PA Federal Business Decisions Volume 13, No. 1

Business Litigation Update

Bridget M. Gillespie and Henry M. Sneath, Business Decisions Editors [Originally published in the Winter 2008 edition of the Pennsylvania Bar Association's Civil Litigation Update]

Majority Shareholder Not A Third-Party Beneficiary To Contract With Corporation

In Tredennick v. Bone, Martin, Zuber, Cupersmith, Picciano, Wick, and Vida t/d/b/a KPMG, LLP, and Hudock, 2007 U.S. Dist. LEXIS 87941 (W.D. Pa. 2007), plaintiff, Joann Tredenneck, filed suit against the defendants, alleging malpractice, breach of contract, negligence, fraud and negligent misrepresentation.

Plaintiff was the majority shareholder of Resco Products, Inc. ("Resco"), owning approximately 92% of Resco's capital stock. Plaintiff also served as Chair of Resco's Board of Directors and was a member of Resco's Audit Committee. Resco had entered into a contract with KPMG for tax advice and recommendations in contemplation of the possible sale of Resco. The individual KPMG defendants were the specific representatives of KPMG who performed services for Resco, and defendant Hudock was Resco's in-house Corporate Tax Manager.

In early 2005, defendants prepared a confidential offering memorandum which was to be made available to potential buyers of Resco. The memorandum stated that certain tax deductions related to the sale of Resco were estimated to be worth approximately $20 million. At about the same time, defendants advised Resco to pay certain liabilities on or after March 16, 2005. The effect of making these payments after March 16, 2005 was that Resco's shareholders could not deduct these payments; instead a buyer of Resco could deduct these payments and realize a tax benefit if the sale closed in 2005.

Resco was acquired in September 2005, and the tax benefits of the payments made by Resco accrued to the buyer of Resco, rather than to the plaintiff and the remaining shareholders of Resco. At the time of the closing, Resco also made additional payments of accrued bonuses and deferred compensation based on the advice of defendants. These payments were also deductible by the buyer and not the shareholders of Resco.

Due to the timing of the above referenced payments and the accrual of tax benefits to the buyer of Resco rather than to plaintiff as shareholder, plaintiff contended that she incurred over $900,000 in state and federal tax liability.

Plaintiff asserted, inter alia, a breach of contract claim against KMPG, asserting that she was a third-party beneficiary to the contract between KPMG and Resco. KPMG filed a motion to dismiss, asserting that plaintiff did not have a contract with KPMG for tax services and could not be considered a third-party beneficiary to KPMG's contract with Resco.

KMPG asserted that plaintiff could not be a third-party beneficiary to the contract between KMPG and Resco because the contract expressly disclaimed any intention of KPMG and Resco for plaintiff to be a third party beneficiary. The parties agreed that Pennsylvania law applied.

In evaluating plaintiff's breach of contract claim, the Court noted that Section 302 of the Restatement of Contracts provides:

(1) Unless otherwise agreed between promisor and promisee, a beneficiary of a promise is an intended beneficiary if recognition of a right to performance in the beneficiary is appropriate to effectuate the intentions of the parties and either

a. The performance of the promise will satisfy an obligation of the promise to pay money to the beneficiary; or

b. The circumstances indicate that the promisee intends to give the beneficiary the benefit of the promise performance.

Scarpitti v. Weborg, 609 A.2d 147, 150 (Pa. 1992) (quoting Restatement (Second) of Contracts § 302(1) (1979)) (emphasis added). In Scarpitti, the Pennsylvania Supreme Court acknowledged that a party can be a third-party beneficiary "only where both parties to the contract express an intention to benefit the third party in the contract itself." Scarpitti at 149-50.

In the instant case, the Court also noted that a party cannot be a third-party beneficiary where the contract specifically states that the contract is not intended to create third-party beneficiaries. See, e.g., Banknorth, N.A. v. BJ's Wholesale Club, Inc., 442 F.Supp.2d 206, 210-211 (M.D. Pa. 2006).

Paragraph 8(a) of the agreement between Resco and KPMG specifically provided:

"[C]lient acknowledges and agrees that any advice, recommendations, information or work product provided to Client by KPMG in connection with this Engagement is for the confidential use of the Client, [and]may not be relied upon by any third party ..."

(emphasis added).

