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DOJ: Patent Licenses Should Discharge in Bankruptcy


Written by Gene Quinn
President & Founder of IPWatchdog, Inc.
Patent Attorney, Reg. No. 44,294
Zies, Widerman & Malek
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Posted: January 7, 2013 @ 10:15 am
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A rather astonishing thing is happening currently in the United States Court of Appeals for the Fourth Circuit. The United States federal government, by and through the Department of Justice, is actually arguing in favor of stripping licenses to U.S. patents away from seven companies so that they can be shaken down by a subsequent acquirer of those patents. Yes, the United States government in its infinite wisdom believes that a negotiated patent license ought to be stripped away from companies who have detrimentally relied on the licenses in making business decisions, advancing their own research and development, and with respect to manufacturing and distributing products.

Collectively you rise as one and say — “that can’t be!” What nonsense are you trying to spew? Sadly, it is true and if you keep reading you will soon understand all the sordid details. But suffice it to say that to call this position of the government anti-patent would be unfair to thoughtfully taken positions that call into question one or more patent rights. Indeed, this position can only be properly characterized as ridiculous, garbage, inane and/or idiotic.

The case is In re Qimonda AG, which arises from the insolvency of Qimonda AG, which is a German semiconductor manufacturer headquartered in Munich.

Dr. Michael Jaffé, the foreign representative in this cross-border insolvency case, sought to eliminate or restrict the applicability of § 365 of the Bankruptcy Code. Although a trustee or debtor in possession may ordinarily reject an executory contract, pursuant to 11 U.S.C. 365(n), the licensee may elect “to retain its rights (including a right to enforce any exclusivity provision of such contract) under such contract.” § 365(n)(1)(B). The licensee must still make any royalty payments due under the contract, see § 365(n)(2)(B), but the patent license can stay in effect at the election of the licensee.

The protections afforded patent licensees by § 365(n) have their origins in Congressional reaction to the Fourth Circuit decision in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir.1985). The report of the Senate Judiciary Committee that accompanied the Act explained:

The purpose of the bill is to amend Section 365 of the Bankruptcy Code to make clear that the rights of an intellectual property licensee to use the licensed property cannot be unilaterally cut off as a result of the rejection of the license pursuant to Section 365 in the event of the licensor’s bankruptcy. Certain recent court decisions interpreting Section 365 have imposed a burden on American technological development that was never intended by Congress in enacting Section 365. The adoption of this bill will immediately remove that burden and its attendant threat to the development of American Technology and will further clarify that Congress never intended for Section 365 to be so applied.

S.Rep. No. 100-505, 1988 U.S.C.C.A.N. 3200 (emphasis added).

The dispute at issue here regarding Qimonda arose when the company went bankrupt and seven licensees invoked the protection of § 365(n) to retain patent rights. This became an issue because there is no similar provision on German law, thus there is an attempt to nullify the patent licenses. This would force the seven licensees to open fresh negotiations or face expensive patent infringement litigation which they could not hope to prevail in since they are almost certainly infringing. Yes, they would be infringing if the license were revoked which is why they have been paying for the license in the first place. Thus, negotiating power would significantly shift to the acquirer of the patents who could demand unreasonable royalties, or simply choose to sue. It is no understatement to say that this would cause an enormous chilling effect. If bankrupt companies can have their patent licensees nullified how can a licensee ever rely on a license? Simply, they couldn’t, which is exactly why Congress passed § 365(n) nearly immediately after the train wreck of a decision in Lubrizol Enterprises.

In the Bankruptcy Court the issues to be resolved were  set forth as (1) whether the failure of German insolvency law to afford patent licensees the protections they would enjoy under § 365(n) of the Bankruptcy Code is “manifestly contrary” to the public policy of the United States; and (2) whether the licensees of the debtor’s United States patents are “sufficiently protected” if they are not accorded those protections. Ultimately, the determination was that “§ 365(n) applies with respect to Qimonda’s U.S. patents.” Of course, the German patent licenses are free to be nullified under German bankruptcy law, but the Bankruptcy Court was not about to allow for a shakedown of epic proportions with a U.S. patent being the battering ram. See In re Qimonda AG, 462 B.R. 165 (2011).

