shutterstock_287601008A California federal district court has recently given employers a small victory against former employees who misappropriate trade secrets and assert whistleblower immunity or the litigation privilege as after-the-fact defenses. The federal district court for the Eastern District of California recently rejected, for a second time, a defendant’s anti-SLAPP motion to strike a trade secret lawsuit brought against him by his former employer. Notably, the court rejected the defendant former employee’s whistleblower and litigation privilege defenses as inapplicable, thereby allowing the beer company’s trade secret action to proceed.

On March 1, 2013, the beer company sued the former employee for, among other things, trade secret misappropriation and breach of nondisclosure agreements. The former employee subsequently filed a motion to dismiss and strike the Complaint under California’s anti-SLAPP statute. Specifically, the former employee argued that the Complaint was an attempt to punish him for purportedly exercising his constitutional rights of petition and free speech in connection with a consumer class action litigation that he filed against the company exactly one week before.

The federal district court denied the former employee’s anti-SLAPP motion and concluded that the company’s claims did not arise out of the former employees protected litigation activity. The former employee appealed.

The Court of Appeals for the Ninth Circuit reversed the district court and remanded back so the district court could consider the next prong of the anti-SLAPP analysis, the plaintiff’s probability of prevailing on its claims.

Upon its second review of the former employee’s anti-SLAPP motion, the federal district court concluded that the company had demonstrated a likelihood of prevailing on its trade secret misappropriation and breach of contract claims. The court then turned to and rejected the former employee’s substantive legal defenses of public policy, whistleblower immunity, and the litigation privilege.

First, the court rejected the former employee’s argument that confidentiality agreements are unenforceable as a matter of public policy. The court refused to adopt such a sweeping rule that would render confidentiality agreements unenforceable that would allow former employees to disclose trade secret or confidential information.

Second, the court acknowledged that California provides protection to whistleblowers but only when the employee discloses reasonably based suspicious of illegal activity to a governmental agency. The court concluded that such protections did not apply to employees who disclose information to their attorneys in order to further a class action against an employer.

Lastly, the court rejected the former employee’s argument that the misappropriation of documents in furtherance of anticipated litigation was protected under the litigation privilege. The court reasoned that the litigation privilege does not protect against illegal activity that causes damage and to protect such threats is inconsistent with the purposes of the anti-SLAPP statute.

It would be interesting to see the court’s analysis and decision, however, had the alleged misappropriation occurred after the enactment of the new Defendant Trade Secrets Act (“DTSA”), which appears to provide broader whistleblower protections. The court in this case highlighted that California’s whistleblower statute protected only disclosures to government agencies and not a defendant’s attorneys. The DTSA, however, protects individuals from criminal and civil liability under any federal or state trade secret law for the disclosure of a trade secret that: (a) is made (i) in confidence to a federal, state, or local government official, either directly or indirectly, or to an attorney; and (ii) solely for the purpose of reporting or investigating a suspected violation of law; or (b) is made in a complaint or other document that is filed under seal in a lawsuit or other proceeding. (For additional information on the DTSA and its implications regarding whistleblowers, please see our DTSA Guide.)

Nonetheless, this case confirms that employees do not have an unfettered right to surreptitiously take documents from the workplace for their own use in litigation or otherwise. Indeed, the Ninth Circuit has rejected the concept of “blanket” protection for whistleblowers for violation of confidentiality agreements and misappropriation of confidential documents. See Cafasso v. General Dynamics C4 Systems, Inc., 637 F.3d 1047 (9th Cir. 2011).

With the likely broader whistleblower protections under the recently enacted DTSA, however, employers that utilize agreements and policies to protect trade secrets and other confidential information should ensure such documents have been updated to comply with the DTSA and its important employee and whistleblower notification provisions

 

shutterstock_465124364Seyfarth continues to be at the forefront of issues involving the Defend Trade Secrets Act (“DTSA”). On March 17, 2017, two Seyfarth attorneys, Andrew Boutros and Alex Meier, published the first-ever in-depth analysis of the intersection between the DTSA and the Racketeer Influenced and Corrupt Organizations Act (“RICO”) in Bloomberg’s White Collar Crime Report.

