German insolvency case law on intellectual property rights has experienced rapid development in recent years, while attempts by the German legislature to regulate this subject with precision have repeatedly failed. The multitude of stakeholders involved (among them insolvency administrators, licensors, sub-licensees and creditors that have liens on IP rights) could not agree on a resolution acceptable to all. Hence, this subject is in a constant state of flux, with the German courts trying as best as possible to match modern IP rights licensing schemes with the German Insolvency Code (InsO).
A core principle of German case law is that IP licences are broadly similar to lease agreements. They are thus subject to sec. 103 InsO and sec. 112 InsO, that grant insolvency administrators specific rights to assume or reject contracts. The sections also limit the rights of licensors to terminate licensing agreements (“Licence”) if the debtor licensee is in default of making licence fee payments. According to the German Federal Court of Justice (Bundesgerichtshof ), these provisions are considered to apply because an IP Licence usually permits the use of certain IP rights for a period of time in return for the recurring licence payments, similar to rent payments for the use of real property. This analogy, while having always been disputed, has continued to be upheld in recent case law and jurisprudence.
According to sec. 103 InsO, an insolvency administrator (or the debtor itself in debtor-in-possession proceedings) has absolute discretion (provided it is exercised for the benefit of the debtor’s estate and its creditors) to decide whether the debtor may or may not perform a mutual contract, as long as that mutual contract has not been fully or partially performed. The prevailing view in German insolvency law is that IP Licences are never completely performed for their duration because they include ongoing contractual duties such as paying licence fees, reporting requirements etc. (certain exceptions are addressed below).
Presently under sec. 103 InsO, if the insolvency administrator adopts a mutual contract that has not yet been fully or partially performed, both parties have to perform their respective contractual duties. Conversely if the insolvency administrator rejects such a contract, then the counterparty is left to file a claim in the insolvency and can no longer demand performance from the debtor. In the case of IP rights, this means in practice that an insolvency administrator has several options to wield the powers of sec. 103, 112 InsO against licensors or licensees:
The debtor as licensee
No termination because of insolvency filing itself
If the debtor is the licensee under a valuable licence, the licensor is not allowed to terminate the licence simply because the licensee has filed for insolvency or because insolvency proceedings are opened over the licensee’s estate. Any provision of a contract which falls within the ambit of sec. 103 InsO that gives rise to a right to terminate the contract triggered by an insolvency filing or the opening of insolvency proceedings is invalid pursuant to sec. 119 InsO. This is because, according to a recent judgment of the German Federal Court of Justice, such a termination right would infringe upon the rights of the insolvency administrator pursuant to sec. 103, 112 InsO.
Decision of insolvency administrator pursuant to sec. 103 InsO
The licensor usually has to wait for the insolvency administrator to decide whether to adopt or reject the licensing agreement. There are ways for the licensor to set a deadline for such a decision but this does affect the scope of the insolvency administrator’s discretion. This essentially means that a licensor will not know for quite a while whether the licensing agreement will be continued or not. Particular problems arise where the licensor granted an exclusive licence as it will prevent him creating any new licenses until the insolvency administrator decides to reject the licence.
Terminating contracts for pre-insolvency defaults in payments
To make matters worse for a licensor, another key provision, sec. 112 InsO, states that once a request has been filed to open insolvency proceedings, tenancy or lease contracts under which the debtor is tenant or lessee may not be terminated by the other party (i) a because of a default in the payment of tenancy or lease fees arising before the request to open the insolvency proceedings; or (ii) a deterioration in the debtor’s financial situation. As with sec. 103 InsO, German case law applies this provision to IP Licences because they are considered to be similar to lease agreements.
The result of this analogy is that a licensor may not terminate the licensing agreement (i) for outstanding licence fees that accrued before the debtor’s insolvency filing, as they are merely insolvency claims or (ii) simply because the debtor’s finances have deteriorated. This is unfortunate for the licensor because (i) it cannot immediately terminate the IP Licence and then licence the IP to a solvent third party; and (ii) the continued retention and use of the IP by an insolvent company may adversely affect the value of the IP and potentially also, its licensor. It is only when the debtor (i.e. the insolvency administrator) is in arrears, usually by more than two post-filing fee payments, that the licensor once again becomes entitled to exercise its rights to terminate the agreement on the basis that fees have fallen into arrears. There is therefore a danger that when a licensee ceases payments before an insolvency filing, it may nonetheless be able to keep the benefit of the IP Licence even if several licence fees (pre-and post-insolvency filing) remain unpaid. German insolvency case law thus gives the insolvency administrator of a licensee the chance to maximise the value of the debtor’s estate by keeping licences in place. The debtor is in a strong position provided it is able to pay licence fees that accrue after the insolvency filing.
