Header graphic for print

Trading Secrets

A Law Blog on Trade Secrets, Non-Competes, and Computer Fraud

European Parliament Debates Proposed Trade Secrets Directive

Posted in International, Legislation, Trade Secrets

shutterstock_102405310As we have previously reported in this blog, this week marks a milestone in ongoing attempts in the European Union to overhaul the existing regulatory framework for the protection of trade secrets.  Earlier today, members of the European Parliament debated the compromise text of the proposed Directive to protect trade secrets.  A full recording of the debate can be found here.

Today’s debate came on the heels of a press conference earlier in the day by MEP Constance Le Grip (European People’s Party — France), the rapporteur who has shepherded the proposed directive in the European Parliament for the past 18 months.  For those who have been following the proposed Directive, Ms. Le Grip’s comments provide an interesting explanation of the varying political considerations that produced the compromise text, including balancing the concerns of businesses and the rights of workers.

Questions posed by journalists at the press conference are perhaps more interesting.  If the questions posed by journalists (as well as the comments by many MEPs during the debate) are any indication, considerable opposition exists to the proposed directive.  While business groups and many MEPs have largely welcomed the proposed directive, other MEPs and some interest groups have expressed concern that the proposed directive will be used by companies to stifle whistleblowers and journalists.  Notably, the compromise text already includes language that expressly guarantees protection of whistleblowers, freedom of the press, and other fundamental rights, as follows:

Member States shall ensure that the application for the measures, procedures and remedies provided for in this Directive is dismissed when the alleged acquisition, use or disclosure of the trade secret was carried out in any of the following cases:

(a) for exercising the right to freedom of expression and information as set out in the Charter of Fundamental Rights of the European Union, including respect for freedom and pluralism of the media;

(b) for revealing a misconduct, wrongdoing or illegal activity, provided that the respondent acted for the purpose of protecting the general public interest;

(c) the trade secret was disclosed by workers to their representatives as part of the legitimate exercise of their representative functions in accordance with Union or national law, provided that such disclosure was necessary for that exercise;

(e) [sic] for the purpose of protecting a legitimate interest recognised by Union or national law.

See Proposed Directive [compromise text], Art. IV.   Yet despite this language, opponents of the proposed directive have argued that the directive does not go far enough in protecting whistleblowers.   Whether such concerns are wide enough to scuttle the proposed directive remains to be seen.      

A full vote on the proposed directive is scheduled for tomorrow.  For up-to-date coverage of the proposed directive, please look for an update in this blog following tomorrow’s vote.

Hidden Details: Thoughts on Trade Secrets From the UK

Posted in Legislation, Trade Secrets

shutterstock_281616815

As a special feature of our blog—special guest postings by experts, clients, and other professionals—please enjoy this blog entry from Jeremy Morton, an English solicitor who advises in the areas of intellectual property and data protection law. 

As reported recently by Seyfarth Shaw’s lawyers in this very blog, on 13 April the European Parliament will vote on the EU Commission’s proposed trade secrets directive.  Many English legal practitioners, more or less familiar with our non-statutory protections for confidential information, will assume that nothing will change when the directive is implemented.  We already protect trade secrets pretty well, unlike other EU countries for whom reform is seen as essential in order to fill legislative voids.  But if we look more closely at the EU proposals, we find plenty of uncertainties that could arise under the EU proposals.

For starters, the English law of breach of confidence is not limited to ‘trade secrets’.

Why does it matter?

This is important not only to provide certainty for business that confidential information will be protected, but to provide comfort that businesses won’t be hit with a rush of unmeritorious claims.  The draft directive tackles that, in Article 6(2), providing that defendants should be able to ask the court for appropriate relief where a claim is “manifestly unfounded and the applicant is found to have initiated the legal proceedings abusively or in bad faith”.  We currently deal with abuse of process through sanctions such as striking-out or adverse costs awards.  But the draft directive provides that such measures may include an award of damages.  Like the current sanctions for unjustified threats in connection with intellectual property rights in the UK, this will be a trap for the unwary.

Perhaps the biggest uncertainty arises from the role of the European Court of Justice (CJEU).  When the Directive is in force, the CJEU will have jurisdiction to determine the outcome of cases where the correct interpretation of the Directive is unclear.  That will mean that the English courts will have to apply CJEU decisions, as well as themselves referring issues to the CJEU.  Our law will change.  And trade mark practitioners know how difficult things can become when one has to follow CJEU jurisprudence.

What is a Trade Secret?

Let’s look briefly at the current position in English law.  Information will be protected where it has the necessary quality of confidence and provided it has been communicated in circumstances importing an obligation of confidence.  It does not have to be a ‘trade secret’.  This equitable protection for confidentiality is separate from other measures such as contract law, the Data Protection Act, the Computer Misuse Act, database right and copyright.  It has also developed into the relatively new area of privacy protection.

