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Seventh Circuit Affirms District Court's Ruling Finding That Service Agreement Was Not Trademark License

Monday, August 8, 2011
Jenelle M. Chalmers | Bloomberg Law In re XMH Corp., No. 10-2596, 2011 BL 193895 (7th Cir. July 26, 2011) The United States Court of Appeals for the Seventh Circuit affirmed the district court's ruling finding that assignment was permitted, as the contract at issue was not clearly designated a trademark sublicense. Explaining that the default rule in bankruptcy is that a trademark license is not assignable without the owner's express permission, the Seventh Circuit explained the importance of a trademark owner maintaining control over the license of its mark.

Trademark License and Service Agreement

In 2009, XMH (formerly Hartmarx), along with certain subsidiaries, including Simply Blue ("Blue") filed voluntary petitions for chapter 11 bankruptcy protection. XMH sought court permission to sell Blue's assets to Emerisque Brands and SKNL ("Puchasers"), including the assignment of an executory contract between Blue and Western Glove Works ("Western"). Western objected to the assignment, claiming that the contract was a sublicense to Blue of a trademark licensed by Western and it could not be assigned without its permission. The bankruptcy court agreed and XMH appealed the decision, substituting the Purchasers for XMH in the lawsuit. The district court reversed the ruling, holding that the bankruptcy court's ruling barring assignment was clearly erroneous and the order was appealed to the Seventh Circuit. In reviewing the contract at hand, the Seventh Circuit noted that under the contract, effective December 17, 2002, between Blue and Western, Western was the licensee of the JAG JEANS trademark, and granted Blue a license (technically, a sublicense), to sell jeans using the trademark, JAG JEANS until December 31, 2002. In exchange, Blue would pay Western a license fee based on net sales. After expiration of the contract, Western would sell the goods under the mark and Blue would provide services, such as sourcing, marketing, sales, merchandising and customer service for a 30 percent fee of Western's sales of the goods. However, three months after the expiration of the sublicense, the parties retroactively extended the contract until June 2003, while the services portion of the agreement would run until June 30, 2007, which Blue renewed for an additional four years with the option of further renewing the contract for two further five-year renewal options, which would allow the purchasers, if the assignment was permitted, to extend that part of the contract until 2021.

Trademark Licenses Are Not Assignable Without Express Permission

Finding it peculiar that the original contract only lasted two weeks, the Seventh Circuit noted that if the contract still included a trademark sublicense when XMH tried to assign the contract to the Purchasers, then it was not assignable. As the Seventh Circuit explained, 11 U.S.C. § 365(c)(1) limits the assignment of an executory contract if "applicable law" authorizes the other party to the contract to refuse to accept performance from an assignee. The Seventh Circuit elaborated that the applicable law Western relied on was trademark law, and noted that the universal rule under federal or state law is that trademark licenses are not assignable unless there is clause in the agreement that expressly permits assignment. Miller v. Glenn Miller Prod., Inc. 454 F.3d 975, 988 (9th Cir. 2006). The Seventh Circuit noted that the purpose of a trademark is to identify a good or service to the consumer, which identity implies consistency and a corresponding duty to ensure that the good or service is of consistent quality. Gorenstein Enters., Inc. v. Quality Care-USA, Inc., 874 F.2d 431, 435 (7th Cir. 1989). Further elaborating, the Seventh Circuit explained that because a trademark is a designation of a brand and its associated attributes, any quality changes in the brand will cause the trademark to become deceptive because it will no longer be able to assure the continuity of quality and that is the reason that a licensee is not permitted to sublicense a trademark without the express permission of the trademark owner. E.g., United Drug Co. v. Theodore Rectanus Co., 248 U.S. 90, 96-97 (1918). If such sublicenses were allowed without regard to the trademark owner's wishes, then the owner would have no control over the quality of the product sold under the mark, whereas, when a trademark owner selects a licensee, he picks such licensee with the confidence that the quality of the product will not be degraded. The Seventh Circuit explained that the default rule of prohibiting assignment of a trademark license without the owner's express permission economizes on the costs of contracts by saving parties the cost and time of negotiating a provision that the majority of them want.

Seventh Circuit Found Service Agreement Was Not Trademark License

Noting that in this case, no such assignment provision existed in the contract between Western and Blue, Blue was certainly prohibited from assigning the contract without Western's permission before July 1, 2003, the expiration of the trademark sublicense. However, because the assignment took place several years later, Western claimed that the services provisions of the contract were actually a continuation of the trademark sublicense and therefore, they did not expire on July 1, 2003, but instead when the whole contract expired. The Seventh Circuit disagreed, explaining that the service provisions did not constitute any sort of trademark license, and in fact the contract explicitly stated that after the expiration of the sublicense to Blue to sell the JAG JEANS product, the rights in the trademark reverted back to Western, whereby Western would sell the JAG JEANS product and Blue would receive a fee for the services it provided. Noting that although Blue's services remained extensive, the contract provided that Western retained control over "all other aspects of the production and sale of the Trademarked Apparel." Finding that Western could have avoided the whole issue by not distinguishing between the trademark license and service agreement or by simply having Blue agree to designate the contract as a trademark sublicense, which would have triggered the default rule of nonassignability absent express approval, the Seventh Circuit affirmed the district court's decision that barring assignment was clearly erroneous. Disclaimer This document and any discussions set forth herein are for informational purposes only, and should not be construed as legal advice, which has to be addressed to particular facts and circumstances involved in any given situation. Review or use of the document and any discussions does not create an attorney-client relationship with the author or publisher. To the extent that this document may contain suggested provisions, they will require modification to suit a particular transaction, jurisdiction or situation. Please consult with an attorney with the appropriate level of experience if you have any questions. Any tax information contained in the document or discussions is not intended to be used, and cannot be used, for purposes of avoiding penalties imposed under the United States Internal Revenue Code. Any opinions expressed are those of the author. The Bureau of National Affairs, Inc. and its affiliated entities do not take responsibility for the content in this document or discussions and do not make any representation or warranty as to their completeness or accuracy. ©2014 The Bureau of National Affairs, Inc. All rights reserved. Bloomberg Law Reports ® is a registered trademark and service mark of The Bureau of National Affairs, Inc.

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