Cool Tech Hot Mess: Tempnology — An Update

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The First Circuit Court of Appeals recently issued another opinion (the court’s third)  in the long running saga of  Tempnology LLC (now known as Old Cold, LLC).    The opinion, Mission Product Holdings, Inc. v. Schleicher & Stebbins Hotels, does not blaze any new legal trails.  Rather, it upholds the entry of an order granting a secured creditor relief from stay to foreclose on certain collateral. 

Read only for  its holding — the decision is unremarkable.   But when read as part of the long history of litigation rooted in a  deal described by the Supreme Court with some understatement  as “a licensing agreement gone wrong”  — the value of the decision emerges.  Indeed, as noted in my post earlier this year,  Cool Tech — Hot Mess: Tempnology a Year After SCOTUS Argument, litigation over fallout from the deal has lasted years longer than the deal itself.   If such outcomes can be avoided, then this blog’s objective of advocating for  forward thinking deal-making will be met. 

The Debtor, the Lender and the Licensee

The litigation relates to disputes involving the following three parties:   

(i)  Tempnology — the  Debtor which manufactured  “Coolcore” branded clothing and accessories designed to stay cool when used in exercise;

(ii) Schleicher & Stebbins Hotels — the Debtor’s secured lender,  which also purchased the Debtor’s assets at a bankruptcy auction conducted under Section 363 of the Bankruptcy Code; and 

 (iii) Mission Product Holdings, Inc. –the Debtor’s trademark  licensee, which bid for the Debtor’s assets at the auction but lost out to the secured lender.    

Prior First Circuit Decisions 

The First Circuit’s  prior opinions were both issued in  January 2018.   In the first decision, the First Circuit rejected  the licensee’s attempt to unwind the sale and have its  own bid recognized as the winner.   The First Circuit ruled that the sale had already closed and the lender had been deemed “a good faith purchaser” entitled to protection under section Bankruptcy Code 363(m) from having the sale unwound.  

In the second decision, the First Circuit held that the Debtor’s rejection of the applicable trademark license agreement left the licensee with only a pre-petition damages claim and no further rights to the licensed rights.  The licensee appealed that  decision to the United States Supreme Court, which reversed in an opinion issued in  May 2019  —  holding that a debtor-licensor’s rejection of a trademark  license did not deprive a licensee of  rights provided for in the license. 

Relief from Stay Litigation 

 As noted in the  prior post, the Supreme Court decision did not bring an end to  issues pending in the bankruptcy case. Specifically, proceedings continued  concerning the rights of the secured lender to relief from the automatic stay with respect to certain remaining collateral in the estate excluded from the sale. 

On that issue, in the fall of 2018, the Bankruptcy Court held that the Supreme Court review of the license issues did  not preclude the Bankruptcy Court  from granting relief from stay to the secured lender.   The  licensee opposed the relief then  appealed the order to the Bankruptcy Appellate Panel (BAP) which affirmed in a decision issued June 18, 2019.   The licensee appealed that decision to the First Circuit in July 2019.  

First Circuit’s October 2020 Opinion

In its decision issued this week, the First Circuit affirmed the order granting the secured lender relief from stay. 

The First Circuit began by confirming that the  licensee’s appeal was not moot and that the Court possessed jurisdiction to decide the appeal.   The Court  then reviewed the merits of the licensee’s argument  on an abuse of discretion standard.   On three fundamental points raised by the licensee, the First Circuit left little doubt about its ruling.  Specifically, the Court: 

      • characterized as “poppycock” the licensee’s principal argument that the secured lender waived its liens, either implicitly or explicitly, by virtue of its participation in the bidding process;        
      • concluded  that there was “no question” that the lender held valid liens in excess of the value of the debtor’s  remaining assets and that the lender  thus satisfied its burden of proof needed to prevail on a motion for relief from stay; and        
      • rejected the licensee’s contention that the Bankruptcy Court abused its discretion by refusing to grant discovery and a full evidentiary hearing before granting relief from stay — on this point the First Circuit determined there “clearly” was no such abuse and that the licensee’s contention that the secured lender “waived its liens made no sense for a slew of  reasons.” 

Looking Ahead

Although the First Circuit’s opinion should bring to a close the dispute over the relief from stay issue, the bankruptcy case remains open.   The licensee previously filed an amended proof of claim and an administrative expense motion seeking damages for both the pre-bankruptcy and post-bankruptcy period. 

