by Deborah Schavey Ruff, Mayer, Brown & Platt (1999)

Intellectual property, especially trademarks, is increasingly being recognized as valuable to a company's asset portfolio. Consumer brand recognition, which today is at an all time high, represents a value to a company that many times is the cornerstone of a company's worth. Use of trademarks as collateral to secure financing has become an attractive option for a borrower. Indeed, a well-recognized trademark is often more attractive than other types of collateral because there is generally a lower credit risk, which results in a lower cost of financing, and often times pledging trademark collateral will allow a borrower to secure financing without the need to alter its capital structure. Additionally, the desirability of trademark collateral is also the focus of lenders who in response to increased competition in the financing industry, are now considering non-traditional types of collateral, such as trademarks, to secure a loan. Both lenders and borrowers, however, if not cognizant of the pitfalls surrounding the structuring of a security interest in trademarks, may find themselves without an enforceable security interest or even jeopardizing the validity of the trademark collateral.

The legal background

Security interests in trademarks involve the application of two separate and distinct bodies of law: The federal Trademark Act 1 and individual state commercial law embodied in the Uniform Commercial Code. As a general principle, the Uniform Commercial Code (UCC) provides the rules for the creation, perfection and priority of security interests in trademarks, unless pre-empted by federal law. This is supported by the language in the UCC. First, Article 9 of the Uniform Commercial Code states that it does not apply "to the extent that [a federal] statute governs the rights of parties to and third parties affected by transactions."2 Additionally, where a national registration system governs, state filing is "not necessary or effective" for perfection of the security interests.3

Trademarks are recognized as being included within the definition of UCC Article 9 "general intangibles".4 The UCC provides that to perfect a security interest in a general intangible, a UCC-1 financing statement must be filed, usually in the Secretary of State's Office in the state where the debtor is located.5 Although it is well established that trademarks are classified as "general intangibles" pursuant to UCC Article 9, and security interests in "general intangibles" are perfected by filing UCC-1 financing statements, uncertainty still remains as to the mode in which to structure the security interests.6

One reason for this uncertainty is due to a lack of a consistent definition for the term "security interest," and the varying forms in which a security interest in a trademark can be structured. The UCC does not require that a security interest be structured as a title document, that is one that transfers title to the property. The UCC simply recognizes a security interest as a contingent right to an asset upon the default of the borrower, which is created by an agreement. No distinction is made in the UCC between a security interest which is structured as a title document, for example: a collateral assignment or conditional assignment where title to the trademark passes between the borrower to the lender upon either a condition subsequent or condition precedent, and a security interest structured as a non-title document, where title to the property remains with the borrower and where there is simply a future promise to transfer title. The ability of either a collateral assignment or conditional assignment to create a security interest in the collateral is based on the fact that the UCC allows the intent of the parties to control the transaction. In contrast, federal trademark law treats assignments of title, even if conditional in nature, as absolute and present transfers, regardless of the parties' intentions surrounding the transaction.7 Under the federal Trademark Act, "[a]ssignments which are made conditional on the performance of certain acts or events, such as the payment of money or other condition subsequent, if recorded in the office, are regarded as absolute assignments . . . until canceled with the written consent of all parties or by the decree of a court of competent jurisdiction."8

Structuring a security interest

A critical factor in attempting to define a security interest, which adds to the uncertainty surrounding trademark security interests, can be found in the distinction drawn between the term assignment and the term security interest. The terms assignment and security interest are terms of art with distinctly different meanings. A security interest is simply a device to secure an indebtedness. It is an interest in the trademark which secures payment or performance of an obligation. In contrast, an assignment of a trademark is an absolute transfer of all right, title and interest to the trademark.9 It is well established in the case law that a mere agreement for an assignment of a trademark in the future is not considered an assignment.10

The manner in which a lender structures a security interest in a trademark may impact the effectiveness and enforceability of the security interest, and the viability of the trademark collateral. There is no consistent way in which lenders structure trademark security interests, but lenders typically will structure the security interest in one of three basic ways, either:

(1) as a collateral assignment, where title to the trademark is transferred to the lender and returned to the borrower upon discharge of the loan obligation;
(2) as a conditional assignment, where by an agreement title will not transfer to the lender until default; or
(3) as UCC security interest.

