Friday, February 28, 2020

Enforceability of a No-Challenge Clause

Loops v Maxill Inc 2020 ONSC 971 (CanLII)
            2,577,109 / Toothbrush

This motion refusing to grant a partial anti-suit injunction, which would have prevented the alleged infringer from challenging the validity of a US patent in a US court, raises a question regarding the enforceability of a “no-challenge” clause in a settlement agreement. I don’t believe the point has been previously litigated in Canada, though it has been raised in a number of cases in the US. It also illustrates that if a no-challenge clause is to exclude challenges by the party to settlement agreement, it is best to say so explicitly.

Loops and Maxill are in the toothbrush business [9]. Loops sued Maxill in Canada for infringement of Loops’ 109 patent. In 2014 the parties settled [14]. The Agreement contained a “no-challenge” clause stating that Maxill “would not directly or indirectly assist any person attacking the validity of either [the Canadian 109 patent or the corresponding US Patent 8,448,285" [15]. Maxill then created another toothbrush to try to design around the 109 patent [19]. Loops sued Maxill in Canada over the new toothbrush, this time for breach of the Agreement [20]. Loops also sued Maxill in the US, alleging the same new toothbrush infringed the US 285 patent. Maxill defended on the basis that the new toothbrush did not infringe the 285 patent — but it also attacked the validity of the 285 patent by way of counter-claim [22]. The US actions were consolidated in Washington [23].

Loops brought this motion for an interlocutory injunction barring Maxill from challenging the validity of the US 285 patent, on the basis that this is a breach of the Agreement [1]. Templeton J assessed the motion on the basis that Loops had to show a strong prima facie case on the merits in order to obtain its injunction [6], [32]. She held that Loops had failed to meet this requirement, for two reasons.

Templeton J held that the no-challenge clause is not enforceable as not being reasonable in the public interest [6], [64]. In so holding she was persuaded by the US case law relied on by the Washington judge who considered the same issue in deciding Loops’ motion for a stay of the US action [55]. The Washington judge and Templeton J relied in particular on Lear Inc v Adkins, 395 US 653 (1969) and MCA Sign Co v Golden State Advert Co 444 F2d 425 (9th Cir, 1971). In Lear v Adkins the USSC held that a licensee who repudiates a patent license may challenge the validity of the licensed patent when the licensor sues the licensee for past due royalties, rejecting the “licensee estoppel” doctrine that would have precluded such a defense. The USSC said that “enforcing this contractual provision would undermine the strong federal policy favoring the full and free use of ideas in the public domain” (674). In MedImmune 549 US 118 (2007) the USSC further held that even a licensee in good standing may challenge the patent.

As Templeton J noted at [60], in MCA the Ninth Circuit extended the rationale of Lear v Adkins to settlement agreements. Thus Templeton J’s conclusion is indeed supported by the US case law she relied on. However, it seems that US law is not entirely uniform on this point. Washington is in the Ninth Circuit, and so the Washington judge cited Ninth Circuit precedent, but the Federal Circuit, in particular, has come to the contrary conclusion.

The Federal Circuit decision in Flex-Foot, Inc v CRP, Inc, 238 F3d 1362 (Fed Cir 2001) dealt with the same issue of a no-challenge clause in a settlement agreement. The Federal Circuit distinguished Lear on the basis that it did not concern a no-challenge clause at all, but rather the court-developed doctrine of licensee estoppel. The Federal Circuit noted that “[t]he license agreement in Lear was not created as part of a litigation settlement” and “[i]n Lear, notably, the license did not contain, and was not accompanied by, any promise by the licensee not to challenge the validity of the patent” (1368). The Court noted that this was not merely a technical distinction: “This distinguishing fact is meaningful because it implicates the important policy of enforcing settlement agreements” (1368) and the Court emphasized “the strong public interest in enforcing settlements” (1369). So, while there is a public interest in the free exchange of ideas in the public domain, there is also a well-recognized and countervailing public interest in enforcing settlements.

The Federal Circuit further noted another functional distinction. A licensee entering into a licence in the normal course wants to get on with business, not litigation, and is not motivated to the challenge the validity of the patent at the time the licence is entered into. In contrast, a settlement agreement is reached in the face of litigation, when the accused infringer will have had the opportunity and incentive to make a considered decision as to whether to challenge the validity of the patent (1370). So, in Foster v Hallco 947 F2d 469 (Fed Cir1991), the Federal Circuit held that Lear v Adkins did not displace the principle of res judicata when a no-challenge clause was included in a consent decree (1369). The Court in Flex-Foot pointed out that the policy in favour of respecting settlement agreements is closely related to the principle of res judicata (1369). A party who has attacked the validity of a patent in contested litigation and lost will not be permitted to attack it again, as a matter of res judicata; it is one more step to apply the same principle to a consent decree, as in Foster v Hallco, and it is a short step again to apply the principle to settlements, on the view that a settlement is much like a consent judgment that has not been formalized by the court.

More generally, it is always problematic for a court to interfere in freedom of contract on the basis of public policy. The parties desiring to arrive at the prohibited agreement will often find ways to contract around the prohibition: see sources cited by Cotter, Comparative Patent Remedies at 157 n.323. Further, the prohibition may have unintended consequences, such as potentially discouraging settlement in the first place.

None of this is to say that MCA was wrongly decided. My point is that the issue is a difficult one, that remains contentious in US law. This of course was only a motion for an interlocutory injunction, and I trust the point will be more fully considered if it ever arises in an action.

A second, less general point raised by this case is that the Agreement specified that Maxill “will not directly or indirectly assist any person attacking the validity of [the Canadian or US patent].” Templeton J was of the view that this language did not clearly preclude Maxill itself from attacking the patent, contrasting it with the wording “[The Parties] undertake neither to challenge PATENTS 1 and 2 or national parts of these Patents themselves nor to support third parties in challenging these Patents” [36], [41]. Because the motion was only an interlocutory injunction, this does not establish that the clause of the Agreement should necessarily be restrictively interpreted — that will be a matter for trial [48]. Nonetheless the point is made. It seems very strained to suggest that a no-challenge clause in settlement agreement should be interpreted as not preventing the actual party to the agreement from challenging the patents at issue. This interpretation of the clause seems to reflect the hostility to no-challenge agreements shown in the Templeton J’s view that the no-challenge clause is likely unenforceable.

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