Terminating IP agreements for insolvency

Amid the Covid 19 lockdown, the UK government has pressed ahead with significant changes to insolvency laws. The changes are set out in the Corporate Insolvency and Governance Act 2020, which amends certain provisions of the Insolvency Act 1986.

Many of the changes are designed to improve the legal position of an insolvent company, when dealing with suppliers and creditors. Of particular interest to readers of this blog is section 14 of the 2020 Act, which introduces a new section 233B to the Insolvency Act 1986. The text of sub-section 233B(3) follows:

A provision of a contract for the supply of goods or services to the company ceases to have effect when the company becomes subject to the relevant insolvency procedure if and to the extent that, under the provision—

(a) the contract or the supply would terminate, or any other thing would take place, because the company becomes subject to the relevant insolvency procedure, or

(b) the supplier would be entitled to terminate the contract or the supply, or to do any other thing, because the company becomes subject to the relevant insolvency procedure.

In other words, a clause allowing termination of the contract on insolvency will not be effective. For the Latin buffs among you, the government calls these “ipso facto” clauses.

Application to IP agreements

The legislation quoted above refers to contracts for the “supply of goods or services”. This term is not defined in the legislation. Since its first edition in 1996, IP Draughts’ book, Technology Transfer, has ruminated on whether an assignment of IP, or a supply of software, amounts to a supply of goods or service, e.g. in the context of the implied warranties under the Sale of Goods Act 1979 or the Supply of Goods and Services Act 1982. See paragraphs 10.73-10.74 of the 4th edition (Bloomsbury, 2020). In IP Draughts’ view, while a supply of software could amount to a supply of goods or services (and there is some case law to this effect), the assignment or licensing of IP, per se, is not a supply of goods or services.

Accompanying the legislation are various government briefing papers and guidance notes that were generated as the Bill passed through Parliament. These indicate that, in the government’s view, IP licences are included within “goods and services”.

For example in a government response to a consultation exercise on what became the Corporate Insolvency and Governance Act 2020 (see paragraph 5.104 of this response paper, dated 26 August 2018), it said:

The Government intends that contractual licences, such as for use of software or patents, will be covered by the ‘ipso facto’ provisions, acknowledging the importance of these to certain businesses and sectors.

This statement was repeated in Briefing Paper CBP8291, 5 December 2019, where the government stated that it intended that goods and services would include:

Contractual licences, e.g. of software or patents.

Despite these statements of intention, there appears to be nothing in the legislation itself to clarify the point. Nowadays the courts are able to consider Hansard (the official record of Parliamentary debates) when interpreting legislation. IP Draughts is not enough of an expert on statutory interpretation to say how much weight would be given by a court to the assertions quoted above. Looked at in context (responding to a question that seemed to be mainly about regulatory licences), the comment doesn’t show signs of deep reflection on what is not a straightforward legal issue.

IP Draughts thinks there must be at least a respectable argument that the pure licensing of IP (in the absence of deliverables such as software supply) is not a good or a service. Fundamentally, the grant of IP rights, and the relationship between licensor and licensee, is different (in IP Draughts’ view) from a typical “supply”.

He looks forward to be instructed in a UK Supreme Court case to settle this issue! In the meantime, the cautious view may be to assume that the government is right, and that termination-on-insolvency clauses are no longer effective in IP licence agreements.

Analogy with US laws

The 2019 Briefing Paper, quoted above, comments that:

These rules [i.e. on termination-on-insolvency clauses] reflect the US approach to so-called “executory contracts” in Chapter 11 proceedings. Importantly, however, the UK proposals would only cover only supplier arrangements, not general commercial contracts.

It is interesting to see the UK government using the precedent of US laws in support of the new UK rules.

Validity of ipso facto clauses under other countries’ laws

One of IP Draughts’ publications is a loose-leaf (1,500 pages) work, Drafting Agreements in the Biotechnology and Pharmaceutical Industries, which was published by Oxford University Press for about 10 years from 2005. As part of that publication, we asked IP lawyers in other six other jurisdictions (US and Europe) to comment on our template agreements, typically via footnotes to the template agreements. Contributors were free to comment or not comment on whatever they thought useful.

In the case of the main licence agreement in that work (Precedent B.8.c), two of the contributors (Spain and USA) commented on a clause that allowed a party to terminate if the other party became insolvent (insolvency being defined in detail in the clause).

