Originally published by Kirby B. Drake.
Avoiding Intellectual Property Traps in Contracts
Intellectual property (IP) traps can occur in contracts even when a contract does not specifically deal with the technology sector or the exchange of IP. For example, most employment agreements at least make mention of IP and may commit the employer as well as the employee to take certain actions, such as not disclosing confidential information. Accordingly, it is important to be aware of these potential IP traps to be better prepared whether preparing, negotiating, or reviewing a contract.
1. IP Definitions in Contracts
Intellectual property is generally understood to include patents, trademarks, copyrights, and trade secrets; however, a definition of IP in a contract also may include confidential or proprietary information. The IP definition in a contract may include registered as well as non-registered IP, domestic as well as foreign IP, but this may not always be the case. Thus, it is important to start with how IP needs to be defined in a given contract so that the parties are on the same page as to what is being covered and what is excluded.
Contracts typically include a definition of IP. The parties usually desire for this definition to be as broad as possible, particularly with respect to a definition that may be included in confidentiality or non-disclosure agreements. The definition should avoid being limited to registered IP, as this might unintentionally exclude trade secrets or confidential information from being addressed. There also may be instances in which IP may be defined as only those items that are reduced to writing or specifically identified by the parties, but this can be dangerous, such as in instances where “know-how” may be considered as IP. What follows is an example of an IP definition that includes know-how:
“Intellectual Property” means all intellectual property rights throughout the world, including: (a) Patent Rights, (b) trademarks, service marks, corporate names, trade names, Internet Identifiers, logos, slogans, trade dress, and other similar designations of source or origin, together with the goodwill symbolized by any of the foregoing (“Trademarks”), (c) copyrights and intellectual property rights in copyrightable and other works, moral rights, design rights and other sui generis rights (“Copyrights”), (d) trade secrets or other proprietary rights in technical, scientific, manufacturing, regulatory and other information, inventions (whether or not patentable), discoveries, designs, results, techniques, database rights, data, databases, data collections and other know-how, including plans, processes, practices, methods, trade secrets, instructions, formulae, formulations, recipes, compositions, specifications, protocols, analytical and quality control information and procedures, test data and results, reports, studies, and marketing, pricing, distribution, cost and sales information (“Know-How”), (e) intellectual property rights in Software and (f) applications and registrations and renewals for, and all associated rights with respect to, any of the foregoing in any jurisdiction, including all rights to collect royalties, products and proceeds with respect to any of the foregoing.
There also may be instances, such as in the case of an IP license or assignment when one or more particular items of IP should be specifically identified in the contract. For example, if a party is granted the right to use a specific trademark, but not other trademarks, that specific trademark should be defined in the contract. In another example, the contract may be geographically restricted; thus, if the contract is limited to the United States, a definition of IP may only include IP that is in effect in the United States and exclude foreign IP. These separate definitions of certain IP may be included in a definition section of a contract, and they may be incorporated into the general IP definition. While specific patent numbers or trademark registrations may be identified, there are also instances where terms within the general IP definition may be further defined. In the example above, the IP definition includes the term “Patent Rights,” and this term may be further defined as follows:
“Patent Rights” means (a) issued patents, (b) invention disclosures, and pending patent applications, including all provisional applications, substitutions, continuations, continuations-in-part, divisions and renewals, and all patents granted thereon, (c) patents-of-addition, reissues, reexaminations and extensions or restorations by existing or future extension or restoration mechanisms, including patent term adjustments, patent term extensions, supplementary protection certificates or the equivalent thereof, (d) inventor’s certificates, (e) registered or other utility model rights, registered or other design rights and registered or other industrial property rights and (f) United States and foreign counterparts of any of the foregoing.
Again, more specific definitions of patents to be licensed or transferred may be included in a contract. A contract may include an exhibit that lists the specific patents or other IP if needed, for example, to confirm that registered IP is clearly identified for recordation with the US Patent and Trademark Office or the US Copyright Office.
2. IP Licenses and Assignments
IP-related contracts often may include an assignment or license of IP to another party. An assignment would result in transfer of ownership rights to the IP, while a license may permit the other party to engage in activities that would otherwise violate the owner’s IP rights. With an assignment of registered IP, such as patents or trademarks, a contract should identify the registered IP that is being assigned and also confirm who will be responsible for preparing and recording the assignment or other instruments and documents necessary to effect the assignment of the registered IP, and who will bear the costs and expenses related thereto. The contract may include an assignment provision within the contract itself, but it is not uncommon for there to be a separate assignment document that is executed by the parties. This may allow the parties to record the separate assignment with the US Patent and Trademark Office, as opposed to recording the entire contract which could include provisions that the parties do not wish to be publicly accessible.