The article, “An Endangered Claim Reemerges: The Defend Trade Secrets Act Breathes New Life Into Trade-Secrets-Based RICO Claims,” examines how the DTSA, in certain circumstances, may create liability under RICO for the misappropriation of trade secrets. Pre-DTSA, courts were hesitant to impose RICO liability based on trade-secrets misappropriation, because even fraudulent acts with the end goal of misappropriating trade secrets did not present a threat of ongoing criminal activity (“continuity,” in RICO parlance). With the DTSA’s passage, however, the misappropriation, copying, disclosure, and use of trade secrets constitute “predicate acts” that may satisfy RICO’s continuity requirement. The article analyzes two scenarios that may create civil RICO liability: First, a coordinated departure involving multiple employees defecting to join the same competitor; and, second, when a company repeatedly hires key employees in an attempt to acquire its competitors trade secrets.

An Endangered Claim Reemerges: The Defend Trade Secrets Act Breathes New Life Into Trade-Secrets-Based RICO Claims” is reproduced with permission from White Collar Crime Report, 12 WCR 243, 03/17/2017. Copyright 2017 by The Bureau of National Affairs, Inc. (800-372-1033) http://www.bna.com.

shutterstock_481529074The San Antonio Court of Appeals recently held that an applicant for a temporary injunction in a trade-secret-misappropriation case under the Texas Uniform Trade Secrets Act is not required to show the defendant is actually using trade-secret information. Instead, the applicant need only show that the defendant possesses trade secrets and is in a position to use them.

Age Industries, Ltd. (“AI”) is a manufacturer of packaging materials for whom Christopher Michael Hughes worked for nearly 20 years as a general manager. In late June 2016, Hughes resigned his employment with AI. Hughes never signed an agreement restricting him from competing with AI. Prior to resigning, Hughes had discussed creating a business to compete with AI. In early June, Diamondback Corrugated Container, LLC (“Diamondback”) was created and, shortly after his resignation, Hughes was hired to be its operations manager.

Two months later, AI sued Hughes and Diamondback for, inter alia, misappropriation of trade secrets under the Texas Uniform Trade Secrets Act, and obtained a temporary restraining order. Following the hearing on AI’s application for a temporary injunction, the trial court granted a temporary injunction against Hughes that (1) required Hughes to account for all documents in his possession belonging to AI, and (2) enjoined Hughes from disclosing AI’s proprietary or trade-secret information, including AI’s sales journals, customer lists, or pricing information.

Hughes appealed the trial court’s temporary injunction against him, contending, among other things, that AI failed to produce sufficient evidence of a probable, imminent, and irreparable injury, because AI only established a fear of possible misappropriation of trade secrets. The court of appeals noted that “the very purpose of an injunction is to prevent disclosure of trade secrets pending trial, [so AI] is not required to show [Hughes] is actually using the information.” Relying on authority from the Dallas, Austin, and Fort Worth Courts of Appeals, the San Antonio Court of Appeals required AI to instead show only that Hughes possesses the trade secrets and is in a position to use them.

Drawing all legitimate inference in favor of the trial court’s order granting the temporary injunction, the court of appeals concluded that AI made the proper showing under this standard. AI presented evidence during the temporary-injunction hearing that shortly before he resigned, Hughes downloaded a large quantity of data from his AI computer onto a USB storage device. Additionally, AI offered evidence that certain financial information Hughes maintained while working for AI could not be located after his resignation, and that Hughes had some of AI’s confidential information on his home computer. Moreover, at the temporary-injunction hearing, Hughes could not testify that emails he sent to a co-worker at Diamondback did not contain AI’s proprietary information.

This evidence—combined with the fact that Hughes left AI to become the operations manager of a company that was formed to compete with AI—established that Hughes was in a position to use AI’s trade secrets to gain an unfair market advantage. Therefore, the appellate court held the trial court did not abuse its discretion in concluding that AI established a probable, imminent, irreparable injury.

This case demonstrates that it is not necessary to present evidence of trade-secret use; mere possession and an opportunity to use is sufficient at the temporary injunction stage.

Hughes v. Age Industries, Ltd., 04-16-00693-CV, 2017 WL 943423 (Tex. App.—San Antonio Mar. 8, 2017, no. pet. h.)

texas-imageApplying new Texas Supreme Court precedent, a Texas Court of Appeals recently held that a six-year-old cease-and-desist letter alleging trade-secret misappropriation did not constitute proof of knowledge for purposes of the discovery rule. By allowing for the accrual date of this claim to be deferred, the court appears to have made it easier for trade-secret plaintiffs to overcome the statute-of-limitations defense in the future.

