IP licensing and insolvency reform: ipso facto clauses
Licensors of intellectual property rights may soon be unable to terminate licenses where the licensee has gone into an insolvency process.
What are ipso facto clauses and why do they matter?
An ipso facto clause is one which permits a party to a contract to terminate that contract as a result of the counterparty entering an insolvency process. The concern with these provisions is that allowing counterparties to terminate contracts in such circumstances can have a significant impact on the ability of a company to implement a successful restructuring or rescue (of either the company or the business) which may adversely impact creditors.
What was the previous legal position?
With the exception of certain "essential supplies" (including, for example, gas and electricity) the English law position has, to date, been that termination rights on the grounds of a counterparty's insolvency are enforceable – respecting a party's freedom to contract.
What is the new position?
The Corporate Insolvency and Governance Act (CIGA), which came into force on 26 June 2020, reverses this position in relation to contracts for the supply of goods and services meaning that such contracts cannot be terminated simply because of a counterparty entering an insolvency process. This marks a significant change to English law and brings our rules more in line with countries such as Australia and the US. The amendments apply to new and existing contracts.
There are also some temporary COVID-19 exemptions for small suppliers.
Why is this relevant to IP licensing?
Almost all IP licences will contain termination provisions of this nature and parties will therefore need to consider whether they are impacted by this legislative reform.
To the extent that the prohibitions apply to a particular IP licence, the licensor will only be able to terminate the licence where:
- the insolvency office holder consents to the termination
- the company consents to the termination, or
- the court is satisfied that the continuation of the licence would cause the supplier hardship (although there is no guidance on the meaning of "hardship").
What type of IP licences are covered?
The position on this is not clear. The government consulted on this proposed amendment in 2016 and published its response in August 2018. In relation to the scope of "supplies of goods and services" the government noted:
"The Government intends that contractual licences, such as for use of software or patents, will be covered by the ‘ipso facto’ provisions, acknowledging the importance of these to certain businesses and sectors."
While the extent of what is caught is somewhat unclear, it is arguable from the government commentary above that these provisions will apply to the vast majority of licences of intellectual property rights, including bare licences.
Will I be paid during the insolvency process?
The provisions do not expressly cater for this, however, it is likely that without payment during the course of the insolvency process, the licensor would either be able to terminate on the grounds of non-payment or on one of the grounds listed above (ie with consent or a court order).
Note that if a party is caught by these provisions, they are not entitled to require that the company pay any outstanding charges as a condition of ongoing "supply".
Can I terminate on non-insolvency grounds?
Termination on non-insolvency grounds is still permitted but only if those rights arise following the commencement of the insolvency process. To the extent that a termination right arises prior to the commencement of the insolvency procedure, it will be lost following commencement if not already exercised.
What insolvency processes are captured?
All of the main insolvency processes are included in the ipso facto provisions including:
- Administration: a rescue procedure under the control of administrators (qualified insolvency practitioners) with the benefit of a moratorium on creditor actions.
- CVA: a statutory compromise between a company and its unsecured creditors.
- Administrative receivership: a secured lender's method of enforcement (fairly uncommon).
- Liquidation: a terminal process during which the business is wound down and assets realised.
- The standalone moratorium and restructuring plan which are proposed as part of the CIGA.
Note that schemes of arrangement are not included.
What should I be doing?
Vigilance is key. Be alive to indications that licensees are experiencing financial difficulties – including breaches of the licence agreement and, in particular, payment breaches. It may be that, if you are likely to be paid during any insolvency process, you do not want to terminate the licence.
However, forewarned is forearmed in these circumstances and allows you to make decisions including considering terminating before matters are potentially taken out of your hands. It is also worth reminding yourself of termination provisions in key licences and, for new licences, considering whether you want termination rights to extend to events prior to the commencement of an insolvency process (such as cash flow or balance sheet insolvency).
