The key litigated issue in Lewis Brothers Bakeries Inc. v. Interstate Brands Corp. was whether a license agreement between the debtor-licensor and non-debtor licensee was an executory contract subject to assumption or rejection under section 365(a) of the Bankruptcy Code (11 U.S.C. § 365(a)).

In 1996, Interstate Bakeries Corporation, through its subsidiary, Interstate Brands Corporation, entered into an asset purchase agreement and license agreement with Lewis Brothers Bakeries, Inc. (LBB). The license agreement granted to LBB a perpetual, royalty-free, assignable, transferable and exclusive license to use Interstate Bakeries' brands and trademarks in specified territories.

On September 2004, Interstate Bakeries and its subsidiaries and affiliates filed for reorganization under Chapter 11 of the Bankruptcy Code. In November 2008, Interstate Brands filed an amended plan of reorganization and contended that the license agreement with LBB was an executory contract subject to assumption by the bankrupt estate under section 365. LBB filed an adversary proceeding within the bankruptcy case for a declaratory judgment that the license agreement was not an executory contract.

The bankruptcy court held that the license agreement is an executory contract under section 365 because both Interstate Brands and LBB maintained obligations to each other under the agreement. Specifically, the bankruptcy court found that:

The district court affirmed, noting that the plain language of the agreement revealed that the non-debtor licensee, LBB had a continuing, material obligation to maintain the character and quality of goods it sold under Interstate Brands' marks.

On August 30, 2012, the US Court of Appeals for the Eighth Circuit issued a decision affirming the district court's ruling. The Eighth Circuit held that the parties' license agreement is an executory contract because Interstate Brands and LBB each had at least one remaining material obligation under the agreement.

In the Eighth Circuit, an agreement is an executory contract under section 365 when the respective obligations of each of the debtor and non-debtor parties to the contract are so far non-performed that the failure of either to complete performance would constitute a material breach excusing the other party's performance. This standard is known as the Countryman test. Under the mutuality requirement of this test if, for example, the non-bankrupt party has fully performed its obligations but the debtor has performed partially or not at all, the contract is not executory. Although the adoption and application of the Countryman test is a question of federal law, the Eighth Circuit still considers relevant state law that addresses whether a particular type of contract is executory.

The Eighth Circuit rejected LBB's argument that each party to the agreement substantially performed its obligations, leaving no further material duties. Based on the plain language of the agreement, the court found that both parties still had material obligations to each other:

The Eighth Circuit also dismissed LBB's argument that Interstate Brands should be estopped from contending the agreement is executory because it treated the agreement as a fully-completed sale. The court found that LBB could not establish the first element of its estoppel claim − that a promise was made for the sale of the trademarks − because the license agreement explicitly states that Interstate Brands is granting a license to LBB for the trademarks, not selling the trademarks to LBB.

In this decision, the Eighth Circuit explains the circumstances under with a trademark license agreement may be considered an executory contract under section 365. Parties entering bankruptcy or dealing with a party who is entering bankruptcy should be aware that a license agreement under which both parties maintain at least one material obligation will, absent special circumstances, be deemed an executory contract and therefore subject to assumption or rejection under section 365.