A Texas federal trial court, finding the absence of any legal precedence to award an ongoing royalty in a trade secret misappropriation case, looked to the patent laws to impose an ongoing royalty. As a result, rather than permanently enjoining the misappropriator from continuing, the trial court imposed a royalty, thereby allowing the victim some compensation but allowing the other party to continue its activities. Sabatino Bianco MD v. Globus Medical Inc., 2014 WL 2980740 (ED Tx. 02 July 2014)(docket no.: 2:12-cv-00147)

Summary of the Case

Dr. Bianco designed certain spinal implants. The jury ruled that Globus misappropriated Dr. Bianco’s trade secrets and awarded damages. Dr. Bianco wanted disgorgement of Globus’ profits, but the jury instead awarded Dr. Bianco a 5% royalty as back-payment for the taken secrets. Dr. Bianco asked for, but was denied, a permanent injunction. Instead, the district court asked the parties to come up with some figure for the ongoing royalty percentage, which the judge determined to be 5% also. The judge said that the payment period would extend for 15 years.

Dr. Bianco asked for more than 5% (he asked for 6%) and Globus said it wasn’t going to pay anything in the future because the secrets were no longer secret and that the prior 5% back-payment was full compensation. Dr. Bianco said that the previous 5% was a floor and any new rate should necessarily be higher. Globus said that once the misappropriation was publicized and embodied in the actual spinal devices, nothing was a secret. Certainly there was no call for paying royalties over 15 years. Dr. Bianco asked for a higher rate to send warnings to other misappropriators that such behavior is not tolerated. The trial judge rejected both sides’ proposals.

The Court’s Rationales

First the court noted that in Texas, there is no state-based trade secret law covering the ongoing royalty situation. So the court unsurprisingly adopted patent law as the trial judge was in fact Judge William Bryson of the US Federal Circuit Court of Appeals, sitting in designation in Texas.

The court then noted that in Texas, injunctions can continue longer than the period after which a secret becomes public. The court also noted that any increase in the rate cannot be for punitive or willful theft purposes because Texas law does not allow for punitive forward looking remedies and that any punitives were included in the back-payment royalty rate.

Furthermore, the court reasoned that in Texas, trade secret theft is a one-time event, hence the proper calculation would be on what the parties would hypothetically negotiate on the one-time event. In patent law, though, each infringement is a continuing tort.

Finally, the court rejected Dr. Bianco’s deterrent effect argument. The court noted that any deterrent effect is satisfied by the possibility that the court will not award any base damages or ongoing royalties but instead will order a full disgorgement.

Takeaways

This case teaches several aspects: (1) One should not assume that every trade secret theft can be remedied by automatic permanent injunction relief. Rather a court may allow the defendant to continue activities so long as it pays some royalty; (2) In your particular state, as here, there might be no case law precedent that sets the contours of the remedy, and hence, a court may borrow from another legal subject matter; (3) While we do not recommend any such action, this is an instance in which the misappropriation is allowed to continue, with a royalty payment. One could presume that there is still a significant financial benefit to the misappropriator in that it still makes money from its initial misappropriation; and  (4) In the initial disclosure, though in confidence, of Dr. Bianco’s information to Globus, would the result have been different if the disclosure documents included Globus Medical’s agreement that it would be subject to permanent injunctive relief and disgorgement? Perhaps the disclosure documents could have included those statements.

A few months ago, we reported on a federal court decision in the Southern District of Alabama declining to enforce a non-compete and non-solicitation agreement against a former employee who executed the agreement before he began his employment. Last week, a panel of the Eleventh Circuit affirmed the District Court’s decision in an unpublished opinion.

As we reported following the District Court’s decision, in Dawson v. Ameritox, Ltd., 2014 WL 31809 (S.D. Ala. Jan. 6, 2014), Ameritox, a healthcare company, sought to enforce non-compete and non-solicitation covenants against its former Assistant Director of Medical Science and Health Outcomes Research, Dr. Eric Dawson, who had left Ameritox for a similar position with a competitor. Although Ameritox sought a preliminary injunction against Dawson, the District Court denied the motion and ruled that the covenants in question were void and unenforceable because Dawson had executed the agreement before his employment with Ameritox began. Under Alabama Code § 8-1-1, a contract by which anyone “is restrained from exercising a lawful profession, trade, or business of any kind” is void, except that “one who is employed as an agent, servant or employee may agree with his employer to refrain from carrying on or engaging in a similar business and from soliciting old customers of such employer within a specified county, city, or part thereof, so long as the . . . employer carries on a like business therein.” Relying on the Alabama Supreme Court’s prior decision in Pitney Bowes, Inc. v. Berney Office Solutions, 823 So. 2d 659 (Ala. 2001), the District Court noted that employee non-compete agreements are valid only if signed by an employee and that prospective employment is not sufficient to meet the exception in Section 8-1-1. Thus, because Dr. Dawson was not an employee of Ameritox at the time he signed the agreements, the District Court reasoned that the agreements were void and unenforceable.