Exceptions to sec. 112 InsO
In this regard, it is important to note that even though the general view is that sec. 103 and 112 InsO apply to IP licensing agreements, it has not been decided yet by German courts whether IP licensing agreements for the short-term use of IP, in return for a single payment, are within the scope of these key provisions. We recently represented a major international news organisation that had licensed its daily stream of current news messages to a German news agency that later filed for insolvency. The issue was whether the international news organisation as licensor was permitted to terminate the licensing agreement because the German news agency had failed to pay the requisite licence fees before the insolvency filing. The insolvency administrator of the licensee argued that such a termination right was excluded by sec. 103, 112 InsO. However, the relevant IP Licence in this particular case was not much like a tenancy or lease agreement because (i) the “leased” news items were only relevant and used for a very short period of time, usually only hours or days and (ii) there were no recurring payments for the IP but rather single payments per news item. The insolvency administrator recognised the risk that a court would find that such an IP Licence was (i) not akin to a lease agreement and (ii) fully performed because each news item had been already paid for with the legal consequence that the termination rights for non-payment would not be barred by sec. 103, 112 InsO. The case eventually settled and the IP licensing agreement was quickly terminated in due course.
Treatment of sub-licensees of an insolvent licensee
Recent case law of the German Federal Court of Justice and some lower courts suggests that even if the debtor, as licensee, rejects a licensing agreement, then any sub-licensing agreements that the debtor validly granted with appropriate permission pursuant to the main licensing agreement will remain valid. As a result, even if the licensor finally gets its IP rights back (and in the event that an exclusive licence was granted to the debtor, it is finally free to grant new licences again) those sub-licences remain in place! The case law is still developing in this area, but the gist of recent case law is that the sub-licences have a life of their own and in this scenario may not be dependent on the chain of title via the main licence. This may diminish the value of any new licences because the sub-licensees remain in place as potential competitors of the new licensees.
The debtor as licensor
Where the debtor is the licensor of a valuable licence, licensees are at risk of the insolvency administrator rejecting or disclaiming the licence pursuant to sec. 103 InsO. If that were to happen, the licensees would lose their right to use the IP rights but would be entitled to file a claim in the debtor’s insolvency (of unknown value). However the insolvency administrator would then be free to licence the IP rights again - usually by attempting to negotiate higher licensing fees.
Licensees in such scenarios can find themselves facing the unpalatable prospect of having to purchase the IP rights again for additional fees, or simply losing the right to use the IP in the future. In this scenario, the licensor debtor wields great power against any licensee; and if for instance the insolvency administrator realises that certain licences (e.g. software, patents) are essential for the economic survival of a licensee that can pay higher licensing fees, then the insolvency administrator will in all likelihood attempt to maximise the value of the licence in this way. Licensees tend to view this as an unfair attempt by the debtor to get “a second bite of the apple”; however, several attempts of the German parliament to regulate this scenario (along the lines of the equivalent provisions under US bankruptcy law) by giving the licensees greater certainty as to costs and continuation of licences, have so far failed.
Importantly, recent lower-court case law concerning patent cross-licences (involving the major IP rights holder Qimonda, which is in insolvency proceedings) suggests that a debtor that took part in a mutually beneficial patent cross-licensing agreement scheme among technology firms (often concluded in order to rule out multitudes of IP infringements on either sides, without licence fee obligations) may not reject the licences it has granted. This was on the basis that the patent cross-licensing agreements, while mutual, were already fully performed (as there were no recurring licence fee payments or reporting obligations); hence, sec. 103 InsO does not apply. However, the cases were settled before the German Federal Court of Justice could issue a binding decision on the point. Thus, the extent to which licences under German law may conceivably fall beyond the powers of the insolvency administrator to assume or reject pursuant to sec. 103 InsO remains open.
Infringement of IP rights by the insolvency administrator
It is up to the insolvency administrator to decide whether to assume or reject an IP Licence. The mere fact that a debtor has filed for insolvency (or insolvency procedures have been opened over the debtor’s estate) does not automatically result in the IP rights being infringed. For as long as no decision has been made to assume or reject the licence, the insolvency administrators can continue to use it within the scope of its existing terms.
Ability of the insolvency administrator to sell/sub-licence IP rights and consequences
Where the debtor is a licensee, the insolvency administrator may assume or reject the licence agreement. However, under German insolvency law, the insolvency administrator of a licensee may not sell the licence to a third party. This means that while a licensor is at risk of the debtor terminating the licence, he is not at risk of having to accept a new licensee chosen by the insolvency administrator - one that the licensor would never, itself, have chosen. However, where the debtor is a licensor, it can deprive the licensee of the licence in order to grant or sell new licences to others.
Sec. 103 grants the insolvency administrator considerable powers, both where the debtor is a licensee or a licensor. While sec. 112 InsO makes it difficult for a licensor to terminate the licence agreement for non-payment of licence fees, there is some scope for debate. This is because the German courts’ view that licence agreements are analogous to lease agreements may not apply in particular cases, opening up the argument that termination for non-payment of licence fees is possible even where it relates to non-payment licence fees arising before the insolvency filing. Because this area of law has received limited judicial consideration and because the statutory provisions are quite broad and because no overarching legislative resolution is likely, stakeholders need to be careful when dealing with IP rights in an insolvency proceeding.