Court held that a debtor in bankruptcy’s rejection of a trademark license agreement constitutes a breach (not rescission) of the agreement. The absence of a specific reference to trademarks in Section 365(n) does not indicate that Congress wanted the trademark licensee to lose its rights. Neither do the specific nuances of trademark law require that rejection of a trademark license result in rescission. Rather, rejection of the trademark license agreement constitutes breach of the agreement. This leaves the licensee with the right of termination (if it chooses) or the right to continue exercising its rights and performing its obligations (and to seek damages for the breach in either case). In this way, the purpose of bankruptcy is preserved. The assets of the debtor in bankruptcy are neither expanded nor contracted merely by virtue of the bankruptcy.

In reaching its conclusion, the Supreme Court addressed Tempnology’s primary two arguments. First, the omission of trademarks from Section 365(n) does not warrant an inference that rejection of trademark licenses should result in rescission. Rather, it merely indicates Congress’ focus on legislating a provision that would overrule a decision affecting patent licenses. Second, the special requirements imposed on trademark licensors do not justify treating rejection of trademark licenses as a rescission, especially as adopting Tempnology’s reasoning would have implications beyond the trademark license context. Thus, the Supreme Court reversed the decision of the First Circuit and remanded for further proceedings consistent with its opinion.

Justice Sotomayor concurred in the opinion, but wrote separately to highlight two issues. First, not every trademark licensee may continue using the mark if the trademark licensor/debtor in bankruptcy rejects the trademark licenses. Rather, one must still look to non-bankruptcy law and the facts of the case at hand, the language of the agreement, and other law to determine whether the trademark licensee may continue to use the mark. Second, the rights of a trademark licensee may be broader than the rights of a licensee of other intellectual property if the limitations of Section 365(n) (such as the one prohibiting deduction of damages from royalty payments) do not apply to trademark licensees.

With this decision, the Supreme Court brings a measure of certainty to the impact the trademark licensor’s bankruptcy could have on the relationship between the parties.