In its unpublished opinion affirming the District Court’s decision, the Eleventh Circuit agreed with the District Court, noting that Ameritox’s attempts to distinguish Pitney Bowes were unpersuasive. The Eleventh Circuit reasoned that, because the agreement was void under Alabama Code § 8-1-1, Ameritox failed to show a substantial likelihood of success on the merits. Thus, the District Court did not abuse its discretion in denying Ameritox a preliminary injunction.

The Eleventh Circuit’s panel decision reaffirms the importance of practical pointers we noted in our prior post. While it is prudent — and, in some states, required — to provide prospective employees with copies of required non-compete agreements before the employee’s first day of work, employers in Alabama should ensure that employees execute (or re-execute) such agreements on or after their first day of employment, ideally in the presence of a representative of human resources. In addition, because continued at-will employment is sufficient consideration for new restrictive covenants in Alabama, employers with operations in Alabama should consider periodically reviewing their existing restrictive covenants and requiring employees to execute new agreements from time to time as appropriate.

 

A defendant company was unaware, when it hired two individuals, that they had entered into non-competition agreements with their prior employer.  As a result, according to a Florida federal court, the prior employer did not have a valid cause of action against the new employer for intentionally interfering with those non-compete obligations. 

Summary of the Case

During their employment by Aerotek, a recruiting company, Zahn and Jiminez signed non-compete covenants.  Shortly after termination of their Aerotek employment, they allegedly violated the covenants by going to work for that company’s competitor C-T.  Aerotek sued C-T for tortious interference with contract.  C-T responded by moving to dismiss on the ground that it did not know about the covenants when it hired the two ex-Aerotek employees.  The motion was granted.  Aerotek, Inc. v. Zahn, Case No. 6:14-cv-293-orl-31TBS (M.D. Fla., 6/17/14).

The Court’s Rationale

The court reasoned that to state a claim for tortious interference, Aerotek was required to prove that C-T intentionally interfered with Zahn’s and Jiminez’s covenants at the time they supposedly committed a breach of contract.  However, the court said, the employees breached when C-T hired them, and that occurred several months before C-T learned about the covenants.  At that time, CT lacked the requisite intent to interfere with the contracts.  What occurred thereafter may have been a continuation of injuries and damage, but it was not a continuing tort.  In the court’s words, Aerotek “conflates the moment of the breach with the period of the injury.”  

The court relied on a case concerning the date the statute of limitations began to run on a trade secret misappropriation claim against the new employer who allegedly received the former employer’s confidential information from a new hire.  The ruling there was that the misappropriation occurred the day the ex-employee started working for the new employer.  What occurred later were the effects of that one act, not a continuing tort.

Takeaways

The ruling in Aerotek, if generally followed, seemingly would provide some cover for an employer ignorant with regard to its hires’ non-compete covenants.  Vaguely reminiscent of the military’s former “don’t-ask-don’t-tell” policy, on its face Aerotek suggests that the new employer may benefit from not questioning a new hire concerning the existence of a non-compete with a prior employer.  But the strategic decision by the new employer not to seek that information before making a job offer, and not to assess the risks before investing time and money in the new hire, can be perilous if the new hire did promise not to compete. 

First, even if the former employer does not sue its successor, the former employer may file a complaint against the new hire for torts and breach of contract.  Any such lawsuit almost certainly will be distracting to both the new hire and the new employer, and will be expensive for one or both.  Second, a court order might be entered enjoining the new hire from competing, which could result in an inability (at least temporarily) to perform all or part of the job for which he or she was employed. 

Third, the prior employer may make claims against the new employer which are held to state valid causes of action.  If tortious interference is alleged, the court might not follow the lead of the Aerotek judge and dismiss the allegations.  Moreover, the complaint may allege misconduct other than or in addition to tortious interference.  Fourth, if a lawsuit is filed against the new employer and/or the new hire, bad publicity may result regardless of the outcome in court.  The better course usually will be to inquire sooner rather than later regarding non-compete obligations that a prospective hire may have.