Where lenders structure a security interest as either a collateral or conditional assignment, most courts hold that federal trademark law is the substantive law applied to control the transaction.11 Where the lender structures the transaction as a UCC security interest, however, state UCC law should substantially control.12 Most lenders will structure their security interest in trademarks as either a collateral or conditional assignment. This structuring is due to the belief that to have the security interest fashioned as an "assignment" will allow the lender to avoid problems in securing title to the trademarks should the lender be required to foreclose on the trademark collateral. However, a security interest structured as a collateral or conditional assignment may give the lender a false sense of security. Because of the unique nature of trademarks, a lender who structures a security interest in this manner, may in fact be left with no security interest at all and may find the validity of the trademark collateral compromised.

The unique aspects of trademarks

Trademarks represent a distinct type of property unlike any other general intangible and the federal trademark law which governs federal trademarks adds a unique dimension when working in conjunction with creating and perfecting a security interest. A trademark is any device which identifies the goods or services of one party and distinguishes them from competitors. A trademark is a symbol of business goodwill and cannot exist separate and apart from the goodwill that it represents.13 As such, a trademark cannot be transferred or assigned without the transfer of the goodwill associated with the trademark.14 If a trademark is assigned without its underlying goodwill, the assignment is void as an assignment in gross.15 Therefore, a lender who structures its security interest as a collateral assignment must also have assigned and transferred the goodwill associated with the trademark.16

Potential pitfalls in taking security
The collateral assignment-license back scheme

Where a lender receives a collateral assignment of a trademark, the lender takes present title to the trademark, including the goodwill of the business. However, since lenders have no interest, nor can they effectively use the trademark in order to maintain the rights in the trademark, they must license the trademark back to the borrower. This collateral assignment - license back scheme is full of risks for both the lender, as well as the borrower due to the obligations that federal trademark law imposes on trademark owners who allow others to use the trademark.

Because a trademark functions as a source indicator and guarantee of quality for consumers, federal trademark law requires that a licensor control the nature of a licensee's use of the trademark and the quality of the goods or services on which the trademark is used.17 A security interest structured as a collateral assignment to the lender with a license back of the trademark to the borrower, would require the lender, as the trademark owner, to actively control the borrower's use of the trademark and monitor the quality of the borrower's products or services. Obviously, lenders are in the business of lending funds and are not equipped with technical knowledge or resources necessary to effectively monitor and maintain the quality of the borrower's trademarked products or services. If the borrower-licensee's trademark activities are not sufficiently controlled by the lender-licensor, the license will be considered a "naked license" resulting in the abandonment of the trademark.18 Certainly, the risk of abandonment of the trademark collateral is not in the best interest of either the lender or the borrower.

The conditional assignment

Many times lenders attempt to escape the risks and problems associated with collateral assignments by structuring the security interest as a conditional assignment of the trademark. Although the language of the security interest document includes language that indicates that there is a present transfer of title to the trademark, the lender will endeavor to make the assignment of the trademark conditional by either indicating in the document or underlying security agreement that the assignment is conditional, i.e., that the assignment will not be effective unless and until the borrower defaults, or by agreement that the lender will not record the assignment with the U. S. Patent and Trademark Office (USPTO) until such time as a default occurs. Either instance is fraught with problems for both lender and borrower.

The federal trademark law treats conditional assignments as absolute transfers of title, and, as such, these assignments must be recorded in the USPTO within three (3) months after execution in order have priority against subsequent assignments.19 Thus, a lender must record its conditional assignment in the USPTO in order to have priority as against subsequent assignees. But, by recordation, the conditional assignment is deemed, by law, a present transfer of title and the lender is faced with the same problems associated with the collateral assignment, namely: the lender must also receive the goodwill associated with the trademark or the assignment will be void as an assignment in gross; the lender must use the trademark in order to maintain the rights in the trademark; and if the lender licenses the trademark back to the borrower, the lender must actively monitor and control the borrower's use of the trademark.