The comments read as follows:

[Spain]

In Spain, art 61.3 of the Bankruptcy Law 22/2003 of 9 July 2003 provides that clauses establishing thepower to cancel or extinguish the contract triggered solely by the declaration of bankruptcy by either
of the parties shall be considered as not included.

[USA]

Ipso facto termination clauses for bankruptcy (ie clauses providing that the fact of bankruptcy itself may cause the agreement to terminate) are currently unenforceable under the US Bankruptcy Code for executory contracts (ie contracts in which both parties have continuing obligations) (11 USC §362 (1994); see Brunsvold, Drafting Patent License Agreements (2008), pp 207, 216). Under the Code, the trustee of the bankruptcy estate can assume or reject any executory contract (11 USC §365(a)). Regardless of their unenforceability, ipso facto termination clauses are routinely included in US IP agreements with varying approaches.

In the past, IP Draughts has glossed over the fact that the clauses may not work under other countries’ laws, as they were fine under English law. But now the position has changed.

The fact that such clauses have been routinely included in contracts made under laws where the clauses were not legally effective, may be a little puzzling, but they suggest that there is no good reason to stop including them in English law contracts.

Alternative techniques

There are several techniques that a drafter might consider as an alternative to a right to terminate automatically on insolvency, some of them based on exceptions in the new UK legislation. Before using any of these techniques, a close analysis of the legislation may be required. In some cases they may not be commercially achievable or useful. They include:

  1. Clauses providing for a fixed term are not affected. So, consider offering a short term licence with a renewal right.
  2. It is possible to apply to the court for relief from the obligation to continue the licence after termination.
  3. There is to be an exception for small-business licensors.
  4. The clause may be drafted widely to allow termination prior to the appointment of a liquidator etc. Termination before a formal insolvency procedure is initiated may be legally effective. How much practical benefit this would provide is debatable.
  5. Get a parent company guarantee of performance, or a personal guarantee from the directors of the licensee company.

Reflecting on the above, IP Draughts wonders whether a clause that prohibits assignment or novation of the licence agreement, except in the case of sale of the licensee’s business in circumstances where the licensee is solvent, would pass through the filter of prohibition in section 233(B)3, quoted above. If so, this would at least enable the licensor to prevent the licence agreement being sold by a liquidator or other insolvency official. IP Draughts would welcome the thoughts of practitioners on this point.

 

4 Comments

Filed under Contract drafting, Legal practice

4 responses to “Terminating IP agreements for insolvency

  1. How might I secure of copy of the text you mention. Thanks!

    Cheers,

    Stan Benda, Ph.D. (Law)

    Lawyer / Adjunct Professor / Trade Mark Agent / Certified Licensing Professional 169 – 260 Adelaide Street East | Toronto, Ontario | M5A 1N1 | 416-728-4558 skype: stan.benda1 | plantlawyer.com | blog: plantlawyer.wordpress.com

    CONFIDENTIALITY NOTICE: If you have received this e-mail in error, then please tell me and delete the email. Thank you for your honesty and ethical behaviour.

    >

  2. Jim

    From a dabbler,

    1 (short term licence with a renewal rights) seems the most promising but scarcely likely to encourage confidence from a (solvent) licensee.
    How about, licence to be terminable at will, with a non-transferable and hefty payment payable to the licensee in the event of termination (e.g. 6 month’s royalties), the payment only taking effect if on termination the licensee is solvent. Combine this with a clause barring assignment or novation of the licence agreement without consent and it might do the job.
    This would not appear to fall under the language of 233B(3) or the equally tricky 233B(4)
    (4)Where—
    (a)under a provision of a contract for the supply of goods or services to the company the supplier is entitled to terminate the contract or the supply because of an event occurring before the start of the insolvency period, and
    (b)the entitlement arises before the start of that period,the entitlement may not be exercised during that period.

    Your thoughts?

    • Interesting! I wonder if terminating at will runs into the same problem as terminating for (pre-)insolvency: will the licensor be ready (have enough information) and be willing to “press the button” shortly before insolvency, because if not, as you say, 233B(4) may be problematic. And if he does, he may trigger insolvency applications by others.
      But I am not dismissing it out of hand. For some clients it may be useful.

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