Watkins v. United States, Civ. No. 5052.

• Decision Date: 12 March 1957
• Docket Number: Civ. No. 5052.
• Citation: 149 F. Supp. 718
• Court: U.S. District Court — District of Connecticut
• Parties: James R. WATKINS and Lucile L. Watkins v. UNITED STATES of America.

149 F. Supp. 718

James R. WATKINS and Lucile L. Watkins v. UNITED STATES of America.

Civ. No. 5052.

United States District Court D. Connecticut, Civil Division.

March 12, 1957.

John H. Weir, Thompson, Weir & MacDonald, New Haven, Conn., for plaintiffs.

Simon S. Cohen, U. S. Atty., for District of Connecticut, Hartford, Conn., Sheldon J. Gitelman, Dept. of Justice, Washington, D. C., for defendant.

ANDERSON, District Judge.

Findings of Fact

1. On April 17, 1934 there was issued to the plaintiff, James R. Watkins, U. S. Letters Patent No. 1,955,107 covering a wood cleated corrugated shipping container.

2. Subsequently, additional Letters Patent were issued to him for improvements on the shipping container as follows: October 9, 1934, Letters Patent No. 1,976,693; December 27, 1938, Letters Patent No. 2,141,497; and May 13, 1939, Letters Patent No. 2,159,642.

3. In March 1937 the plaintiff, James R. Watkins, entered the employ of Dillman Industries, Inc. of Caruthersville, Missouri, manufacturers of lumber, wooden boxes and crates, and at that time entered into an agreement with Dillman Industries, Inc. whereby Watkins granted to the corporation a non-exclusive license to manufacture containers under the patents which, up to that time, had been issued to him.

4. The manufacturing and sales of the shipping containers proved to be successful and early in 1940, after the last two patents relating to the shipping container had been issued to Watkins, negotiations went on between James R. Watkins and some of the officers and leading shareholders of Dillman Industries, Inc. acting both on behalf of the corporation and themselves personally, relative to new agreements for the exploitation of the patents.

5. During said period a new corporation, Watkins Patents, Inc., was organized under the laws of the State of Illinois in which the plaintiff, James R. Watkins, owned twenty per cent of the shares issued and outstanding and the remaining eighty per cent of said shares were owned by Dillman Industries, Inc. or officers and shareholders of Dillman Industries, Inc.

6. On April 17, 1940 the four patents above referred to were the subject of five agreements entered into, eo instante, which may generally be summarized as follows:

(a) An agreement between James R. Watkins and Watkins Patents, Inc. by which Watkins transferred to Watkins Patents, Inc. a non-transferable exclusive license for the use of and sub-licensing under the patents. By the same agreement Watkins Patents, Inc. agreed to pay Watkins $3,600 in cash and twenty per cent of the stock in Watkins Patents, Inc. and one-third of the net royalties derived from licensed manufacture under the patents, subject to certain minor qualifications. Said contract provided further that Watkins had a non-transferable, non-exclusive sub-license under the patents, and that anyone with whom he became associated to practice his sub-license had a right to sub-license from Watkins Patents, Inc. even after the termination of the association between Watkins and such individual, co-partnership or corporation. Said agreement further provided that in the event of litigation concerning said patents, or any of them, Watkins Patents, Inc. had a duty to defray the cost of such litigation up to the amount of $10,000 and that with regard to expenditures above said amount Watkins Patents, Inc. had the option of paying the additional amount necessary or to refuse to do so, in which event said James R. Watkins had the right to carry on such litigation at his own expense with certain provisions for reimbursement in the event of his successful prosecution or defense of said litigation. Said contract further provided that sub-licenses of Watkins Patents, Inc. were subject to the approval of James R. Watkins and that all existing licenses were transferred to Watkins Patents, Inc. by James R. Watkins. The contract also provided that Watkins Patents, Inc. had a duty to account to Watkins and that copies of the contract and assignments of prior licenses should be in proper form for filing in the U. S. Patent Office.

(b) An agreement between Watkins Patents, Inc. and Dillman Industries, Inc. by which Dillman Industries received a non-transferable, non-exclusive license to manufacture and sell containers under the patents of Watkins Patents, Inc. in return for its payment to Watkins Patents, Inc. of royalties of one per cent of the net sales of containers sold under the license, such royalties to become one and one-half per cent in case the employment of James R. Watkins by Dillman Industries, Inc. was terminated.