A lender who structures a trademark security interest as a conditional assignment with the condition that the assignment will not be recorded with the USPTO until the borrower's default does not fair any better. A lender who does not record its assignment with the USPTO will have no rights as against a subsequent bona fide purchaser who records its ownership interest in the USPTO after three months.20

Additionally, the lender who takes a conditional assignment in a trademark, but who only records that assignment at some future date upon default of the borrower, may find themselves with a voidable assignment in gross. Under federal trademark law, an assignment of a trademark without the simultaneous transfer of the trademark's goodwill is deemed an assignment in gross.21 A present assignment document executed by the borrower whereby the goodwill transfers at some later time when default occurs, would most likely be considered an assignment in gross, resulting in a voidable transfer.

In addition to the risks associated with structuring security interests in federal trademark registrations as either collateral or conditional assignments, such assignments will not be sufficient to create a security interest in a federal intent-to-use trademark application and that type of security interest assignment has been held by the U. S. Trademark Trial and Appeal Board (TTAB) to jeopardize the validity of the trademark registration resulting from that intent-to-use application.22

In a recent case involving security interests in intent-to-use trademark applications, the Clorox Company sought to cancel the federal trademark registration which matured from the intent-to-use application, on the basis that the registration's underlying intent-to-use application was "assigned" to a lender to secure a loan in violation of the United States Trademark Act, 15 U.S.C. 1060, which prohibits the assignment of intent-to-use applications, prior to the filing of a statement-of-use, without the transfer of the business to which the mark pertains.

The TTAB agreed with this position and canceled the trademark registration. In arguing against cancellation of the registration, both the borrower-trademark owner and the lender claimed that the word "security" in the title of the security interest agreement, clearly established the parties' intent of merely granting a security interest in the trademarks and that there was never any intent for the lender to obtain the right to use the trademark. The assignment, the borrower and lender claimed, was only conditional and mandated as part of securing the borrower's loan obligation. The TTAB however, was unconvinced and in canceling the trademark registration specifically noted that even though the agreement was entered into for the purpose of securing financing, the specific language and provisions of the security agreement constituted an outright assignment of all right, title and interest in and to the trademarks. Since no transfer was made to the lender of the borrower's existing business, the assignment of the intent-to-use application was in violation of the Trademark Act. The result of such a violation, the TTAB found, was not only a voiding of the transfer, but also a voiding of the resulting federal registration issuing from the assigned application.23

The most secure approach to avert the voiding of the lender's security interest and to maintain the integrity of the borrower's trademark collateral, is to avoid the use of assignment language in the security document and to structure the document as a UCC security interest in the trademark collateral. A UCC security interest is not considered an assignment, even though it contains an agreement of the borrower to assign the trademark upon the event of default. Moreover, since a UCC security interest would not be considered an assignment, there should not be an issue concerning including intent-to-use trademark applications as part of the trademark collateral.

1. The Trademark Act of 1946 (the Lanham Act), as amended, 15 U.S.C.1051 - 1127 (1997). Return to top

2. UCC 9 - 104(a).Return to top

3. UCC 9 - 203(3).Return to top

4. See: Roman Cleanser Co. v. National Acceptance Co., (In Re Roman Cleanser) 43 B.R. 940, 943 (Bankr. E.D. Mich.) aff'd. 802 F.2d 207 (6th Cir. 1986) (holding that trademarks "are clearly general intangibles within the meaning of Article 9").Return to top

