This morning the U.S. Supreme Court issued its opinion in
Mission Product Holdings Inc. v. Tempnology LLC, holding that a debtor-licensor’s rejection of a trademark license does not automatically deprive the licensee of the right to use the trademark going forward. As Justice Elena Kagan states, writing for an eight justice majority, “A rejection breaches a contract but does not rescind it. And that means all the rights that would ordinarily survive a contract breach, including those conveyed here, remain in place.”
The Supreme Court’s decision, which applies to all executory contracts, will likely affect a debtor-licensor’s ability to use the threat of rejection to force renegotiation of trademark licenses or to reconvey trademark rights to a purchaser free and clear in bankruptcy. As Justice Kagan observes, allowing debtors to unilaterally prevent licensees from using trademarks via rejection - which bankruptcy courts “generally approve” under a “deferential” business judgment standard - is the “functional[] equivalent” of allowing a debtor to avoid a pre-bankruptcy transfer of the trademarks to the licensee, and leaves the licensee as an unsecured claimant “who in a typical bankruptcy may receive only cents on the dollar.”
By foreclosing this possible “avoidance” power in connection with rejection of an executory contract, the Supreme Court has likely reduced the leverage of debtors negotiating modifications to existing licenses and potentially limited the value of trademark rights as saleable assets in bankruptcy because a licensee will be able to continue using the trademarks even if the debtor rejects a trademark licensing agreement. Addressing the debtor’s arguments regarding the expense of post-rejection trademark monitoring, Justice Kagan acknowledges that the congressional balancing of the interests of debtors and licensees behind the decision “may indeed impede some reorganizations, of trademark licensors and others.”
Justice Neil Gorsuch dissents from the majority but takes no view on the merits, concluding that the matter is moot because the license at issue expired by its own terms in 2016. Justice Sonia Sotomayor also issued a short concurrence clarifying her view of the limitations of the decision.
Background
In 2012, Tempnology granted Mission a non-exclusive worldwide license to use certain trademarks. Tempnology filed a chapter 11 case in September 2015 and sought authority to reject the licensing agreement under section 365(a) of the Bankruptcy Code. According to Justice Kagan, section 365 “enables the debtor (or its trustee), upon entering bankruptcy, to decide whether the contract is a good deal for the estate going forward. If so, the debtor will want to assume the contract, fulfilling its obligations while benefiting from the counterparty’s performance. But if not, the debtor will want to reject the contract, repudiating any further performance of its duties.”
The bankruptcy court “per usual” approved Tempnology’s proposed rejection of its licensing agreement with Mission, states Justice Kagan, allowing the debtor to “stop performing under the contract” and entitling Mission to “a pre-petition claim in the bankruptcy proceeding for damages resulting from Tempnology’s nonperformance,” for “whatever it might be worth.” As Justice Kagan notes, “[S]uch a claim is unlikely to ever be paid in full. … Section 365(g) places that party in the same boat as the debtor’s unsecured creditors, who in a typical bankruptcy may receive only cents on the dollar.”
The parties’ dispute centers on the effect of Tempnology’s rejection on Mission’s right to use the trademarks going forward. According to Justice Kagan, section 365(g) provides that “the rejection of an executory contract ... constitutes a breach of such contract. … [T]he counterparty thus has a claim against the estate for damages resulting from the debtor’s nonperformance.” Tempnology, however, argued that rejection also rescinded the license and terminated Mission’s right to use the trademarks - citing a line of case law adopting what Justice Kagan labels the “rejection-as-rescission” approach.
The bankruptcy court sided with Tempnology and followed the “rejection-as-rescission” approach, holding that Mission could not use the trademarks after rejection. After the bankruptcy appellate panel reversed, the First Circuit, following Third Circuit precedent and rejecting
Seventh Circuit precedent, agreed with the bankruptcy court.
