Article by Miriam Claire Beezy* Partner and National Chair, Trademark & Copyright Practice Group Co-Chair, Entertainment & Media Industry Team
* Former chief trademark counsel of The Walt Disney Company
A fundamental premise in analyzing trademark and copyright issues in merger and acquisition transactions is the importance of due diligence. An investor seeking to maximize the value of a transaction should conduct robust due diligence to determine the risks and benefits associated with the assets to be acquired. The "diligent investor," whether a potential merger partner or a potential acquirer should take the Latin maxim, caveat emptor or "let the buyer beware" to heart when assessing the complete value of a potential transaction.
While the diligent investor principles presented herein potentially relate broadly to various forms of intellectual property, including patents, the focus in this paper is on trademarks and copyrights and a discussion of trademark and copyright law from the U.S. perspective. As trademark and copyright laws differ from country to country, appropriate action may require tailoring depending on the home country of the target company1 or when the target company has a portfolio that includes non- U.S.-based trademark and copyright assets; however, the general principles regarding diligent investment should remain the same.
A second premise of this paper is that many transactions involve "key" intellectual property assets. Key intellectual property is intangible property that contributes materially to the value proposition of a transaction. For example, a diligent investor seeking to merge or acquire a company with both brick and mortar assets and an extremely strong brand name faces a different value proposition than a diligent investor seeking to acquire a company with identical brick and mortar assets, but without the brand name. In the former case, the target company's intellectual property assets, most likely legally represented by its trade name, trademarks, logos and other trademark properties, create a specific value proposition for the deal. As such, before acquiring or merging with this target, the diligent investor should give specific and thorough attention to investigating the soundness, benefits, and risks associated with the target's trademark properties.
Similarly, a diligent investor seeking to acquire or merge with a target company whose business relies on the use or creation of copyrightable material, such as software, jewelry, textile or entertainment properties, should conduct thorough due diligence with respect to that company's significant owned and licensed copyrights. In addition, this due diligence should extend into the actual practices of the target to ensure that, on an ongoing basis, its business methods minimize the risk of copyright infringement.
The diligent investor takes both legal and pragmatic steps to investigate the value proposition of a potential transaction. As set forth below the importance of both the key terms of legal documents that underlie mergers and acquisitions - as well as the pragmatic steps that a diligent investor should take when carrying out due diligence on key trademark and copyright assets - cannot be overemphasized.
Key Legal Terms for Diligent Investors
Warranties, Representations, and Indemnifications in Asset Purchase and Merger Agreements
In a merger or acquisition, a diligent investor takes both legal and practical steps to ensure that the intellectual property assets to be acquired represent more value than risk to the transaction. The primary legal documents underlying these transaction types are merger agreements and asset purchase agreements, both of which memorialize the parties. legal rights and responsibilities in executing the transaction. In transactions where intellectual property - including trademarks and copyrights - form important assets in the deal, a series of intellectual property-related warranties, representations, and indemnifications offer important legal protections to the acquirer or merger partner. The most important of these provisions fall into five categories: scheduling, sufficiency, ownership, noninfringement representations, and disclosure representations regarding prior litigation or disputes.
The "scheduling" representations and warranties in an asset purchase agreement or merger agreement are the seller's statements that the schedules or lists of intellectual property provided to the other party are accurate and complete. Generally, the diligent investor will require the other party to represent and warrant that all intellectual property registrations, pending applications, and key in-bound and out-bound licensed intellectual property - including trademark, copyrights, and patents - are set forth accurately. These schedules should include registration serial numbers and also identify any official responses, filings, or fees coming due within a given number of days.2 In the case of trademarks, the schedules should also include any unregistered common law marks.
Often schedules do not include unregistered intellectual property assets. Accordingly, the diligent investor should require "sufficiency" warranties and representations for all of the intellectual property assets, including those which are "unscheduled." Unscheduled assets often include intellectual property of a type for which registration is unavailable, impractical, or simply not yet obtained, such as trade secrets, trade dress, designs, copyrightable subject matter, customer lists, or other proprietary information. A sufficiency representation is usually a statement by a party that all of the intellectual property assets being transferred - including the unscheduled intellectual property and in-bound licensed intellectual property - are sufficient to carry out the business of the company as conducted on the closing date and as contemplated by a written business plan or other prospective.3
The third category of typical warranties and representations are "ownership" statements. The diligent investor should require the seller to represent that, to the knowledge of the seller,4 the seller has sole and exclusive right, title, and interest to the intellectual property that it claims is wholly companyowned. 5 The diligent investor should also require the seller to identify thirdparty ownership interests in non-wholly owned intellectual property assets. These ownership statements should also include a representation that any key intellectual property developed by non-employees, contractors, or other parties on behalf of the company, has been properly assigned to the company or was developed under sufficient work-for-hire agreements.6
The fourth, and perhaps most important, category of typical representations and warranties are "non-infringement" statements. Such a statement by a party usually warrants and represents that (a) to the knowledge of the seller, any and all seller-owned intellectual property does not infringe or misappropriate the trademarks, trade secrets, copyrights, patents or other intellectual property of third parties and (b) to the knowledge of the seller, no third party is infringing seller-owned intellectual property.