The case now sits at the Fourth Circuit. The seven licensees filed a brief explaining:

The thicket of patents at the heart of the semiconductor industry requires manufacturers to secure numerous licenses to obtain the “design freedom” needed to develop and to sell innovative new products without risking patent infringement claims and injunctions. If, as Dr. Jaffé contends, foreign representatives could terminate licensees’ rights, semiconductor manufacturers would not only be subject to “hold-up” for excessive licensing fees by foreign representatives or subsequent buyers of the formerly licensed patents, they would also face a world of grave uncertainty. They could no longer operate and innovate with the comfort that the licenses at the core of new product development would remain secure. Given the billions of dollars necessary to develop and to manufacture new products in this industry, chilling of research and development would be inevitable. Companies would also be deterred from adopting industry standards, which likewise depend on secure and irrevocable patent licenses.

Such considerations motivated Congress to enact 11 U.S.C. § 365(n). Section 365(n) was intended to clarify that patent license rights are vital to the United States economy and should continue to be protected from termination in bankruptcy. Congress found that allowing termination of patent licenses would “threaten an end to the system of licensing of intellectual property … that has evolved over many years to the benefit of both the licensor and the licensee and to the country’s indirect benefits.” S. Rep. No. 100-505, at 3 (1988), reprinted in 1988 U.S.C.C.A.N. 3200, 3202.

Protection of U.S. patent licenses is even more important today. Each year, more than half of all U.S. patents are issued to companies based outside the United States. In today’s economy, struggling companies often file for bankruptcy. Allowing foreign-based companies to renege on their licenses to U.S. intellectual property would wreak havoc on the semiconductor industry and many similarly situated industries.

All 100% true.

So what did the Department of Justice say in their brief? The DOJ brief explained:

In 1985, this Court ruled in Lubrizol Enterprises v. Richmond Metal Finishers, Inc., that a patent license agreement could be rejected in bankruptcy in the same manner as any other executory contract, even if the only purpose of the rejection was to enable the patent owner to re-license the technology to others on more advantageous terms. See 756 F.2d 1043 (4th Cir. 1985).2 Congress responded by enacting an exception to Section 365 for license agreements to intellectual property. See Pub. L. No. 100-506, 102 Stat. 2538 (1988). Under what is now Section 365(n) of the Bankruptcy Code, if a debtor invokes Section 365 and seeks to reject a license granted for intellectual property owned by the debtor, the licensee generally may elect to retain its license rights. See 11 U.S.C. 365(n).

The legislative history of Section 365(n) reflects Congress’s concern that permitting debtors to “unilaterally cut off” their licensees through bankruptcy would “leave[] licensees in a precarious position and thus threaten the very flexible and beneficial system of intellectual property licensing which has developed in the United States.” S. Rep. No. 100-505, at 1, 3 (1988). Without confidence in their ability to retain the necessary rights, Congress feared, businesses would be unwilling to invest in new businesses or products based on licensed technologies. Id. at 3.

Well that’s not so bad, right? It almost sounds like the DOJ will support the seven licensees, which of course is what they should be doing. NOT SO FAST MY FRIEND!

The Department of Justice concluded:

The decision of the bankruptcy court should be reversed on the ground that Section 365(n) of the Bankruptcy Code cannot constrain the operation of German law in a German insolvency proceeding.

Yes, the DOJ doesn’t think § 365(n) can or should be used to constrain the operation of bankruptcy law in Germany. What a wonderful kum ba yah sentiment. You have your laws, we have our laws, and what you do is no business of ours and what we do is no business of yours.  We can all co-exist peacefully, in harmony. Kum ba yah! I want to vomit!

It is incomprehensible that the United States federal government would be advocating for the stripping of patent rights away from U.S. companies who have asserted rights Congress specifically determined were fundamentally important to “American technological development.”  Congress be damned! Common sense be damned! Germany says that the rights to U.S. Patents duly negotiated for by U.S. companies can be taken away after they have detrimentally relied on those rights. U.S. PATENTS!

With friends like the Department of Justice who in the high-tech sector needs any enemies?