Last year, the parties agreed to defer any action on the damage claims pending the First Circuit’s decision on the challenge to the relief from stay order.   With the First Circuit ruling now issued, the parties will need to evaluate  whether to exercise rights previously reserved against each other.  

While that plays out to an inevitable conclusion at some point, others entering into business agreements of any type should keep the Tempnology situation in mind when crafting an appropriate agreement at the outset of a deal as well as strategically overcoming  obstacles that  arise.  

 

Finding Business Solutions — Some Helpful Resources

COVID-19 has injected substantial economic uncertainty into countless businesses of every size.  The uncertainty has forced parties to review deals with essential business partners  and seek revised terms if possible.  Similar discussions are likely to continue for quite some time  as the economic fallout continues.

Such efforts reflect three of the Five Keys to Dealing Effectively with Disruption discussed  at the beginning of the crisis:  avoid denial, accelerate communication and appreciate cash position.   Some businesses seeking revised terms, however, have been unable to obtain needed relief.    For those confronting that situation, it is essential to remember the two other keys for dealing effectively with disruption:   (i) attack the problem and not the people and (ii) assistance — obtain it.

In particular, be prepared to understand all options for attacking the problem with the assistance of business minded solution providers.   While actual or threatened litigation may be possible, be prepared to understand potential consequences as well of  threatened or actual insolvency options.

Because time is money, deal making in insolvency is commonplace.  Most parties affected by a proceeding have a real economic incentive to reach resolution (subject to any necessary court approval) without the time, expense and uncertainty of litigation.   Of course, not every business dispute in an insolvency proceeding is consensually resolved — but business realities make resolution highly likely. 

Parties  at odds may find it difficult  to come to agreement directly on consensual terms — especially when operating in the unfamiliar waters of an actual or threatened insolvency proceeding.   For that reason, the use of third party neutral mediation has grown considerably in facilitating discussions.

That reality gives rise to a basic question:   if parties might ultimately find a solution in an insolvency setting  would it not  have been better for  those same parties to have attacked  the problem viciously in search of a  better  solution without the need for such a  proceeding in the first place?   After all,  any proceeding (including one on a pre-arranged or prepackaged basis) will consume precious resources and deplete value otherwise available for  a solution.

Many resources exist for those interested in finding effective solutions to difficult problems.  Dealing with distress is itself distressing  — but with the right tools and game plan it can be done.   Listed below are some resources about  dispute resolution and negotiation helpful in promoting solutions in difficult circumstances:

  • The Summer 2020 Edition of the New York Summer Dispute Resolution Lawyer  contains a variety of articles examining dispute resolution topics in the COVID era including some co-authored by Jeffrey T. Zaino  — who will be presenting to the American Bankruptcy Institute  Mediation Committee membership in mid-September on dispute resolution topics -details to come.   Other particularly interesting pieces were contributed by former ABI Mediation Committee co-chair Leslie Berkoff as well as Elayne Greenberg, the Assistant Dean of Dispute Resolution Programs and Director of the Hugh L. Carey Center for Dispute Resolution at St. John’s University School of Law. 
  • The American Bar Association Section of Dispute Resolution site contains a variety of resources of interest including the materials related to a LEAP (legal education, ADR and problem solving) — a much needed effort to integrate dispute resolution into law school curricula.
  • A few years back,  the ABI Mediation Committee collaborated on the book   “Bankruptcy Mediation” (which Leslie and I co-edited).  The book benefits from  a chapter contributed by Professor Greenberg as well as chapters contributed by others.  The book  remains  an excellent resource both for mediators as well as advocates and parties dealing with challenging issues in difficult situations. 
  •  MediatBankry is a blog maintained by esteemed insolvency practitioner (and former ABI Committee Member of the Year) Don Swanson who regularly produces interesting discussion focused on the use of dispute resolution in and out of insolvency situations.
  • Coming up virtually this Fall are opportunities for further exploring the role of mediation in solving problems.   One program will be presented by the Boston Bar Association and grew out of discussions with the COVID Task of the Bankruptcy Section.  The program is  provided as a service those representing consumers and consists of two parts.   The first session on September 10 will focus on the  basics of mediation.   That will be followed by a longer session on October 20  further exploring the potential use of mediation to benefit consumers facing difficult circumstances.  I am pleased to join both these sessions.  Details to follow and will be posted on the BBA website.

 

In sum, when dealing with a difficult business solution, ensure you are well equipped to assess all options for moving forward in the best manner.   There is a wide variety of endings to distressed situations — and it is important to fight smartly for the best resolution possible. 