Another important representation and warranty relates to litigation risks and history. The diligent investor should require a statement to the effect that the seller has not received complaints or been involved in litigation relating to its use of intellectual property or, that if it has, all related correspondence and information has been disclosed. An often overlooked aspect of this warranty relates to correspondence received by the target that is not a direct threat of litigation, but instead requests that the target enter into a license agreement with respect to the disputed intellectual property. 7
The above provisions should be coupled with an indemnification clause in which the seller agrees to indemnify the buyer for any claims or damages suffered due to the seller's breach of its warranties and representations. Realistically, the protection that such an indemnity offers may be thin. Even if an escrow fund or some other means is set aside for indemnification purposes, the joinder of the companies may de facto result in the joinder of their liabilities in true mergers or acquisitions of all or substantially all of a target's assets.
Given the limits of indemnification protection, the legal protections offered by an asset purchase or merger agreement must be accompanied by practical steps. Namely, the diligent investor should conduct thorough due diligence with respect to the key intellectual property assets in the deal. Such due diligence, if properly and thoroughly carried out, will give the diligent investor a robust picture of the value and risk proposition of the target's intellectual property assets. In some cases, these due diligence efforts may increase the value proposition of the deal. In other cases, such due diligence may indicate problems with the intellectual property assets that are serious enough to stop the deal from going forward at all. Accordingly, our focus now turns to the practical due diligence efforts a diligent investor should undertake with respect to key trademark and copyright properties.
Conducting a Trademark and Copyright Asset Inventory
Understanding the assets to be acquired is fundamental to any merger or acquisition. This principle should be no less true for the tangible property involved in an acquisition, such as machinery, personnel, or facilities, than it is for the intangible intellectual property, including the trademarks, copyrights, patents, and trade secrets. However, assessing a target's trademark and copyright properties is not wholly intuitive due to the varying rights and ownership structures associated with these two types of property.
Trademarks and Asset Inventory
The diligent investor should identify and locate each trademark property associated with the target. Trademarks, literally, come in many shapes and forms. A trademark can be a slogan such as American Express' "Don't Leave Home Without It"; a word, e.g., "Coca-Cola"; an image, e.g., the Nike swoosh symbol; a character, e.g., Mickey Mouse; a color, such as the color brown (as applied to trucks) for United Parcel Service (UPS); or a scent or sound. Trademark rights also reside in "trade dress," which is the particular look and feel of a product, or configuration of a space, such as the vintage pink-striped layout of a Victoria's Secret store.
Practically speaking, the diligent investor will request early in the negotiations a schedule of the target's trademarks. Ownership and title searches may be essential to complete and verify assets listed on a schedule. Traditionally, schedules tend to include more traditional trademark properties, such as slogans, words, or symbols. However, given the variety of marks addressed above; the extension of trademark rights into forms such as scents, colors and sounds; and even the introduction of new trademark-like properties in some jurisdictions;8 the initial schedule should not be treated as definitive. As discussed above, schedules may include only easily or practicably registerable intellectual property assets.9 The diligent investor should consider the presence and value of all forms of trademark assets for potential acquisition. Any and all valuable trademark assets should be identified as key assets and subject to further investigation.