By Matthew Hafter

With the Securities and Exchange Commission’s attention again returning to cybersecurity issues, many registrants are recalling the Commission’s intense focus on “Year 2000” issues over a decade ago.

Commissioner Luis Aguilar, in remarks at the SEC’s cybersecurity roundtable held on March 26, 2014, made a special point of discussing the SEC’s growing concerns about cybersecurity and observed that cyber-attacks have wide-ranging and potentially devastating effects on the economy, individual consumers and on markets and investors.  In an April 2, 2014 speech, Commissioner Aguilar stated that the SEC’s Office of Compliance Inspections and Examinations will be making cybersecurity an exam priority, warning that the industry should expect that SEC examiners will be reviewing whether asset managers have policies and procedures in place to prevent and detect cyber-attacks and whether they are properly safeguarding their systems against security risks.

These concerns are not limited to those operating in the retail side of the securities markets.  All companies subject to reporting obligations under the Securities Exchange Act of 1934 must be aware of how cybersecurity issues should be disclosed.  The SEC identified several key areas of potential disclosure in CF Disclosure Guidance: Topic No. 2 .

Risk Factors

The SEC expects registrants to disclose risks related to cyber incidents if those risks make an investment in the company speculative or risky.  As with other risk factors, disclosure must be tailored to the registrant’s specific circumstances, and include such matters as areas of business or operations that give rise to material cybersecurity risks, and the potential costs and consequences.  Companies that outsource must consider cybersecurity risks related to that aspect of their business and how those risks are addressed, including detection of incidents and potential insurance coverage.

Management’s Discussion and Analysis

Cybersecurity risks and incidents may result in costs or other consequences that are reportable as a material event, trend or uncertainty that could have a significant impact on a registrant’s operations, financial condition and results.  Such disclosure could include the impact of increased expenses for data and system security, or the consequences of theft of valuable intellectual property from a cyber-attack.

Description of Business

Registrants must disclose any material effects of cyber incidents on products, relationships with business partners, or competitive conditions.

Legal Proceedings

Cyber incidents may result in litigation or government investigations that meet the disclosure requirements of Item 103 of Regulation S-K.  In particular, Instruction 2 requires aggregation and disclosure of “any proceeding [that] presents in large degree the same legal and factual issues as other proceedings.”  In this way, individual claims related to cyber security incidents may point to a larger disclosure issue – both in terms of meeting the dollar threshold of Item 103 and a failure of internal controls (discussed below) – even if each claim by itself is not material.

Financial Statement Disclosure

There are many ways cybersecurity risks and incidents may affect a registrant’s financial statements.  These include:

  • Costs to maintain system and data security and to prevent cyber incidents.
  • Costs to remediate the effects of any data breaches (such as customer loyalty or incentive programs, or providing free credit reports).
  • Expenses and losses resulting from claims asserted by customers for product returns, breach of warranty, or breach of contract, or claims from counterparties for their own remediation efforts, as well as the costs of regulatory investigations and potential litigation.  The financial statements must deal with accrual and/or disclosure for both asserted and threatened claims; and, in addition, cyber incidents are one of the relatively rare instances where unasserted possible claims are so likely and could be so material that they must be dealt with under the loss contingency rubric.

Disclosure Controls and Procedures

Cyber incidents pose multiple risks to the registrant’s ability to control its own data and other assets and to its ability to accurately record and report information required in SEC filings.  This may the most painful disclosure of any listed, because it requires the registrant to at least skirt around the edges of information about vulnerabilities it would not want any hacker to know about.

The SEC’s Disclosure Guidance on cybersecurity did not present mandatory rules for disclosure, but merely guidance.  However, given the SEC’s increasing attention to this hot-button issue it is likely that the Commission will be pressing registrants to provide greater attention and detail to these challenges.  Privately held companies should also be mindful of the disclosure obligations identified by the SEC when issuing securities in private transactions.  We also expect cybersecurity issues to become increasingly prominent in the broader realm of corporate governance as directors are likely to face greater scrutiny under the standards of In re Caremark International, Inc. Derivative Litigation, 698 A.2d 959 (Del. Ch. 1996) to assure that the company has adequate information and reporting systems to assure compliance with applicable legal requirements related to data security and privacy.

While the Supreme Court has taken some heat in the past for seeming to misunderstand technology and how it impacts the normal person’s life, with Riley v. California the Court demonstrated not only an unexpected fluency with how mobile phone technology has evolved, but also with how it has caused our daily sphere of privacy expectations to evolve. Just like when the police want to rifle through your house, when they want to go through your phone, the Chief Justice makes it very simple – get a warrant.