Can Your Business Partners Handle Disruption?

As discussed in “Five Keys to Dealing Effectively with Disruption” posted last month, denial is a hallmark of disruption.  Successfully navigating disruption requires not only avoiding denial yourself – but also ensuring your business partners do not live in that state.

The importance of dealing with the “brutal facts” is not a novel concept in business or elsewhere.  Jim Collins made the point in Good to Great as summarized here:

Productive change begins when you confront the brutal facts. Every good-to-great company embraced what we came to call “The Stockdale Paradox”: you must maintain unwavering faith that you can and will prevail in the end, regardless of the difficulties, and at the same time, have the discipline to confront the most brutal facts of your current reality, whatever they might be.

Unfortunately, even if you understand the brutal facts, you may very well have a business partner who does not.   A partner’s denial can destroy value and create unnecessary expense.  Check out my posted publications and presentations for a small sampling of the types of consequences that may result from an optimistic yet reality-denying partner.

As noted in “Why Optimism May Not be Enough to Carry us Through Times of Crisis” by  Dr. Tomas Chamorro-Premuzic in Fast Company recently: “Even if people crave optimism in tough times, our objective well-being is more important than our subjective well-being, and that depends more on competence than confidence.”

Indeed, employees, customers, vendors, investors, lenders, and other key constituents need more than optimism and confidence from leaders of a partner firm dealing with distress.   Deriving false comfort from such traits from a partner is tantamount to cohabiting their state of denial.  A better approach is to ensure essential business partners develop a credible plan and demonstrate an ability to complete the hard work necessary to implement.

In situations where a key partner needs help in constructing a well-grounded plan, consider the role mediation can play in helping to introduce objective standards in reaching a reality-based solution that achieves mutual interests.  Mediation remains an option even in these days of social distancing as tools exist to help bring parties in remote locations together virtually as this article by Leslie Berkoff notes.  When a partner’s plan cannot be adapted to reality after good faith efforts to address, then alternatives to that business partner must be considered.

In sum, be aware of a partner’s optimistic plan that is not vetted by adequate forward thinking.   This series of tweets from a British town this past week (focused on best practices for social distancing)  helps to make the point.   The tweets highlighted the decision-making behind the use of a half a ton of dynamite to remove a 45-foot, 8 ton whale from the coast of Oregon in 1970.

As the bemused eye-witness reporter observed in this  vintage television news report, “the blast blasted blubber beyond all believable bounds” including on spectators and cars parked a quarter mile away.  Others vested in a better outcome (such as the town and nearby property owners) surely would have enjoyed a less odious outcome by ensuring the removal crew’s optimism was matched with an adequate amount of forward thinking in developing the removal plan.

No Fiduciary Duty Owed to Students of Shuttering College

The  United States Court of Appeals for the First Circuit’s  recent decision in Tristan Squeri et al. v. Mount Ida College et al.  upholds the dismissal of  claims brought by former students of Mount Ida College against both the College and certain officers and directors of the College.   The students instituted the action as a result of the sudden closure of the institution in the Spring of 2018.   The students sought relief on the following claims:

      • violation of privacy
      • fraud
      • negligent misrepresentation
      • fraud in the inducement
      • breach of fiduciary duty
      • breach of contract
      • unfair and deceptive practices

The First Circuit held that none of the claims could withstand the defendants’ motion to dismiss and affirmed the lower court decision from May 2019.

The primary argument on appeal concerned the fiduciary duty claim.   Specifically, the students argued that the individual defendants (as well as Mount Ida itself)  owed the institution’s students a fiduciary duty.   The  First Circuit was not persuaded:    “Massachusetts law firmly establishes that there is no such fiduciary duty between Mount Ida’s officers or trustees and Mount Ida students on the claims here.”  Rather, the Court held that the fiduciary duty imposed on the individual defendants by Massachusetts law (Mass. Gen. Laws ch. 180, § 6C)  was owed to the College directly and not to the students and  that imposition of the duties sought by the students would create conflicts with existing duties.   Further, the Court declined the students’ invitation to “expand the law” and impose a fiduciary duty directly on the College to its students.

Because the First Circuit was able to affirm on the grounds discussed, it noted that it need not take up various defenses raised by the defendants including the argument that the Volunteer Protection Act, 42 U.S.C. § 14503(a) provides immunity from suit (and not merely immunity from liability) as held recently by the Massachusetts Supreme Judicial Court in  Lynch v.  Crawford, 135 N.E.3d 1037, 1041 (Mass. 2019).   Lynch was discussed in a recent blog post here.

