The long awaited ruling in Mission Products Holding, Inc. v. Tempnology LLC (In re Tempnology) has simplified the intersection of bankruptcy and trademark law, with the court holding that rejection “constitutes a breach” of an executory contract and not an irrevocable termination of the contract.

Tempnology licensed clothing and accessories to Mission Products, but Tempnology filed bankruptcy to, among other things, “reject” burdensome contracts such as that held by Mission Products. Section 365 of the Bankruptcy Code enables a debtor to “’reject any executory contract’ – meaning a contract that neither party has finished performing” Justice Kagan wrote in the majority opinion. Tempnology rejected the license so that it could, as a business strategy, jettison this burdensome contract, or perhaps resell or renegotiate the license. Mission Products argued that because rejection is considered a breach, traditional contract law would be kinder to the non-breaching party, and would allow the choice of retaining the rights granted by the breaching licensor or damages.

The Supreme Court held that outside bankruptcy, a licensor’s breach cannot revoke continuing rights given to the licensee, and that bankruptcy does not enlarge the debtor’s rights in its assets. To hold otherwise would do violence to contract right enforcement and would broaden Congress’ limits on unwinding pre-bankruptcy transfers that would undermine the bankruptcy process. The Court did recognize, however, that the debtor was not required to perform its obligations under the rejected contract and that this, too, could create damages in favor of the rejected licensee.

The Court rejected Tempnology’s arguments that the substantive law of trademark compelled the treatment of rejected trademark licenses as rescinded. A concurrence by Justice Sotomayor clarified that not every trademark license has the unfettered right to continue using licensed marks post-rejection. What remains undecided is whether, under the facts and circumstances in each case, a licensee’s rights would survive a breach under applicable non-bankruptcy law. Justice Sotomayor also noted that because trademarks are not defined as intellectual property in the Bankruptcy Code, a trademark holder’s rights in bankruptcy might not be as limited as a rejected patent holder’s rights would be. For example, rejected patent licensees who choose to retain their rights must pay royalties, but trademark holders may be able to set off post-petition royalties against damages.

Justice Gorsuch explains in his dissent , however, that the bankruptcy case had been fully administered, so there was no live case or controversy, and, therefore, this was a moot decision not within the Court’s jurisdiction. The majority did address the mootness issue to show that this decision was not simply an academic exercise.

Franchisors that have filed bankruptcy have previously used the strategy of rejecting area development agreements with the plan to renegotiate or resell those areas. Following this opinion, this strategy will no longer be available and will require termination of the development agreements on the merits to proceed with the same strategy.  In this area and others, pre-bankruptcy planning respecting trademarks will take on much greater importance for franchisors contemplating the filing of a bankruptcy petition.

We previously discussed the split in the Circuit Courts of Appeal that led to the Supreme Court decision here.