Once the target's key trademark properties have been identified, the diligent investor should determine whether the target's trademarks are registered or unregistered and consider their value to the deal accordingly. In the United States, trademarks may either be the subject of federal or state registrations (registered marks) or they may be unregistered, with rights that have accrued to their owners based on actual use of the marks in the marketplace (common law marks). While common law marks are enforceable through the rights the owner accumulates based on use, registration has enhanced benefits. The benefits of federal registration include prima facie evidence of the validity of the trademark and the owner's exclusive right to use the trademark in connection with specified goods and services,10 incontestability of the trademark after five years of existence on the federal register,11 and the ability to bar the importation of goods with infringing marks by depositing the registration with customs.12
A Special Issue: The Anti-Assignments in Gross Rule
Clearly, any acquirer should conduct a careful analysis of trademark and copyright assets being acquired. In the United States, a party that acquires a trademark must also acquire the trademark's associated goodwill. Trademark assignments not accompanied by the goodwill of the business conducted under the trademark are "assignments in gross" or "naked transfers" that are null and void. Violation of this rule results in serious consequences for the assignee - the assignee will acquire no title in the trademark, leaving it powerless to sue a third party for infringement.13
In determining whether the necessary goodwill has been transferred with the trademark, the most difficult situation is one in which the purchaser acquires less than all of the assets of the target company. In determining whether the necessary goodwill has been transferred, courts primarily look to three factors:
- The transfer of tangible assets (e.g., machinery, customer lists and secret formulas)
- The substantial similarity between the trademark assignee's goods or services to the trademark assignor's goods or services
- The business status of the assignor after the assignment.14
An acquirer need not apply these factors like mathematical rules in structuring an acquisition. The general principle is that, along with the trademark, the acquirer should obtain those items needed to carry on the business under the trademark. Tangible assets need not always be transferred. For example, for a pharmaceutical company already operating manufacturing plants and purchasing a portfolio of prescription drug trademarks, the patents behind the named drugs likely are sufficient goodwill to validate the transfer.
Copyrights and Asset Inventory
Copyright due diligence presents particular challenges to the diligent investor. Copyrights are complex, divisible rights that tend to vest with the creator at the moment the work takes a fixed, tangible form. Unlike trademarks - which can be identified by their visibility or the fact of customer recognition - a target may be unaware of all of its important copyright assets. On the other hand, to the extent copyrights are registered, play an important role in the core business of the target, or are the subject of in-bound or out-bound licenses, such assets may be relatively identifiable.
As with trademark assets, the diligent investor should start by requesting a schedule or list of the target's key copyright properties. Generally, copyrights grant their owners the exclusive right to reproduce, prepare derivative works, distribute copies, perform, or display an original work of authorship. This work of authorship may be an artistic work (e.g., a literary or dramatic work) or an industrial work (e.g., databases, manuals, software programs, or catalogues). Because copyright protection automatically vests in fixed, tangible works, the diligent investor does not necessarily need to seek a list of any and every copyright owned by the target. Instead, the emphasis should be on key copyright properties - those copyrights that bring value to the deal and are operative in conducting the business of the target. For example, for a technology company target, the acquirer should inventory the software programs in which the target claims copyrights. The target's provided copyright schedule should be vetted and verified against available sources for ownership, chain of title, and clouded title issues. In the United States, the diligent investor should have owner searches conducted against records with the United States Copyright Office (Copyright Office) records. The Copyright Office keeps records of copyright registrations, applications, correspondence, transfers, mortgages, options, and security agreements. These records should be checked to confirm that the target truly is the owner of the claimed copyrights and to ensure there are no additional registrations that are not listed on the schedule. Further, the schedule should be verified against the target's internal documentation and agreements, as these agreements may identify copyrights relevant to the target's business. For example, work-for-hire agreements, consulting contracts, and copyright assignments may identify other copyrights created by or on behalf of the target.
Scope and Validity of the Rights
Once the diligent investor has identified the trademark and copyright assets that are important to the merger or acquisition, the diligent investor should next look to the scope and validity of the target's rights. Rights in intellectual property are complex and variable. The target may own the trademarks and copyrights represented in its schedules free and clear, or it may instead own licenses-to-use, limited rights, or security or contingent interests in them.
Trademark and Copyright: Verifying Outright Ownership Claims
The diligent investor should conduct an early analysis of the scope and validity of rights. Any claims of outright ownership of a trademark or copyright should be verified by identifying registrations relating to the trademark or copyright. A U.S. copyright registration and U.S. trademark registration, for example, provide prima facie evidence of ownership. The presumptions of ownership raised by these registrations may be rebuttable by parties who can prove superior rights or invalid registration. Still, such registrations provide a good initial basis for validating a target's ownership claims. However, since neither trademark nor copyright registration is mandatory in the United States, the diligent investor should, wherever possible, review other documents, including evidence of assignments or other documentation tending to prove that the target owns the trademark or copyright.
