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11 U.S.C. § 365 – Executory Contracts Definition – a contract as to which each party has obligations that are sufficiently material so that a failure to perform those obligations would relieve the other party from performance. Examples – supply contracts, license agreements, leases, etc. Property of the estate – under 11 U.S.C. § 541, these contracts are property of the debtor/property of the estate. Executory contracts, from a business perspective, may be beneficial or burdensome (i.e., the debtor’s benefits under an executory contract may be above or below “market”).

Assumption of Beneficial Executory Contracts 11 U.S.C. § 365(a) permits assumption or rejection of executory contracts. Under 11 U.S.C. § 365(b), a contract may not be assumed unless the debtor: Cures existing defaults; Provides adequate assurance of future performance.

Rejection of Burdensome Executory Contracts The debtor is deemed to be in material breach of its obligations as of the date it filed for bankruptcy (the “Petition Date”). The non-debtor party has a claim for rejection damages (i.e., damages for breach of contract). The claim is a general unsecured claim (often pennies on the dollar). The contract is not “terminated.” The debtor may still be bound by provisions of the executory contract (e.g., a covenant not to compete). The non-debtor party is relieved from future performance.

Treatment of Intellectual Property Under the Bankruptcy Code 11 U.S.C. § 101(35A) provides: The term “intellectual property” means: (A) trade secret; (B) invention, process, design or plan under title 35; (C) patent application; (D) plant variety; (E) work of authorship protected under title 17; or (F) mask work protected under chapter 9 of title 17 to the extent protected by applicable non-bankruptcy law. Note the omission of trademarks.

Rejection of Intellectual Property Licenses Under the Bankruptcy Code If the debtor, as licensor, rejects an intellectual property license, the non-debtor licensee has the ability to elect to: Treat the license as terminated (note the difference between “rejection” and “termination”); or Elect to continue to “retain its rights” under the executory contract and any “agreement supplementary to such contract” for the duration of the contract and any extension period.

If the licensee elects to retain its rights, The licensee may enforce any exclusivity provision in the agreement with the debtor. The licensee is required to pay royalties under the agreement, without the benefit of setting off any damages arising from the debtor’s performance of its obligations. The licensee forfeits its right to seek rejection damages. The debtor is required to deliver to the licensee any intellectual property relating to the license. The debtor is barred from interfering with the rights of the licensee under the license.

The Spansion/Apple Litigation The case has its genesis in Spansion’s commencement of litigation against Samsung for patent infringement. Spansion filed a patent infringement action in District Court. Spansion also initiated an action before the International Trade Commission (“ITC”), seeking an order barring the import of certain consumer goods incorporating Samsung flash memory chips. In the ITC action, Spansion named as respondent’s purchasers of Samsung chips, including Apple.

The Letter Agreement Spansion and Apple entered into a Letter Agreement under which Spansion agreed to dismiss the ITC action against Apple and not to “re-file the ITC action or another action related to one or more of the same patents against Apple.” In exchange, Apple agreed that “Spansion will remain primary-supplier on current platforms where Spansion is qualified for the life-time of the product and will also be considered for future platforms...”

The Rejection/Termination of the Letter Agreement Spansion filed a motion to reject the Letter Agreement. The bankruptcy court granted the motion and entered an order which, among other things, stated that the Letter Agreement was “terminated.” Apple thereafter filed a “notice of election” under § 365(n). Spansion moved to strike the election in light of the language in the order providing for “termination.”

The Bankruptcy Court Ruling The order granting the motion to reject was amended to exclude any reference to “termination.” The notice of election was stricken in light of the absence of any evidence that Spansion and Apple had a continued business relationship.

The District Court Ruling The bankruptcy court’s decision to amend its prior order to exclude any reference to termination was affirmed. The bankruptcy court’s striking of the notice of election was reversed – the absence of a continuing business relationship between Spansion and Apple does not prevent the covenant not to sue from being enforced as a license. The United States Court of Appeals for the Third Circuit affirmed the District Court.