Employees are under an implied duty of good faith which imports contractual obligations of confidentiality under English law.  But after their employment ends they need only preserve ‘trade secrets’, and may use information having a lesser degree of confidentiality, subject to their restrictive covenants.  For example, customer details might be protected during employment but not after.  What is a ‘trade secret’?  We may feel that we would know it when we see it.  Confidential chemical formulae sound like ‘trade secrets’, for example.  The well-known Faccenda Chicken case provides guidance here: for example, we should look at the nature of the employment, and whether the information can be easily isolated from other, non-confidential information.

Recital 1 of the draft directive gives several examples of potential trade secrets: technology; customers/suppliers (in contrast with Faccenda Chicken where customer details were not ‘trade secrets’ after employment ended); business plans; market research.  More interesting is the following cumulative definition of a “Trade Secret” in Article 2(1):

“…secret in the sense that it is not … generally known among or readily accessible to persons within the circles that normally deal with the kind of information in question…

…has commercial value because it is secret…

…has been subject to reasonable steps under the circumstances, by the person lawfully in control of the information, to keep it secret”

Alarm bells are gently tinkling.  Not only is this very different from the Faccenda Chicken guidelines, but it introduces the Euro-speak notion of “circles that normally deal with the kind of information” (how do we establish who they are?), and requires a direct link between secrecy and commercial value.  Would this cover information to which employees have access because of their employment, during the term of that employment, even if not a ‘trade secret’ in the English sense?  What about a famous author, who publishes a new book under a pseudonym for artistic reasons, but whose true identity is then revealed by a trusted intermediary against their wishes?  That information arguably has more commercial value once in the public domain (although less personal value).

Also, since this directive will be concerned with “trade secrets”, does it permit the English courts to continue to protect ‘lesser’ confidential information that does not meet the “trade secret” threshold, or does it do away with such protections?  That would be surprising.  It does say (in Article 1(2a)(a) and (b)) that “in relation to the exercise of mobility of employees”, nothing in the directive offers any ground for limiting employees’ use of information not constituting a trade secret as defined in the directive,  or limiting their use of experience and skills honestly acquired in the normal course of their employment.  This seems to preserve the protections for employees under Faccenda Chicken.

Springboard Relief

The other aspect of the new legislation that will be fascinating to see unfold is its take on springboard relief.  This is where a defendant has gained a head-start by using confidential information, even if they are no longer using it as such or it is no longer confidential.  It’s a tricky area, which the English courts have discretion to tackle via the terms of any injunctive relief granted.

Article 11 of the draft directive sets out the available measures that a court may order against a defendant.  These include “the prohibition to produce, offer, place on the market or use infringing goods”.  “Infringing goods” has a special meaning here, as defined in Article 2, namely: “goods whose design, characteristics, functioning, manufacturing process or marketing significantly benefits from trade secrets unlawfully acquired, used or disclosed”.  What remains unspoken here is, first, the extent to which (if any) those goods must continue to embody any aspect of the trade secrets in question; secondly, whether the information must still be a trade secret at the time relief is granted; and thirdly whether “unlawfully” means only in breach of the trade secrets laws implementing the directive, or could include other unlawful steps under national laws.  There is plenty of room for argument on this.

Summing up, many details are far from clear (unsurprisingly), and astute English lawyers will have plenty to get their teeth into with this new legislation.  Judges in other countries may be less eager to grapple forcefully with protection of trade secrets, potentially leading to forum shopping in favour of the English courts.  And let’s not even talk about Brexit…

Jeremy Morton is an English solicitor who advises in the areas of intellectual property and data protection law.  www.harbottle.com/jeremy-morton

 

Webinar Recap! New Year, New Progress: 2016 Update on Defend Trade Secrets Act & EU Directive

Posted in Trade Secrets

shutterstock_269909327We are pleased to announce the webinar “New Year, New Progress: 2016 Update on Defend Trade Secrets Act & EU Directive” is now available as a podcast and webinar recording.

In Seyfarth’s third installment of its 2016 Trade Secrets Webinar series, Seyfarth attorneys Robert Milligan, Justin Beyer and Daniel Hart, provided attendees with a thorough discussion of the fundamentals as well as latest updates on the Defend Trade Secrets Act and the proposed EU Trade Secrets Directive. The panel gave insight into the limitations and benefits of the Act and the proposed Directive.

Below are three takeaways from the well-received webinar:

  • With the passage of the Defend Trade Secrets Act by the U.S. Senate, look for the House to act on the bill before the election. The House bill presently has 127 supporters. The President has already indicated that he will sign the Senate’s version of the bill. There are significant additions to the Senate bill that are not presently contained in the House bill, including a whistleblower immunity provision, a shorter statute of limitation (3 years v. 5 years), lower exemplary damages (2 times v. 3 times actual damages), as well as increased criminal penalties for a violation of the Economic Espionage Act and it also includes portions of the DTSA as predicate offenses for the RICO Act.
  • Because the Senate’s version of the Act contains language requiring that an employer include information relating to whistleblower immunity for employers to obtain exemplary damages, it is important for employers to monitor the final bill and determine how, if at all, the reconciliation process addresses this language as it relates to employers’ pre-existing employment contracts. Further, and to the same point, assuming the Bill passes, employers will need to evaluate whether offering supplemental language through a notice relating to the whistleblower immunity provision (which would be appended to an employment agreement) is sufficient to trigger the Senate’s exemplary damage language or whether they will need to enter into new agreements. This only underscores an important point to anyone maintaining employment agreements which contain restrictive covenants: it is imperative for employers to monitor applicable state and federal law to best preserve and maintain their rights and employment agreements.
  • Later this week, the European Parliament is scheduled to vote on the revised compromise text of the European Commission’s proposed directive on trade secrets protection. If the Parliament approves the proposed text (as it is widely expected to do on a first reading) and if the directive is approved by the European Council (as is also expected), the directive will mark a sea-change in protection of trade secrets throughout the European Union. Once approved, each of the EU’s 28 member states will have a period of 24 months to enact national laws that provide at least the minimum levels of protections afforded to trade secrets by the directive. Assuming that the directive is approved, look for greater consistency in trade secrets protection throughout the European Union in the years ahead.

Join us on Friday, April 29 at 12:00 p.m. Central for our next webinar, “Protecting Confidential Information and Client Relationships in the Financial Services Industry.”

Court Won’t Enjoin Physician Who Breached Non-Compete Covenant And Consented To Injunction

Posted in Non-Compete Enforceability, Restrictive Covenants

shutterstock_276022649A physician signed a non-compete covenant, agreed to be enjoined if he breached, and allegedly did breach. But when his former employer asked a Providence, Rhode Island Superior Court judge to enter an injunction, he refused to prevent patients from being treated by a doctor of their own choosing. Medicine & Long Term Care Associates, LLC v. Khurshid, Civil Action No. PC-2015-0458 (Mar. 29, 2016) (Silverstein, J.).

Summary of the case. MLTC is a Rhode Island provider of health care services principally to nursing home residents.   When Dr. Khurshid went to work for MLTC, he signed an employment agreement with a non-competition covenant.  Along with reasonable temporal and geographic limitations, it included (a) Dr. Khurshid’s acknowledgement that a violation would cause irreparable harm to MLTC, and (b) his consent to entry of an injunction in the event of a breach.  Several years later, he left MLTC but continued treating its clients.  The company sued him and sought, among other prayers, entry of an order preventing him from competing with MLTC.  Judge Silverstein ruled, however, that the requested order would violate Rhode Island public policy.

The judge’s reasoning. Judge Silverstein found that MLTC “alleged facts and presented evidence which otherwise might entitle it to injunctive relief.”  However, the judge said that case law in Rhode Island provides that courts may refuse to enter injunctions which “would injure members of the public.”  Further, he observed that Massachusetts has a statute precluding the entry of an injunction against doctors who sign restrictive covenants, and that courts in that state have described the statute as supportive of the “strong public interest in allowing patients to consult the physician of their choice.”

Rhode Island has no such statute, but Judge Silverstein ruled that the state’s public interest is similar to the one in Massachusetts. He noted that in 2000 a Rhode Island Superior Court judge held that enforcement of a non-compete clause signed by a veterinarian would not impose “an undue hardship on the pets of Rhode Island.”  Judge Silverstein added that MLTC could “seek legal redress for its injuries” if it proved its allegation that Dr. Khurshid’s breach caused substantial monetary losses to the company.

Takeaways The judge found that, even though the subject has not previously been addressed by Rhode Island’s courts or its legislature, he would not enter an injunction against physicians who sign non-compete covenants.  He added that MLTC could seek compensatory damages from Dr. Khurshid.  Might the risk of facing a large monetary judgment for violation of a non-compete discourage a breach and, thereby, lead to almost the same result as an injunction?

Issues that Judge Silverstein might have mentioned, but did not, include the following:

Courts in a majority of states probably would not agree with Khurshid.  According to the Supreme Court of Tennessee in Murfreesboro Med. Clinic, P.A. v. Udom, 166 S.W.3d 674, 680 (2005), most states “continue to apply a reasonableness standard in evaluating non-compete agreements between physicians, similar to the evaluation of covenants in commercial contexts.”  Only a few states — Colorado (Colo. Rev. Stat. 8-2-113), Delaware (6 Del. Code § 2707), and New Mexico (N. Mex.. Stat. 24-11.2) — have enacted laws similar to the Massachusetts statute.

Several state legislatures recently have rejected Massachusetts-type statutes. Bills providing that physician non-compete covenants are unenforceable have been introduced in the last year or two in Connecticut, Hawaii, Missouri, and Washington State, among others, but have failed to pass.

The AMA discourages, but permits, doctors to sign non-competes. Section E-902 of the American Medical Association’s Code of Ethics provides that doctors “should not enter into [restrictive] covenants that . . . do not make reasonable accommodation for patients’ choice of physician” (emphasis added).  Section E-902 does not prohibit such covenants.

MLTC had a protectable interest in an injunction. The non-compete covenant provided that irreparable damage would result to MLTC in the event of a breach.  In other words, the parties agreed that compensatory relief alone would be inadequate.  Further, the public policy seemingly would have been honored if the court had permitted Dr. Khurshid to continue seeing only those patients he previously treated.