For key trademark properties, the diligent investor should also investigate the chain of title leading to the target's ownership claim. Defects in the chain of title resulting from prior invalid assignment can be fatal to a trademark. An owner may not even be aware of these past defects. In Universal City Studios, Inc. v. Nintendo Co., Ltd.,15 Universal sued Nintendo claiming that the Donkey Kong video game infringed Universal's rights with respect to the KING KONG trademark and character. The district court dismissed Universal's claims through summary judgment because it found that the trademark had been assigned to Universal in gross.16 This constituted an invalid assignment and meant that even though Universal believed it had purchased the trademark, the title had, in fact, never passed to Universal. Other possible defects in the chain of title include assignments granted or recorded in the name of the wrong owner (e.g., a sister or parent company of the actual registered owner); assignments of discrete rights rather than the entire right, title, and interest to a trademark: and (as discussed later in this Section) invalid assignments of security interests or intent-to-use applications.
For copyright properties, the work-for-hire doctrine requires that diligent investors pay special attention to ownership claims by targets whose key copyright assets were created in the workplace. Under the work-for-hire doctrine, the copyright in any work created by an employee in the scope of employment is owned by the employer, not the employee. This rule generally bodes well for employers, particularly for those employers for whom the internal creation of intellectual property is critical, such as hightech companies who claim copyrights in the creation of software, mask works, or data compilation by an employee. However, absent a signed written agreement, a company does not own the copyright in works created by non-employee consultants or independent contractors.17 Given the reliance of many companies on consultants and independent contractors, the diligent investor must inquire as to the origination of key copyrights and, in cases involving consultants and independent contractors, check that the work was created under a valid work-for-hire agreement or later assigned from the non-employee to the target through a properly constituted assignment agreement.
Trademark and Copyright: Licensed Rights
Where trademarks or copyrights are the subject of a license, the diligent investor should carefully examine the terms and conditions of the relevant license. Because trademark and copyright licenses often contain terms that are triggered by change of control events, these factors may affect an acquirer's ability to realize the post-merger or acquisition value of the relevant trademark or copyright. Thus, in reviewing such licenses, the diligent investor should pay close attention to the scope of the license grant clauses delineating the length of the license; the payment conditions; license termination events;18 and whether or not the license is assignable to successors.19 Of the latter terms and conditions, scope is important. License grants range from broad to very limited. For example, an in-bound copyright license may or may not include the right to create derivative works, to make copies of the work at issue.20 Additionally, unless there is a contractual prohibition, copyright licenses generally can be assigned and sublicensed with the licensor's consent. Accordingly, the scope and any prohibitions of a copyright license may affect the diligent investor's ability to acquire it.
Trademark in-bound licenses21 - whether of a traditional nature or in connection with a co-branding or co-marketing deal - typically require compliance with the licensor's trademark usage policy, which may contain strict guidelines regarding use, appearance, and placement of the trademark.
Finally, existing licenses may be relevant even in a situation where the target does wholly own the copyright or trademark. There may be outbound licenses that impact the value of the intellectual property to the acquirer. For example, a trademark may be the subject of a co-existence agreement with another company, which limits the lines of business into which the target company may expand use of the trademark without violating the agreement.
Trademark and Copyright: Security Interests
Finally, the diligent investor should look for any encumbrances or liens on the target's trademark and copyright assets. Given the value of intellectual property assets, it is common practice for debtors to use their trademarks and copyrights as security for a debt or loan. Generally, such security agreements provide that the intellectual property will be assigned to the holder upon default or foreclosure. There are two issues with security interests that are important for diligent investors to note. First, due to the anti-assignment in gross rule for trademarks (discussed in the section titled, "Conducting a Trademark and Copyright Asset Investigation"), default on a trademark security interest requires not simply the assignment of the trademark to the holder, but also the assignment of the product line or business associated with that trademark.22 Second, based on the same rule, intent-to-use applications may be assigned only to the "successor of the business of the intent-to-use applicant, or portion thereof, to which the trademark pertains."23 The practical effect of this limitation was illustrated in a recent case, Clorox Co. v. Chemical Bank.24 In this case, a borrower granted Chemical Bank a security interest in an intent-to-use application in order to secure a loan. The intent to use application later matured into a registered trademark. Clorox argued that because the security agreement did not include language that explicitly conditioned the assignment on the occurrence of default, the assignment document was a presently effective, outright assignment of an intent-to-use application to a party - namely Chemical Bank - that clearly also had not succeeded to the business assets.25 The USPTO agreed and, despite the fact that the trademark had successfully become registered, the court held that the faulty wording of the prior security agreement constituted an invalid assignment. Further, the court found that this historical defect in the chain of title was fatal to the borrower's registered trademark.
As this case illustrates, the risks represented by past and present security interests taken on a trademark can be substantial. Accordingly, the diligent investor should examine any security interests, past and present, on key trademarks.
Infringement Risk Assessment
While a target's trademarks and copyrights may be valuable assets, they also represent potential risk for the diligent investor. For both trademarks and copyrights, this risk is a double-edged sword; diligent investors should assess the risk that the key intellectual property they are acquiring will land them in court, whether as a defendant or a plaintiff.