We live in a global world where rights are exchanged by and between multi-national corporations that operate in many jurisdictions. Moreover, some of these multi-national corporations actually seek to assert their acquired patent portfolios by and through licensing. This is hardly news to anyone, is it? Is it news to the DOJ that foreigners and foreign corporations can acquire U.S. patents? Is it beyond their understanding to appreciate that when acquiring U.S. patents these foreigners and foreign corporations agree to the application of U.S. law? I mean the DOJ doesn’t really think that the United States Patent and Trademark Office is applying German patent law to determine whether the innovations of German inventors and corporations are entitled to receive a U.S. patent, do they?

U.S. bankruptcy law protects licensees from having patent rights stripped. It is unthinkable that the specific provisions of § 365(n), enacted to protect licensees, couldn’t, wouldn’t or shouldn’t be applicable to prevent the nullification of patent licenses to U.S. patents. The fact that anyone in their right mind would even consider for a moment that patent licenses can or should be stripped out of some comity to German bankruptcy law is absolutely absurd.

On this point of comity, the brief filed by the Intellectual Property Owners Association (IPO) put it perfectly:

Although the bankruptcy code generally requires that assistance to a foreign representative be “consistent with the principles of comity,” 11 U.S.C. § 1507(b), Congress has expressly instructed that comity must yield when an action would be “manifestly contrary to the public policy of the United States.” 11 U.S.C. § 1506. Congress has expressly spoken on the issue of how to treat intellectual property licenses in bankruptcy, and has in Section 365(n) enacted a clear policy in furtherance of its constitutional power to “promote the Progress of Science and useful Arts.” U.S. Const. art. I § 8, cl. 8.

Where Congress has spoken so clearly, comity cannot read Section 365(n) out of the Bankruptcy Code.3 To do so would be “manifestly contrary to the public policy of the United States.” See 11 U.S.C. § 1506.

Indeed, Congress has spoken. Not only would it be “manifestly contrary to public policy” to allow for these licenses to be nullified, but it would be recklessly stupid! The height of intellectual arrogance if you ask me. What is the DOJ thinking? Are they thinking is probably the better question!

Whoever at the Department of Justice is calling the shots here needs to be fired, or at the very least relieved of duties associated with this particular case. They are clearly in over their head, they know nothing about the business of patents and the way the industry operates. It is as if the State Department is calling the shots here, which is a truly scary thought. Regardless of who is in charge, allowing such a band of know-nothings to lead a senseless charge is reckless to the point of willfulness.

Mr. President, you need to step in and do the right thing! The DOJ has absolutely no idea the Pandora’s Box that they are asking to be opened. That level of business naivety is astonishing, even for government. It has to be stopped, and as one President famously said, the buck stops at the desk of the President. So at the end of the day the reality is that this is the position of the Obama Administration. One of the most anti-patent, anti-business positions I’ve seen in a real long time.

So who are these seven companies that are getting jerked around by the United States of America? The seven companies involved are: Samsung Electronics Co., Ltd., Infineon Technologies AG, Micron Technology, Inc., Nanya Technology Corporation, International Business Machines Corp., Hynix Semiconductor, Inc., and Intel Corporation. Not exactly a group of companies without means or resources. If the DOJ can do this to them then the DOJ can certainly do whatever they want to others, which is rather scary if you ask me.

If you, your company or your clients haven’t followed this case tune in before it is too late. Depending upon how things shake out you might want your lobbyists working Capitol Hill. And if you are operating in the tech-sector and rely on patents and you don’t have lobbyists, good grief — what are you thinking?

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Posted in: Department of Justice, Gene Quinn, IP News, IPWatchdog.com Articles, Licensing, Patents

About the Author

is a Patent Attorney and the founder of the popular blog IPWatchdog.com, which has for three of the last four years (i.e., 2010, 2012 and 2103) been recognized as the top intellectual property blog by the American Bar Association. He is also a principal lecturer in the PLI Patent Bar Review Course. As an electrical engineer with a computer engineering focus his specialty is electronic and computer devices, Internet applications, software and business methods.

