Is a licence agreement principally a covenant not to sue?

Cystal Chen, Jesse Peng and Kevin Feng of Tsai Lee & Chen analyse a dispute in which the plaintiff argued that a licence agreement is a covenant not to sue and that use of the licensed patents is irrelevant

When a patent is revoked during the term of a licensing agreement, can a licensee claim back royalties that have been paid? In some jurisdictions, courts have ruled that the licensee received what it paid for during the licensing period, while in some other jurisdictions it might be possible for a licensee to claim back a portion of the amount paid. One of the reasons is that the licensee has been shielded and enjoyed market advantage as a result of patent protection.

Background

In May 2009, ATEN International (ATEN) and Uniclass Technology (Uniclass) entered into a licence agreement in which ATEN authorised Uniclass to exploit three US patents: US 6,564,275, US 6,957,287, and US 7,035,112. The recitals of the licence agreement stated that parties “seek an amicable resolution of their disputes based on the terms and conditions set forth below.”

In the provisions ATEN promises each of the licensed patents is valid and enforceable, while Uniclass has the right to be relieved from all obligations should all claims of the licensed patents be materially limited or declared invalid. In return, Uniclass agreed to pay ATEN a one-time lump sum of several million New Tawian dollars as compensation, plus an ongoing royalty fee calculated at a percentage of the actual sales price of the licensed products. Pursuant to the agreement, Uniclass was required to report to ATEN the amount of sales, the sales price and total sales within 30 days of the end of every quarter and to accordingly pay ATEN all royalties due.

Uniclass made the lump sum payment in accordance with the agreement, but it failed to pay any ongoing royalty after that. When ATEN served a collection notice on March 14 2013, Uniclass manifestly expressed that they refused to pay said royalty. Uniclass complained that a third party had filed an inter partes re-examination (IPR) with the USPTO challenging the practicability and validity of the ‘275 patent, which resulted in the subsequent revocation of some related claims.

Uniclass also complained that since the ‘275 patent was one of the subject matters of the licence agreement, the agreement should be void due to invalid subject matter and impossibility of contractual performance. However, ATEN believed that by means of subsequent patent amendments, not all of the claims of the three US patents at issue were deemed invalid by the USPTO and the status of the patents at issue were still fit for beneficial use. ATEN believed it had performed its contractual duty but Uniclass did not. In May 2014, ATEN terminated the licence formerly granted to Uniclass and sued Uniclass for breach of the agreement the two parties had entered into.

Court decisions

When the case went to trial, the court ruled in favour of the plaintiff ATEN. However, the appellate court reversed the previous judgment, instead ruling partially in favour of the defendant Uniclass. In both the proceedings for the first and second instances, the focus of the disputes in question revolved around whether the licensed patents at issue were materially limited, and whether the defendant Uniclass had ever “used” the licensed technologies in its products. In the annex of the agreement, there is a non-exhaustive list of licensed products, five of which were identified. Uniclass argued that its products did not use the licensed technology, claiming moreover that the ‘275 patent became defective and unfit for its beneficial use after the post-grant amendment during the inter partes re-examination.

Uniclass asserted that, because ATEN could not perform its contractual obligations, Uniclass was no longer obligated to pay the royalty fees based on the principle of simultaneous performance. The trial court was of the opinion that the patents at issue were not materially limited, so that the contractual obligation of Uniclass was not relieved. However, even though the appellate courts found that Uniclass’ products did not use or did not fall within the claimed scopes of the patents at issue, the court still granted some royalties to ATEN. Owing to such a conflict in rationale in the appellate decision, the Supreme Court reversed and remanded the case to the IP court.

A different approach

After the Supreme Court’s decision to remand, ATEN changed its outside counsel and the new counsel changed the course of the argument. They argued that the nature of a non-exclusive licence agreement is a “covenant not to sue,” and that the licensed patents were not materially limited or declared invalid in totality.

The proper interpretation of the licence agreement at issue was firstly to emphasise that the question of whether or not the licensed products fell within the claimed scopes of the patents at issue was not worthy of consideration. According to the preamble of the licence agreement, the licence was “made in full settlement” of past and ongoing disputes with Uniclass, “as a compromise of possible infringement actions” ATEN may bring against Uniclass.

It is obvious that the purpose of the agreement was to allow for an amicable settlement, so as to exclude Uniclass from the risk of patent infringement owing to possible exploitation of the patents at issue. In the annex of the agreement, it indicated that the licensed products “include, but are not limited to” the five listed products, which entails that the list is non-exhaustive and that the five listed products are only examples of licensed products pursuant to the agreement. In view of the fact that the agreement was written in such a way as to exempt any products from Uniclass from the risk of patent infringement, it would be odd to investigate whether the licensed products have fallen within the patented scopes of the claims.

Secondly, the principle covenant for a licensor in a licence agreement is to tolerate the licensee exploiting the licensed patent, so that the licensee obtains a promise from the licensor that it will not be sued. In the licence agreement between ATEN and Uniclass, ATEN’s principle performance was to ensure that the patents at issue were fit for beneficial use and not to claim patent infringement against Uniclass. Therefore, a covenant not to sue was the main purpose of the licence agreement at issue so as to eliminate the licensee’s potential obstacles in the marketplace. Thus ATEN had performed its duty as a licensor by providing the US patents that were fit for beneficial use and did not enforce any patent right against Uniclass prior to its termination of the licence agreement due to Uniclass’ breach of contract. Uniclass was required to fulfil its contractual duty to pay royalties during the term of the licence agreement, which was agreed by both parties, regardless of whether or not they had practised the patents at issue.