Trademarks and Infringement Risk
The key role of a trademark is to indicate source. As trademarks are meant to be unique identifiers of the source of a product. Most commonly, litigation arises in the trademark context when two parties are vying over who has superior rights to the same trademark, or alternatively, when a party objects to another party using a trademark that is not identical, but "confusingly similar" to its own trademark.26
Accordingly, prior to acquiring trademark properties, the diligent investor should inquire into any past or present litigation or threats of litigation surrounding the key trademark properties of its target. In addition to investigating actualized conflicts, the diligent investor should investigate potential conflicts by surveying the landscape of existing trademarks to assess the likelihood of conflict with other existing marks. The best way to conduct this survey is through a trademark search conducted by an experienced trademark lawyer. One commentator has stated that "a company that selects a trademark without first conducting a search is flirting with commercial disaster."27 If the merged entity or acquirer intends to go on using the acquired trademark properties, then it has effectively "chosen" a trademark. In the case of established trademark properties, the risk of conflict with third parties may be known;, for newer or unregistered trademarks, conducting such a search is vital.
In assessing the litigation vulnerability of key trademark properties, the diligent investor also should look both to the nature of such trademarks and the target's history of enforcement action with respect to such trademarks. To illustrate, trademarks that are "non-distinctive" because they use commercially common terms or are descriptive with respect to their associated products or services enjoy only a narrow scope of protection. As such, the diligent investor should be aware that a non-distinctive trademark may be enforceable only against nearly identical marks being used for nearly identical goods and services, if it is enforceable at all.
Another factor in assessing the vulnerability or strength of a trademark is its enforcement history. Lax enforcement or sloppy licensing can be fatal to a trademark. A trademark owner who repeatedly acquiesces to infringing uses by third parties runs the risk that its trademark will lose its ability to indicate one unique source.28 Similarly, licensing without adequate control over the quality of goods sold under the trademark or the appearance of the trademark may diminish a trademark's ability to act as a symbol of quality, resulting in a judicial judgment that the trademark was abandoned.29
In Universal City Studios, Inc. v. Nintendo Co., Ltd.,30 mentioned earlier, the Court, in denying Universal Studios its claimed trademark rights in the name KING KONG, singled out various third parties' unauthorized uses of the KING KONG name and Universal's uncontrolled licensing practices as indicators that its trademark had lost the ability to indicate a single source of origin to consumers. Recently, the United States Court of Appeals for the Ninth Circuit held a trademark abandoned due to a failure of the licensor to insert quality control provisions in a license agreement and failure of the licensor to carry out adequate quality control.31
Given the serious consequences of poor trademark management, the diligent investor should inquire as to past licensing and enforcement practices regarding key trademark properties. Further, license agreements and business practices should be examined for adequate quality control provisions and activities carried out by the licensor.
Finally, understanding the target company's core business and the particular ways in which its activities might lead to infringement risk is a crucial exercise for the diligent investor. A business that might not at first suggest risks for trademark infringement may, upon a closer look, demonstrate otherwise. Even if the acquirer is not looking to acquire trademark properties, the core business may still create trademark or trade dress infringement risk.
For example, a company whose core business involves selling used or refurbished products may be at risk for trademark infringement if the sale of such goods causes customer confusion as to the source of the product. As a general rule, trade dress protection attaches to distinctive, non-functional aspects of product configuration. An owner of certain trade dress or a trademark has the right to have its trade dress or trademark associated uniquely with itself as source.
To illustrate, the printer refurbishing and recycling industry has encountered various problems with trademark and copyright infringement. Imagine a printer refurbisher adding its own labeling or packaging to a recycled printer. To the extent the original product retained trademark or trade dress associated with the original source, but also had labeling on it identifying the refurbisher, consumers might become confused as to the true source of the product and the refurbisher could be liable for trademark infringement. In situations where the product performed poorly and the customer, due to the confusing actions of the refurbisher, associated the product with the original manufacturer, trademark tarnishment or other liability could attach.
Copyrights and Infringement Risk
As with trademarks, an acquirer or merger partner faces a risk that the copyrights it acquires in a transaction may generate litigation risks. Even a registered copyright may be infringing if it is not, in fact, the original creation of the claimed author. As such, once the diligent investor has identified the target's key copyright properties, it should inquire into whether these properties might be the result of the copying of a pre-existing work.