As the litigation in Mount Ida and Lynch demonstrates,it is not unusual for officers and directors of a financially troubled entity to be the subject of various claims.  Any individual contemplating service as a director or officer of any entity (for profit or not for profit) should ensure  a suitable directors and officers liability insurance policy is in place.  For a brief discussion of some of the considerations  for such policies, see my article “Five Things to Know About D & O” published by the American Bar Association Business Law Section (copy available here).

Thinking Strategically About Business Outcomes

In  The New Boardroom Imperative: From Agility To Resilience Julian Birkinshaw, (Professor of Strategy and Entrepreneurship, London Business School) discusses the critical issue of strategic resilience –  the ability  “to make smart choices about the scope of business activities in the face of uncertainty.”

Recent posts here have outlined key strategies for tackling business challenges and provided a sampling of resources helpful in developing an effective plan.   See Five Keys to Dealing Effectively with Disruption and Resiliency Resources.

This post “zooms” out (the word choice clearly reflecting too many videoconferences) to focus on three business outcomes in a time of disruption. What are those three outcomes?  Fundamentally:  reorganization, sale or liquidation.   There are many paths to reach any of these outcomes – including in-court and out of court avenues.   Each outcome, of course, has significant consequences.

Although some businesses strategically implement a sale or a liquidation on their own terms, many find themselves dealing with those outcomes only because the opportunity to achieve a reorganization has evaporated.  Indeed, the inability to reorganize can lead to a sale or liquidation – voluntarily or involuntarily.  Resilient business leaders work to avoid such results by strategically assessing higher value reorganization options and then working to implement successfully.

What options exist in aid of reorganization?  In the United States, the federal law governing business reorganizations is Chapter 11 of the United States Bankruptcy Code.  Unfortunately, over the years, Chapter 11 has proven to be an imperfect mechanism for allowing small or medium sized businesses to reorganize.   Last summer, Congress attempted to address that situation by passing the Small Business Reorganization Act of 2019 (SBRA), which became effective in February 2020.

The SBRA adds a new subchapter V to Chapter 11 with the goal of making business reorganization more affordable and more achievable for the nation’s small businesses.  Specifics about subchapter V are detailed here.  The Coronavirus Aid, Relief and Economic Security Act (CARES Act) passed yesterday expands the availability of  subchapter V by making its provisions applicable to a broader range of businesses.  Specifically, as amended, for the next year the debt limit for a small business eligible for relief has increased from $2,725,625 to $7,500,000.  Of course, businesses with debt above that limit can still seek relief under the non-small business provisions of Chapter 11.

Federal bankruptcy relief is just one tool in the toolbox for seeking to implement a business restructuring — and not a perfect  tool.  Other options also exist both in and out of court.  For example, out of court negotiations or mediation with key constituents towards new agreements can be remarkably effective as described here.  Be sure to think critically before selecting any particular tool as each has advantages and disadvantages.   As the saying goes — once the hammer is in hand, every problem begins to look like a nail.  Be sure to act proactively to take advantage of the utility of the most value-preserving and value-enhancing tools while time exists to do so.  And be on guard against the possibility that a key business partner may start wielding a tool that could have significant implications for your own business.

Understanding the options for implementing a successful business reorganization should help in thinking critically about your own business – and (just as importantly) the businesses of your key partners.  Ultimately, part of the ability to make smart choices about current and future business activities in the face of today’s uncertainty relies on such an informed understanding.

Resiliency Resources

Many people were looking forward this March to NCAA basketball tournaments – not a march into an economic and human calamity.

Yet, with the pandemic upon us, the need to navigate serious challenges is at hand.  Last week, I posted Five Keys to Dealing Effectively with Disruption noting the importance to businesses of:

          • Avoiding Denial
          • Attacking the Problem not the People
          • Assistance – Obtaining it
          • Accelerating Communication
          • Appreciating Cash Position

A flood of information has poured forth this week  with advice on various aspects of the current situation.  Assistance is critical in developing an effective plan – and that assistance must come from credible, reputable sources.   Here are some helpful resources  from such sources that will be useful in implementing the Five Keys:

Team working remotely?  Do it safely and securely.