According to the opinion issued by the First Court of Appeals in Houston, Garner Environmental Services, Inc. (“Garner”) provides disaster-response training and related services. In 2008, Garner’s then-vice president quit, formed a competing company called First in Rescue, Safety and Training, LLC (“FIRST”), and hired several Garner employees. In January 2009, Garner sent FIRST a letter accusing it of wrongfully using Garner’s customer lists, contacts, and other trade secrets to solicit Garner’s customers. Garner based these allegations solely on the fact that, shortly before sending this letter, Garner had learned that a client scheduled to attend one of Garner’s training classes switched at the last minute to attend a class held by FIRST instead. Later that month, FIRST responded that it had not stolen Garner’s trade secrets because Garner’s customer lists and contacts were readily available to the general public, could be replicated from memory, and were therefore not confidential information in the first instance. FIRST’s letter also pointed out that none of the former Garner employees had entered into non-compete or non-solicitation agreements while employed by Garner, so they were not prohibited from contacting Garner’s customers. Apparently, this mollified Garner because it did not file suit against FIRST at this time.

Fast-forward nearly five years: In late 2013, FIRST filed suit against a former employee that had gone to work for another competitor. At an unspecified time in 2014, after reviewing documents the employee had filed in that suit, Garner determined that FIRST had unlawfully used Garner’s confidential information. So, in July 2015—more than six years after sending the initial cease-and-desist letter in January 2009—Garner filed suit against FIRST asserting, inter alia, a claim for misappropriation of trade secrets. FIRST filed for summary judgment, arguing that all of Garner’s claims were barred by the statute of limitations because it discovered or should have discovered the nature of its injury in January 2009. Garner argued in response that the discovery rule applied and, as such, limitations did not begin to run until it discovered the injury in 2014 when it reviewed the documents filed in connection with the lawsuit FIRST’s former employee had asserted against a third party. The trial court granted FIRST’s motion and dismissed Garner’s claims with prejudice.

On appeal, the sole issue before the Court of Appeals was when Garner discovered, or in the exercise of reasonable diligence should have discovered, the nature of its injury. Under the discovery rule, the accrual of a claim is deferred until the injured party learned of, or in the exercise of reasonable diligence should have learned of, the wrongful at causing the injury. Garner argued that the court of appeals was bound by the Texas Supreme Court’s recent decision in Southwestern Energy Production Co. v. Berry-Helfand, 491 S.W.3d 699 (Tex. 2016), which involved the discovery rule in the context of trade-secret misappropriation. In that case, the court held that surmise, suspicion, and accusation, even if sufficient to make one aware of a potential for misuse of trade secrets, are not facts that in the exercise of reasonable diligence would lead to the discovery of theft of trade secrets. Furthermore, the Southwestern court held that the defendant asserting the limitations defense “ha[d] not identified any evidence revealing what [the plaintiff] would have discovered had she made further inquiry.”

Finding “no meaningful differences between Southwestern and this case,” the Garner court noted that although Garner alleged in its January 2009 letter that FIRST had stolen its trade secrets, it had no facts to support these allegations other than mere suspicion that FIRST was competing with Garner’s clients. As in Southwestern, accusations were insufficient to establish knowledge of injury, the discovery rule applied. The Court of Appeals further noted that FIRST did not explain why it is entitled to have Garner’s statements of accusation construed as proof of knowledge while having its own statements of denial construed as “lawyer posturing” upon which Garner could not reasonably rely. The court thus rejected FIRST’s attempt to have its cake and eat it too.

FIRST also argued that Garner could have discovered the injury had it conducted presuit depositions under Texas Rule of Civil Procedure 202, which it did not do. In order to take a presuit deposition under Rule 202, the petitioner must show that there is a reason that the deposition must occur before the anticipated lawsuit is filed, and not after. The Court of Appeals, however, reiterated that Garner lacked any proof of its suspicions and thus had no basis to establish that FIRST had any information in its possession that could justify a Rule 202 deposition. A petitioner is also entitled to conduct a Rule 202 deposition if it demonstrates that the likely benefit of the requested deposition to investigate a potential claim outweighs the procedure’s burden or expense. The Court of Appeals stated: “To allow a rule 202 deposition in th[is] situation would require the other party to reveal the confidential information in their possession,” which the court concluded was too heavy a burden on FIRST. Thus, FIRST failed to establish a date (prior to Garner’s stated discovery date in 2014) by which Garner knew or, with reasonable diligence, could have discovered the nature of its injury. Accordingly, the Court of Appeals reversed the judgment of the trial court, and remanded for further proceedings.