The Khurshid decision suggests a number of questions.  For example, would Rhode Island’s public interest allow patients to choose healthcare providers who executed a non-compete with a prior employer but who do not have a medical degree?   Does the state’s public policy protect freedom of choice with respect to learned professionals other than healthcare providers, such as an investment advisor who signed a non-compete with a previous employer?  Perhaps future cases will provide answers.

You Can’t Put Lipstick On This Pig: Beauty Company’s Non-Compete Deemed Unenforceable

Posted in Non-Compete Enforceability, Restrictive Covenants, Trade Secrets

shutterstock_17677981On March 25, 2016, a Massachusetts Superior Court judge struck down skin care salon Elizabeth Grady Face First, Inc.’s (“Elizabeth Grady” or the “Company”) attempt to make its non-compete agreement seem prettier than it actually is.  In denying Elizabeth Grady’s motion for a preliminary injunction, the court stressed that employees’ conventional job knowledge and skills, without more, will not constitute a legitimate business interest worth safeguarding.  The case is Elizabeth Grady Face First, Inc. v. Garabedian et al., No. 16-799-D (Mass. Super. Ct. March 25, 2016).

Summary of the case.  Elizabeth Grady sought a preliminary injunction to enforce the non-compete provision in the employment agreements of former employees, who trained as aestheticians and massage therapists at its day spa in Burlington, Massachusetts.  While at Elizabeth Grady, the employees had signed agreements that prevented them from, among other things, copying, taking, disclosing or using any confidential information following their termination of employment, and from soliciting its customers or working for a competitor within 25 miles for one year following termination.  Upon resigning from Elizabeth Grady, the employees went to work at a skin care salon and day spa within the 25-mile radius.

In denying the requested injunction, the court noted that Elizabeth Grady presented no evidence that either former employee had copied, taken, disclosed, or used any confidential information, nor did the record even remotely suggest that the retail-level employees would have enjoyed access to sensitive materials of that nature.  The court further noted that there was likewise no evidence that the former employees had solicited any of Elizabeth Grady’s employees.  Therefore, the court focused Elizabeth Grady’s cause of action on the twenty-five mile non-compete restriction.

The focus of the court’s analysis was on the nature of employee’s duties and the training they received from Elizabeth Grady.  Specifically, the court indicated that although the Company alleged that it had trained its employees “in its skin care service techniques, client management procedures, and such other business methods as salon dress codes, gift certificates, appointments, and sales promotions,” it failed to present any evidence, or “even a common-sense inference,” that any of that information is truly proprietary to Elizabeth Grady, or was maintained in confidence.  The court stressed that although the Company’s agreement summarily asserted certain product development plans, marketing initiatives, and other business strategies represented confidential information to be protected, Elizabeth Grady did not present any evidence that showed that the former employees themselves actually enjoyed access to such information and therefore were in a position to exploit it.  Further undercutting Elizabeth Grady’s need to protect any of these trainings, which it referred to as the “Elizabeth Grady way,” as confidential was the fact that it taught a great deal of this training it now claimed to be proprietary to the public at its Elizabeth Grady Schools.

Lastly, recognizing that Elizabeth Grady enjoys a business reputation in the skin care industry, and its products and services draw clients to its salons on a repeat business, the court nevertheless found that there was no evidence that the former employees had any ongoing relationships with Elizabeth Grady clients or were otherwise soliciting or threatening to take business away from the Company.  Notably, the court stressed that even if there was evidence showing that Elizabeth Grady’s clients had begun to migrate to the former employees’ new day spa, “such evidence would still not (standing alone) permit a reasonable inference that the Company’s good will is being improperly appropriated.”  Rather, such evidence would show that, by traveling a greater distance to access the employees’ services, the customers feel loyal to the employees, and that true good will belongs to the employees as opposed to the Company.  The court likened this to Joymark v. Lockward, and Lunt v. Campbell, two other cases in which courts held that, in the hairdressing industry, the goodwill logically belongs to the stylist.

Accordingly, the court held that Elizabeth Grady had not presented any evidence to demonstrate that its non-compete agreement safeguards a legitimate business interest, such as the former employees possessed or exploited trade secrets, confidential information, or customer good will belonging to the Company.  Rather, the Company was simply attempting “to thwart ordinary competition from conventionally skilled service providers.”

Take-away.  Elizabeth Grady Face First, Inc. v. Garabedian reminds us that no matter how pretty you try to make a non-compete agreement, to be enforceable it must protect a legitimate business interest, not merely ordinary job skills and knowledge.

 

U.S. Senate Passes Bill Creating A Civil Cause of Action in Federal Court for Trade Secret Misappropriation

Posted in Legislation, Trade Secrets

shutterstock_267261659The U.S. Senate passed on a unanimous 87-0 vote the Defend Trade Secrets Act of 2016 late Monday.

The bill will create a civil cause of action in federal court for trade secret misappropriation and provide remedies that are not available in state court trade secret actions.

