PROTECTING YOUR RIGHTS TO INTELLECTUAL PROPERTY IN BANKRUPTCY

A. Intellectual Property -- Protecting A Secured Creditor’s Rights

Intellectual property generally includes the following: (a) patent rights, (b) copyright patents, (c) trademark and servicemark rights, and (d) trade secrets.

Patent rights are created and governed by U.S. federal law. Generally speaking, patents cover inventions of a new and useful process, machine or improvement- e.g., integrated circuits, pharmaceutical drugs, disc drives. Patents encourage invention by providing an owner/inventor with a temporary monopoly (generally, 17 years) on the invention, which allows the inventor to control the usage and sale of the invention. However, in order to receive that protection, the inventor must apply for and diligently pursue the patent, or else the patent rights could be forfeited.

Copyrights are also created and governed by federal law. Copyrights cover “original works of authorship fixed in any tangible medium of expression”--e.g., books, music, motion pictures, computer programs. A copyright owner possesses the exclusive right to (a) reproduce the work, (b) prepare derivative works from the work, (c) distribute copies of the work to the public, (d) publicly perform the work, and (e) publicly display the work. An author need not register his copyright to get protection--the only requirements are originality and fixation in a tangible expression. However, to sue for infringement (and in order for a secured creditor to properly perfect a security interest in a copyright), the author must register the work with the Copyright Office.

Trademarks and servicemarks arise under federal (Lanham Act) and state law. These marks protect a name, symbol, word or combination thereof used by a person to identify and distinguish his or her goods or services from those provided or manufactured by others. The primary purposes of a trademark or servicemark are identifying the origin of the subject goods or services, and providing some measure of quality assurance. A mark needs to be distinctive or recognizable in order to serve as an identifier.

Trade secrets are protected under state law only. Trade secrets are given broad protection; virtually any information qualifies for trade secret protection if its limited availability gives it economic value and it is reasonably guarded. Examples of trade secrets are customer lists, prices, costs, processes, formulae, and various know-how.

B. Making Sure Security Interests are Properly Perfected

If a creditor obtains a security interest in intellectual property, it is imperative that the security interest be properly perfected. In a subsequent bankruptcy, the creditor’s security interest may be voided if that security interest was not properly perfected. The creditor would be left unsecured and without the benefit of its bargain. Briefly, to perfect their security interests, creditors should confirm that both a UCC financing statement has been filed and, if appropriate, a security agreement/conditional assignment has been recorded in the Patent and Trademark Office and/or the Copyright Office.

Under the Uniform Commercial Code (UCC), intellectual property rights are usually considered “general intangibles,” which are perfected by filing a UCC-1 financing statement in the state where the debtor’s headquarters are located. However, patents, copyrights and trademarks present some thorny issues with respect to the perfection of security interests, because of the federal system of registration. Also, a security agreement for such collateral needs to be somewhat specialized and tailored to the peculiar nature of the collateral.

In taking a security interest in intellectual property, a secured creditor should ensure that the collateral includes all “now existing and hereafter acquired or created” intellectual property, as well as everything associated with the intellectual property -- e.g., contract rights, license rights, distribution rights, proceeds and income, right to sue for infringement, goodwill, foreign rights. The patents, trademarks and copyrights should be described with specificity -- by number, inventor/author, dates, description. The debtor should have an affirmative duty and obligation to promptly register any newly acquired or created patents, trademarks and copyrights (and any upgrades), and the debtor should be obligated to notify the secured creditor of any such newly acquired or created intellectual property, to permit the secured creditor to properly perfect as to the collateral. The security agreement should contain a mechanism to allow the secured creditor to effectively exercise its remedies upon default, e.g., the debtor’s agreement to cooperate, and a power of attorney to permit the secured creditor to assign and register the rights upon a foreclosure.

The debtor should covenant to timely file and pay all maintenance fees for the patents, and should also agree that it will notify the secured creditor of any infringement litigation and will cooperate with the secured creditor in protecting the rights and defending that litigation (at debtor’s expense). There should also be an indemnity in favor of the secured creditor with respect to third party claims and losses suffered by the secured creditor concerning the intellectual property. The security agreement should include warranties as to the debtor having good and marketable title, no previous assignments, no prior security interests, and the validity and enforceability of the intellectual property.

As noted above, a security interest in a general intangible is perfected by filing a UCC financing statement. An exception to perfecting solely by a UCC filing is when the property rights are governed by federal statutes or the property is subject to a federal statute which provides for national registration. UCC §§ 9104(a), 9302(3).

There are no federal statutes that govern the registration of security interests in patents or trademarks. Further, there are two widely-cited court cases that hold that a UCC-1 financing statement alone perfects an interest in patents and trademarks. City Bank & Trust Co. v. Otto Fabric, Inc., 83 B.R. 780 (D. Kan. 1988); In re Transportation Design & Technology, Inc., 48 B.R. 635 (Bankr. S.D. Cal. 1985). However, the better practice with respect to patents and trademarks is to also record a notice of a security interest at the Patent & Trademark Office, to protect against subsequent purchasers or competing licensors.

With regard to copyrights, here is an express federal statute governing the recordation of the “transfer of copyright ownership” and documents “pertaining to” a copyright. 17 U.S.C. § 205. A “transfer of copyright ownership” includes a mortgage or hypothecation of the copyright. 17 U.S.C. § 105. Thus, it is mandatory that a secured creditor record its security interest in copyrights with the Copyright Office to be properly perfected. Otherwise, the security interest (if it is only perfected by filing a UCC-1 financing statement) in the copyrighted material and any proceeds thereof can be avoided in a subsequent bankruptcy. In re Peregrine Entertainment, Ltd., 116 B.R. 194 (C.D. Cal. 1990); In re AEG Acquisition Corp., 127 B.R. 34 (Bankr. C.D. Cal. 1991).

If the copyright has not been registered, but the collateral is copyrightable, the secured creditor must ensure and insist that the borrower register the copyright with the Copyright Office, and the secured creditor should then record its security interest with the Copyright Office. Otherwise, a bankruptcy court could find the secured creditor to be unperfected, thereby losing its security interest in the copyrightable material and all proceeds thereof. In re Avalon Software, Inc., 209 B.R. 517 (Bankr. D. Ariz. 1997). This can have disastrous results. In the Avalon Software case, the secured creditor was found to be unperfected as to software programs that had never been registered with the Copyright Office, as well as unregistered modifications and enhancements to those programs, and proceeds from those programs and any licenses thereof. This constituted the vast majority of the debtor’s assets, leaving the creditor unsecured as to those assets and in a very unhappy situation.

The cautious solution when dealing with patents, trademarks or copyrights is to record a security interest in the Copyright Office or the Patent & Trademark Office, and file a UCC financing statement with the relevant state office.