When there is a license, it is critical to know what is being licensed and the terms and conditions of the license. What follows is a non-exhaustive checklist of items to consider when fleshing out the details of the license:
· Are subsidiaries of the licensee also getting a license?
· What IP is being licensed?
· What license rights does the licensee require?
· Do third parties working with the licensee also need access to the licensed IP?
· What is the term of the license? Is it perpetual or for a specific number of years? Does it run with the term that the IP is in effect (i.e., does the license expire when the patent expires)?
· What is the fee for the license, and how will it be paid? Is it a fully paid-up license, or is it a royalty-based license?
3. Intellectual Property Representations and Warranties
Contracts often can include various IP representations and warranties. Some of the representations and warranties may deal with IP ownership. For example, a seller in an acquisition may be required to confirm that it is the sole and exclusive owner of each item of IP and that the IP is not subject to any limitations that restrict the seller’s ability to transfer the IP or give rights to third parties. If representing a seller, it is critical to not require the seller to make representations and warranties as to ownership of IP either before the seller owned the IP or after the date of closing. The latter is important as there can be occasions when a seller may be limited in its ability to exploit the IP following closing including: claims by third parties that patents are invalid (as a result of the existence of “prior art” or otherwise); liens on the IP in favor of banks or other lending institutions; claims by third parties that the IP infringes their patents or other IP rights; inadequate evidence that the employees or contractors who contributed to the creation of the IP assigned their rights in the IP to the seller; rights of first refusal, exclusivity or similar rights in favor of third parties with respect to the IP; the failure to have obtained any third-party consents necessary for the IP to have been transferred to the seller (if not originally developed by the company); broad licenses to the IP in favor of third parties that compete or may compete with the seller; open source issues; and the failure of the seller to have appropriately registered the IP with the applicable governmental body. See https://www.forbes.com/sites/allbusiness/2016/03/17/13-key-intellectual-property-issues-in-mergers-and-acquisitions/#77b5644c3f4e.
Other IP representations and warranties may be directed to IP infringement. This may be a statement that IP licensed and/or used pursuant to the contract does not infringe the IP rights of third parties. In an acquisition, the acquirer wants representations and warranties that what the seller is transferring does not infringe, misappropriate, or violate the IP rights of another. This may permit the acquirer to assert an innocent infringer defense to some IP claims. The acquirer also may want assurances that the seller is not aware of a third party that is infringing, misappropriating, or violating its IP rights. Both parties to a contract likely also want representations and warranties that there is no IP litigation that is pending or threatened.
In the case of the seller, the seller should try to limit this representations and warranties. For example, the seller should seek to limit the representations and warranties as to IP infringement to those that are material and those that it has knowledge of (as opposed to all claims reasonably known or unknown). A knowledge-qualified representation or warranty may state “to the best of seller’s/owner’s/licensor’s knowledge.” If possible, it may be helpful to seek to limit the representations to infringement of issued patents, as opposed infringement of all IP rights. An example of a pro-seller form of representation and warranty regarding IP non-infringement is provided below:
“Intellectual Property. To its knowledge, as of the date hereof the Company owns or possesses sufficient legal rights to all Intellectual Property (as defined below) that is necessary to the conduct of the Company’s business (the “Company Intellectual Property”) without any known violation or known infringement of the rights of others. To the Company’s knowledge, as of the date hereof, no product or service marketed or sold by the Company violates any license or infringes any rights to any patents, patent applications, trademarks, trademark applications, service marks, trade names, copyrights, trade secrets, licenses, domain names, mask works, information and proprietary rights and processes (collectively, “Intellectual Property”) of any other party. Except as set forth in the Disclosure Schedule, there is no outstanding written: outbound option, license, agreement, claim, encumbrance, or shared ownership interest of any kind relating to the Company Intellectual Property except for agreements with customers, nor is the Company bound by or a party to any inbound options, licenses, or agreements of any kind with respect to the Intellectual Property of any other person. The Company has not received any written communications alleging that the Company has violated or, by conducting its business, would violate any of the Intellectual Property rights of any other person.”
Regardless what type of IP representations and warranties are being made, it is important to attempt to limit exposure in the case of the seller. For example, the seller may seek to include protective language in the indemnification provisions of the contract, which may include thresholds/deductibles, right to control the defense of third-party claims, and the limitation of IP infringement claims to the portion of the purchase price placed in escrow. On the other hand, with the buyer/acquirer, it is important to place the burden on the seller to lose something significant (i.e., indemnify the acquirer in an infringement action or even refund all or a portion of the purchase price) if the representations and warranties turn out to be untrue.