The take-away from this case is that potential plaintiffs who, although suspicious, lack concrete proof that a potential defendant has misappropriated its trade secrets, will, on account of the Southwestern and Garner decisions, likely find it easier to assert the discovery rule to defer the accrual date of its misappropriation claim. Moreover, according to Garner, such potential plaintiffs will find it difficult, if not impossible, to meet their burden to establish the necessity of the information to be entitled to conduct a Rule 202 presuit deposition. It remains to be seen, however, if this case might decrease the use of Rule 202 depositions in trade-secret cases. Still, the boot-and-suspenders approach of attempting a Rule 202 deposition may be the better course to preserve the legal rights of a potential misappropriation plaintiff.

Garner Envtl. Services, Inc. v. First In Rescue, Safety & Training, LLC, 01-16-00388-CV, 2016 WL 7671377 (Tex. App.—Houston [1st Dist.] Dec. 22, 2016, no. pet. h.)

shutterstock_521249434The United States International Trade Commission (“ITC”) is an independent, quasijudicial Federal agency with broad oversight over trade matters.  In addition to trade practices such as dumping and subsidies, the ITC adjudicates matters involving the misappropriation of trade secrets and theft of intellectual property.  Specifically, Section 337 of the Tariff Act of 1930, 19 U.S.C. § 1337(a)(1)(A), prohibits “unfair methods of competition and unfair acts in the importation of articles … into the United States.”

In 2012, the Federal Circuit—which has jurisdiction over all ITC matters—was asked to consider whether the ITC had authority to investigate the misappropriation of trade secrets protected by domestic law when the misappropriation occurred exclusively in China.  See Tianrui Group Co. Ltd. v. ITC, 661 F.3d 1322 (Fed. Cir. 2011).  The Federal Circuit answered in the affirmative and held that the ITC had authority to “investigate and grant relief based in part on extraterritorial conduct insofar as it is necessary to protect domestic industries from injuries arising out of unfair competition in the domestic marketplace.”  Tianrui, 661 F.3d at 1324.  Following Tianrui, domestic companies have used the ITC to redress misappropriation of trade secrets far from American shores so long as the misappropriation resulted in the importation of products into the US causing domestic injury.  For further background on the Tianrui decision, please see our prior post here.

The ITC’s extraterritorial authority established in Tianrui is once again being challenged.  Recently, in another case involving the misappropriation of American trade secrets in China, the Supreme Court was asked to decide whether Section 337 of the Tariff Act does, in fact, authorize the ITC to investigate misappropriation that occurred entirely outside the United States.  See Sino Legend (Zhangjiangang) Chemical Co. Ltd. v. ITC, cert petition available here.  The crux of Sino Legend’s argument is that for a statute to apply abroad, there must be express congressional intent.  Not surprisingly, Sino Legend argues that such intent is missing from Section 337 of the Tariff Act.  In Tianrui, the Federal Circuit held that such intent was manifest in the express inclusion of “the importation of articles .. into the United States” which evidenced that Congress had more than domestic concerns in mind.  Tianrui, 661 F.3d at 1329.  To prevail, Sino Legend must convince the Supreme Court to not only hear its case, but to overrule Tianrui’s holding that such intent is evident from the “importation of articles” clause in the Act.

Sino Legend’s petition comes at an interesting time.  The Supreme Court is only 8 justices following the death of Justice Scalia, perhaps making it even more difficult for cert to be granted.  At the same time, trade with China was a repeat theme of President-Elect Trump’s presidential campaign.  Companies with operations abroad should closely monitor the progress of Sino Legend, as reversal of Tianrui will result in the removal of a powerful tool in a trade secret owner’s arsenal against extraterritorial misappropriation of trade secrets.

webinarWe are pleased to announce the webinar “Proving-Up Trade Secret Misappropriation: Best Practices and Tales from the Trenches” is now available as a webinar recording.