5. UCC 9 - 302(1).Return to top

6. The issue of where to perfect the underlying security interest, is however, becoming clearer under the recent case law. In a recent case before the United States Bankruptcy Court for the District of Massachusetts, the court held that the filing of a financing statement at the U.S. Patent and Trademark Office does not perfect a security interest in a trademark under Article 9 of the Uniform Commercial Code. Important to note is the court's finding that the provisions of the U.S. Trademark Act for recording assignments do not qualify as an alternative statutory regime for filing and perfecting security interests under Article 9-302 of the Uniform Commercial Code. See In re Together Development Corporation, 227 B.R. 439 (D. Mass. 1998).Return to top

7. See: The Clorox Company v. Chemical Bank, 40 USPQ 2d 1098, 1103-04 (TTAB 1996).Return to top

8. 37 CFR 3.56Return to top

9. See: Roman Cleanser, 43 B.R. at 945 (E.D. Mich. 1984), aff'd. 802 F.2d 207 (6th Cir. 1986). Return to top

10. Li'l' Red Barn, Inc. v. Red Barn System, Inc., 322 F. Supp. 98, 107 (N.D. Ind. 1970), aff'd. 174 USPQ 193 (7th Cir. 1972).Return to top

11. See: The Clorox Company v. Chemical Bank, 40 USPQ 2d 1098 (TTAB 1996); Haymaker Sports, Inc. v. Turian, 581 F.2d 257 (CCPA 1978).Return to top

12. See: Joseph v. 1200 Valencia, Inc. (In re 199Z, Inc.), 137 B.R. 778 (Bankr. C.D. Cal. 1992).Return to top

13. American Steel Foundries v. Robertson, 269 U. S. 372 (1926); J. Thomas McCarthy, Trademarks and Unfair Competition, 2:15 (1997).Return to top

14. Mister Donut of America, Inc. v. Mr. Donut, Inc., 418 F.2d 838 (9th Cir. 1969), overruled in part on other grounds by Golden Door, Inc. v. Odisho, 646, F.2d 347 (9th Cir. 1980); J. Thomas McCarthy, Trademarks and Unfair Competition, 18:2 (1997) (and cases cited therein).Return to top

15. J. Thomas McCarthy, Trademark and Unfair Competition, 18:3 (1997) (and cases cited therein).Return to top

16. "Goodwill" is an intangible and evasive concept. The mere fact that an assignment document recites the transfer of "goodwill" does not control the validity of the assignment. Money Store v. Harriscorp Finance, Inc., 689 F.2d 666 (7th Cir. 1982). The form of the assignment language will not control over the substance of the transaction and courts will look to the reality of the transaction to determine if "goodwill" has indeed been transferred. Traditionally, courts have viewed tangible business assets as reflecting "goodwill" and have looked at whether the assignee has actually acquired physical business assets in determining whether "goodwill" has been assigned. See: J. Thomas McCarthy Trademarks and Unfair Competition 18:10 (1997) (and cases cited therein). Courts in recent years have begun to shift their focus on the strict constraints of whether actual physical business assets have passed to the assignee and have focused instead on the assignee's use of the trademark and whether the assignee uses the trademark so as to continue the reality symbolized by the mark. See: J. Thomas McCarthy Trademarks and Unfair Competition, 18:10 (1997) (and cases cited therein).Return to top

17. Dawn Donut & Co. v. Hart's Food Stores, Inc., 267 F.2d 358 (2d Cir. 1959); J. Thomas McCarthy, Trademarks and Unfair Competition, 18:42 (1997) (and cases cited therein). Return to top

18. Haymaker Sports, Inc. v. Turian, 581 F.2d 257 (C.C.P.A. 1978); J. Thomas McCarthy, Trademarks and Unfair Competition, 18:48 (1997) (and cases cited therein).Return to top

19. See: 37 CFR 3.56 and 15 U.S.C. 1060.Return to top

20. 15 U.S. C. 1060.Return to top

21. J. Thomas McCarthy Trademarks and Unfair Competition, 18:10 et seq. (1997) (and cases cited therein).Return to top

22. The Clorox Company v. Chemical Bank, 40 USPQ 2d 1098 (T.T.A.B. 1996)Return to top

23. The Clorox Company, 40 USPQ 2d at 1103.Return to top

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