There are signs that the debate over whether to ban non-competes may end in a compromise, a result many, including this blog, have predicted.

As we reported in Friday’s post, the Joint Committee on Economic Development and Emerging Technologies held a public hearing yesterday at the Statehouse on HB4802, which would adopt the Uniform Trade Secrets Act (“UTSA”), repeal the current statutes regarding theft of trade secrets (Sections 42 and 42A of Chapter 93), and ban employee non-compete agreements.  The three hour hearing was packed with legislators, lawyers, and business people on both sides of the non-compete debate. Also, in attendance and presenting testimony were individuals negatively impacted by non-competes, many of whom were wearing “Create Jobs in Massachusetts/Ban Non-Competes” stickers.

The Committee’s Chair, House representative, John Wagner noted at the commencement of the hearing that unless convinced otherwise he was somewhere along the spectrum between leaving the law as it is on non-competes, and banning them outright. The hearing testimony was kicked off by Governor Patrick’s economic development chief, Gregory Bialecki, who presented the Patrick administration’s position that non-competes stifle innovation and job growth and should be banned, but he told the committee that the administration would be open to a compromise.

Another House Representative, Lori Ehrlich,  who has been involved in the non-compete debate since 2009 (please see our link to previous blog entries on the topic), and worked previously with then House Representative William Brownsberger, on a compromise bill, offered proposed changes to the HB4802. She explained that the changes are designed to address the unpredictability of the current common law, and incent employers to use narrowly  tailored non-compete restrictions.  Ehrlich’s proposal would establish presumed reasonable terms for the duration, geographic scope, and activity restrictions of non-competes, such as a six month non-compete restriction, and limiting the employee only from taking a position with similar duties to previous position and within same geographic region he/she was in previously. Under current Massachusetts common law, while courts can reform overbroad agreements to be more limited, it is difficult at best for employers and employees to predict what will be deemed reasonable or not. Erhlich’s proposal sets a “reasonableness” guidepost. Moreover, in a departure from current law, the proposal includes a “red pencil” provision for any non-compete restriction not presumed reasonable under the proposed legislative scheme. For example, if the enforcing company cannot demonstrate a legitimate business reason for exceeding a 6 month non-compete restriction, Ehrlich’s proposal requires a court to “red pencil” and strike the non-compete, rather than merely reduce it to a 6 month presumed reasonable time frame. The intent behind this part of the proposal is to incent employers to implement very tailored and narrow non-compete restrictions. 

While it seems there is much less debate over the trade secrets provisions in HB4802, Erhlich also proposed some revisions relating to the UTSA, including expanding protections to licensees of trade secrets rather than just the owners; eliminating the need for owners of trade secrets that have been misappropriated to continue security protections while they pursue enforcement; and limiting the premature and breadth of disclosure of the trade secrets at issue in litigation to enforce UTSA protections.

As we had previously reported (link to previous blog), also still in play on non-compete and trade secret protection in Massachusetts are the House and Senate’s pending economic development bills. The House economic development bill is notably silent on the issue of non-competes and adoption of the UTSA. The Senate economic bill, was also silent on the issue of non-competes, but would adopt the UTSA. Yesterday, while the Joint Committee hearing was underway, the Senate voted 32-7 in favor of a compromise approach offered by Senator William Brownsberger, an early proponent of banning non-competes. Here is a link to earlier blog entries on the bills. This compromise like Ehrlich’s would limit the duration of non-compete restrictions to six months and prohibit their use with hourly employees. It is unclear what the House will do on the non-compete issue given the pending bill’s silence on the issue. These differences will no doubt be addressed and perhaps settled later in the month when the Senate and House try to reconcile their economic development bills before the end of the legislative session on July 31.

In sum, it seems more likely now that Massachusetts will enact some form of legislation governing the use of non-competes and adopt some form of the Uniform Trade Secrets Act. The final form of such legislation remains to be seen, as well as whether it can be accomplished before the end of July. As we reported previously, there will be no more formal sessions of this legislature after July 31st.  While informal sessions will still occur, typically those only address “non-controversial” legislation, such as the changing of a street name.  Moreover, it is the last year of the two year legislative session, so unless the legislature acts on HB4802 or another standalone bill before the end of July, the legislation would have to be reintroduced into a new congress in January — with a new governor.

We will continue to monitor all the pending bills, as well as any others that may be filed, and report back.

The 2014 edition of The Legal 500 United States recommends Seyfarth Shaw’s Trade Secrets group as one of the best in the country.