Like patents, trademarks, and copyrights, trade secret owners may seek redress for intellectual property theft based on a federal statutory right in federal court should the bill become law. Additionally, the bill provides for the availability of orders that will allow trade secret owners to have law enforcement seize stolen trade secrets without notice to the misappropriator upon a sufficient showing to the federal court.

The Obama Administration has indicated that it supports the Act. In a statement issued Monday, the Executive Office of the President stated that it “strongly supports” the legislation and its “more uniform, reliable, and predictable way to protect … valuable trade secrets.”

Attention will now shift to the House where there is strong bi-partisan support for a similar version of the Act. The House bill, sponsored by Reps. Doug Collins (R-Ga.) and Jerrold Nadler (D-N.Y.) presently has 128 sponsors.

Senators Orrin Hatch (R-Utah) and Chris Coons (D-Del.), the leading sponsors of the Senate bill, have indicated that the bill will harmonize federal law and give businesses more consistent legal protections when their trade secrets are stolen.

In their op-ed piece in Politco, Hatch and Coons stated that, “[m]aintaining the status quo is woefully insufficient to safeguard against misappropriation in today’s fast-paced innovation economy.”

The Senators added:

Trade secrets are the lifeblood of the American economy. Virtually all companies depend on trade secrets to protect their most valuable information and processes. The medical device industry, for example, dedicates enormous resources to the research and development of life-saving products; much of that investment is shielded as trade secrets. Businesses that provide IT infrastructure and data storage—the backbone of the innovation economy—get their competitive edge from proprietary designs and software principally defended by trade secret law. In today’s knowledge- and service-based economy, trade secrets are indispensable to protecting confidential, intangible assets. According to some estimates, trade secrets are worth $5 trillion to the U.S. economy, on par with patents. The loss from their misappropriation is substantial—between $160 billion and $480 billion annually.

The bill amends the Economic Espionage Act of 1996 to create a private civil cause of action for trade secret misappropriation.

Specifically, the bill authorizes a trade secret owner to file a civil action in a U.S. district court seeking relief for trade secret misappropriation related to a product or service in interstate or foreign commerce. It establishes remedies, such as an injunction, damages, attorneys’ fees and exemplary damages. The statute of limitation is set at three years from the date of discovery of the misappropriation.

A trade secret owner may apply for and a court may grant a seizure order to prevent dissemination of the trade secret if the court makes specific findings, including that an immediate and irreparable injury will occur if seizure is not ordered. A court must take custody of the seized materials and hold a seizure hearing within seven days. Any party harmed by the order may move to dissolve or modify the order and may also seek relief against the applicant of the seizure order for wrongful or excessive seizure.

The Department of Justice must submit to Congress and publish a biannual report on trade secret theft outside the United States.

The bill expresses the sense of Congress that: (1) trade secret theft occurs in the United States and around the world, (2) trade secret theft harms owner companies and their employees, and (3) the Economic Espionage Act of 1996 applies broadly to protect trade secrets from theft.

A new section was also added entitled “Trade Secret Theft Enforcement,” which increases the criminal penalties for a violation of 18 U.S.C. §1832 from $5,000,000 to the greater of $5,000,000  or 3 times the value of the stolen trade secrets to the organization, including the costs of reproducing the trade secrets. It also adds a provision that allows trade secret owners to be heard in criminal court concerning the need to protect their trade secrets.  It amends the RICO statute to add a violation of the Economic Espionage Act as a predicate act.

We recently conducted a webinar on the Act entitled New Year, New Progress: 2016 Update on Defend Trade Secrets Act & EU Directive on Trade Secrets which is now available as a podcast and webinar recording. The webinar provides the fundamentals as well as updates concerning the Defend Trade Secrets Act and the proposed EU Trade Secrets Directive.

North Carolina Courts Are Forbidden To “Blue Pencil” An Unenforceable Non-Compete

Posted in Non-Compete Enforceability, Restrictive Covenants

shutterstock_350116652Reversing a 2-1 decision of the North Carolina Court of Appeals, the state’s Supreme Court held unanimously that an assets purchase-and-sale contract containing an unreasonable territorial non-competition restriction is unenforceable.  Further, a court in that state must strike, and may not modify, the unreasonable provision. Beverage Systems of the Carolinas, LLC v. Associated Beverage Repair, LLC, No. 316A14 (N.C. Sup. Court, Mar. 18, 2016).  The Court of Appeals’ decision, now reversed, is published at 762 S.E.2d 316 (2014) and was the subject of a Trading Secrets blog dated August 27, 2014.

Status of the case The trial court entered summary judgment for the defendants as to all claims.  That ruling, which was reversed by the Court of Appeals, has been reinstated.

The purchase-and-sale transaction. Thomas Dotoli owned Imperial Unlimited Services which serviced soft drink dispensers in parts of North and South Carolina.  His wife and their son, Loudine, owned Elegant Beverage Products which sold premium coffee and tea in the same areas.  In 2009, the three Dotolis sold Imperial and Elegant to a new company, Beverage Systems of the Carolinas, which was owned by Loudine Dotoli’s wife, Cheryl.  In connection with the purchase-and-sale transaction, the sellers executed a five-year non-compete covenant, encompassing the entirety of North and South Carolina, for which they were paid $10,000.  The covenant provided that a court could revise the temporal and geographic limits if they were deemed unreasonable.