The Supreme Court granted certiorari to resolve the conflict, as summarized by Justice Kagan: “According to one view, a rejection has the same consequence as a contract breach outside bankruptcy: It gives the counterparty a claim for damages, while leaving intact the rights the counterparty has received under the contract. According to the other view, a rejection (except in a few spheres) has more the effect of a contract rescission in the non-bankruptcy world: Though also allowing a damages claim, the rejection terminates the whole agreement along with all rights it conferred.”
Majority Opinion
Justice Kagan, writing for the majority, rejects the “rejection-as-rescission” approach on the grounds that it would grant debtors more rights in bankruptcy than a breaching party would have outside of bankruptcy. The majority reasons that outside of bankruptcy a breaching party cannot use its own breach to terminate an agreement and recover the property or rights transferred. For example, if a dealer breaches its agreement to service a leased photocopier, it is up to the lessee to determine whether to terminate and return the copier or keep it, continue paying the lease amounts, and sue for damages. “The dealer cannot get back the copier just by refusing to show up for a service appointment,” Justice Kagan writes.
The majority opinion submits that the same must hold true in bankruptcy: If a debtor-licensor elects to breach a trademark license by rejecting it under section 365(a), then the choice whether to terminate and “return” the trademarks belongs to the licensee, not the debtor. “If the licensor breaches the agreement outside bankruptcy … the breach does not revoke the license or stop the licensee from doing what it allows,” Justice Kagan concludes. Therefore, because rejection in bankruptcy constitutes a breach, “the same consequences follow in bankruptcy. The debtor can stop performing its remaining obligations under the agreement. But the debtor cannot rescind the license already conveyed. So the licensee can continue to do whatever the license authorizes.”
Justice Kagan observes that “[b]y insisting that the same counterparty rights survive rejection as survive breach, the rule prevents a debtor in bankruptcy from recapturing interests it had given up” prior to bankruptcy, whereas the “rejection-as-rescission” approach “would circumvent the Code’s stringent limits on ‘avoidance’ actions - the exceptional cases in which trustees (or debtors) may indeed unwind pre-bankruptcy transfers that undermine the bankruptcy process.” As Justice Kagan observes, “If trustees (or debtors) could use rejection to rescind previously granted interests, then rejection would become functionally equivalent to avoidance.”
The majority opinion also finds that the “rejection-as-rescission” approach fails to recognize that the protections for certain specific contractual rights in section 365(n) (which exclude trademarks) are not a “neat, reticulated scheme” but a “mash-up of legislative interventions” reflecting Congressional intent to limit the view that rejection necessarily leads to termination. According to Justice Kagan, “Congress did nothing in adding Section 365(n) to alter the natural reading of Section 365(g) - that rejection and breach have the same results.”
Concurring Opinion
Justice Sotomayor writes a concurring opinion “to highlight two potentially significant features of today’s holding.” First, according to Justice Sotomayor, the court “does not decide that every trademark licensee has the unfettered right to continue using licensed marks postrejection.” The concurring opinion explains that “[s]pecial terms in a licensing contract or state law could bear on that question in individual cases.” Second, “the Court’s holding confirms that trademark licensees’ postrejection rights and remedies are more expansive in some respects than those possessed by licensees of other types of intellectual property.” However, “[a]lthough these differences may prove significant for individual licensors and licensees, they do not alter the outcome here. The Court rightly rejects Tempnology’s argument that the presence of §365(n) changes what §365(g) says.”
Dissenting Opinion
In his dissent, Justice Gorsuch does not address the majority decision on the “rejection-as-rescission” approach, instead indicating that he believes the matter is moot because the license expired by its own terms in 2016. According to Justice Gorsuch, “After the bankruptcy court ruled, the license agreement expired by its own terms, so nothing we might say here could restore Mission’s ability to use Tempnology’s trademarks.” Justice Gorsuch finds that Mission’s surviving claims for damages are not sufficiently “viable” to present a live case for decision