Catapult Entertainment, Inc., In re

• Decision Date: 28 January 1999
• Docket Number: No. 97-16707,97-16707
• Citation: 165 F.3d 747
• Parties: , Bankr. L. Rep. P 77,886, 99 Cal. Daily Op. Serv. 787, 1999 Daily Journal D.A.R. 957, 3 Cal. Bankr. Ct. Rep. 41 In re CATAPULT ENTERTAINMENT, INC., a California corporation, aka Storm Systems, Debtor. Stephen Perlman, Appellant, v. Catapult Entertainment, Inc., a California corporation, aka Storm Systems, Appellee.
• Court: U.S. Court of Appeals — Ninth Circuit

Page 747

165 F.3d 747

33 Bankr.Ct.Dec. 1058, Bankr. L. Rep. P 77,886,

99 Cal. Daily Op. Serv. 787,

1999 Daily Journal D.A.R. 957,

3 Cal. Bankr. Ct. Rep. 41

In re CATAPULT ENTERTAINMENT, INC., a California

corporation, aka Storm Systems, Debtor.

Stephen Perlman, Appellant, v. Catapult Entertainment, Inc., a California corporation, aka

Storm Systems, Appellee.

No. 97-16707.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted Nov. 6, 1998.

Decided Jan. 28, 1999.

Randy Michelson, McCutchen, Doyle, Brown & Enersen, San Francisco, California, for the appellant.

John Walshe Murray, Murray & Murray, Palo Alto, California, for the appellee.

Appeal from the United States District Court for the Northern District of California William A. Ingram, District Judge, Presiding. D.C. No. CV-97-20016 WAI.

Before: FLETCHER and TASHIMA, Circuit Judges, and BRYAN, ^* District Judge.

FLETCHER, Circuit Judge:

Appellant Stephen Perlman ("Perlman") licensed certain patents to appellee Catapult Entertainment, Inc. ("Catapult"). He now seeks to bar Catapult, which has since become a Chapter 11 debtor in possession, from assuming the patent licenses as part of its reorganization plan. Notwithstanding Perlman's objections, the bankruptcy court approved the assumption of the licenses and confirmed the reorganization plan. The district court affirmed the bankruptcy court on intermediate appeal. Perlman appeals that decision. We are called upon to determine whether, in light of § 365(c)(1) of the Bankruptcy Code, a Chapter 11 debtor in possession may assume certain nonexclusive patent licenses over a licensor's objection. We conclude that the bankruptcy court erred in permitting the debtor in possession to assume the patent licenses in question.

I.

Catapult, a California corporation, was formed in 1994 to create an online gaming network for 16-bit console videogames. That same year, Catapult entered into two license agreements with Perlman, wherein Perlman granted to Catapult the right to exploit certain relevant technologies, including patents and patent applications.

In October 1996, Catapult filed for reorganization under Chapter 11 of the Bankruptcy Code. Shortly before the filing of the bankruptcy petition, Catapult entered into a merger agreement with Mpath Interactive, Inc. ("Mpath"). This agreement contemplated the filing of the bankruptcy petition, followed by a reorganization via a "reverse triangular merger" involving Mpath, MPCAT Acquisition Corporation ("MPCAT"), and Catapult. Under the terms of the merger agreement, MPCAT (a wholly-owned subsidiary of Mpath created for this transaction) would merge into Catapult, leaving Catapult as the surviving entity. When the dust cleared, Catapult's creditors and equity holders would have received approximately $14 million in cash, notes, and securities; Catapult, in turn, would have become a wholly-owned subsidiary of Mpath. The relevant third party creditors and equity holders accepted Catapult's reorganization plan by the majorities required by the Bankruptcy Code.

On October 24, 1996, as part of the reorganization plan, Catapult filed a motion with the bankruptcy court seeking to assume some 140 executory contracts and leases, including the Perlman licenses. Over Perlman's objection, the bankruptcy court granted Catapult's motion and approved the reorganization plan. The district court subsequently affirmed the bankruptcy court. This appeal followed. We have jurisdiction pursuant to 28 U.S.C. § 158(d) and, because the relevant facts are undisputed, review the orders below de novo. See Everex Sys. v. Cadtrak Corp. (In re CFLC, Inc.), 89 F.3d 673, 675 (9th Cir.1996).

II.

Section 365 of the Bankruptcy Code gives a trustee in bankruptcy (or, in a Chapter 11 case, the debtor in possession) the authority to assume, assign, or reject the executory contracts and unexpired leases of the debtor, notwithstanding any contrary provisions appearing in such contracts or leases. See 11 U.S.C. § 365(a) & (f). This extraordinary authority, however, is not absolute. Section 365(c)(1) provides that, notwithstanding the general policy set out in § 365(a):

(c) The trustee may not assume or assign any executory contract or unexpired lease of the debtor, whether or not such contract or lease prohibits or restricts assignment of rights or delegation of duties, if

(1)(A) applicable law excuses a party, other than the debtor, to such contract or lease from accepting performance from or rendering performance to an entity other than the debtor or the debtor in possession, whether or not such contract or lease prohibits or restricts assignment of rights or delegation of duties; and

(B) such party does not consent to such assumption or assignment....