The National Cyber Security Alliance launched the COVID-19 Security Resource Library – a free resource on current scams, cyber threats, remote working issues, disaster relief, and more.    Do not let your focus on attacking the current problem blind you or your team to the additional threats posed by malicious actors with intent to disrupt your operations.

Stay safe and spread the message (not the virus)

The Global Resilience Institute at Northeastern University established COVID-19: How to be Safe & Resilient with the goal of providing critical tools and skills needed for people to stay safe and to help others to stay safe.   Share through your network to ensure others are informed and to promote social connectedness.  As a member of Infragard, I have attended programs at the Institute and admire their commitment to forward-thinking in managing disruption.

Business resources from corporate turnaround professionals

The Turnaround Management Association (TMA) has compiled a COVID-19 Business Resource Site to collect resiliency resources for businesses.   Contributions come from the group’s large, professionally diverse organization (almost 10,000 members in 53 chapters worldwide). Note:   as a past president of the Northeast Chapter  and as a current member of the global board, I am pleased to  co-chair the next global TMA Annual Meeting  (Boston on September 30 – October 2).

Boston business resources

The Greater Boston Chamber of Commerce has established a COVID-19 Resource Page to help businesses navigate developments, which includes periodic updates and resources from the government,  public policy analysis, and industry-specific insights into actions of employers in responding to the situation.

Other resources

Other noteworthy sites include:

Finally,  MWI (where I trained as a mediator) announced two programs:

        • Online Mediation:  the ability to mediate commercial (and other) matters using video conferencing including virtual breakout rooms .  Note:  non-profits and charities are able take advantage of this service for no charge (for one session) through the end of June 2020.
        • Online Trainings:    online training on negotiation skills and other  programs geared towards sales teams, procurement, and business leaders. Note: companies in Massachusetts can apply to be reimbursed for 50% to 75% of the costs through a partnership with the Workforce Training Fund

All of the above resources can be used to implement the Five Keys of avoiding denial, attacking the problem (not the people), obtaining assistance, communicating well and appreciating the critical importance of cash in business resiliency.

The availability of resources does not make the process of dealing with disruption simple but awareness of resources is critical in charting a path forward.

Five Keys to Dealing Effectively with Disruption

On March 10, 2020 the MIT Sloan Management Review published “How Leaders Delude Themselves About Disruption” as part of a series on Disruption 2020 published in memory of Clayton Christensen.

The article, authored by Scott D. Anthony and Michael Putz, is focused on the challenges faced by companies experiencing the effects of disruptive innovation.  As articulated by Christensen (and others) in a 2015 Harvard Business Review piece, “disruption”  in this sense describes the situation “whereby a smaller company with fewer resources is able to successfully challenge established incumbent businesses.”  More specifically:

[A]s incumbents focus on improving their products and services for their most demanding (and usually most profitable) customers, they exceed the needs of some segments and ignore the needs of others. Entrants that prove disruptive begin by successfully targeting those overlooked segments, gaining a foothold by delivering more-suitable functionality—frequently at a lower price. Incumbents, chasing higher profitability in more-demanding segments, tend not to respond vigorously. Entrants then move upmarket, delivering the performance that incumbents’ mainstream customers require, while preserving the advantages that drove their early success.

The MIT SMR article notes that disruptive innovation has up-ended many businesses such as Eastman Kodak, Blockbuster, and Toys R Us.   In the authors’ view, leaders should take affirmative steps both individually and organizationally to “confront powerful self-deceptions” that have impeded action to avoid disruption.

For example, the authors note various delusions that afflict incumbent business leaders including:

        • The “we’re safe” delusion:  to demonstrate this point, the authors point to the April 1, 2008 interview of BlackBerry’s co-CEO dismissing the introduction of the iPhone.  BlackBerry’s revenues have fallen considerably since that time of course.
        • The “it’s too risky” delusion:   in support of this point, the authors describe the significant and underappreciated risk of not investing boldly in innovation compared to the limited risk of investing and being wrong — summing up by noting that “companies increase risk by not taking risk.”

The article concludes by imploring leaders to “focus more on mindsets, awareness, and inner capacities to combat basic biases” in navigating the challenges posed by disruptive innovation.   In short – mindfulness for both leaders and their organizations.