In dismissing plaintiff's breach of contract claim, the Court held that, despite plaintiff's majority interest in Resco, because the parties to the contract explicitly provided that no third parties could rely on the tax advice KPMG provided, plaintiff could not successfully claim to be a third-party beneficiary. The Court also dismissed plaintiff's remaining claims for failure to state a claim upon which relief could be granted.

Court Denies Defendant's Motions to Dismiss Plaintiff's Breach of Contract Claims

In Tartan Software, Inc. v. DRS Sensors & Targeting Systems, Inc., 2007 U.S. Dist. LEXIS 75657 (W.D. Pa. 2007), the District Court for the Western District of Pennsylvania denied the defendant's Rule 12(b)(6) and 12(b)(1) Motions to Dismiss Plaintiff's Complaint for breach of contract concerning two license agreements.

The first license agreement was between Defendant and Texas Instruments Incorporated ("Texas Instruments"), which was not a party to this lawsuit (the "DRS license"). Under the DRS license, Plaintiff alleged that Defendant was granted a non-exclusive license to sublicense certain technology in exchange for a sublicense fee. Plaintiff alleged that the license included a version of the Tartan Ada Development System software ("TADS").

The second license involved a product license and transfer agreement between Texas Instruments and Jeffrey Farbacher t/d/b/a Tartan Software, Inc. (the "Farbacher license"). Under the Farbacher license, Plaintiff alleged that Farbacher subsequently assigned his rights to Plaintiff. Accordingly, pursuant to the Farbacher license, Plaintiff claimed that it obtained the worldwide license to use, support, maintain and modify TADS and to market, distribute and sublicense TADS products. Plaintiff additionally alleged that pursuant to the Farbacher license, Texas Instruments transferred to Plaintiff all of the rights and claims that Texas Instruments had against third parties based on TADS licensing and/or maintenance fees owed to Texas Instruments.

Defendant moved to dismiss under Fed. R. Civ. P. 12(b)(1) for lack of standing. Defendant argued that there was no privity of contract between Defendant and Plaintiff under the DRS license, and that Plaintiff had no enforceable or binding assignment from Texas Instruments that would allow Plaintiff to stand in the place of Texas Instruments under the DRS license. Defendant also claimed that Plaintiff lacked standing because it failed to show that the Farbacher license was assigned to Plaintiff or that Plaintiff had any right to pursue contract claims for unpaid fees allegedly owed by Defendant to Texas Instruments. Defendant also alleged that Plaintiff's claim was preempted by the Copyright Act.

In reviewing a motion to dismiss pursuant to Rule 12(b)(1), the court must distinguish between facial attacks and factual attacks. A facial attack challenges the sufficiency of the pleadings, and the court accepts a plaintiff's allegations as true. In contrast, when considering a factual attack, the court does not accord a plaintiff's allegations any presumption of truth. In a factual attack, the court must weigh the evidence relating to jurisdiction, with discretion to allow affidavits, documents, and even limited evidentiary hearings.

The court found that Defendant's 12(b)(1) motion was a factual attack since Defendant did not challenge the sufficiency of the pleadings in its motion, but argued that (1) there was no evidence of a valid assignment from Farbacher to Plaintiff and (2) the language of the Farbacher license did not entitle Farbacher or Plaintiff to seek damages from Defendant. As such, the court weighed the evidence related to jurisdiction, and found that Plaintiff must be given an opportunity to present evidence in support of its jurisdictional claims.

The remaining issue was whether the breach of contract and specific performance claims were among the exclusive rights of copyright provided for under Section 106 of the Copyright Act. Relying on Dun & Bradstreet Software v. Grace Consulting, Inc., 307 F.3d 197 (3d Cir. 2002), the court found that "if a state cause of action requires an extra element, beyond mere copying, preparation of derivative works, performance, distribution or display, then the state cause of action is qualitatively different from, and not subsumed within, a copyright infringement claim and federal law will not preempt the state action."

The court found that a promise to pay constituted a right that has no equivalent under the Copyright Act, and, as such, was not preempted by the statute. As set forth in 17 U.S.C. § 301(a), the Copyright Act preempts only rights, not remedies. Therefore, the court could not conclude that Plaintiff's claim was preempted simply because the DRS license provided a remedy for breach of contract that was also provided pursuant to the Copyright Act.