Competition, and a lawsuit, ensue. When Associated Beverage began installing and servicing beverage dispensing machines in North and South Carolina, Beverage Systems sued Cheryl, her company, and Loudine.  He was accused of breach of contract.  All of the defendants were charged with tortious interference and unfair and deceptive practices.  The defendants responded that the covenant was unenforceable because of its allegedly overbroad temporal and territorial restrictions.

Ruling of the trial court. Agreeing with the defendants that the covenant included geographic restrictions beyond those necessary to maintain the plaintiff’s customer relationships, the trial court entered summary judgment against Beverage Systems.

Reversal by the appellate court. The Court of Appeals reversed and remanded.  The appellate court’s majority okayed the five-year restriction but held that the trial court should have blue-penciled the unreasonable territorial limitation.  Further, the appeals court majority said disputed issues of material fact precluded summary judgment.  Dissenting, one appellate jurist stated that the contract only allowed blue-penciling as “permitted by law,” that North Carolina judges can strike — but are not authorized to rewrite — unreasonable restrictions, and that there were no contested factual disputes.  The dissenter would have affirmed.

The Supreme Court’s view. The Supreme Court emphasized that, in the instance of the sale of a business, a geographic restriction limited to the locations where the seller operates is permissible.  Here, however, the restricted territory encompassed what the Court called “large swaths” of both North and South Carolina in which Beverage Systems had no customers.  The Court held that territorial limitations are enforceable “as written or not at all.”  Since striking the unreasonable provision results in “no territory left within which to enforce the covenant not to compete, . . . blue-penciling cannot save the Agreement.”  Nor could the parties “contract to give a court power that it does not have.”

Rejecting Beverage Systems’ allegations of interference with contract, the Supreme Court stated there was no evidence of contracts between Beverage Systems and its customers. Rather, the jurists held that the evidence only showed general business relationships.  Thus, the defendants “were free to engage in routine business competition with Beverage Systems.”

Takeaways. The blue-pencil doctrine has significant variations in different states.

  • Judges in a few jurisdictions are not permitted to modify contracts under any circumstances.
  • In states that do permit blue-penciling, courts reason that the parties’ intent to have a contractual relationship sometimes is furthered by substituting reasonable terms for unreasonable ones (but judges sometimes decline to assist the drafters of contracts containing unduly onerous provisions).
  • In North Carolina and several other jurisdictions, blue-penciling can only be used to strike contractual provisions, not to alter them.  In Beverage Systems, striking the geographical limitations invalidated the non-compete.

Because of these significant variations, companies that have multi-state operations need to understand each relevant jurisdiction’s blue-penciling and other rules of contract interpretation. In order to enforce similar contracts in different jurisdictions, some terms may have to be tailored to fit the law of the places where litigation may ensue.

Further, in any given jurisdiction a particular restrictive covenant in contracts for the sale of a business may be enforceable whereas the same provision is unenforceable in employment contracts.

For all of these reasons, consultation with experienced legal counsel is advised.

New Utah Law Limits Restrictive Covenants to a One-Year Period

Posted in Legislation, Restrictive Covenants

shutterstock_257576440On March 9, 2016, Utah enacted the Post-Employment Restrictions Amendments, which limits restrictive covenants to a one-year time period from termination. Any restrictive covenant that is entered into on or after May 10, 2016, for more than one year will be void. Notably, the new law does not provide for a court to blue pencil an agreement, rather the agreement as a whole will be deemed void.

Employers should be wary of enforcing an invalid restrictive covenant. Under the new law, if a court or arbitrator deems a restrictive covenant unenforceable, the employer will be liable for court or arbitration costs, attorney fees, and actual damages.

The new law has carved out several exceptions. It does not apply to (1) a “reasonable severance agreement,” (2) any restrictive covenants stemming from the sale of a business, (3) nonsolicitation agreements, (4) nondisclosure agreements, and (5) confidentiality agreements. However, these exceptions are still subject to common law restrictions.

Going forward, employers should take a close look at their standard non-compete clause and make the appropriate changes to ensure that any non-compete agreements entered into starting May 10, 2016, are in compliance with the new one-year time limit.

Leave No E-mail Unturned in Trade Secret and Non-Compete Cases

Posted in Non-Compete Enforceability, Trade Secrets

shutterstock_78633694A recent verdict in the Superior Court of Fulton County, Georgia is an excellent reminder of the importance of conducting thorough discovery in unfair competition cases.  Earlier this year, after a four day trial, a Georgia jury awarded telecom company Cost Management Group (“CMG”) $282,001 in damages, $300,000 in attorneys’ fees, and $200,000 in punitive damages, finding that CMG’s former president, Daniel Bommer, breached his contract by operating a competing company, as well as siphoning employees and business away from CMG to a second competing company, all while employed by the plaintiff.

