In In re Interstate Bakeries Corporation, ___ F.3d ___ (8th Cir. 2012) (IBC), the Eighth Circuit Court of Appeals ruled that a perpetual, royalty-free trademark license was an executory contract and therefore subject to assumption or rejection by a bankruptcy debtor. This decision is at odds with a recent decision from the Third Circuit Court of Appeals, In re Exide Technologies, 607 F.3d 957 (3d Cir. 2010), which found that such a license under similar circumstances was not an executory contract and could thus not be assumed or rejected by the bankruptcy debtor.
The transactions at the heart of both Exide and IBC involved pre-petition sales pursuant to simultaneously-executed asset purchase agreements and license agreements. To determine whether a contract is an executory contract in bankruptcy proceedings, courts examine whether the obligations of both parties to the contract are so far underperformed that failure to complete performance by either party would be a material breach. In Exide, the Third Circuit held the sale and license agreement were part of an integrated transaction evidencing the sale of the business, under which the buyer substantially performed, despite the remaining obligations to observe quality standards. The Third Circuit reasoned that such obligations did not directly relate to the sale and were not specifically discussed by the parties.
In IBC, the Eighth Circuit declined to follow Exide. It focused on a provision in the license agreement requiring the buyer to maintain quality standards, and a second provision identifying failure to comply with the first provision as a material breach. These two provisions, when read in conjunction, showed that material obligations remained as an explicit contractual provision on the buyer’s side, and sufficiently distinguished IBC from Exide. Crucial to this determination was that the controls were clearly identified in the license agreement as material, whereas in Exide they were not. The Eighth Circuit noted that material obligations remained on the debtors’ side as well, including notice and forbearance obligations and trademark infringement-related obligations. A written dissent in IBC pointed out that the Eighth Circuit majority refused to consider the sale and license agreement as a single integrated transaction with which the parties had substantially complied, foreclosing the potential for material breach, as the two concepts are antithetical. The dissenting Judge would have followed the Exide roadmap.
The IBC decision sends a strong message to licensors to include quality control obligations in trademark licenses and to clearly identify such provisions as material to the contract, thereby preserving their potential future right to assume or reject the license agreement as an executory contract in a bankruptcy proceeding. Licensees, on the other hand, should negotiate to strike such provisions and obligations. Arent Fox will continue to track this Circuit split for future developments.