Court Denies Motion for Summary Judgment Filed Pursuant to Federal Marking Statute

In Heraeus Electro-Nite Co. v. Midwest Instrument Company, Inc., 2007 U.S. Dist. LEXIS 84408 (E.D. Pa. Nov. 14, 2007), defendant filed a motion for summary judgment to limit plaintiff's damages for patent infringement pursuant to the Marking Statute (35 U.S.C. § 287(a)). Defendant argued that even if plaintiff was successful on its infringement claim, plaintiff's damages would be limited to acts of infringement occurring after the date that defendant received actual notice of the alleged infringement, which was the date plaintiff filed the suit. The issue to be decided was whether or not plaintiff had failed to comply with the Marking Statute's requirements of providing constructive notice of the alleged infringement by failing to mark its patented product with a patent number. The court denied defendant's motion.

Plaintiff alleged it owns a patent for immersion probes which are used for measuring the temperature and oxygen content of molten steel. To take a measurement, a probe is attached to a lance and then immersed in the molten steel for less than 10 seconds. The immersion process burns and destroys the probe. Thus, it is discarded after one use. The probes are used by factory workers in steel mills, wearing protective gear, including fire retardant clothing, face shields and safety goggles. The probes are shipped to the mills on a pallet in boxes, with 20 probes in a box. They are never shipped individually or separately from their packaging. Further, it takes less than a minute to prepare a probe for immersion after it is removed from its box. Plaintiff contended that the probes were stored in their boxes, while defendant contended that at many steel mills, the probes are removed from their packaging and stored in barrels.

Plaintiff admitted that it had never marked any of its probes with patent information. Instead, it marked the patent number on the boxes in which the probes were packaged. The court noted that this was consistent with common industry practice and that defendant frequently marked its own packaging, as opposed to its products, with applicable patent information. However, the facts showed that plaintiff had marked a small number of its immersion probes with other information such as its trade name, a four digit internal part code, a size identifier, a date code sticker and an internal press date code.

In interpreting the Marking Statute, the court explained that the statute limits the amount of damages a patentee can recover in a patent infringement suit to those acts of infringement that occurred after the patentee gave the alleged infringer notice of the infringement. The statute permits either constructive notice, which is accomplished by marking the article with the patent number, or actual notice of the alleged infringement. The court also noted that to comply with the requirement of constructive notice, a patentee must consistently mark substantially all of the patented products. Compliance with the marking statute is a question of fact, and the patentee bears the burden of proving compliance by a preponderance of the evidence.

Defendant argued in its motion that plaintiff failed to comply with the Marking Statute because it never marked any of its probes with its patent number. Additionally, defendant contended that as a matter of law plaintiff could not satisfy the Marking Statute's requirements by placing the patent number on the packaging for the probes because plaintiff had marked its probes with other information. The court disagreed.

The court cited a U.S. Supreme Court decision, Sessions v. Romadka, 145 U.S. 29, 12 S. Ct. 799 36 L. Ed. 609 (1892), for the proposition that the focus of the court's inquiry is on whether the method of marking provided notice rather than whether defendant precisely complied with the statute. Further, the court stated that numerous courts have found that placing patent numbers on a product's packaging complies with the Marking Statute, even where the patentee could have plainly placed the patent number on the product itself.

The court rejected defendant's invitation to apply prior precedent which holds that when a patented product has markings or printing on it, other than appropriate patent information, marking the product's packaging is insufficient. The court reasoned that none of those cases were binding and that they all involved products that were used over and over again. Also relevant to the court was the fact that the users of the immersion probes were not in a position to read patent information on the probes themselves due to the nature of their protective gear.

Accordingly, the court held that given the record and lack of controlling authority to support defendant's position, it could not find as a matter of law that plaintiff failed to provide constructive notice pursuant to the Marking Statute because it merely marked the probes' packaging with the patent number while it marked other information on the probes themselves. The court thus concluded that a reasonable jury could find that marking the probes' packaging complied with the Marking Statute, based on the evidence presented by plaintiff under the particular facts of this case.

--Contributed by Kelly A. Williams, Esquire, Picadio Sneath Miller & Norton, P.C., Pittsburgh; kwilliams@psmn.com

Henry M. Sneath and Bridget M. Gillespie are partners in the litigation firm Picadio Sneath MiIIer & Norton, P.C. in Pittsburgh. They have extensive Federal and State court trial experience in cases involving commercial disputes, professional negligence, products liability, intellectual property and insurance coverage.