Just one day after the article’s release, the World Health Organization declared COVID-19 a pandemic.  The public health disaster at the heart of that announcement has caused and will cause disruption for many industries and companies – not disruption caused by innovation of new entrants – but disruption nonetheless.   And the need to deal effectively with that disruption is imperative.     Here are five keys to dealing effectively with disruption in the current distressed circumstances:

        • Avoid Denial

A common expression in the restructuring world (and other places) is that “denial is not just a river in Egypt.”   Another is that “hope is not a strategy.”   When dealing with disruption, do not underestimate the scope, potential magnitude or possible implications of the situation presented.   Rather, facts must be grasped, scenarios mapped out, options identified, and alternatives understood.    Because time is at a premium, it is critical for leaders to focus on the task at hand and not debate the “fairness” of the situation, how things “should be” different or “could be” different if some uncontrollable factors emerged.   Denial is pure delusion akin to the “we’re safe” falsehood described above that can put an incumbent at risk through disruptive innovation.  Get the facts, absorb them and begin to map out a strategic response.

        • Attack the Problem not the People

A company experiencing disruption can be tempted to focus on the people involved in the situation as opposed to the problem at hand.  Unfortunately, that focus can quickly turn negative as the company conflates the problem with the people and ends up attacking both – thus compounding the problem and the chances for creating an acceptable path forward.   Your enemy is the problem.   And that problem should be viewed as the common enemy of both you and the other party.   Navigating disruption means knowing how to work effectively with others (even others who may be disagreeable) to achieve what you desire  cost-effectively in a way that is acceptable to the other side.  More discussion of this topic is set forth in this article published in CFO Magazine prepared last year.

        • Assistance – Obtain it

The best time to obtain assistance in any situation is when time remains for those rendering aid to have an impact.   Wait too long in any number of situations and would-be helpers are rendered useless.  Of course, it can be challenging to seek assistance and daunting as well to know where to turn.  But often an essential component of “avoiding denial” and “attacking the problem not the people” is lining up experienced advisors who can help navigate the path.   Unfortunately, not all would-be helpers provide much help at all.  Some will simply exacerbate a situation – causing unnecessary delay, adding burdensome cost and failing to move a situation forward.   That is not assistance – and should be avoided at all costs.   Using a trusted network, determine reputable people that might be able to help, vet carefully, listen to the perspectives offered and ensure you fully understand all options and alternatives for moving forward.

        • Accelerate Communication

Communication is fundamental in navigating disruption.   That means communication with all key constituents including employees, vendors, suppliers, board members, investors, lenders, landlords, partners and anybody else with a relationship with the company.   Communication should be concise, honest and regular.  The purpose of communication is not just to convey information but also to convey credibility.   When a company fails to communicate to key constituencies, relationships suffer not only from a lack of information but also from a lack of attention.   Relationships are critical and deserve your investment of time and energy.  If not quite sure what to say, seek assistance from informed sources.   Do not deny the need to communicate or think that since certain parties have not reached out they must have all the information they need.  Own the responsibility to communicate.

        • ·Appreciate Cash Position

Nothing spells disruption more than dwindling cash.   Of course, cash is essential to keeping the gears of any business moving and its absence can and will bring operations to an immediate halt.   Some companies dealing with disruption will not understand their cash position or will deny the reality of threats to cash.  Avoid that scenario.  If necessary, seek assistance in developing accurate and credible cash projections.  Take steps necessary to ensure the company’s runway is well supported by available cash.   If issues exist around availability, then this reality must not be denied but rather factored into a critical problem to be solved promptly with the help of informed assistance through effective communication with key stakeholders.  Cash is truly king and shows no sign of renouncing that royal title.

The consequences of failing to deal effectively with disruption are severe.   Whether disruption is caused by innovators entering into the market or a pandemic of significant scale, leaders must avoid delusions about the potential impact of disruption.   The five keys identified above should help in building resiliency and dealing effectively with the disruptive effect of today’s economic reality.

SJC Examines Nonprofit Director Immunity from Wage Act Claims

The Massachusetts Supreme Judicial Court recently issued an important decision (Lynch v. Crawford) involving a  volunteer board member’s invocation of immunity from  liability for claims made under the Massachusetts Wage Act.

The basic facts of the case are not complex. In 2013 a nonprofit health center encountered distress and closed without paying wages immediately.  Employees brought a class action lawsuit against the volunteer board chair (who was also serving as acting CEO). The board chair sought to have the suit dismissed.  He pointed to both state law (MGL c. 231, sec 85W) and federal law (42 USC sec 14503) – both of which generally seek to protect volunteers in connection with their service to nonprofits.  Although the employees were eventually paid from the entity, they nevertheless continued their Wage Act complaint (seeking treble damages and attorneys’ fees).

