In an environment of radical economic uncertainty, entertainment industry participants who are granting exclusive licences of their rights should take care to consider what would once have been only a doomsday scenario: what if their licensee experiences an “insolvency event”? What steps can licensors take to protect themselves if their film distributor, record company, streaming platform or other exclusive licensee goes out of business? While there are no great answers, this post discusses three potential options: contractual provisions which allow the licensor to terminate the licence if an insolvency event occurs; imposing a trust on monies held by the licensee; and Section 83 of the Bankruptcy & Insolvency Act (Canada), which provides for a reversion of copyright in certain very specific circumstances.
In this post we’ll use “insolvency event” to refer to the plethora of formal mechanisms under the Bankruptcy & Insolvency Act (Canada) (“BIA”) and the Companies’ Creditors Arrangement Act (Canada) (“CCAA”). People often colloquially refer to these mechanisms as either “bankruptcy” or “insolvency” – technically, insolvency events include relief mechanisms such as proposals, receiverships, and bankruptcies under the BIA and “protection” from creditors under the CCAA. So, for purposes of this post, when we say “insolvency event” or “insolvent”, we’re using those terms in an imprecise way which will likely drive bankruptcy and insolvency experts right up the nearest wall, but we’ve decided to sacrifice technical accuracy on the altar of readability.
Our colleagues in the Dentons Canada LLP Intellectual Property Group recently provided their insights into how licensees of intellectual property are protected if a licensor experiences an insolvency event. That sort of scenario is very common when it comes to things like software: if company B runs its business using company A’s software, B wants some assurances that if A goes bankrupt, B will still be able to use the software.
But because of the way that many business arrangements in the entertainment industries are structured, it is at least as important for licensors to worry about what happens if their licensee experiences an insolvency event. The problem is acute because in many sectors of the entertainment industries, licences are granted on an exclusive basis – whether it be the right to sell albums, exhibit films, publish books or stream video games. Let’s say you are film producer X, and you’ve given distribution company Y an exclusive twenty-five year licence to distribute your film around the world; if Y then goes bankrupt, X is facing the potentially crippling situation that X’s film will sit on a shelf, under-exploited (or not exploited at all), thereby reducing or eliminating not only revenues from that film, but dampening the future market for X’s films. Can a film producer protect themselves and their project in such a scenario? Or consider the lag time between when a film distributor receives revenues and when it is contractually obligated to pay out the producer’s share of net receipts – those funds are often held for four, six or even twelve months before being paid out – how can X protect themselves if Y goes bankrupt while sitting on a big pile of net receipts owing to X?
Unfortunately, there are few legislative protections for intellectual property licensors. The BIA (see sections 65.11(7), 65.13. 72.1 and 246) and the CCAA (see sections 32(6) and 36) contain provisions which ensure that regardless of the form of the insolvency event, an IP licensee who abides the terms of their licence will continue to enjoy the right to use the licensed IP even if the licensor experiences an insolvency event. That’s great for licensees, but provides little comfort to licensors confronted by an insolvent licensee.
IP licensors (like film producer X in our example above) basically have three potential avenues by which to protect themselves:
Option One – Termination Rights / “Ipso Facto” Clauses
Licensors can try to negotiate into their licence agreements a provision which gives the licensor the right to terminate the agreement (or at least the grant of the exclusive licence) if the licensee experiences an insolvency event. These are sometimes called “ipso facto” clauses. While this sounds like an ideal protective mechanism for licensors, the enforceability of ipso facto clauses is questionable. As a very general observation, courts will not give effect to ipso facto clauses in many situations – but, there are situations where they might be enforceable.
A warning: the effectiveness of ipso facto clauses varies dramatically from jurisdiction to jurisdiction. So, for example, ipso facto clauses are largely unenforceable in the United States as a result of the wording of the US Bankruptcy Code. By comparison, in England, while the default rule is that such clauses are unenforceable, there are exceptions to that rule recognized in the case law. Canada, of course, has a kind of mix of both: there are provisions in the BIA and the CCAA which deem such termination rights unenforceable, but that unenforceability varies depending on a variety of factors, including the type of insolvency event which the licensee is experiencing, and the type of entity that the licensee is (e.g., corporation, natural person, etc.). In short, there may be some situations under Canadian law where an ipso facto clause is enforceable and can be used by an IP licensor to terminate the exclusive licence arrangement. So: step one is to get an ipso facto clause negotiated into your licence agreement; step two, if the licensee experiences an insolvency event and is located in Canada, talk to a Canadian bankruptcy/insolvency lawyer to assess whether the termination right in the ipso facto clause will be enforceable. Licensees will often be reluctant to agree to include ipso facto clauses in their licences and may be contractually prohibited from granting them (e.g., the negative covenants in a loan agreement may require the lender’s permission to agree to termination rights).
For a comprehensive discussion of ipso facto clauses in England and Canada, see Adrienne Ho, “The Treatment of Ipso Facto Clauses in Canada”, (2016) 61-1 McGill Law Journal 139.
Option Two – Impose a Trust on Funds
While this protective mechanism will not result in a licensor getting back their rights, it is helpful when the licensee (say, a distributor) collects revenues and has an obligation to remit some or all of those revenues (in the form of, say, a share of net profits) to the licensor (say, a film producer). Stipulating that the funds held by the licensee are held in trust for the benefit of the licensor until they are paid out can be critical: trust funds enjoy a form of super-priority in insolvency events, and effectively “belong” to the licensor even while they remain in the possession of the licensee. Ideally, the licence agreement itself would stipulate that the funds are held in trust. But even in the absence of such an express statement in the agreement, Ontario courts have seen fit to deem the funds to be subject to a trust, as was the case in T. Films S.A. v Cinemavault Releasing International Inc., 2015 ONSC 6608, aff’d 2016 ONSC 404. In that case, a film producer’s share of net receipts that were being held by a film distributor were deemed to have been subject to a trust in favour of the film producer – while the distribution agreement did not say that they were subject to a trust, the court concluded that the nature of the producer/distributor relationship and the intentions of the parties as evidenced by their conduct and other provisions of the agreement were sufficient to conclude that a trust existed.
Option Three – Section 83 of the BIA
Copyright owners who have transferred rights or granted an exclusive licence can potentially find relief in Section 83 of the BIA, which provides for a reversion of rights to a copyright owner in certain limited circumstances. Of course, this relief is only available if the licensee’s insolvency event is occurring under the BIA (the CCAA does not have a similar provision), and only if the circumstances set out in Section 83(1) are present – such as, under 83(1)(a), if work has not yet been published at the time of bankruptcy and no expense has been incurred in connection with the work, then the copyright reverts and the agreement is deemed void. Because of how narrowly tailored the language in Section 83(1) is, it will be a fairly unusual situation in which a licensor finds themselves benefiting from its protection, but it is always worth having the matter assessed by a lawyer who is familiar with the BIA, how copyright law functions and how the entertainment industries operate. Section 83(2) also warrants attention, as it provides additional protections (though not a reversion of copyright or a termination of the licence agreement) once a bankruptcy trustee has started exploiting the work.
Insolvency events are generally traumatic for everyone involved. For intellectual property licensors, they pose a particular threat, because an insolvent licensee can potentially mean significant delays or even outright failures in exploiting the licensed property. That being said, there are a limited number of protective steps that can be taken at the contracting phase and even once the insolvency event has occurred – forewarned is forearmed.