Interestingly, this particular case was preceded by a separate 2009 action, in which CMG filed suit against another one of its former officers, who it also accused of diverting CMG’s accounts and agents to a competing business.  According to court filings, CMG prevailed in that case as well and was awarded more than $120,000 in damages.  The added “bonus,” however, was a cache of e-mails discovered on CMG’s former chief operating officer’s server (who was not even named in the lawsuit).  Among those e-mails were communications in which Bommer allegedly requested the competing business “destroy all evidence of past and future email communications between [itself] and Bommer.”  In large part based on the information secured in these retrieved e-mails, CMG proceeded with filing suit against Bommer, alleging claims for breach of fiduciary duty, usurpation of corporate opportunities, unfaithful agent, conversion/theft of corporate property, breach of the securities and exchange agreement and fraud, as well as a claim for punitive damages.

Perhaps even more importantly, as a direct result of CMG’s discovery in the first case, prior to trial against Bommer, CMG filed a motion for sanctions, claiming Bommer spoliated critical evidence.  The court agreed and granted CMG’s motion, completely striking Bommer’s answer and counterclaim.  Accordingly, at trial, the only remaining issue for the jury was a determination of damages — always a position plaintiffs’ lawyers love to find themselves.

Had CMG’s counsel not conducted thorough and sifting discovery in the original case, including seeking electronic discovery from non-parties, it is quite possible that CMG may have never located the evidence of spoliated e-mails.  By doing so, CMG was able proceed directly a trial on damages, without ever having a jury even establish liability.  Had CMG’s lawyers not located this information, the trial undoubtedly would have been much more complicated and certainly gone on for much longer than four days.  Again, the case is a superb testament to leaving no stone unturned during the discovery process in unfair competition matters — particularly electronic stones.

The case is Cost Management Group v. Bommer, Civil Action File No. 2009CV168191, Fulton County Superior Court, Georgia.

Senate Judiciary Committee Issues Report in Support of Defend Trade Secrets Act

Posted in Legislation, Trade Secrets

shutterstock_376906117The Senate Judiciary Committee recently released Senate Report 114-220 regarding the Defend Trade Secrets Act of 2016 (“DTSA”). A background on and recent developments of the DTSA are discussed more fully on our blog.

The Judiciary’s most recent report, authored by Senator Chuck Grassley (R-IA), recommended that the recently amended version of S. 1890 pass.

The Report was separated into seven subparts, which discussed the (1) background and purpose of the DTSA; (2) the history of the bill and committee consideration; (3) a section-by-section summary of the bill; (4) a congressional budget office cost estimate; (5) a regulatory impact evaluation; (6) concluding remarks; and (7) changes to existing law that the bill would effect.  The most noteworthy sections are discussed below.

Background and Purpose of the DTSA

The Report began by noting the importance of the legal protection of trade secrets, as well as the “economically damaging” effect on their theft.  The Report illustrated this damage by comparing the economic loss to the American economy caused by trade secret theft ($300 billion) to the total annual level of U.S. exports to Asia, and by noting that 2.1 million U.S. jobs are lost each year due to such theft.  Trade secret theft, the Report acknowledged, is becoming harder to pinpoint as technological advances promulgate.  In this regard, the Report recognized the lack of civil remedy at the federal level for trade secret theft, and described how the DTSA would amend the Economic Espionage Act of 1996 (“EEA”) to provide for not only a federal criminal remedy, but also for a federal civil remedy for trade secret misappropriation.  The DTSA would provide victims of trade secret theft equitable remedies as well as damages awards.  Equitable remedies under the DTSA include expedited relief in the form of an ex parte seizure, but only in extreme circumstances so as to prevent further dissemination of trade secret information and/or for the preservation of evidence.

The ex parte seizure provision has met some adversity.  However, the Report sought to mitigate any opposition by recalling that the DTSA balances the seizure provision with the rights of defendants and third parties by: (1) minimizing interruption to business operations of third parties; (2) protecting seized property from disclosure; and (3) setting a hearing date as soon as practicable.

History of the Bill and Committee Consideration

The Report next delineated the history of the DTSA, which includes past bills S. 3389, the Protecting American Trade Secrets and Innovation Act of 2012 (introduced by Senators Kohl, Coons, and Whitehouse), and S. 2267, the Defend Trade Secrets Act of 2014 (introduced by Senators Coons and Hatch).  Next, the Report referenced the Committee hearing that occurred on December 2, 2015 (about which we blogged and held a Live Tweet), which featured intellectual property counsel from E.I. DuPont de Nemours and Company and Corning, Incorporated, as well as an expert on trade secret law, and a professor specializing in trade secret academia.  Previous to the December hearing, the Senate Judiciary Committee’s Subcommittee on Crime and Terrorism held a hearing in May 2014, entitled ‘‘Economic Espionage and Trade Secret Theft: Are Our Laws Adequate for Today’s Threats?,” which featured testimony from an FBI representative, the Vice President of Intellectual Property Management at the Boeing Company, the President and CEO for the Center for Responsible Enterprise and Trade, the President of Marlin Steel Wire Products, and the Vice President and General Patent Counsel for Eli Lilly and Company.

