You Can Cry if You Want To, But if You Are Not “the” Party, It’s Probably Not “Your” Party—Distinguishing Between Becoming a “Party” to a Contract and Merely Being an Assignee

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In the 1960’s hit song, It’s My Party, Lesley Gore sang about a young woman at her birthday party watching her boyfriend leave with another young woman. The resulting chorus was “[i]t’s my party, and I‘ll cry if I want to, …you would cry too if it happened to you.” Well, the term “party” is not limited to describing a social gathering of invited guests; it also includes an individual or entity that agrees to be contractually bound to one or more other individuals or entities, each of whom is known as a “party,” and all of whom thereby obtain the specified benefits and assume the specific burdens set forth in the resulting contract. But “crying” is a possible consequence of the failed expectations of a contractual relationship just as easily as it is from a romantic one.

The United States Court of Appeals for the Eighth Circuit recently had occasion to consider who was the actual “party” to a contract where one of the original parties assigned all of its economic benefits arising from the contract to another entity (without that entity becoming a substituted or an additional party), and the contract was thereafter terminated by the other party to the contract. It is unknown whether there was any actual crying that resulted from the loss of the future benefits by the assignee (but non-party) to the contract as a consequence of the termination of this contract, but there are definite lessons to be derived from this case by deal professionals and their counsel.

ACI Worldwide Corp. v. Churchill Lane Associates, LLC, No.16-1736 (8th Cir. Jan. 27, 2017) involved a Licensing Agreement between Nestor, Inc. (“Nestor”) and ACI Worldwide Corp. (“ACI”). Pursuant to the Licensing Agreement, Nestor licensed its software to ACI and ACI was permitted to “use, modify, enhance, market, sublicense, maintain and support” the licensed software. All of the software and any improvements made by ACI, however, continued to be owned by Nestor. The Licensing Agreement required that ACI pay royalties to Nestor for the license equal to “fifteen percent of the fees paid by ACI’s customers to use the new technology.” Importantly for later events, the Licensing Agreement also provided that (a) “the Licensing Agreement can be terminated unilaterally by one party if the other party becomes insolvent, transfers all of its assets, or otherwise ceases to conduct business,” (b) ACI would remain liable for royalties respecting “any sublicenses granted by ACI prior to termination,” and (c) “this Agreement may be amended only by the consent of both parties.”

Nestor later assigned the royalty stream arising out of the Licensing Agreement to Churchill Lane Associates, LLC (“Churchill”), with ACI’s express written consent. In connection with that assignment, Nestor entered into a Servicing Agreement with Churchill, whereby Nestor agreed not to amend the Licensing Agreement without Churchill’s consent. But Churchill did not acquire Nestor’s underlying ownership of the software, nor did Churchill become an actual “party” to the Licensing Agreement, or obtain ACI’s agreement not to amend the Licensing Agreement without Churchill’s consent.

Nestor later became insolvent and was made the subject of a receivership. The receiver sold all of Nestor’s remaining rights in the Licensing Agreement and the underlying software to American Traffic Solutions (ATS”).  ACI thereafter sought to purchase from Churchill its rights to the royalties payable by ACI to Churchill under the Licensing Agreement. When Churchill refused to sell, ACI purchased from ATS the rights and interests in the software and Licensing Agreement ATS had acquired from Nestor. Then, the day after ACI acquired Nestor’s rights and interests in the software and Licensing Agreement from ATS, ACI executed a Termination of License Agreement purporting to act as both the Licensor (Nestor/ATS/ACI) and the Licensee (ACI) stating that “Licensor and Licensee hereby terminate the Licens[ing] Agreement as of the Effective Date and agree that all provisions of the Licens[ing] Agreement that were designed to survive termination are likewise terminated.” Shortly thereafter ACI notified Churchill that the Licensing Agreement was no longer in effect and that Churchill’s rights to the ongoing royalty stream had ended.  Ouch!!!

Churchill obviously cried foul and alleged that its consent was required for any termination or amendment of the Licensing Agreement. ACI then sought a declaratory judgment that its termination was valid and no further royalties were due to Churchill.