4. Indemnification
As discussed in the prior Section on IP representations and warranties, IP indemnification can be a way of holding a seller responsible for breaches of IP representations and warranties. These types of breaches may not be the only matters for which indemnification may apply in a contract, but in contracts where IP may not be the main focus, the IP-related indemnification provisions sometimes can be overlooked in the negotiations, and this can lead to trouble down the road if a claim later arises.
Negotiations related to IP indemnification should include addressing the scope and survival of indemnification. The seller will want to try to limit the time in which it can be required to indemnify, while the acquirer will want to negotiate for a longer survival period. The seller also will want to try cap its indemnification obligation, although sometimes this is difficult to achieve. If there are caps in place for breaches of general representations, the seller may seek similar caps with IP breaches, but it is fairly common for the acquirer to ask for a higher cap for IP breaches. Acquirers also may seek to exclude some matters from being limited by a cap (i.e., fraud claims, intentional breach). Another area that is negotiated related to IP indemnification concerns control of defense of claims. The seller may wish to push for control, as the seller may be more incentivized to resolve the claim than if the acquirer has control and merely sends the invoices to the seller.
In the case of an IP license, which may be a standalone agreement or part of a larger agreement, indemnification provisions may require the licensor to extend its IP protection to cover the licensee if or when there is an IP dispute with a third party. Regardless what type of IP matters may be indemnified, it is important for the indemnitor to know what it is agreeing to indemnify.
5. Confidentiality and Non-Disclosure Provisions
Most contracts include at least one confidentiality or non-disclosure provision, and these provisions can be important to IP protection. Sometimes confidential information is defined as part of the definition of IP; however, in many cases, confidential information is separately defined in these provisions and can include all or a portion of what is covered in the definition of IP. If the scope of what is to be covered as confidential information is different than what is defined as IP, it may result in different obligations depending on the other terms of the contract. Another consideration is whether the confidentiality or non-disclosure provisions are one-way or two-way. If it is one-way, this means that only one party is disclosing confidential information to be protected, while a two-way provision contemplates that all parties to the contract may be disclosing confidential information to be protected.
The scope of the non-disclosure obligation may differ from contract to contract, and it is important to define so that the parties know when a disclosure constitutes a breach and whether a breach can be cured. For example, one non-disclosure provision may include an absolute prohibition on disclosure (i.e., “you will not disclose”) while another provision may include a reasonableness requirement (i.e., “you will use reasonable efforts not to disclose”). In negotiating a non-disclosure provision, the critical concern is what could happen if a disclosure occurs (i.e., how the business would be affected and whether it is curable).
In most non-disclosure provisions, there are exceptions for independent (or prior) knowledge as well as information that is public or later becomes public outside of the disclosures made pursuant to the contract. An example of such an exception is provided below:
Confidential information will cease to constitute confidential information at any time when (i) such information is or becomes a matter of public knowledge through no fault of the receiving party, (ii) subsequent to disclosure, is rightfully obtained by the receiving party from a third party who is lawfully in possession of such confidential information without restriction, (iii) the receiving party can prove is independently developed by the receiving party without resort to such confidential information, (iv) the receiving party can prove such information was lawfully in the receiving party’s possession prior to the disclosure by the disclosing party or (v) a Party is required by law or judicial order to disclose such confidential information.
Non-disclosure provisions may include a time limit after which disclosure may be made, but it is not atypical for these provisions to be ongoing even if the contract expires due to the nature of the information being disclosed. What follows is an example of language that reflects that confidential information must be kept confidential until it ceases to constitute confidential information:
In recognition of each Party’s need to protect its Confidential Information, the Party receiving confidential information hereby covenants and agrees that it will regard and treat each item of information or data constituting the confidential information as strictly confidential and wholly owned by the Party disclosing such confidential information and that it will not, for any reason or in any manner, either directly or indirectly, use or communicate any such item of confidential information or data to any entity or person, for any purpose other than strictly in accordance with the express purpose of this Letter. With regard to any confidential information, the covenant in the immediately preceding sentence will survive the termination or expiration of this Agreement until such item ceases to constitute confidential information.
Conclusion
There are many ways that IP can arise in contracts, and this article addresses just a few of those ways that IP comes up in contracts and can be a trap for the unwary. Being able to spot and avoid these potential IP traps may ensure success in navigating IP, which can often be foreign to those preparing, negotiating, and/or evaluating contracts.
Intellectual Property
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