More recently, in January 2016, Senators Hatch and Coons presented two “groups” of amendments to the DTSA (blogged here), taking into consideration suggestions from other members of the Judiciary Committee.  As such, it unanimously adopted both groups of amendments.

The first group of amendments: (1) made it so only a trade secret owner could bring a civil action for misappropriation; (2) changed the statute of limitations from five years to three years; (3) re-defined “trade secret” and “improper means;” (4) clarified that ex parte seizures may only be instituted in “extraordinary circumstances” and placed further limitations on the seizures; (5) clarified the appropriate scope of injunctions relating to employment to ensure that court orders are not contrary to applicable state laws; and (6) added language expressing Congress’ notion of the importance of balancing the interests of all parties when issuing an ex parte seizure, and “instructing the Federal Judicial Center to develop best practices for the execution of seizures and the storage of seized information.”

The second group of amendments sought to provide protection to “whistleblowers who disclose trade secrets to law enforcement in confidence for the purpose of reporting or investigating a suspected violation of law,” and the “confidential disclosure of a trade secret in a lawsuit, including an anti-retaliation proceeding.”

Section-by-Section Summary of the Bill

Much of the substance of the section-by-section summary portion of the Report appears above.  That said, below appears a list of additional points of interest presented by section of the bill:

  • Section 2 of the bill describes federal jurisdiction for theft of trade secrets. Importantly, it describes the ex parte seizure orders and their scope.  A portion of the summary is reproduced and discussed below:
    • Ex parte seizures will only issue upon a showing that the prerequisites for the issuance of such are present. In other words, a seizure will only issue if an injunction under the rules of civil procedure would be adequate, such as when there is evidence that a defendant is a flight risk or will immediately share the trade secret with third parties.  The Report lists further requirements a party must show in order for a seizure order to issue:

(1) a temporary restraining order issued pursuant to Federal Rule of Civil Procedure 65(b) would be inadequate because the party to which the order would be issued would evade, avoid, or otherwise not comply with it;

(2) immediate and irreparable injury will occur if the seizure is not ordered;

(3) the harm to the applicant of denying the application outweighs the harm to the legitimate interests of the person against whom the seizure is ordered and substantially outweighs the harm to any third parties;

(4) the applicant is likely to succeed in showing that the person against whom the seizure is ordered misappropriated the trade secret by improper means, or conspired to misappropriate the trade secret by improper means, and is in actual possession of it and any property to be seized;

(5) the applicant describes with reasonable particularity the matter to be seized and, to the extent reasonable, identifies the location where the matter is to be seized;

(6) the person against whom the seizure would be ordered, or those working in concert with that person, would destroy, move, hide, or otherwise make such matter inaccessible if the applicant were to provide that person notice; and

(7) the applicant has not publicized the requested seizure.

The Report hypothesized that courts would require a party seeking a seizure order to describe the trade secret at issue with “sufficient particularity,” especially in light of the “actual possession” requirement, which aids in protecting third parties from succumbing to the seizure order (like Internet service providers).

  • Remedies
    • Equitable remedies are provided for in the bill, but if found appropriate, the bill allows a court to require “affirmative actions to be taken to protect the trade secret” and may “condition future use of the trade secret upon payment of a reasonable royalty” for a determined amount of time.
    • Additional state law remedies are available under the Uniform Trade Secrets Act (“UTSA”) of a particular jurisdiction as well as under the DTSA. As such, the DTSA does not preempt state law with regard to remedies, and, with particular regard to equitable remedies, is “intended to coexist with… applicable State law governing when an injunction should issue in a trade secret misappropriation matter.”
    • Exemplary damages and attorney’s fees are available as well.
  • Definitions; Rule of construction; Conforming amendments
    • “Misappropriation” is defined as it is under Section 1(2) of the UTSA; and
    • “Improper Means” is defined as it is under Section 1(1) of the UTSA
  • Section 3 of the bill discusses the enforcement of trade secret theft. It sets a maximum penalty for violation of the bill to be “the greater of $5,000,00 or three times the value of the stolen trade secret” to the owner of the trade secret.  Such amount includes “expenses for research and design and other costs.”  Section 3 also amends 18 U.S.C.§ 1961(1) to include portions of the DTSA as “predicate offenses for the Racketeer Influenced and Corrupt Organizations (RICO) Act.
  • Section 4 of the bill discusses report on theft of trade secrets occurring abroad and requires the filing of a report by the U.S. Attorney General on several issues, including the “scope and breadth of trade secret theft from United States companies occurring outside the United States” (emphasis added).

It remains to be seen whether the Senate’s Report will have any effect on the House’s bill, H.R. 3326, which currently has 126 co-sponsors, but does not contain some of the changes made to the Senate bill by the Judiciary Committee.  Stay tuned for further updates and please join us for our complimentary webinar on the Defend Trade Secrets Act and European Directive to harmonize EU trade secret laws on March 29th.