Nationally, our Trade Secrets practice moved up one position from the 2013 rankings to Tier 2. In addition, Legal 500 has launched its first-ever shortlist for U.S. awards, and we are very pleased to report that Seyfarth is one of five firms shortlisted for 2014 Law Firm Award for Trade Secrets Litigation. We expect the award winner to be announced on Wednesday, July 2nd.

Based on feedback from corporate counsel, three Seyfarth partners were recommended in the editorial, and they include Michael D. Wexler, Robert B. Milligan, and Jason P. Stiehl.

The Legal 500 United States is an independent guide providing comprehensive coverage on legal services and is widely referenced for its definitive judgment of law firm capabilities. The Legal 500 United States Awards 2014 is a new concept in recognizing and rewarding the best in-house and private practice teams and individuals over the past 12 months.
The awards are given to the elite legal practitioners, based on comprehensive research into the U.S. legal market.

The commercial and personal use of drones are becoming increasingly more prevalent. Indeed, there were allegations during the ongoing World Cup that a drone was purportedly used to spy on a team’s practices by an opponent who was looking to gain a competitive advantage. Josh Salinas weighs in on the potential threat drones may pose to the protection of trade secrets.

We reported in our post of June 11th that Governor Patrick had introduced a sweeping economic growth bill (HB4045) — that, if passed, would ban employee non-competes in the Commonwealth. We also explained that subsequent to Governor Patrick’s bill, another bill (HB4082), was introduced that stripped Governor’s Patrick’s bill and left only those portions dealing with trade secrets and non-competes. This new bill would adopt the Uniform Trade Secrets Act, repeal the current statutes regarding theft of trade secrets (Sections 42 and 42A of Chapter 93), and ban employee non-compete agreements.  HB4082 was likely introduced because of concerns that Governor Patrick’s bill would not make swift enough progress, since the other provisions that did not relate to employee non-compete agreements were so broad in scope. 

The second bill, HB4802, was referred to the Joint Committee on Economic Development and Emerging Technologies in early June, and now that Committee has scheduled a public hearing for July 1, 2014 from 11:00 a.m. to 2:00 p.m. in Room B-1 at the Statehouse. Similar to the committee hearing held previously on Governor Patrick’s broader economic bill (HB4045), we expect to hear testimony from constituencies on both sides of the non-compete debate.  As the Boston Globe noted after the hearing on Governor Patrick’s bill, “[t]he sides are generally split according to size, with large, established employers … working to maintain the status quo, and people from the startup world — including venture capitalists who invest in early-stage companies — pushing to let workers jump to rivals whenever they want.We will be attending the hearing, and will report out after.

Also, still in play are the House and Senate’s economic development bills. As we reported previously, the House economic development bill is notably silent on the issue of non-competes and adoption of the Uniform Trade Secrets Act. The Senate economic bill, which was released this morning, is also silent on the issue of non-competes, but adopts the Uniform Trade Secrets Act. Both economic bills are pending.  After votes on any amendments to the Senate bill next week, a conference committee will be appointed with three members from each body to reconcile the House and Senate versions. Since neither of the economic bills mention non-competes at all, the final version of the  bill (after they reconcile the House and Senate bills) sent to the Governor for his signature (by July 31) will not change state law on non-competes. Separate and apart from the pending economic bills, whether or not a standalone bill like HB4802 will get to the Governor for signature by January 31st remains to be seen.

Against this backdrop, you may wonder what is next on the legislative path for HB4802 after the July 1st hearing.  As we understand it, the Committee will meet after the hearing to decide next steps.  This could happen as soon as Tuesday after the hearing, or sometime thereafter.  The bill could emerge from the Joint Committee as is, or it could include amendments. Some are suggesting that the bill will be amended and a compromise bill will emerge that will then go to the House Ways and Means Committee, where any changes to bills are reported.  It could then be reported out to the full House for consideration, or it may have to go back to committee.

In sum, it is difficult to predict at this juncture whether HB 4082 will survive in its current form, or evolve toward a compromise bill like the one previously introduced by Senator William Brownsberger and Representative Lori Ehrlich in late 2012.  Keep in mind that after July 31, there will be no more formal sessions of this legislature.  While informal sessions will still occur, typically those only address “non-controversial” legislation, such as the changing of a street name.  It is also worth noting that this is the last year of the two year legislative session, so unless the legislature acts on HB4802  before end of July, the legislation would have to be reintroduced into a new congress in January — with a new governor.

We will continue to monitor all the pending bills, as well as any others that may be filed, and report back after the July 1 hearing. You may be interested in today’s Boston Business Journal’s article on the non-compete debate in Massachusetts.