In Seyfarth’s final installment in the 2016 Trade Secrets Webinar Series, James McNairy and Justin Beyer, joined by computer forensics expert Jim Vaughn of iDiscovery Solutions, focused on best practices for assembling the evidence most often needed to prosecute a claim for misappropriation of trade secrets

As a conclusion to this well-received webinar, we compiled a summary of three takeaways that were discussed during the webinar:

  1. The first step in prosecuting trade secret misappropriation starts with identifying your trade secret information, maintaining its confidentiality, and putting in place safeguards such as robust confidentiality agreements, computer use and access policies, and exit interviews that are tailored to flag any exfiltration of data by high risk employees or business partners with whom your company is parting ways. Diligence on the front end will better alert your organization of potential data theft and enable it to secure the data, should it be misappropriated.
  2. As part of your investigation of potential trade secret misappropriation, remember to conduct a complete audit of devices and sources of data storage and transmission to ensure nothing is overlooked. While doing so, it is critical to maintain the forensic integrity of the devices and data to allow the best chance of admitting the information into evidence in any litigation.
  3. Efficiently organizing the right team to prosecute trade secret theft is critical. The “team” most often includes human resources professionals (to authenticate key agreements, policies, dates of employment etc.), a senior manager or executive (who can validate the existence of the trade secret, its value, the measures taken to maintain secrecy etc.), senior managers who worked with the suspected misappropriators (who can attest to access, use, and possession of the at issue information), in-house IT professionals (who can lay the foundation for devices, data, and access rights of the suspected misappropriators), and an independent computer forensics expert (who can objectively present the facts concerning data accessed, by whom, through what means, and explain any technical nuance to “connect the technical dots” of the bad actor(s) conduct).

webinarOn Tuesday, December 13, at 12:00 p.m. Central, Seyfarth attorneys, James McNairy and Justin Beyer, joined by computer forensics expert Jim Vaughn of iDiscovery Solutions, will present the final installment of the 2016 Trade Secrets Webinar Series. This program will provide attendees with best practices for assembling the evidence most often needed to prosecute a claim for misappropriation of trade secrets.

Topics covered will include:

  • Preventative measures to alert companies of potential trade secret theft
  • Once theft is suspected, steps for identifying and preserving evidence
  • Considerations for deciding on forum and state vs. federal court
  • Injunctive relief: what to seek and how to be effective
  • Early discovery: foundation for preliminary injunction and fleshing out case theme

Please join us for this informative webinar.

register

On Tuesday, December 11, 2013 at 12:00 p.m. Central, Seyfarth attorneys Michael D. Wexler, Molly M. Joyce and Justin K. Beyer will present the twelfth and final installment in our 2013 Trade Secrets webinar series, focusing on criminal liability for trade secret misappropriation.

The topics they will cover include

  • Trade secret misappropriation: what it is and how does it happen
  • An introduction to criminal liability under Economic Espionage Act and the Computer Fraud and Abuse Act
  • A discussion of recent court decisions finding criminal liability for violation of these Acts
  • How to work with criminal prosecutors to compliment your civil claims for trade secret misappropriation
  • Best practices to avoid misappropriation and what to do when you suspect misappropriation has occurred, including a discussion of forensic investigation options

Our panel consists of attorneys with significant experience litigating trade secret issues, advising clients on trade secret protection, drafting confidentiality and restrictive covenant agreements, and conducting trade secret audits. This CLE is recommended for management, HR personnel and in-house counsel.

There is no cost to access this program, however, registration is required.

If you have any questions, please contact events@seyfarth.com.

*CLE credit is available. Seyfarth has applied for CLE credit in IL, NY, and CA. If you would like us to pursue CLE credit in any additional states, please contact events@seyfarth.com. Please note that in order to receive full credit for attending this webinar, the registrant must be present for the entire session.

The United States District Court for the Eastern District of Virginia recently denied a motion to dismiss a counterclaim for violation of Virginia’s Uniform Trade Secrets Act (“VUTSA”), holding that the counterclaim sufficiently alleged trade secret misappropriation based on improper acquisition of a trade secret, even in the absence of allegations of use or disclosure.

Factual allegations:

Plaintiff Jacqueline Marsteller was a Senior Vice President and Account Executive employed by defendant Electronic Consulting Services, Inc. (“ECS”).  On November 3, 2011 ECS informed Marsteller that she was being terminated and that her last day of employment would be December 31, 2011 in order that she would be eligible to receive a $95,000 bonus.  The bonus was indeed paid to Marsteller on December 30, 2011.  Marsteller began work for a competitor to ECS in December 2011.