The District Court granted summary judgment in favor of ACI holding that, because Churchill was not a “full party” to the Licensing Agreement, (a) Nestor’s insolvency and sale of all of its assets permitted ACI to unilaterally terminate the Licensing Agreement, and (b) ACI did not need Churchill’s permission to amend the Licensing Agreement to eliminate the provision that provided that the royalty stream from pre-termination sublicenses would continue in favor of Churchill post termination.  Again, Ouch!!!

On appeal, the Eighth Circuit agreed that Churchill was not a “full party” to the Licensing Agreement, but nonetheless concluded that its rights (as an assignee of the royalty stream) could not be amended to eliminate Churchill’s post termination royalties arising from sublicenses granted prior to termination because (a) ACI was fully aware of and had consented to the assignment to Churchill, and (b) the law applicable to a contract assignee under such circumstances is that such an assignee “is not liable to be prejudiced by any new dealings between the original parties to the contract.” However, because Nestor, not Churchill, remained the counterparty to ACI under the Licensing Agreement, Nestor’s insolvency and sale of assets did trigger ACI’s termination right and Churchill was thus deprived of all future royalties derived from sublicenses entered into after the effective date of the termination. And this was true notwithstanding that ATS and then ACI had effectively replaced Nestor as the counterparty to the Licensing Agreement at the time of the termination. The court concluded that the proper time for determining Nestor’s status as a “party” was the time when the event occurred that gave rise to the termination right (when Nestor became insolvent), not the time when ACI exercised its termination right (and then owned all of Nestor’s rights under the Licensing Agreement).

So, Churchill got part of its royalties back on appeal, based on its assignee status (and the law requiring a recognized assignee to consent to any modification, by the original parties to the contract, of the assignee’s rights). But Churchill still lost all future royalties from new sublicenses granted after termination because Nestor was still the “party” that mattered for the termination provision.

Obtaining an assignment of contract rights, without becoming an additional or substituted “party” to the contract, and without reviewing the entire contract to determine amendments that are required to ensure that the benefits of the assigned rights remain effective and directly enforceable by the assignee, is fraught with peril. Indeed, in determining that Churchill was not a full party to the contract despite an amendment (Amendment 4) that recognized Churchill’s rights to the royalties, the court noted that:

[I]f the parties had intended for Churchill to become a full party to the Licens[ing] Agreement, they could have expressly stated as much in Amendment 4.  Instead Amendment 4 states only that Section 3.3 of the Licens[ing] Agreement will apply to Churchill and does not mention other provisions.  The omission suggests that the parties did not intend to modify the Licensing Agreement to apply all provisions to Churchill. … Furthermore, if Churchill became a full party to the Licens[ing] Agreement, many of the provisions referring to the rights of two parties would make little sense.  For example, the amendment provisions states that “this Agreement may be amended only by the consent of both parties.”  Also Section 11.8, which concerns where notices may be sent, lists only the names of Nestor and ACI. Hence as far as express contractual rights are concerned, Churchill possesses only those rights identified by Amendment 4.  Therefore, Churchill is not a full party to the entire Licensing Agreement.

If all of this sounds hyper-technical, welcome to the world of contracts. Indeed, if Churchill, in connection with Churchill’s acquisition of the royalties from Nestor, had required that the Licensing Agreement be amended to add it as a party, clarifying that all three parties were required to amend the Licensing Agreement, and that any termination of the Licensing Agreement based on the insolvency of a party required the consent of both of the other parties, Churchill may still been enjoying the full future benefits of the purchased royalty stream.

When obtaining an assignment of rights under a contract, it is imperative that the contract, with respect to which those rights are assigned, is carefully reviewed to determine any amendments that may be necessary so that the assignee is the “party” that matters for any subsequent modification or termination of that contract that could in anyway impact those assigned rights. If you skip that step, you can cry if you want to, but it won’t make you a party, nor will it make it your party; instead you may find yourself only at the party, with the actual parties determining to eject you from that party.