While acquired copyrights represent risk, the inquiry into a target's past or future copyright or infringement risk should always extend into an analysis of the core business and its practices and procedures. This is especially true where the target operates in industries that heavily involve creative design processes, such as the textile, music and film industries, print media, and software industries. Practically speaking, the diligent investor should inquire into whether the internal business processes of the target are such that copyright infringement is likely to occur.
Under U.S. copyright law, to establish a prima facie case for copyright infringement, a plaintiff must prove "(1) actual copying, usually by showing that the defendant had access to the alleged work ... and (2) actionable copying by showing that the infringing work is 'substantially similar' to protected expression in the infringed work."32 These two prongs of access and substantial similarity imply practical cautions that a company must take to ensure that the products or content it creates do not infringe thirdparty copyrights.
The software industry is one such industry where the risk of copyright infringement is relatively high. In this and other industrial design-based or highly creative industries, many companies have developed "clean room" procedures. These clean room procedures are aimed at ensuring that employees preserve evidence illustrating their original creation of a work, avoiding employee access to copyrighted materials during the creative process, and reviewing work to ensure that employee created works are not substantially similar to pre-existing copyrighted works. In NEC Corp. v. Intel Corporation,33 a case illustrating the benefit of clean room procedures, the court, in holding that NEC had not infringed Intel's microcode despite its production of a very similar product, the court condoned the use of "clean room" procedures as a means of copying the unprotected "ideas" in source code without infringing its copyrighted "expression."
Trademark and Copyright Issues in Merging With or Acquiring Bankrupt Targets
Bankruptcy does not dramatically alter the basic rules of trademark acquisition. In fact, the U.S. Bankruptcy Code broadly defines "intellectual property" but excludes trademarks from its scope. If a target could have assigned its marks while it was solvent, it will still be able to do so in bankruptcy. Still, there are a few issues raised by the particularities of bankruptcy. These specific issues include the prohibition against assignment in gross; abandonment by reason of business cessation; and representations and warranties.
The prohibition against assignments in gross equally applies to bankrupt targets. Just as with a solvent company, a bankrupt target's marks may only be assigned together with the goodwill of the business. Upon liquidation, U.S. bankruptcy law generally attempts to maximize the worth of the debtors. assets, and in many cases, value maximization is best achieved when all assets are not sold together. Accordingly, a diligent investor looking to buy the trademarks of a bankrupt entity should examine the sufficiency of the goodwill to be acquired, just as if that purchaser were dealing with a solvent entity.
A primary risk associated with acquiring trademarks from a bankrupt target is whether termination of the business has affected an abandonment of the marks. A mark that is not used eventually, by operation of law, is "abandoned." In a bankruptcy situation, it is not uncommon for use of a trademark to cease temporarily during the wind-down of a bankrupt target's assets. Generally, this temporary cessation of business, even one lasting several months, will not cause abandonment of the trademark.34 However, courts have held the trademark abandoned where the trustee, debtor, or acquiring company fails to demonstrate an intention to use the trademarks and associated goodwill within a reasonable amount of time.35
Unlike trademarks, copyrights are specifically mentioned by U.S. Bankruptcy Code §365. Specifically, the code applies to works of authorship and mask works protected under the Copyright Act.
In bankruptcy, the main issue is whether inbound and outbound copyright licenses held by the debtor survive the bankruptcy. U.S. Bankruptcy Code §365 gives the bankrupt target a choice in deciding whether to continue its existing executory licenses, which include copyright licenses. However, the bankrupt target may only elect to continue such licenses if it promptly cures, or provides adequate assurance that it will cure, any defaults on such licenses.
On the other hand, if the bankrupt target chooses to reject a copyright license, the other party may (1) accept the rejection as a breach of contract and become a general unsecured creditor of the debtor with regard to damages for that breach, or (2) if the other party is a licensee, it may elect to retain its right to use the copyrighted material as long as it stays current on its royalty payments, and subject to certain other limitations.36 If the diligent investor is looking to merge or acquire a bankrupt target, it should investigate whether key copyright licenses have survived, or are likely to survive, either because the bankrupt target is able to cure default or provide adequate assurances or because licensees have chosen to retain rights of use with regard to copyrighted materials.
Perfecting the Interest
Perfecting Acquired Interests: Recordation and Registration
Whether for trademarks or copyrights acquired in a merger or acquisition, it is recommended practice that the parties execute assignments, schedules, and other documents effecting the transfer of ownership of such assets as attachments to the asset purchase or merger agreement. Executing these documents as attachments rather than embedding their terms into the asset purchase or merger agreement allows for their easier recordation with the USPTO and the Copyright Office. The benefits of such recordation are discussed below.
