This article discusses the issues that licensors need to consider when terminating a patent licence, as well as the practical implications resulting from termination of such licence.
Licensors may wish to terminate a patent licence if they feel that their patented technology has not been exploited to its full potential, or if they are having difficulties in recovering milestone payments or royalties from a licensee. Brexit may also be set to provide other, more profitable, opportunities for a licensor of patent rights that it wishes to pursue instead.
This article discusses the issues that licensors need to consider when terminating a patent licence, either pursuant to an express term of the licence and/or where the licensee has committed a repudiatory breach. We also discuss what an aggrieved licensor should consider when serving a notice to terminate, as well as the practical implications resulting from termination of such licence.
Assess the right to terminate
An aggrieved licensor needs to assess carefully whether it has the right to terminate, or else it may instead unintentionally repudiate the licence itself by seeking to terminate. Licensors may be entitled to rely on either an express termination provision for breach, or a common law right to terminate for repudiatory breach, or both. If a licensor considers that it is entitled to both rights of termination, it will need to consider which is best.
Express terms of the licence
Whether the breach of a term gives rise to a right to terminate under an express provision of the licence varies depending on the language used in the termination provisions, along with the nature of the breach itself. Termination provisions in licence agreements will often refer to "material breach" or "any breach" of the licence.
Material breach - Limited guidance exists as to what constitutes a "material breach", however non-payment of milestone payments or royalties are likely to fall into this category. This may provide a more simple method of terminating than claiming that the licensee has committed a repudiatory breach.
- The courts have found that a material breach “is one which in all the circumstances is wholly or partly remediable and is or, if not remedied, is likely to become, serious in the wide sense of having a serious effect on the benefit which the innocent party would otherwise derive from performance of the contract in accordance with its terms.” A material breach therefore does not need to be a repudiatory breach, as this would not entitle the aggrieved party to a remedy beyond the common law. A breach will most likely need to have financial consequences in order to be considered "material".
- Aggrieved licensors should not only consider the breach itself, but also the circumstances of the breach and any explanation given. For instance, even where there has been non-payment of a non-trivial sum, it would be important to consider whether that non-payment was due to an administrative error, or because the licensee in breach is in financial difficulty. The latter scenario would make the non-payment a material breach.
"Any" breach - Trivial breaches alone aren’t enough, however if there are a number of minor breaches, this may constitute grounds to terminate for repudiatory breach.
- The right to terminate for "any breach" has been found to mean a repudiatory breach, since a literal interpretation which included any trivial breach would flout business common sense.
- Where there are multiple breaches of several separate obligations, the courts have observed the performance of the agreement over its term and asked whether the innocent party is deprived of substantially the whole benefit of what it had contracted for during that period. The courts also consider whether the cumulative breaches justify an inference that a party will continue to deliver a sub-standard performance.
Of course, a licensor may not only have an express right of termination for breach, but also for convenience or insolvency. If triggered, these provisions may provide more certainty than assessing whether a contractual breach has been committed by the licensee.
Common law repudiatory breach
A licence may be terminated by a licensor where it is repudiated by a licensee, due to (i) the total or partial failure to perform certain terms by a licensee, (ii) a licensee refusing to perform their obligations under the licence, or (iii) a licensee making it impossible to perform the licence. Failure to perform a term may trigger a right to terminate the licence, depending on whether the term is a condition, warranty or innominate term.
Conditions - a breach of a condition triggers an automatic right for the aggrieved licensor to terminate, along with a right to recover damages.
- Conditions may be implied by statute (eg s12-15 Sale of Goods Act 1979) or by the court where performance of that term goes to the "root" of the contract.
- The parties to a licence may also agree on what constitutes a condition. The use of the word "condition" is not conclusive as to whether a term gives an automatic right to terminate upon its breach, the court will assess the reasonableness of the consequences of treating the term as a condition. In addition, where the time of performance of a term is specified to be "of the essence", the beneficiary of that obligation is entitled to terminate the licence for repudiatory breach.
Warranties - a breach of a warranty by a licensee will never trigger an automatic right to terminate, but will entitle the aggrieved licensor to a remedy in damages.
Innominate terms - a breach of an innominate (or “intermediate”) term may or may not trigger a repudiatory breach. Where the consequences of a breach of a term vary between trivial and severe, that term is likely to be an innominate term.
- In order to establish whether a breach of an innominate term gives the aggrieved licensor a right to terminate, it must be established that the breach deprived such licensor of substantially all the benefit the parties intended that the licensor would get under the licence.
- Factors to consider in assessing breach of an innominate term include: “How much has already been received? What loss has the breach caused so far? How has it affected the value of future performance? Will the breach be repeated, continued or remedied? What loss will be averted by termination?” These aspects must be assessed at the time of termination, not at the time of breach.
In the case of repudiatory breach, the aggrieved licensor must elect to either (i) accept the repudiation, thereby terminating the licence, or (ii) affirm the licence, by performing its obligations under the licence and demanding performance from the licensee. The licensor must assess its position as soon as it becomes aware of a repudiatory breach, as the licence may be affirmed by continued performance, and where it demands performance of the licensee. Alternatively, the licensor may repudiate the licence if it does not perform the licence without informing the licensee of its breach.
