Intellectual property (IP) is a category of property that includes intangible creations of the human mind. IP is protected by rights that include patents, trademarks, copyright, industrial designs and trade secrets. IP can be a very valuable asset ─ so what happens to that IP when a company or individual becomes insolvent?

Ipso facto clauses

Although it is standard practice to insert clauses, which are often referred to as ipso facto clauses, into agreements which state that the agreement will automatically terminate upon the insolvency of a party to the agreement, these provisions are generally not enforceable under Canadian insolvency legislation due to anti-deprivation rules. Anti-deprivation rules aim to prohibit interactions that benefit a specific creditor over others and seek to preserve the assets available for operations and/or distribution. Accordingly, despite the inclusion of an ipso facto clause into an agreement pertaining to the use of IP by an insolvent party, it is important to understand how IP licenses operate during insolvency.

In insolvency proceedings, rights granted by licenses, including IP licenses, are treated as contractual rights as opposed to property rights.¹ This means that IP licenses will generally remain in force after an insolvency proceeding, unless the agreement for that IP is terminated by disclaimer or court order.

Legislation

The Bankruptcy and Insolvency Act (the BIA)² and the Companies’ Arrangement Act (the CCAA)³ are pieces of federal legislation in Canada that apply to insolvent individuals and businesses. The main difference between these acts is the amount of debt to which they apply. The CCAA is generally used for larger proceedings, where the debt exceeds CA$5,000,000.

Generally, after entering a formal insolvency proceeding, an insolvent party may disclaim an agreement in order to sell its assets free of any contractual claims. However, to protect licensees and maintain the licensee’s rights to use IP, the carve-outs noted below were added to the BIA and the CCAA in 2009 and came into force in 2019.⁴ These carve-outs apply where the insolvent party has granted a right (pursuant to an agreement) to another party to use IP. In this case, the disclaimer of an agreement would not impact the licensee’s right to use the IP during the course of the agreement, as long as the licensee continues to be in good standing under the terms of the agreement. This approach is codified in the following sections of the BIA and CCAA:

1. section 36(8) [Restriction on disposition of business assets] of the CCAA for proceedings under the CCAA:
   
   If, on the day on which an order is made under this Act in respect of the company, the company is a party to an agreement that grants to another party a right to use intellectual property that is included in a sale or disposition authorized under subsection (6) [Assets may be disposed of free and clear], that sale or disposition does not affect that other party’s right to use the intellectual property — including the other party’s right to enforce an exclusive use — during the term of the agreement, including any period for which the other party extends the agreement as of right, as long as the other party continues to perform its obligations under the agreement in relation to the use of the intellectual property.
2. section 65.13(9) [Restriction on disposition of assets] of the BIA for Division I proposals under the BIA:
   
   (9) If, on the day on which a notice of intention is filed under section 50.4 [Notice of intention] or a copy of the proposal is filed under subsection 62(1) [Filing of proposal], the insolvent person is a party to an agreement that grants to another party a right to use intellectual property that is included in a sale or disposition authorized under subsection (7) [Assets may be disposed of free and clear], that sale or disposition does not affect the other party’s right to use the intellectual property — including the other party’s right to enforce an exclusive use — during the term of the agreement, including any period for which the other party extends the agreement as of right, as long as the other party continues to perform its obligations under the agreement in relation to the use of the intellectual property.
3. section 72.1(1) [Intellectual property — sale or disposition] of the BIA for bankruptcies:
   
   If the bankrupt is a party to an agreement that grants to another party a right to use intellectual property that is included in a sale or disposition by the trustee, that sale or disposition does not affect that other party’s right to use the intellectual property — including the other party’s right to enforce an exclusive use — during the term of the agreement, including any period for which the other party extends the agreement as of right, as long as the other party continues to perform its obligations under the agreement in relation to the use of the intellectual property.
4. section 246.1(1) [Intellectual property — sale or disposition] of the BIA for receiverships:
   
   If the insolvent person or the bankrupt is a party to an agreement that grants to another party a right to use intellectual property that is included in a sale or disposition by the receiver, that sale or disposition does not affect that other party’s right to use the intellectual property — including the other party’s right to enforce an exclusive use — during the term of the agreement, including any period for which the other party extends the agreement as of right, as long as the other party continues to perform its obligations under the agreement in relation to the use of the intellectual property.

Key considerations and takeaways

1. Consider what is missing from the BIA and the CCAA carve outs:
1. Intellectual property and the “right to use”: Interestingly, neither the BIA nor the CCAA define the term “IP” or the “right to use” IP, which introduces some uncertainty when determining the scope of their application in relation to these terms. Given this gap, the party who has contracted with an insolvent party should identify the types of IP rights covered by each license agreement or owned by the debtor, and consider whether and how each type of IP is addressed by the BIA and CCAA. Since IP licenses often grant broader rights than merely “use”, such as the right to make, sell, import and export, special attention should be paid to how a party is actually “using” IP pursuant to the license agreement. Further, IP licenses may be part of a larger contractual arrangement that includes related rights for the maintenance of the IP, technical support from the licensor and sharing of improvements to the IP. A party who has contracted with an insolvent party should consider what rights of “use” are included in the contract. Related rights may still be disclaimed if they do not fall into the “right to use” the IP.
2.  “Perform its obligations under the Agreement in relation to the use of the IP”: A third party should consider the scope of its obligations pursuant to the relevant IP agreement in order to ensure it is meeting those obligations.
2. IP assets may have unique maintenance requirements, depending on the type of IP and associated IP right. For example, trademarks that have been registered at the Canadian Intellectual Property Office have a “use it or lose it” requirement, which means a party to the license agreement should consider if the licensed and registered trademark has been used in Canada in the past three years. If not, the trademark could be at risk of being expunged (i.e. no longer registered) for non-use after three years beginning on the day on which a trademark is registered, unless the Registrar of Trademarks sees good reason to the contrary.
3. As IP license agreements may have a cross-border component, parties should consider what unique obligations may arise in that regard and should ensure they are adhering to those requirements.

If you have any questions about IP, bankruptcy or insolvency, please contact the authors, Jaclin Cassios or Tamya Chowdhury, or any member of Dentons’ Intellectual Property or Restructuring, Insolvency and Bankruptcy groups.

1. See e.g. Royal Bank v Body Blue, 2008 CarswellOnt 2445 (Ont. S.C.J. [Commercial List]), at paragraph 15; T. Eaton Co., Re, 1999 CarswellOnt 3542 (Ont. S.C.J [Commercial List]). ↩
2. Bankruptcy and Insolvency Act, R.S.C. 1985, c. B-3 ↩
3. Companies' Creditors Arrangement Act, R.S.C. 1985, c. C-36 ↩
4. Budget Implementation Act, 2018, No. 2, SC 2018, c 27 ↩