Procedural history:

Almost a year and a half after Marsteller left ECS, she sued her former employer on grounds not identified in the court’s opinion.  ECS filed a six-count counterclaim alleging, among other things, that after Marsteller was notified she was being terminated, she misappropriated various trade secrets by transferring information to an external storage device as well as e-mailing information to her personal e-mail account in violation of VUTSA.

Motion to dismiss: 

Marsteller moved to dismiss the counterclaims, including the VUTSA claim on the grounds that ECS failed to allege that: (1) the alleged trade secrets derived independent economic value; and (2) Marsteller used the trade secret information. 

In ruling on the motion, the court explained that a claim for violation of VUTSA must allege that: (1) the information in question constitutes a trade secret, and (2) the defendant misappropriated it.

The court further explained  that to constitute a “trade secret” under VUTSA, information must: (1) derive independent economic value; (2) not be known or readily ascertainable by proper means; and (3) be subject to reasonable efforts to maintain its secrecy.   The court concluded that ECS validly pleaded the information allegedly taken by Marsteller was trade secret because it alleged that: (1) the information derives independent economic value because ECS spent time, effort and money developing the information and the information would allow a competitor to know ECS’s business development and bidding plans, target its contracts and access its unique format for summarizing contract opportunities; (2) the information is not readily ascertainable by proper means as it reflects ECS’s internal strategies and plans not publicly available; and (3) ECS took reasonable steps to protect the information by storing it on an internal password protected server.

With respect to “misappropriation,” the court stated that VUTSA recognizes two kinds: (1) improper acquisition of a trade secret; and (2) disclosure or use of a trade secret.  Improper acquisition means “acquisition of a trade secret by a person who knows or has reason to know that the trade secret was acquired by improper means.”   “Improper means” is defined under VUTSA as including “theft, bribery, misrepresentation, use of a computer or computer network without authority, breach of a duty or inducement of a breach of duty to maintain secrecy, or espionage through electronic or other means.”  The court also cited case law for the proposition that “[u]nder the VUTSA, improper acquisition of a trade secret, even in the absence of allegations of use or disclosure, is sufficient to state a claim.”  Systems 4, Inc. v. Landis & Gyr, Inc., 8 Fed. Appx. 196, 2000 (4th Cir. 2001) (improper means alone can give rise to misappropriation claim) (unpublished). 

In analyzing the counterclaim, the court concluded that ECS’s allegation that Marsteller transferred and retained ECS’s internal documents outside of the scope permitted by her employment, including transferring proprietary documents to an external storage device, sufficiently stated a claim for “misappropriation” through improper acquisition.

Alternative basis for ruling:

Interestingly, the court also noted (in what is arguably dicta) that ECS’s VUTSA claim contained “plausible allegations” that Marsteller also used certain misappropriated ECS information.  The court apparently reached this opinion based on ECS’s allegations that: (1) the ECS information in question was developed in order to obtain ISO certification; (2) ISO certification requires development and implementation of “business processes” required by ISO standards: (3) Marsteller began working for her new employer as the Vice President of Business Process Engineering in December 2011; and (4) Marsteller’s new employer obtained ISO certification in July 2012.

The court stated that these allegations raised a “reasonable inference” that Marsteller used ECS’s information and that it was “plausible, not just possible, that Marsteller used or disclosed” ECS information to benefit her new employer.

As a somewhat related side note, Virginia does not recognize the doctrine of inevitable disclosure.  Gov’t Tech. Servs. v. IntelliSys Tech. Corp., 1999 WL 1499548 (Va. Cir. Ct. Oct. 20, 1999).

Takeaway:

Having survived the motion to dismiss, it is unclear where ECS goes from here.  Given that ECS waited more than a year and a half after Marsteller’s departure (and her new employer’s ISO certification) to raise its allegations, ECS will likely have an uphill battle obtaining any injunctive relief.  The court will presumably also be unlikely to award damages if there is no evidence Marsteller used any of ECS’s information.    

What can employers do to avoid ending up in this situation?  There are a number of safeguards and procedures that companies should consider as part of “best practices” in preventing trade secret misappropriation: (1) emphasizing to workers the importance of protecting the company’s confidential, proprietary and trade secret information; (2) using non-disclosure and trade secret protection agreements to protect sensitive information; (3) continued education to remind workers regarding their obligations to protect company information; (4) employing reasonable protective measures to safeguard trade secrets; and (5) using exit interviews and certifications requiring departing workers to confirm they do not have any company trade secrets or confidential or proprietary information.