(c) An agreement between Dillman Industries, Inc. and James R. Watkins by which a license previously granted to Dillman Industries, Inc. by Watkins was canceled. This agreement provided further that Watkins' employment contract with Dillman Industries, Inc. was terminated and a new employment contract entered into, under the terms of which Dillman Industries, Inc. was to pay Watkins $400 per month and twenty-five per cent of Dillman Industries' net income from the manufacture and sale of products under Watkins Patents. At the end of any year either party could terminate the employment contract by giving notice. The agreement also contained certain provisions concerning the holding by Watkins of stock in Dillman Industries, Inc.

(d) An agreement between James R. Watkins, Dillman Industries, Inc. and Watkins Patents, Inc. which incorporated agreement (a) above, canceled a previous license given by Watkins to Dillman Industries, Inc. and provided for the execution of a sub-license to Dillman Industries, Inc. from Watkins Patents, Inc. (agreement (b) above). The agreement contained certain other provisions, including Dillman Industries' promise to loan Watkins Patents, Inc. certain amounts for the purpose of paying litigation expenses that might arise in defense of Watkins' patents.

(e) An agreement between Watkins Patents, Inc. and James R. Watkins by which Watkins Patents, Inc. purported to grant James R. Watkins a non-transferable, non-exclusive license to manufacture and sell containers under the Watkins Patents in return for royalty payments of one and one-half per cent of the net sales of such containers. The agreement further provided that said license was not to be used by James R. Watkins as long as he was employed by Dillman Industries, Inc.; but that upon leaving the employment of Dillman Industries, Inc., (which at his option he might do at the end of any year) he might operate under the license, or if he became associated with any individual, co-partnership or corporation, such enterprise might manufacture and sell under his license. The agreement provided that upon termination of Watkins' association with any such individual, co-partnership or corporation, such individual, co-partnership or corporation would have the right to obtain a license from Watkins Patents, Inc. The agreement expressly provided that Watkins, upon termination of such associations, might continue to use his license individually or enter into subsequent associations, one at a time, with other individuals, co-partnerships or corporations, which could use his license during the period of association and obtain a license from Watkins Patents, Inc. upon termination of the association.

7. The agreement between James R. Watkins and Watkins Patents, Inc. did not transfer from James R. Watkins to the corporation, nor did the parties intend that it should transfer, all the substantial rights to the patents.

Conclusions of Law

1. This court has jurisdiction of the subject matter and of the parties in this action.

2. The agreement between James R. Watkins and Watkins Patents, Inc. did not constitute a sale or assignment of the patents but was only the grant of a license.

3. The income reported by the plaintiffs in their 1949 through 1952 returns and derived from the licensing by James R. Watkins of Watkins Patents, Inc. was ordinary income and not capital gains.

Discussion

The question presented is whether the items of income received by the plaintiffs for the years 1949 through 1952 and derived from agreements with Watkins Patents, Inc. concerning Watkins' patents were ordinary income as set out in the tax returns which they filed for those years, or were actually capital gains from a sale of assets held for more than six months under Sec. 117(a) Internal Revenue Code of 1939, 26 U.S.C. § 117(a) as to the calendar years 1949 and 1950, and Sec. 117(q) Internal Revenue Code of 1939 as to the calendar years 1951 and 1952. The plaintiffs assert that they were capital gains and in this action they are suing for a refund.

It was stipulated by the parties at the trial that testimony might be received from the plaintiffs, relative to the history of the parties to the contracts referred to in the finding, the business relationship of the parties and the negotiations before and during the making of the agreements as well as some testimony as to what the parties to the contracts actually did pursuant to them. This was received with the understanding that the court, after hearing all of the evidence and arguments in the case, would rule upon the defendant's objection that such parol testimony was inadmissible as an effort to vary the terms of the written contract. That objection is overruled and the subsequent motion by the defendant to strike is denied.

It is the Government's claim that what the patentee, Watkins, transferred to Watkins Patents, Inc., was a mere license rather than an assignment or sale of the patents. It relies upon that part of the opinion in Waterman v. Mackenzie, 138 U.S. 252, at pages 255 and 256, 11 S.Ct. 334, at page 335, 34 L.Ed. 923, which in effect says that the grant of anything less than the "right to make, and the right to use, and the right to sell" is not an assignment or sale of a patent. See Broderick v. Neale, 10 Cir., 201 F.2d 621. While the plaintiffs are correct in...