11 U.S.C. § 365(c). Our task, simply put, is to apply this statutory language to the facts at hand and determine whether it prohibits Catapult, as the debtor in possession, from assuming the Perlman licenses without Perlman's consent. ¹

While simply put, our task is not so easily resolved; the proper interpretation of § 365(c)(1) has been the subject of considerable disagreement among courts and commentators. On one side are those who adhere to the plain statutory language, which establishes a so-called "hypothetical test" to govern the assumption of executory contracts. See In re James Cable Partners, 27 F.3d 534, 537 (11th Cir.1994) (characterizing § 365(c)(1)(A) as posing "a hypothetical question"); In re West Elec., Inc., 852 F.2d 79, 83 (3d Cir.1988) (same); In re Catron, 158 B.R. 629, 633-38 (E.D.Va.1993) (same), aff'd without op., 25 F.3d 1038 (4th Cir.1994). On the other side are those that forsake the statutory language in favor of an "actual test" that, in their view, better accomplishes the intent of Congress. See Institut Pasteur v. Cambridge Biotech Corp., 104 F.3d 489, 493 (1st Cir.) (rejecting the hypothetical test in favor of the actual test), cert. denied, 521 U.S. 1120, 117 S.Ct. 2511, 138 L.Ed.2d 1014 (1997). ² Although we have on two occasions declined to choose between these competing visions, see Worthington v. General Motors Corp. (In re Claremont Acquisition Corp.), 113 F.3d 1029, 1032 (9th Cir.1997); Everex, 89 F.3d at 676-77, today we hold that we are bound by the plain terms of the statute and join the Third and Eleventh Circuits in adopting the "hypothetical test."

III.

We begin, as we must, with the statutory language. See Connecticut Nat'l Bank v. Germain, 503 U.S. 249, 253-54, 112 S.Ct. 1146, 117 L.Ed.2d 391 (1992) (noting that the statutory language is the "cardinal canon" to be addressed "before all others"); Jeffries v. Wood, 114 F.3d 1484, 1495 (9th Cir.) (en banc) ("In statutory interpretation, the starting point is always the language of the statute itself."), cert. denied, --- U.S. ----, 118 S.Ct. 586, 139 L.Ed.2d 423 (1997). The plain language of § 365(c)(1) "link[s] nonassignability under 'applicable law' together with a prohibition on assumption in bankruptcy." 1 DAVID G. EPSTEIN, STEVE H. NICKLES & JAMES J. WHITE, BANKRUPTCY § 5-15 at 474 (1992). In other words, the statute by its terms bars a debtor in possession from assuming an executory contract without the nondebtor's consent where applicable law precludes assignment of the contract to a third party. The literal language of § 365(c)(1) is thus said to establish a "hypothetical test": a debtor in possession may not assume an executory contract over the nondebtor's objection if applicable law would bar assignment to a hypothetical third party, even where the debtor in possession has no intention of assigning the contract in question to any such third party. See In re James Cable, 27 F.3d at 537 (characterizing § 365(c)(1)(A) as presenting "a hypothetical question"); In re West Elecs., 852 F.2d at 83 (same).

Before applying the statutory language to the case at hand, we first resolve a number of preliminary issues that are either not disputed by the parties, or are so clearly established as to deserve no more than passing reference. First, we follow the lead of the parties in assuming that the Perlman licenses are executory agreements within the meaning of § 365. Second, it is well-established that § 365(c)'s use of the term "trustee" includes Chapter 11 debtors in possession. See Institut Pasteur, 104 F.3d at 492 n. 7; In re James Cable Partners, 27 F.3d at 537; In re West Elecs., 852 F.2d at 82. Third, our precedents make it clear that federal patent law constitutes "applicable law" within the meaning of § 365(c), and that nonexclusive ³ patent licenses are "personal and assignable only with the consent of the licensor." Everex, 89 F.3d at 680.

When we have cleared away these preliminary matters, application of the statute to the facts of this case becomes relatively straightforward:

(c) Catapult may not assume ... the Perlman licenses, ... if

(1)(A) federal patent law excuses Perlman from accepting performance from or rendering performance to an entity other than Catapult...; and

(B) Perlman does not consent to such assumption....

11 U.S.C. § 365(c) (substitutions in italics). Since federal patent law makes nonexclusive patent licenses personal and nondelegable, § 365(c)(1)(A) is satisfied. Perlman has withheld his consent, thus satisfying § 365(c)(1)(B). Accordingly, the plain language of § 365(c)(1) bars Catapult from assuming the Perlman licenses.

IV.

Catapult urges us to abandon the literal language of § 365(c)(1) in favor of an alternative approach, reasoning that Congress did not intend to bar debtors in possession from assuming their own contracts where no assignment is contemplated. In Catapult's view, § 365(c)(1) should be interpreted as embodying an "actual test": the statute bars assumption by the debtor in possession only where the reorganization in question results in the nondebtor actually having to accept performance from a third party. Under this reading of § 365(c), the debtor in possession would be permitted to...