On May 20, 2019, the Supreme Court decided Mission Product Holdings, Inc. v. Tempnology, LLC, No. 17-1657. In an 8-1 decision, and in a majority opinion authored by Justice Kagan, the Court held that the debtor-licensor’s rejection of a trademark license under Section 365 of the Bankruptcy Code “has the same effect as a breach outside bankruptcy” and, as such, the debtor, through such a rejection, could not rescind the non-debtor’s licensee’s right to continue to use the trademarks; in short, the debtor-licensor’s rejection of the license “cannot revoke the license.” Slip Op. at 16-17. Tempnology, of course, has immediate ramifications for structured finance vehicles involving trademarks licenses. While Section 365(n) of the Bankruptcy Code gives the non-debtor licensee the option to retain the benefits of a rejected lease of intellectual property in return for continued royalty payments and the waiver of setoff and other rights, the Bankruptcy Code does not include trademarks within its definition of intellectual property; until today, there has been a circuit split as to whether non-debtor licensees of trademarks had a similar option or whether the debtor effectively could rescind the license through rejection. In Tempnology, the Court clearly holds that a debtor licensor cannot revoke a trademark license through rejection.
But the potential ripples of Tempnology might extend beyond trademarks, including to general equipment leasing. It has been a concern of market participants and bankruptcy practitioners that, where the debtor lessor under a general equipment lease rejected the equipment lease under Section 365 of the Bankruptcy Code, the debtor could compel the licensor to return the equipment. See, e.g., Kravitt, Securitization of Financial Assets (3rd ed.), 5.05[I][a][i]. However, the holding and reasoning of the Tempnology decision, and even the example used by Justice Kagan’s in the majority’s analysis, would seem to warrant the contrary result. In concluding that that Bankruptcy Code requires rejected executory contracts and leases to be treated as having been breached under state law immediately prior to the commencement of the bankruptcy case, the court turned to a consideration of what such a breach would mean under state law and whether that treatment should continue in bankruptcy. Using the example of a law firm’s lease of a photocopier where the debtor lessor sought to reject the lease in order to get out from under any remaining service obligations, the majority concluded that outside of bankruptcy, the law firm lessee, and not the breaching lessor, would have the option of terminating the lease and returning the equipment or electing to retain the copier and that the result should be the same inside of bankruptcy. Id. at 9-11. There are issues that Tempnology still leaves open with respect to the application of its holding to general equipment leases, e.g., what are the on-going payment obligations of the non-debtor lessee, is the lessee entitled to offset the cost of any replacement service agreement against any remaining payment obligation it might have, etc.? These ancillary issues all remain to be resolved by subsequent case law. However, Tempnology would seem to send a clear message as to whether a debtor lessor under a general equipment lease can, by rejecting the lease, compel the non-debtor to return the equipment if the non-debtor wishes to continue to retain the equipment notwithstanding the rejection.