Trademarks and Perfecting Interests
For a registered trademark, the acquirer should record the assignment of the trademark. Under Section 10 of the Lanham Act, no matter how a registered trademark is acquired, including through bankruptcy, the trustee or new owner should record the written document of the assignment with the USPTO within ninety days of its execution. Failure to record can make the assignment void against any subsequent purchaser for valuable consideration without notice. Thus, the trademark's new owner may not benefit from the legal priority date accorded by use of the trademark before the assignment. Instead, the new assignee may be required to rely on its own first-use date in defending the trademark against third-party uses.
Where the diligent investor has acquired an unregistered common law trademark, the generally recommended route is to apply for a federal registration for the trademark, claiming use back to the date the trademark was earliest used by a predecessor.
Copyrights and Perfecting Interests
Recording transfers of ownership in registered copyrights is not mandatory, but is at the discretion of those holding the rights concerned.37
Documentation that transfers copyright ownership, or otherwise clarifies the scope and allocation of rights under a copyright, are recordable with the Copyright Office. Transfers of copyright ownership documents include assignments, mortgages, grants of an exclusive license, and transfers by will or intestate succession.38 Other recordable documents that clarify the scope and allocation of rights include exclusive and non-exclusive licenses, contracts, mortgages, powers of attorney, certificates of change of corporate tiles, and decrees of distribution.39
While recordation of a copyright interest is voluntary, there are two primary benefits. First, a recordation specifically identifying a copyrighted work provides constructive notice to the public that rights in the work have been transferred. Second, where multiple parties claim rights due to conflicting conveyances, or where, as in bankruptcy situations, a creditor's rights may depend on whether its security interest has been perfected, recordation may give the transferee legal priority over third parties.40 As such, the diligent investor is advised to record such transferred copyright interests.
Where the diligent investor has acquired an unregistered copyright, registration with the Copyright Office is a simple, inexpensive process and is recommended.
The phrase caveat emptor is perhaps too often associated with negative outcomes or as a warning uttered too late - when the deal is already done or the transaction consummated. However, diligent investment principles are based on the optimistic underbelly of this warning. A diligent investor who identifies key intellectual property assets and investigates their soundness, benefits, and associated risks early on is able not only to avoid bad investments or take steps to mitigate uncovered risks, but is to recognize the underlying, unexploited value presented by sound trademark and copyright assets.
1 Throughout this paper, both potential merger partners or potential companies to be acquired are sometimes generically referred to as a "seller," "target" or "target company."
2 Generally, between 60 and 90 days after the closing date.
3 The second representation, namely that the transferred intellectual property is sufficient to carry out the business of the company as contemplated by a written business plan or other prospective, is more difficult to negotiate successfully than a simple statement that such assets are sufficient to carry on the business as of the closing date. However, where possible, it is strongly recommended that a party attempt to secure such a representation.
4 Clearly, the language "to the knowledge of the seller" limits the scope of the warranty. This language is typical as many counterparties will not agree to make such a warranty or representation without such a qualifier. However, a diligent investor should seek a warranty without such a qualification, where possible.
5 For ease of identifying what assets are claimed as wholly owned by the company versus which assets are subject to third-party ownership interest, exclusively and joint or severally owned assets may be set forth on separate schedules.
6 The work-for-hire issue is discussed in greater depth in this paper, infra, in Section IV.
7 Communications from third parties that are phrased as mere license requests may actually be better categorized as rights claims or demands that a party cease and desist using intellectual property that the third party believes to be infringing. Third parties sometimes use license request language to avoid the possibility of declaratory judgment as receipt of an explicit threat to sue or rights claim permitting the receiving party to initiate litigation and seek a declaratory judgment that the claimed rights are invalid.
8 For example, the target may own foreign trademark properties such as a Community Design Registration (CDR). The December 12, 2001, passage of the Community Designs Regulation by the European Union allowed for the protection of the outward appearance of a product or portion of a product resulting from the lines, contours, colors, shape, texture, materials, and/or its ornamentation. Community Design protection is somewhat analogous to U.S. trade dress protection. However, several commentators have critiqued the broadness of CDR protection, noting that it also relies on patent-like and copyright-like principles in its scope and nature. From the standpoint of the diligent investor, Community Designs are a new, broad, and potentially highly valuable breed of trademark-related protection.
9 For example, product configuration trade dress is registerable in the United States, but now only upon a showing of secondary meaning, meaning that consumers have come to associate the nonfunctional aspects of a products configuration or appearance with a particular source. Inherent distinctiveness alone, meaning that the product has a highly unique or distinctive non-functional attributes is insufficient. At least partly due to the evidentiary burden of making the requisite showing, and the more complex nature of a trade dress application than a traditional trademark application, trade dress rights are currently less likely to be registered with the United States Patent and Trademark Office (USPTO) by their owners.