When misappropriation is suspected, it is essential not to delay to do a thorough factual and legal investigation before filing any misappropriation claim.  Such investigation should identify any evidence showing: (1) what specific trade secrets are at issue; (2) what reasonable measures were taken to maintain their secrecy; (3) how the departed employee was able to acquire the trade secrets; (4) any threat of misappropriation or damages arising from the misappropriation.  If it is suspected the trade secrets were transferred electronically, it is important that a forensic examination of relevant computers and/or other electronic devices be performed by experienced experts.  Be mindful that using in-house IT personnel may create evidence spoliation issues. 

Finally, if evidence of misappropriation is found, delaying legal action is likely to reduce the chances of obtaining injunctive relief to stop impermissible use of the misappropriated trade secrets, and thereby reduce your chances of preventing harm to your company.

The California Uniform Trade Secrets Act (“CUTSA”) allows for an award of attorney’s fees to the prevailing party on a trade secret misappropriation claim. The statute permits award of attorney’s fees to a plaintiff for a defendant’s “willful and malicious” misappropriation and to a defendant when a plaintiff makes a claim in “bad faith”:

“If a claim of misappropriation is made in bad faith, a motion to terminate an injunction is made or resisted in bad faith, or willful and malicious misappropriation exists, the court may award reasonable attorney’s fees and costs to the prevailing party.…”

Civil Code section 3426.4.

Since there are relatively few published decisions addressing attorney’s fees awards to defendants under the statute, a review of the recent unpublished decision in All American Semiconductor, LLC v. APX Technology Corp., No. G 046605, 2013 Cal. App. Unpub. LEXIS 5718, (Cal. App. 4 Dist. Aug 18, 2013) may serve as a good opportunity to remind prospective plaintiffs of the need to ensure they have a good faith basis for any misappropriation claim before filing suit.

The plaintiff in All American Semiconductor had purchased all the assets of a bankrupt company, and, based on statements in the bankruptcy bid solicitation materials, erroneously believed it had purchased the rights to certain proprietary memory module designs. When the plaintiff was unable to locate any design plans for the memory modules among the bankrupt company’s assets, and no paper files whatsoever, the plaintiff grew suspicious. Upon finding empty directories on the bankrupt company’s computers, the plaintiff concluded that those empty directories must have contained data related to the designs and someone must have erased the data. Based on these mistaken beliefs, the plaintiff filed a nine-count complaint against Richard McCauley, the bankrupt company’s former general manager and vice president, his new company, and APX Technology Corporation — the company that actually designed the memory modules. Among other things, the complaint alleged misappropriation of trade secrets based on the defendants’ supposed misappropriation of the memory module designs.

Discovery, including several depositions, revealed no evidence that the bankrupt company had ever designed any memory modules, let alone had any trade secrets. To the contrary, McCauley testified the bankrupt company did not and could not design the memory modules, as it did not have the software or electrical engineers to do so. Instead, McCauley testified it merely assembled the modules based on designs provided by APX. APX’s president testified that APX owned the designs and provided them to memory module assemblers, including the bankrupt company, on a non-exclusive basis. Finally, an electrical engineer at APX testified he had designed the memory modules using complex computer software.

Based on this evidence, APX moved for summary adjudication on the misappropriation claim. The plaintiff opposed, citing testimony from a former shipping clerk of the bankrupt company stating he believed, without foundation, another employee at the bankrupt company designed memory modules. That employee, however, testified he was not an engineer and did not design the modules. The plaintiff also claimed to have found some evidence on the bankrupt company’s computers of software that could have been used to design memory modules, and offered other speculative testimony suggesting it would have been possible for the bankrupt company to design memory modules if it had the right software and tools, but that he had no knowledge of it ever doing so. Finally, the plaintiff blamed McCauley for its lack of evidence, arguing his new company controlled the bankrupt company’s employees and suggested that they therefore would not provide evidence adverse to their new employer.

Having failed to offer any evidence the bankrupt company ever designed memory modules, the plaintiff submitted a supplemental opposition claiming instead the bankrupt company had purchased the designs from APX citing vague invoices for nonrecurring engineering charges.