Contractual claim or repudiatory breach - which is best?
Once a licensor has assessed whether it has the right to terminate, particularly where milestone or royalty payments have not been forthcoming, it may often conclude that it has a contractual claim to terminate as well as a common law claim for repudiatory breach.
Aggrieved licensors need to be careful which right they choose to enforce. Where the consequences under the contractual and common law rights to terminate are likely to be different, the aggrieved licensor may inadvertently forego the unexercised right in the future. This has been held to be the case even where the enforcing party reserves their rights to terminate for repudiatory breach in their contractual termination notice.
The common law remedy for repudiation allows recovery of damages for "loss of bargain", which involves putting the aggrieved party in the same position had the agreement been performed. Repudiatory breach therefore offers a more attractive remedy to a licensor, however it is not without corresponding risks. Repudiatory breach is not definitive without a determination in court and therefore is less certain at the point of termination. Attempting to terminate a licence for repudiatory breach involves declaring an intention not to be bound by it, which if unsuccessful, could mean that the aggrieved licensor commits a repudiatory breach themselves.
Avoiding termination backfire
Notice to terminate at common law or under a contractual provision must be clear, unequivocal, and state the grounds for termination. Whilst not essential at common law, a termination notice should ideally be provided in writing and otherwise in accordance with any express termination requirements specified in the licence.
Aggrieved licensors may attempt to avoid the risk of repudiating the licence by writing an initial letter indicating that they believe they have a right to terminate, but without indicating that they have no intention of performing the licence (ie avoiding the act of repudiation). The aggrieved licensor may then apply to court for a declaration that there has been a repudiation of the licence by the licensee. Licensors should also consider the following in assessing the optimum course of action before sending these "Woodar v Wimpey letters":
- Repudiatory breach is assessed at the time of termination. If the aggrieved licensor wishes to terminate and it is robust on its position that the licensee is in repudiatory breach, it should not offer the licensee the opportunity to rectify the breach prior to terminating.
- Woodar v Wimpey letters are unlikely to be sufficient to avoid the risk of the aggrieved licensor repudiating the licence where its performance is already due prior to the delivery of the letter, or prior to obtaining a declaration that the licensee has repudiated that licence.
- The aggrieved licensor should consider whether there are (i) any express notice requirements in the licence which if not complied with, may also cause it to repudiate the licence , and (ii) any other pre-requisite to the right to terminate that may be contained in the licence such as a right to remedy the breach.
- Consider which provisions of the licence will survive termination, both by virtue of express provisions, or impliedly due to their nature (such as confidentiality restrictions and restrictive covenants).
- Where the right to terminate arises and the licensor has indicated clearly and unequivocally that it wishes to abandon the right to terminate, this will be sufficient to waive its right to terminate.
- Depending upon the circumstances, the aggrieved licensor should also consider whether any alternatives to termination may be appropriate, such as a variation, assignment, or novation of the licence.
Termination of a licence agreement encompasses a number of other practical consequences. Bear in mind that some of these need to be reflected upon prior to the act of termination:
- The royalty payment timetable may affect when the aggrieved licensor wishes to terminate, although the above factors with respect to waiver and affirmation need to be considered if the licensor intends to delay the exercise of a termination right.
- The licensor should also consider whether there are any accelerated royalty payment provisions, or milestone payments recently paid, which might mean that the licensee is more likely to dispute that it has repudiated the licence.
- Are there any current or threatened infringement disputes in suit, either against the licensee or brought by an exclusive licensee? Licensors should assess who has conduct of claims in relation to these disputes and how termination will affect the involvement of either party going forwards.
- Consider whether the licensee has any sub-licensing arrangements in place. Do these terminate automatically upon termination of the head licence, or does the aggrieved licensor have step-in rights?
- The aggrieved licensor needs to consider how it will enforce the licensed patents and any copyright and confidentiality in any licensed know-how against the licensee after termination. The licence may provide for a contractual obligation on the licensee to cease all use of such patents and know-how, in addition to the licensor’s existing rights to prevent infringement of the patents and misuse of know-how. The aggrieved licensor should also monitor the licensee’s activities to ensure that it is not using the licensed patents and know-how after termination.
- A well-drafted licence should also provide for the deletion or transfer of copies and records of licensed know-how by the licensee upon termination. If these provisions aren’t present, as above, the aggrieved licensor may struggle to practically retain control over its confidential know-how without commencing proceedings for copyright infringement or breach of confidence.
- Most well-drafted licences will give the licensee a sell-off period for any licensed products. Alternatively, if the aggrieved licensor wishes for the licensee to return all licensed products, it will need (i) a licence of any licensee-owned trade mark(s) in order to sell licensed products under their existing brand, and (ii) a transfer of all permits, licences, applications and approvals relating to the licensed product. This may already be provided for under the licence, however if it is not, the licensor will need to consider whether the above needs to form part of any settlement or separate negotiation with the licensee.
- The licensor will need to arrange for the cancellation of the licence, where this is registered against the relevant patent(s) at any national patent office.