Royalties, fees awarded to patent owner vacated

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The 1st U.S. Circuit Court of Appeals has held that a patent licensee’s unpaid royalty and sublicensing fee obligations were extinguished by a release the patent holder gave in exchange for a cut of the licensee’s settlement money from litigation with a sublicensee.

Defendant Esoterix Genetic Laboratories held a license to use and sell products and processes covered by patents held by the plaintiffs, General Hospital Corporation and Dana-Farber Cancer Institute (referenced collectively by the court as “the Hospitals”), and to sublicense those rights to third parties.

In return, Esoterix had to pay the Hospitals royalties and a portion of sublicensing fees it received. Esoterix was required to make these payments twice a year following “reporting periods” that ended each June 30 and December 31.

On June 27, 2017, Esoterix settled a lawsuit it brought against a sublicensee and as part of the settlement agreed to pay the Hospitals a portion of the settlement amount.  The settlement contained a boilerplate provision in which the Hospitals released Esoterix and its parent company, LabCorp, from “any and all” liabilities and obligations that arose between them before the effective date of the settlement.

When Esoterix didn’t pay royalties and sublicensing fee obligations that had arisen in the reporting period before the settlement took effect, the Hospitals sued for breach of contract.

A U.S. District Court judge allowed the lawsuit to proceed, finding that those obligations didn’t actually arise until they became due and payable, which was 45 days after the reporting period ended, and thus they weren’t covered by the release.

But the First Circuit vacated the subsequent $1.3 million judgment.

“[T]he terms of the License show that Esoterix’s royalty and sublicensing fee obligations arise upon its sales of processes and products and its receipt of sublicensing income, respectively,” wrote Judge Bruce M. Selya for the panel. “As such, the unpaid obligations arose prior to the effective date of the release and, thus, were extinguished by it. In the absence of a duty to pay those amounts, there could be no breach of the License, and judgment should not have entered in favor of the Hospitals on their breach of contract claim.”

The 25-page decision is The General Hospital Corporation, et al. v. Esoterix Genetic Laboratories, LLC, et al.

Cautionary tale

Douglas J. Nash of Syracuse, New York, who represented the plaintiffs, declined comment, while defense counsel Christopher R. Howe of Charlestown could not be reached for comment prior to deadline.

But Boston IP litigator Craig R. Smith called the case a “cautionary tale” on the impact of using broad releases to resolve specific matters.

As Smith pointed out, many settlement agreements include expansive, boilerplate release language intended to avoid future disputes between the parties regarding their prior activities.

“These releases work well when the agreement resolves all issues and obligations between the parties,” he said. “Crafting a release is more complicated when there are continuing obligations by one or more parties. These more complex releases must be carefully drafted to avoid the unintended consequence of releasing more than the parties intended.”

Kirk Teska of Waltham agreed.

“Be careful with boilerplate release language,” he said. “Play out worst case scenarios, clarify which obligations and promises exactly are released, and use examples. If the release is between parties A and B to settle one matter, make sure all the obligations and promises between parties A and B are well understood to ensure the release pertaining to just that one matter does not impact any other obligations and promises between the parties.”

Teska also speculated that while this case wouldn’t have much impact in the licensing world, it might serve as a “heads up” in the settlement world.

“Maybe the settlement attorneys will be bringing in the licensing attorneys a little more often,” he said.

Meanwhile Thomas P. McNulty, an IP attorney in Boston, suggested that this case illustrates the pitfalls of attorneys using overly “lawyerly” language.

“If there was, in fact, an agreement between the parties that [the release] wouldn’t involve past royalties, that should have been there expressly and clearly,” he said. “If you were to describe to a client what the agreement is going to do, you wouldn’t use the kind of terminology [the parties] used in this agreement. You’d say it clearly to them. So put it in the agreement that way too. Of course, this is assuming that the parties didn’t actually agree to the result that came out.”

Broad release

The plaintiffs own patents related to detection of an epidermal growth factor receptor mutation that when present suggests that certain cancer treatments are likely to be effective.

In 2005, the Hospitals licensed the patents to a genetic testing company under a master license agreement allowing it to use and sell certain products and processes covered by the EGFR-detection patents and to sublicense those rights to third parties.

In exchange, the licensee was required to pay an annual license fee, royalties on its use and sales of the processes and products and a share of fees and royalties received from sublicensees.

Five years later, the licensee passed its rights onto LabCorp. Those rights later passed to Esoterix, which LabCorp created to manage the assets. The license required that Esoterix pay royalties and sublicensing fees and income twice a year following six-month reporting periods ending June 30 and December 31, with amounts accruing during a period becoming due and payable 45 days after the end of that period.

In 2014, Esoterix sued a sublicensee for breach of its sublicense. The sublicensee challenged the validity of the patents. The litigation settled in 2017 and, as part of the settlement, Esoterix agreed to pay the Hospitals a portion of the settlement amount paid by the sublicensee. In exchange, the settlement agreement contained a broad release excusing Esoterix and LabCorp from “any and all” liabilities and debts of any nature known to have arisen before the release’s June 27, 2017 effective date.

When Esoterix submitted its royalty report on Aug. 15, 2017, 45 days after the end of the reporting period, it supplied revenue and royalty information only for the period between June 28 and June 30, taking the position that it was released from any obligations that arose before the release took effect.

The Hospitals responded by filing a breach-of-contract action in Superior Court, which the defendants removed to U.S. District Court.

The defendants moved to dismiss, arguing that its obligations to pay royalties and fees from earlier in the reporting period were extinguished by the release. U.S. District Judge Indira Talwani denied the defendants’ motion to dismiss and entered judgment in the agreed-upon sum of $1.29 million plus interest.

An appeal followed.

Judgment vacated

The First Circuit found that the lower court erred in holding that the Hospitals’ claim for royalty payments didn’t fall under the release because they didn’t become due and payable until after the release’s effective date.

“The district court’s focus on when the Hospitals’ cause of action accrued is insupportable,” said Selya. “Massachusetts law is pellucid that a broad release can encompass all matters that come within its terms. With respect to general releases covering ‘any and all claims . . . whatsoever of every name and nature,’ claims can be released even if they were not in the forefront of the parties’ thinking. This is so even when a cause of action has yet to accrue.”

Meanwhile, the First Circuit was unmoved by the Hospitals’ assertion that, as indicated by the settlement discussions, the parties never intended for the amounts in dispute to be covered by the release, holding instead that its plain language governed.

As Selya emphasized, examination of such extrinsic evidence would be improper where the terms of the release were neither vague nor ambiguous.

“The breadth of the release was by choice of the contracting parties,” said Selya, emphasizing that courts can’t accomplish by “judicial fiat” what parties did not achieve contractually. “That admonition has special force where, as here, the parties are sophisticated entities that negotiated a release with the benefit of counsel.”