The trial court granted summary adjudication in favor of APX and awarded attorney’s fees for the plaintiff’s bad faith prosecution of the misappropriation claim. On appeal, the Court held that the trial court correctly found that the plaintiff failed to provide any evidence it owned a trade secret. Specifically, the plaintiff failed to identify what constituted a trade secret in any alleged memory module design. Instead, the Court held, the plaintiff attempted to show it could have designed memory modules, based on an inference that some scrubbed data could have been software that could be used to design memory modules, and that former engineers could have designed such modules. Missing was any evidence the bankrupt company actually designed the memory modules, or evidence of what part of the design was trade secret and unknown to the public and competitors.

In affirming the attorney’s fee award, the Court explained that the statute does not define “bad faith” and recited case law holding it requires both “objective speciousness” and “subjective bad faith.” “Objective speciousness exists where the action superficially appears to have merit but there is a complete lack of evidence to support the claim.” FLIR Systems, Inc. v. Parrish, 174 Cal. App. 4th 1270 (2009). “Subjective bad faith” will “rarely be susceptible of direct proof; usually the trial court will be required to infer it from circumstantial evidence.’ ” Gemini Aluminum Corp. v. California Custom Shapes, Inc., 96 Cal. App. 4th 1249, 1263 (2002). Further, subjective bad faith “may be inferred where the specific shortcomings of the case are identified by opposing counsel, and the decision is made to go forward despite the inability to respond to the arguments raised.” Id. at 1264. Subjective bad faith exists where a plaintiff intends to cause unnecessary delay, filed the action to harass, or harbored other improper motives. FLIR Systems, 174 Cal. App. 4th at 1278. Finally, “[a] court may find subjective misconduct by relying on direct evidence of [the] plaintiff’s knowledge during certain points in the litigation and may also infer it from the speciousness of [the] plaintiff’s trade secret claim and its conduct during litigation.” Computer Econs., Inc. v. Gartner Group, Inc., No. 98-CV-0312 TW (CGA), 1999 U.S. Dist. LEXIS 22204, at *18-19 (S.D. Cal. Dec. 14, 1999).

In its analysis, the Court found the trial court could reasonably infer objective speciousness from the plaintiff’s lack of evidence of what constituted its alleged trade secret designs and that the designs were not known to the public or others in the industry. In addition, APX repeatedly argued from the outset that the plaintiff could not identify any trade secrets because the bankrupt company never designed memory modules. Further, the trial court could reasonably infer subjective bad faith from the plaintiff’s prosecution of its claims without evidence, and its shifting theories in opposition to summary adjudication. Finally, the Court dismissed the plaintiff’s argument that the trial court erred in not considering self-serving declaratory statements from its president claiming that it filed the lawsuit “in good faith and without improper motive.” Bad faith cannot be avoided simply by claiming “it appeared at the time of the filing of the action some evidence would be obtained in discovery that would support a misappropriation claim.” SASCO v. Rosendin Electric, Inc., 207 Cal. App. 4th 837 (2012).

Tips for Avoiding “Bad Faith” Misappropriation Claims

All American Semiconductor is an unusual case in that the plaintiff was unable to identify its alleged trade secrets because it never actually received the assets it believed it purchased from the bankrupt company. However, there are still lessons prospective plaintiffs can learn from this case to avoid a similar unpleasant fate.

Most trade secret misappropriation claims arise when an employee with access to trade secrets leaves an employer to go to work for a competitor. Fearing the departed employee will use the former employer’s trade secrets to compete, the initial reaction is often to quickly file suit and seek injunctive relief. Before doing so, it is important to recognize that California has rejected the “inevitable disclosure” doctrine. Schlage Lock Co. v. Whyte, 101 Cal. App. 4th 1443, 1447 (2002). Thus, mere suspicion of misappropriation is not enough. SASCO, 207 Cal. App. 4th at 844. It is therefore essential to do a thorough factual and legal investigation before filing any misappropriation claim. Such investigation should identify any evidence showing: (1) what specific trade secrets are at issue; (2) what reasonable measures were taken to maintain their secrecy; (3) how the departed employee was able to acquire the trade secrets; (4) any threat of misappropriation or damages arising from the misappropriation. If it is suspected the trade secrets were transferred electronically, it is important that a forensic examination of relevant computers and/or other electronic devices be performed by experienced experts. Be mindful that using in-house IT personnel may create potential spoliation issues. Finally, if a defendant identifies alleged problems with a trade secret claim, plaintiffs would be wise to recognize that continuing to pursue the claims without being able to address the identified problems may expose them to bad faith claims if things go south. Gemini Aluminum Corp., 96 Cal. App. 4th at 1264.