Remedies When Infringers File Bankruptcy

• Citation: Vol. 41 No. 1
• Publication year: 2016
• Author: MICHAEL V. BLUMENTHAL

Remedies When Infringers File Bankruptcy

MICHAEL V. BLUMENTHAL

Thompson & Knight

VIRTUALLY EVERY COMPANY UTILIZES TECHNOLOGY and intellectual property in its business operations. Many debtors enter into bankruptcy proceedings as infringers without licensing agreements and attempt to utilize the bankruptcy process to avoid the consequences of their actions. Owners of copyrights, trademarks and patents must be resolute in asserting their rights and claims in the infringer's bankruptcy case. This article addresses the intersection of intellectual property and bankruptcy law and the effect of a bankruptcy case on infringement claims.

EFFECT OF THE AUTOMATIC STAY

The filing of a petition for bankruptcy triggers the automatic stay provisions of the U.S. Bankruptcy Code, which operates as an injunction against "the commencement or continuation...of a judicial, administrative or other action or proceeding against the debtor" and "any act to obtain possession of property of the estate...or to exercise control over property of the estate."¹ The automatic stay applies when both the infringement occurred and the owner of the intellectual property commenced an action pre-petition.² However, the stay may be lifted for cause to allow the pre-petition action to proceed to judgment. The factors constituting cause include (a) circumstances where the pre-petition action has been pending for quite some time and is ready for trial, (b) there would be no prejudice to the debtor to proceed in a non-bankruptcy forum while the creditor would suffer significant prejudice if it had to start over, (c) the creditor demonstrates a reasonable probability of success, and (d) the legality of the debtors business is in question.³

Application of the automatic stay by courts differ depending on whether the infringement occurred pre-petition and continued post-petition, or solely occurred post-petition.⁴ Decisions have not been uniform and are dependent on the specific facts of the case, the procedural posture of the infringement litigation, and the judge's predilections. The various approaches used by courts where the infringement continues or occurs post-petition is based on the intersection of 11 U.S.C. § 362(a)(3) ("Bankruptcy Code § 362(a)(3)"), 28 U.S.C. § 959(a)), and 28 U.S.C. § 1338 ("Section 1338").

First, federal district courts have concurrent jurisdiction with the bankruptcy courts to determine whether the automatic stay applies.⁵Therefore, a preemptive motion to rule on relief from the stay provided by § 362(a)(3) of the Bankruptcy Code can be filed in the district court. Second, 28 U.S.C. § 959(a) authorizes the filing of actions for post-petition conduct by the trustee, manager, or receiver of property without obtaining relief from the automatic stay, subject to the court's discretion to enjoin such post-petition claims, because the stay only applies to pre-petition conduct and claims.⁶

Finally, under Section 1338(a), federal district courts have "original jurisdiction of any civil action arising under any Act of Congress relating to patents, copyrights and trademarks."⁷ Some courts limit the automatic stay based upon the debtor not having a colorable claim to possession, control or a legal right to the property. Courts will also not allow a debtor to use the bankruptcy process as a shield to misappropriate property to which it is not rightfully entitled.⁸ At bottom, the Bankruptcy Code does not confer upon a debtor any more rights to infringe than under non-bankruptcy federal statutory or case law applicable to intellectual property.

While the overall view is that the case law under 28 U.S.C. § 959(a) "demonstrates a policy of favoring plaintiffs, several courts have held that to allow the continuation of lawsuits against a debtor in possession in another forum would be disruptive to the reorganization effort and as a result, have enjoined the continuation of these suits."⁹ A California bankruptcy court, in rejecting a creditor's reliance on 28 U.S.C. § 959(a), opined that seeking injunctive relief had the effect of obtaining possession of property of the estate, and thus a violation of Bankruptcy Code § 362(a)(3).¹⁰ Courts have also applied the automatic stay by rejecting bifurcation of an infringement claim into pre-petition and post-petition claims.¹¹

These cases prevented the owner of a patent from seeking an injunction of the alleged post-petition infringement. However, even if a bankruptcy court enjoins continuation of an infringement action, the owner of intellectual property still has leverage in a bankruptcy case.

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BIFURCATION OF CLAIMS

Whether the litigation proceeds in the bankruptcy or district court, the filing of the infringer's bankruptcy does not extinguish a claim for damages by the owner of intellectual property. Damages for pre-petition infringement would be treated as a general unsecured claim, while damages for post-petition infringement would be an administrative claim. Administrative claims need to be paid in full¹² to confirm any Chapter 11 plan, providing the owner of a trademark, patent or copyright with negotiating leverage in the case.

Additionally, to the extent that the debtor's infringement continues post-confirmation or post-discharge, the automatic stay does not bar a plaintiff from suing for post-bankruptcy damages or seeking injunctive relief in conjunction with the continuation of the infringement subsequent to a debtor emerging from its bankruptcy. As stated earlier, the stay provisions of Bankruptcy Code § 362 only apply to actions that arose or could have been commenced prior to the bankruptcy filing, because each infringing activity gives rise to a cause of action that dates from the moment of infringement.¹³

SALE OF DEBTOR'S ASSETS

A debtor may sell property under Section 363(b) of the Bankruptcy Code free and clear of any and all claims or interests in such property of an entity other than the estate, only if one of the five requirements of Section 363(f) is satisfied, none of which should be applicable in the context of a bona fide infringement claim. Although the...