 

8 comments
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  1. Gene,

    The DOJ (like the FTC) is certainly “no frends” of patent rights, be they U.S. patent rights or otherwise. And don’t expect Obama to “step in,” (he should but he won’t) as Attorney General Holder is a “true believer” in Big Federal Government power, just like Obama is. Private industy (especially innovative private industry) has much to fear from the current administration, and this effort to nullfy the ability of patent licensors to hold bankrupt debtors to the license terms they agreed to is just another sad example of Big Federal Government exercising its unbridled power.

  2. EG-

    It is amazing to me just how anti-patent the government is outside of the U.S. Patent and Trademark Office. The next 4 years may be extremely long ones for those in the patent and innovation space.

    -Gene

  3. Gene,

    An excellent Watchdog post.

    Some possible consequences of the DOJ position:

    1) Foreign based entities will have more options and power than U.S. based entities.

    2) Makes it a disadvantage to be a U.S. entity relative to a foreign entity. Why would the U.S. want to do this?

    3) “Patent-land” countries will emerge where their bankruptcy laws will be adjusted/tweaked so bankruptcy can be fairly easily created, whenever more money can be obtained with newer licenses. The patent-land countries will benefit with a tax on a % of the newly increased license fees.

    4) If licenses can be arbitrarily reset to a higher level later in time, it reduces incentives to take risks to license & advance uncertain technologies sooner, when licenses are cheaper. For example, remember that the initial Bell-telephone and Google valuations were initially extremely low. Stanford Univ tried to license the Google search patents to existing search companies (no interest). Because no one wanted it, the Google guys did the start-up themselves. Later, the Google guys tried to sell Google search company for $1M (no interest). Similarly, initially there was no interest in the Bell patent by existing companies.

    5) There are many other dangerous consequences of the DOJ position, but I’m out of time.

  4. Inventor 0875,

    Excellent points as well. Frankly, our Big Federal Government is “tone deaf” when it comes to not understanding the impact of its views, laws and regulations on American business and industry.

    The Obama administration is a glaring example of how “tone deaf” it is. The DOJ, as well as the FTC, epitomizes that “tone deafness” when it comes to making it difficutl for American innovative (and especially small) businesses to compete not only in the global market, but particularly in the domestic market.

  5. Gene,

    Happy New Year and thanks for another informative post to get this year going.

    You are dead on.

    DOJ’s position is misplaced and outrageous. The consequences of a decision in the direction they are advocating will be far reaching.

    365(n) provides a small measure of reassurance to licensees – without it the entire calculus of licensing changes. And as you know, it does not just benefit big corps in high-tech. Deals for many early-stage companies are premised on the licensee being able to retain the license (and protect its investment) even in the event of a bankruptcy.

    At a time of economic uncertainty in the US, we can all find solace in knowing our government is doing its best to undermine any remaining confidence amongst those who would risk their investment capital to develop technology, create jobs, and improve the economic prospects of the future.

    Comity schmomity. Alas – perhaps this will be the next step toward some further notion of ‘harmonization’. . .

  6. Seems to me that the DOJ (and the FTC) are to some extent driven by complaints submitted. Given the current zeitgeist towards patents and miscomprehension of their role in innovation – who do you think these government depts/agencies mostly hear more from?

    Of course, the fact that this plays right into the hands of big-govt & anti-small business agenda means these judgements are not likely to change in the next 4 years.

  7. Today’s joint statement between DOJ & PTO (http://www.uspto.gov/about/offices/ogc/Final_DOJ-PTO_Policy_Statement_on_FRAND_SEPs_1-8-13.pdf) is another stab at weakening patent rights under the name of “to benefit society”.

    It’s one thing if an entity that participated in developing the standards causes a “patent hold-up” (such as Google/Motorola) – but it’s completely different matter if the standards committee failed to properly evaluate the landscape and ends up infringing a patent by someone who did not participate in the standard. There are already hundreds – if not thousands – of standards committee’s and easy to create another – just setup an email list between 2 or more companies and agree on data format, message ordering, etc… and presto!!! a workaround to that nuisance patent!

  8. Jodi,

    Thank you for bringing up yet another example of DOJ “overzealousness” when it comes to bashing patent rights. We’re about to return to the “Dark Ages” of the 60’s and the “Nine Licensing No-Nos.” (Yes, I know I’m “dating” myself.)