10 See U.S.C. § 1057(b)
11 Incontestability means that after five years of registration on the federal register, the trademark is no longer vulnerable to cancellation actions by third parties claiming to have prior use or on the grounds that trademark is descriptive except for fraud or genericism. See, respectively, Dial-AMattress Operating Corp. v. Mattress Madness, Inc., 841 F. Supp. 1339, 1352 (EDNY 1994); Park N. Fly, Inc. v. Dollar Park and Fly, Inc., 469 U.S. 189, 196 (1985).
12 U.S.C. § 1124(b)
13 McCarthy 18-17
14 For example, a court may consider a business' continuing to operate as a going concern and offering the identical products and services as it did before assignment of the trademarks to be evidence that sufficient goodwill was not assigned away along with the marks.
15 746 F.2d 112, 115 (2d Cir. 1984).
16 Assignments in gross are discussed in greater detail in the section titled, "Key Legal Terms for Diligent Investors."
17 17 U.S.C. §§ 101, 102
18 For example, given concerns over quality control, competitor acquisitions, or disclosures of proprietary information, it is not uncommon for licensors to make change of control by merger, acquisition, or assignment of rights to a third-party by the licensee an event that terminates the granted trademark or copyright license.
19 These clauses may prohibit outright assignment of the license to successors or they may require pre-approval before such assignment occurs.
20 For example, a target company may have a license for a software program used in the propagation of its services. However, that license may be only a right to use and additional licenses and royalty payments may be necessary to permit the target company to create additional copies of that software or distribute existing copies to more than a specified number of users.
21 Trademark in-bound licenses are usually those in which the target does not own the mark it is using; it licenses this mark from a third party.
22In re Together Development Corporation, 227 B.R. 439 (D. Mass. 1998).
23 15 U.S.C. 1060 (Section 10, U.S. Lanham Act); McCarthy, Trademarks and Unfair Competition, §18:10 et seq. (1997) (and cases cited therein).
24 The Clorox Company v. Chemical Bank, 40 U.S.P.Q. 2d 1098, 1103-04 (T.T.A.B. 1996).
25 In fact, because the borrower had not only meant to assign a security interest and not assign its trademark, no assets were passed. The court's decision did not honor the intent of the parties, but strictly required that an assignment of a security interest must explicitly indicate that the transfer of the trademark is conditional on the occurrence of a certain event, here, default, and that without such language, the assignment will be considered presently effective and lacking the assets that must accompany any assignment of an intent-to-use application.
26 For full treatment of the issue of "confusing similarity" in trademark law, see R. Kirkpatrick, Likelihood of Confusion in Trademark Law (2004).
27 Elliot S. Simcoe, Trademark Search Can Prevent Loss of Goodwill," Lawyer Weekly, September 21, 2001.
28 McCarthy, McCarthy on Trademarks, §17:17 (2004).
29 Id at §17:6.
30 746 F.2d 112, 115 (2d Cir. 1984)
31 Barcamerica International USA Trust v. Tyfield Importers, Inc. 289 F.3d 589 (9th Cir. 2002).
32 Keller and Cunard, Copyright Law: A Practitioner's Guide, §11:6:2 (2003).
33 10 U.S.P.Q.2d 1177 (ND Cal. 1989).
34 Merry Hull & Co. v. Hi-Line Co., 243 F. Supp. 45 (SDNY 1965)
35 Richard Leib, "The Interrelationship of Trademark Law and Bankruptcy Law," 64 American Bankruptcy Law Journal 1, 12 (1990).
36 For example, the licensee can continue to use the copyrighted material but it cannot seek specific performance of any other obligations of the debtor.
37 For causes of action arising prior to March 1, 1989, recordation of a copyright interest was required in order to bring an infringement action. However, the Berne Convention Implementation Act, Pub. L. No. 100-568, 102 Stat. 2853 (1988) abrogated this requirement. Copyright registration is still a prerequisite to bringing a lawsuit under the Copyright Act.
38 Copyright Office, Circular 12 at 2.
39 Id. at 3.
40 See In re Peregrine Entertainment, Ltd., 16 U.S.P.Q.2d(BNA), 1017 (C.D. Cal 1990); 17 U.S.C. §205(d)-(e).
The author would like to acknowledge the assistance of Reese A. Pecot, an associate in the Trademark & Copyright Practice Group of Foley & Lardner.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.