District Court Finds Joint Venturer Not “a Subsidiary” As Defined in License Agreement

In Nano Proprietary, Inc. v. Canon, Inc., Case No. A-05-CA-258-SS (W.D. Tx. November 14, 2006), Nano owns patents on electron field emission display (FED) devices, which are used in flat screen televisions.  In 1998, Nano approached Canon, proposing to enter a joint development and licensing agreement for Canon and its subsidiaries to use Nano’s technology to develop flat screen displays.  Canon initially rejected Nano’s offer.  Instead, Canon and Toshiba began to negotiate a joint venture to make flat screen displays using a subset of FED technology called ‘SED’.  Nano contends that SED devices are covered by the FED patents.

While conducting secret negotiations with Toshiba, Canon returned to Nano and obtained a non-exclusive, non-transferable right to use Nano’s FED patents.  This Patent License Agreement prohibited sublicensing, but permitted Canon to share the technology with subsidiaries.  The license agreement specifically defined a subsidiary as any company or entity which Canon “(a) owns or controls directly or indirectly more than fifty percent (50%) … of the outstanding stock conferring the right to vote at general meetings; or (b) has the right to elect the majority of the board of directors or its equivalent; or (c) has the right directly or indirectly to appoint or remove management.”  Nano was unaware at the time of the Patent License Agreement that Canon and Toshiba were close to finalizing their joint venture.

On June 13, 1999, Nano learned of the planned joint venture, and notified Toshiba that it would need a license to use Nano’s FED patents.

In 2004, Canon-Toshiba formed a joint venture to produce the SED, with Canon holding one more share of voting stock than Toshiba.  Nano sued Canon in the Western District of Texas, alleging 1) fraudulent inducement, 2) fraudulent non-disclosure, and 3) breach of the covenant of good faith and fair dealing; 4) seeking a declaratory judgment that SED is not a subsidiary, and thus not covered by the licensing agreement, and 5) alleging breach of contract.  Defendant Canon moved for summary judgment on claims three, four, and five, arguing that these claims must fail because SED is a subsidiary under the Canon-Nano license agreement, and its activities are therefore within the scope of the Patent License Agreement.

 In forming SED, Inc., Canon and Toshiba agreed that each would select and nominate an equal number of directors. Also, both Canon and Toshiba agreed that both must consent to major business decisions made by SED Inc.  Both parties also agreed that Canon will, at all times, own exactly one more share of SED’s common voting stock than Toshiba.  As such, Canon theoretically had more than 50% of the “voting stock such that SED Inc. was a subsidiary.

The District Court found that SED was not a subsidiary of Canon.  Specifically, although Canon owns more than 50% of the “voting stock,” Canon agreed not to vote against Toshiba’s interest in their Joint Venture Agreement.  Under New York Law, Canon’s stock is therefore no longer “stock conferring the right to vote at general meetings” even if this change is not reflected in SED’s Charter of Incorporation.  The Joint Venture Agreement also prevents Canon from electing a majority of the board and from controlling management.  Thus the court found that SED. Inc. is not a subsidiary as defined by the Nano-Canon Patent License Agreement.

The District Court also recognized the broader equitable principle that corporate form will not be regarded when to do so would work fraud or injustice.  In this instance, the Court found that Canon’s characterization of SED as a subsidiary “… simply can’t pass the smell test. Canon has bargained away its voting rights in SED.  Dead fish don’t swim, dead dogs don’t hunt, and Canon’s dead voting rights don’t give it a “majority of the shares entitled to vote” in SED.”’

Because SED met none of the license’s definitions of a subsidiary, Canon’s motion for summary judgment was denied.  A trial date is set for March 2007.

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