Title

Can a Bankrupt Company Assign Its Patent License to the Highest Bidder, Even When the License Itself Forbids Assignment? Why Everex Systems, Inc. v. Cadtrak Corp. Gives an Unconvincing Answer

Abstract

A patent licensee that declares bankruptcy will often want to assign its rights under the license to another party in exchange for much-needed cash. The Bankruptcy Code generally allows debtors to assign executory contracts, including patent licenses, in this way. Indeed, the Code permits debtors to assign a contract even if the contract itself contains a “no-assign” clause, i.e., a clause expressly forbidding assignment. But there is an exception: The Code will defer to certain kinds of otherwise applicable non-bankruptcy law that would normally prevent the contract from being assigned. In particular, the Code will not allow assignment by a debtor-licensee if, outside of the bankruptcy context, the applicable non-bankruptcy law would bar assignment regardless of whether the contract contained a no-assign clause or not.

Two bodies of non-bankruptcy law speak to the assignment of patent licenses. State contract law generally permits assignment unless the license says otherwise, while a longstanding rule of federal common law generally bars assignment unless the license says otherwise. Careful reflection on these two rules reveals that the federal common-law rule is the type of non-bankruptcy rule the Code will defer to, while the state contract law rule is not. Thus, if state contract law governs questions of patent license assignability outside of bankruptcy, then inside bankruptcy the Code will permit assignment by a bankrupt licensee. On the other hand, if federal common law governs those questions outside of bankruptcy, then inside bankruptcy the Code will defer to the federal rule, and will prevent the bankrupt licensee from assigning. Thus, the question of whether a bankrupt licensee can assign a patent license containing a no-assign clause reduces to an Erie question about which body of law applies to patent license assignability issues outside of bankruptcy.

Under the Erie doctrine, whether state contract law or federal common law applies to patent license assignability questions outside of bankruptcy depends on one thing only: whether the use of state contract law to decide such questions would pose a “significant conflict” with some federal policy. Everex Systems, Inc. v. Cadtrak Corp., the leading case on this topic, concluded that using state law would significantly reduce the value of the federal patent monopoly, thereby significantly conflicting with federal patent policy, and that federal common law must therefore apply. Other authors have criticized Everex, most forcefully by arguing that Congress has tacitly indicated that there is no federal policy of protecting the value of the patent monopoly against ordinary variations in state contract law. But such arguments ultimately rest on the authors’ particular, and easily assailable, interpretation of Congressional silence on the subject of patent licenses.

The present article offers a more fundamental critique of Everex: Even if we assume, as the Everex court did, that protecting the value of the patent monopoly against variations in state contract law is a genuine goal of federal policy, Everex still contains a serious flaw. Everex concluded that applying state contract law to patent license assignability questions (not in the bankruptcy context, but generally) would significantly undermine the patent monopoly overall, because it would mean that, within any bankruptcy, the no-assign clause in a patent license would always be ignored, destroying much of the patent’s value.

But the court failed to account for the fact that this insult to the patent’s value occurs only when the licensee happens to be bankrupt. Outside of the bankruptcy context, the Bankruptcy Code does not apply, and no-assign clauses in patent licenses are routinely enforced, whether one is using state contract law or federal common law. Thus, from the perspective of the would-be innovator—the scientist or R&D director whose behavior the federal patent policy seeks to shape—the ex-ante expected value of the patent may not be significantly reduced by the use of state law as opposed to federal common law. In particular, this ex-ante expected value will not be substantially diminished if the probability is low that the eventual licensee of the patented invention will end up going bankrupt. Everex ignored this empirical element of the Erie analysis—an element that can also be applied in many other, non-patent, settings. In short, the Everex court fell into the trap of imagining that the injury to the patent monopoly in the general case would be of the same magnitude as the injury to the patent monopoly in the case that happened to be before the court that day. It would not, for the simple reason that most patent licensees do not go bankrupt.

Disciplines

Antitrust and Trade Regulation | Bankruptcy Law | Intellectual Property Law | Jurisdiction | Law and Economics

Date of this Version

August 2004