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Noted with Interest: The Importance of IP Due Diligence in Bankruptcy Proceedings: The Sale of Il Mulino Restaurants’ Intellectual Property

February 08, 2022

On August 12, 2021, the U.S. Bankruptcy Court for the Southern District of New York issued an opinion after trial concerning the iconic Il Mulino Italian restaurants, reaffirming an acquirer’s rights (“Buyer”) to use all of the valuable intellectual property, including social media, domain names, and websites, that the Buyer acquired pursuant to a “credit bid”, in connection with Buyer’s operation of Il Mulino restaurants.  See BSP Agency LLC v. Katzoff (In re KG Winddown, LLC), 2021 Bankr. LEXIS 2191 No. 20-11723 (MG) (Bankr. S.D.N.Y. Aug. 12, 2021).  At the intersection of bankruptcy and intellectual property law, the court’s decision reflects the protection that buyers obtain in purchasing assets under the protection of the Bankruptcy Code.  The decision is also a very favorable development for the Il Mulino restaurants themselves, which are now financially stabilized and positioned for a return to excellence. 

            On July 28, 2020, the Debtors filed petitions for bankruptcy relief in the Southern District of New York; shortly thereafter, a chief restructuring officer was appointed.  In the bankruptcy cases, the court approved the sale of substantially all of the Debtors’ assets to the Buyer on December 22, 2020.  Under the Asset Purchase Agreement, the Buyer was assigned a license (the “IP License”) to utilize valuable intellectual property pursuant to an agreement that granted “an exclusive … royalty-free right and license to use the Intellectual Property in connection with the Restaurants.”  Nevertheless, following the sale, the Debtors’ former manager (“Former Manager”) threatened to remove Buyer’s access to the Il Mulino domain name and from all related web-based and social media accounts. 

            The order approving the sale (“Sale Order”) provided, among other things, that “[a]ll Persons having Claims of any kind or nature whatsoever against the Debtors or the Purchased Assets shall be forever barred, estopped, and permanently enjoined from pursuing or asserting such Claims against the Buyer or any of its assets, property, Affiliates, successors, assigns or the Purchased Assets.”  In view of this broad, protective language, the court concluded that the Former Manager’s threatened interference with the Buyer’s rights under the IP License was barred by the Sale Order.

            The court also interpreted the IP License in the context of a separate license between two of the Former Manager’s non-debtor entities, which license was not acquired (the “Other License”).  The court concluded that, while the two licenses did not conflict initially, a 2020 amendment to the Other License, which dramatically expanded the rights thereunder and was drafted by the Former Manager, conflicted with and breached Buyer’s IP License.  Indeed, during the course of the litigation, the Former Manager rescinded the amendment altogether; thus, the court awarded only nominal damages.  Looking forward, the Other License is set to expire on its terms on September 23, 2022 and the IP License prohibits any active grants of competing licenses. 

            The court considered the Buyer’s request for an injunction against the Former Manager in view of his breach of the IP License and the Sale Order and his “threats to strip [the Buyer] of some of the valuable assets [Buyer] acquired in the section 363 sale.”  After concluding that injunctive relief were “maybe” warranted, however, the court declined to exercise its discretion to enter an injunction, noting that Buyer had not shown that, with respect to future breaches, damages would be an inadequate remedy.  That said, the court admonished the Former Manager, stating that were the Former Manager to “repeat [his] folly, the harshest remedy would be in order.” 

            Standing in the shoes of the Debtor, the Buyer also asserted claims against the Former Manager for breach of fiduciary duty pursuant to a “second tier” controller theory (because the Debtor’s actual “managing member” was a corporate entity for which the Former Manager, in turn, was the manager thereof).  See In re USACafes, L.P. Litigation, 600 A.2d 43 (Del. Ch. 1991).  The court concluded that “it is clear under Delaware law that, where the individual manager [the Former Manager] of an LLC[], which is itself the manager of another LLC [the Debtor], exerts control over the property of the LLC-managed entity at the expense of the LLC-managed entity, the individual manager can be liable for breaches of the duty of loyalty.”  Nevertheless, because the Former Manager impacted the IP License, indirectly and not directly, by expanding the rights of the competing Other License, the USACafes doctrine was not satisfied. 

            Similarly, the court concluded that fraudulent transfer claims predicated on the Former Manager’s unlawful amendment of the Other License were not sustainable because “[i]n the trademark context, ownership rights are only transferred in an assignment, rather than a license” and the relevant Debtor here was a mere licensee not an owner. 

            Chapter 11 bankruptcy is designed to provide a fresh start to viable businesses like Il Mulino.  One of the ways that policy is furthered is through “free and clear” sales pursuant to section 363 of the Bankruptcy Code.  In turn, the value of such sales are maximized by sale orders entered by bankruptcy courts protecting the purchased assets from disgruntled third parties.  Pursuant to this decision, the value of the bankruptcy estate was maximized and Il Mulino is now positioned to thrive as a healthy, independent, and reorganized business.