The trial judge denied the director’s motion to dismiss.  The  Massachusetts Appeals Court also refused to dismiss.   Neither court was convinced the above statutes necessarily provided the volunteer director absolute immunity from a Wage Act claim.    The issue  before the SJC was twofold:  (i) procedurally – was the volunteer director entitled to bring an appeal of the denial of the motion to dismiss immediately or did he need to await a final judgement; and (ii) under what circumstances (if at all) does an unpaid volunteer board member have immunity from a Wage Act suit.

In its decision, the SJC considered the intersection of the Mass Wage Act and the various immunity statues for service to a nonprofit and held that the volunteer board member was entitled to bring an immediate appeal of the lower court’s denial of his motion for summary judgement.   That holding, of course, is welcome news to any volunteer board member as the SJC recognized the importance of allowing immediate review to a board member seeking  immunity from liability by statute.

The SJC did not stop its analysis there however.   Rather, it further held that on the particular facts of the case presented, genuine issues of material fact existed that justified the denial of the director’s summary judgement motion.    Specifically, the SJC pointed to language in the state immunity law excepting “any acts or omissions intentionally  designed to harm.”   When viewing the record in the light most favorable to the nonmoving party (the Wage Act plaintiffs), the SJC determined that a genuine issue of of fact existed on that issue making denial of summary judgement appropriate.

As a result of this decision, nonprofit board members should be especially mindful of engaging in managerial acts that could be construed later as intentionally inflicting harm.  In the Crawford opinion, the SJC pointed specifically to facts indicating that the board member directed certain vendor claims to be paid before employee claims.   Although the volunteer will have the opportunity to dispute this factual issue at trial, the mere existence of such a factual issue proved sufficient to put his entitlement to immunity in jeopardy.

Cool Tech — Hot Mess: Tempnology a Year After SCOTUS Argument

In February 2019, the  United States Supreme Court heard oral arguments in an appeal from the  January 2018 decision of the First Circuit Court of Appeals in  Mission Product Holdings, Inc. v. Tempnology, LLC (In re Tempnology, LLC).    The case involved the chapter 11 proceedings of  a manufacturer of clothing and accessories designed to stay cool when used in exercise sold under the brand name “Coolcore.”

In Tempnology,  the First Circuit ruled that the bankrupt trademark licensor  could deprive the non-debtor  licensee from continued rights to use the licensed trademarks.   The licensee appealed to the Supreme Court which agreed to hear the case.

In a decision issued in May 2019, the Supreme Court reversed the First Circuit decision.  In so doing, the Supreme Court  also  rejected the similar logic of the Fourth Circuit’s  1985 opinion in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc.

In its ruling, the Supreme Court adopted the competing view of the Seventh Circuit’s 2012 decision in Sunbeam Products, Inc. v. Chicago American Manufacturing, LLC  — holding that a debtor licensor’s “rejection” of a license in bankruptcy did not, by itself, deprive a non-debtor licensee of the  right to continued usage of the trademarks.

The  8-1 Supreme Court decision, authored by Justice Kagen, brought much needed clarity to a narrow (but important) issue that had divided lower courts  for years.   Yet, the  Supreme Court’s resolution of that issue has had no impact on bringing final resolution to the Tempnology parties.  Their battle  has continued unabated in the federal courts.  Indeed, in the year since the Supreme Court argument, litigation remains pending and a resolution for the parties appears nowhere in sight.

So what has happened in the past year? Soon after the Supreme Court decision was announced in May, 2019, the  First Circuit in July, 2019 remanded the case back to the Bankruptcy Court for further proceedings consistent with the Supreme Court’s judgment.    Thereafter, the licensee filed an amended proof of claim and an administrative expense motion seeking damages for both the pre-bankruptcy and post-bankruptcy period.

No action has been taken by the Debtor or the Bankruptcy Court on the damage claim issue as of yet however.   Instead, by agreement of the parties and the approval of the Bankruptcy Court, the deadline for filing any  response has been stayed pending a decision by the First Circuit on yet another appeal of yet another dispute.    While the appeal in that dispute remains pending, the parties have agreed to reserve all rights against each other in the underlying bankruptcy case  (Case No 15-11400-CJP, Bankr. D. N.H).