Thirdly, Article Four of the licence agreement prescribes that “Uniclass shall have the right to be relieved from all further obligations hereunder should ‘all claims’ of the Licensed Patents be ‘materially limited or declared invalid’….” In other words, the unilateral right for Uniclass to terminate the agreement is conditional. According to the provisions of the agreement, ATEN is solely obligated to ensure that each patent at issue – as opposed to each claim – is both valid and practicable. In a rare but extreme example, if only one claim of the patent(s) at issue survived not being materially limited or declared invalid, Uniclass would be deemed as not yet having been relieved from the obligation of royalty payment. Even in the worst scenario, such as if all claims were made invalid, the latter segment of the same Article reads that “[i]n such event neither party shall be entitled to any return or receipt of any payment made or due under this Agreement.”

In other words, assuming all the claims of the patents at issue were already invalidated, Uniclass was prohibited from requesting a refund of its payment prior to this invalidation. This is because any and all of Uniclass’ payments were consideration in return for ATEN’s performance of the licence obligations during the term of the agreement. Furthermore, if, during the term of the agreement, and in view of ATEN’s fulfilment of its licence obligations, at least some claims of the patents at issue survived, Uniclass was absolutely obligated to make its payments if they were due.

Moreover, Uniclass argued that by applying the contractual relationship based on a purchase agreement, ATEN should bear warranty against any defects of the subject matter. As such, ATEN had fault and did not complete its performance in the contract because the ‘275 patent at issue became defective after partial revocation and limitation of the claims. However, it must be noted that a patent licence agreement is distinguishable from a purchase agreement.

In a contract for a purchase agreement, the assignor’s obligation is to transfer the ownership and possession of the subject matter to the assignee, and the assignor is liable for defect warranty as stipulated by the Civil Code; the same rules should be applied to an assignment of rights. However, to perform a contractual obligation under a patent licence agreement, a licensor is deemed as having performed its duty as long as it maintains the licensed patent right in a valid condition. ATEN underwent a re-examination proceeding to maintain the validity of the licensed patents, so as to lawfully keep its promise under the agreement it had entered into. By faithfully observing a covenant in which it had promised not to sue and by making efforts to maintain the validity of the licensed patent rights, ATEN had exercised its due care and diligence as a due licensor.

The IP court on remand supported ATEN’s rationale. The IP court ruled that the licence was effective and enforceable, and that Uniclass was not released from its contractual obligation to pay royalties. Uniclass was then ordered to pay ATEN accumulative compensation for the royalty fee of nearly TWD 8,590,000, or approximately USD 290,000, including the accrued interest to the date of judgment. The case was final and binding after the defendant Uniclass let the statutory period of time to submit further appeal lapse.

The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, any other of its practitioners, its clients, or any of its or their respective affiliates. This article is for general information purposes only and is not intended to be and should not be taken as legal advice. Please contact the author(s) if you have any questions about this article.

About the author(s)

Crystal Chen

Crystal Chen is a partner at Tsai Lee & Chen. In her more than 20 years of experience she has covered all areas of IP law, including trademark prosecution and anti-counterfeiting actions, patent infringement and enforcement and trade dress protection. Chen’s global clientele includes Fortune 500 companies in Asia, Europe and North America. She and her team often win landmark cases at the IP court.

Ms Chen has been admitted to the Chinese National Bar and the New York State Bar. She was the chair of delegates for independent members of the International Association for the Protection of Intellectual Property (AIPPI), and is now a member of the AIPPI Statutory Committee. She is also a member of the American Intellectual Property Law Association, the American Bar Association, the IP Owners Association and the Beijing Bar Association.

Chen is a frequent writer for a selection of international IP journals. She has also contributed to various IP conferences as a speaker or moderator. Her expertise and client services have consistently been recognised by various IP media sources and surveys. She has been listed in the top 250 women in IP law by Managing Intellectual Property.

Jesse Peng

JessePeng is a partner at Tsai Lee & Chen. He is a lawyer admitted in Taiwan, and a patent attorney admitted in both China and Taiwan.

Peng has a BSc and an MSc in communications engineering from National Chiao Tung University, as well as an LLM from Soochow University of Taiwan. He was previously an electronic engineer.

Peng has engaged in international IP practice for more than 20 years and has assisted multinational companies with various IP matters. Peng’s primary focus is patent prosecution and searches. He focuses on patent invalidation and infringement assessment, IP litigation and administrative proceedings. Peng has been involved in several different trials, which have proved to be persuasive to courts of different levels and have won clients’ trust.

Peng is a prolific writer. He has published many insightful essays in journals of the Taiwan Patent Attorneys Association, one of which was published by the IP Management Journal of the Japan IP Association (JIPA) in 2017. Peng was a committee member for the Taiwan Patent Attorneys Association and a supervisor of the Asian Patent Attorneys Association’s Taiwan group.

Kevin Feng

KevinFeng is a registered patent attorney at Tsai Lee & Chen. He focuses on patent prosecution and IP research. He constantly provides advice on IP law and practice to clients, and has contributed his expertise to the preparation of all kinds of patent-related study questions, legal memos and case briefs for circulation among clients. He has gained experience in, among other areas, software, financial technology, and pharmaceutical-related patent practice.

Feng received his M.I.P. degree from the University of New Hampshire School of Law and a BSc degree in Biochemical Science and Technology from the National Taiwan University. He is a member of the Taiwan Patent Attorneys Association and an active young member of the International Association for the Protection of Intellectual Property (AIPPI).