What appeal is pending now before the First Circuit?   Throughout the time when Supreme Court review was underway in 2019 on the license issue,  proceedings continued in the underlying bankruptcy proceeding on other issues.  Specifically, the Bankruptcy Court determined that it was not precluded by the pending Supreme Court review from granting relief from stay to the secured lender who had purchased the Debtor’s assets at a bankruptcy auction at the outset of the bankruptcy case.   The licensee appealed to the Bankruptcy Appellate Panel (BAP) which affirmed in a decision issued June 18, 2019.

Because no stay pending appeal was issued by either the Bankruptcy Court or the BAP, the debtor distributed the sole remaining estate asset (approximately $500,000 in cash) to the secured lender/buyer.   The licensee then appealed that decision to the First Circuit in July 2019, where the dispute remains pending today.  (1st Cir. Docket No. 19-9004).

Some observations on the current status:

      •  According to press reports, Tempnology was originally formed in 2008.    The license agreement at issue was signed in 2012 and Tempnology sought chapter 11 relief in 2015.
      • The parties have already spent more years in litigation over the license (5) than the number of years the deal remained in place (3).   At this rate, it is entirely possible that the battle may still rage in 2022 — given the parties as many years of litigation (7) as Tempnology had of corporate life before seeking chapter 11.
      •  Could the deal have been structured differently at the outset so as to have avoided the scenario that unfolded?   Were there inflection points during the deal where some renegotiation could have occurred that would have avoided the need for chapter 11 and the subsequent  five years (and counting) of litigation? How much time, money and effort could have been saved if an alternative path of mutual interest been identified and pursued?

When entering into a contractual relationship, it is important to think critically  not just about the possible upside of the relationship — but also the possible downside and ways to minimize adverse  impacts.    No matter how the First Circuit ultimately comes out on the most recent dispute — and no matter how the Bankruptcy Court ultimately comes out on the pending damage claims —   the title of victor will prove elusive for any party after so many years.

Supreme Court Set to Tackle Key IP/Insolvency Issue

In the fall of 2018, the  United States Supreme Court agreed to review the January 2018 decision of the First Circuit Court of Appeals in  Mission Product Holdings, Inc. v. Tempnology, LLC (In re Tempnology, LLC).  In Tempnology,  the First Circuit ruled that a trademark owner that files for bankruptcy can deprive a  nondebtor licensee from any rights to use trademarks of the owner licensed to the licensee.

Although the First Circuit’s opinion cites with approval the Fourth Circuit’s  1985 decision  in Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc. as supporting  the stripping away of a  licensee’s rights, more recent authority from the  Seventh Circuit in  2012 in Sunbeam Products, Inc. v. Chicago American Manufacturing, LLC  cut the other way and provided protection to a trademark licensee.

Last Friday, the Supreme Court set February 20, 2019 as the date for oral argument in the Tempnology case.  Within the past month, no fewer than six briefs have been filed by various neutral parties urging the Court to reverse the First Circuit and protect the rights of a trademark licensee upon rejection by a debtor licensor.  Briefs have been filed by the Intellectual Property Owners Association,  American Intellectual Property Law Association,  International Trademark Association and New York Intellectual Property Law Association.  In addition to those organizations,  the United States of America also weighed in with a brief as did a group of several law professors.   Copies of all the briefs and other documents pending before the Supreme Court are available here.

An example of the practical issue before the Supreme Court is evident in an opinion issued by the United States Bankruptcy Court for the District of Connecticut in May, 2018.  In In re SIMA International Inc.,  a chapter 7 trustee sought to reject a debtor licensor’s trademark license on the grounds that rejection would benefit creditors by yielding a higher sale price for the trademarks if no continued rights existed for the licensee.   Not surprisingly, the licensee argued that it should have continued rights to the trademarks it had previously licensed.  In ruling for the licensee, the Bankruptcy Court in Connecticut  (which is located in the Second Circuit and not bound by opinions from the First Circuit) rejected the First Circuit’s Tempnology decision.   The SIMA decision  cited with approval the Seventh Circuit’s Sunbeam decision that rejection did not “abrogate” the licensee’s right to use the trademarks or somehow make the license agreement “disappear.”

In sum, in agreeing to review the Tempnology case, the Supreme Court is poised to deliver much needed clarity to all parties with an interest in trademarks in distressed situations including licensors, licensees, buyers, creditors and others.   In addition to resolving the particular dispute that has divided the lower courts, the Supreme Court decision may also shed light on what role  equity can or should play in the context of interpreting plain statutory language concerning intellectual property issues in insolvency matters.