Trade Secret / Noncompete : Business, Employment, Intellectual Property, and Litigation Attorneys Focused on Trade Secret/Noncompete Issues

In 2006, Hunt approached a sales manager at one of InfoCor's competitors, and was ultimately hired.  During his last month at InfoCor, Hunt attempted to divert a number of customers to his soon-to-be new employer and helped arrange for the new employer to become another authorized reseller of SMART Boards to CESA 2.  A few months later, after Hunt's employment with InfoCor had ended, CESA 2 terminated InfoCor's status as an authorized reseller of SMART Boards.

InfoCor sued Hunt and his new employer alleging trade secret misappropriation, violation of Wisconsin's computer crime statute, tortious interference, common law and statutory conspiracy claims, conversion and breach of the duty of loyalty.  The trial court dismissed all of InfoCor's claims on a motion for summary judgment except its claim for tortious interference based on Hunt's interference in InfoCor's customer relationship with CESA 2 prior to terminating his employment at InfoCor. InfoCor appealed the dismissal of its duty of loyalty, conspiracy and the portion of InfoCor's tortious interference claim relating to Hunt's post-termination activities.

The Court of Appeals reversed, with the bulk of its discussion focusing on the duty of loyalty claim.  While the decision is unpublished and, therefore, not binding (under a recent change in Wisconsin's rules, however, it may be cited for its persuasive effect), its historical discussion of when a duty of loyalty exists is helpful and identifies the issues that generally arise in those cases.  The result highlights why the claim can be such an effective one for a company seeking to protect its information in the hands of a former employee and its competitors.

The Court's analysis was primarily addressed to the question whether Hunt owed InfoCor a duty of loyalty in the first instance.  The trial court had held that Hunt did not owe any such duty because he was a mere employee and not a corporate officer or the "'policy-making' equivalent" of an officer.  In the trial court's view, it was clear under Wisconsin law that only officers or policy making employees owe a duty of loyalty and that a salesman, like Hunt, did not fit into either category.

The Court of Appeals rejected that conclusion.  Relying on a line of Wisconsin cases going back to the early 1960's, the Court of Appeals held that the test was not the authority of the employee with respect to the business as a whole which determined whether a duty exists, but whether the actions at issue were "within the scope of the employee's responsibilities" and "directly contrary to the employer's interest."  Put another way, "an employee who uses the power of his employment responsibilities to harm his employer breaches his duty of loyalty" but an employee who was not a corporate officer and who "merely explored the possibility of starting a competing business, but did no actual harm" to the employer does not.  The Court of Appeals referred to this analysis as determining whether the employee's duties make him a "key employee" giving rise to a duty of loyalty in relation to the performance of those duties.

Thus, even a "mere" salesman, like Hunt, can owe a duty of loyalty to his employee not to use his position to further his own or another's competitive interests at the expense of his current employer.  Hunt's actions in helping his future employer become an authorized reseller of SMART Boards to his primary customer, in direct competition with and ultimately to replace InfoCor breached that duty.

The utility of a breach of loyalty claim in dealing with employees who have taken crucial information and "jumped ship" should not be underestimated.

For example, while businesses often place significant value on customer information, courts have been relatively hostile to misappropriation of trade secret claims based on the use of such information.  A duty of loyalty claim, however, does not turn on whether the information or activities at issue involve trade secrets.

Similarly, the claim does not depend on the often-difficult task of justifying the precise terms of a contractual non-compete, particularly in states, like Wisconsin, where an overbroad employee non-compete is void in its entirety and cannot be enforced even to the extent reasonable.  Another advantage is that the claim sounds in tort as well as contract, opening up the possibility of punitive damages for particularly egregious conduct.

Another advantage of such a claim is that it focuses on the information at issue and the actions of the employee with respect to that information, i.e. it is easily tailored to the specific facts of the case.  It does not require the sometimes contortionist tactics needed to shoehorn the facts into a specific statutory cause of action like the CFAA or its state equivalents, which can be particularly problematic when the law under those statutes is changing quickly as the limits of the statutes are being tested and developed in a number of cases.

Finally, in those cases where the employee's activities, like Hunt's in the InfoCorp case, cause damage to the employer during his/her employment, the employer can also seek to recover the compensation paid to the employee during the period of the breach, including the value of benefits paid.  Combined with a conspiracy claim against the new employer where appropriate, the addition of a claim for punitive damages and return of employment compensation amounts can add significant dollars to the amounts at issue and, in general, increase leverage in negotiations to get back or prevent the use of the information.

Substantively, the revised FOIA contains two noteworthy changes that may impact the city's determination of what information it will produce in response to the FOIA requests. First, a new section of the Act, Section 2.5, provides that "[a]ll records relating to the obligation, receipt, and use of public funds of the State, units of local government, and school districts are public records subject to inspection and copying by the public." At first glance, this provision echoes the definition of "public records" in the former version of the Act, which listed seventeen specific categories of information constituting public records, including "all information in any account, voucher, or contract dealing with the receipt or expenditure of public or other funds of public bodies." However, the new language more closely echoes article VIII, section 1(c), of the Illinois Constitution, which provides that "[r]eports and records of the obligation, receipt and use of public funds of the State, units of local government and school districts are public records available for inspection by the public according to law." In this regard, it's worth noting that the Illinois Supreme Court's recent decision in Stern v. Wheaton-Warrenville Cmty. Unit Sch. Dist, 233 Ill. 2d 396 (2009), expressly left unanswered the question of whether that constitutional provision required that a school superintendent's employment contract be disclosed in response to a FOIA request. Instead, the Court decided the case on the narrower grounds that the employment contract did not fall within the exemption for "personnel files" simply because the contract was contained in the superintendent's personnel file. Thus, new FOIA Section 2.5 may simply be a legislative effort to clarify that the category of public records designated by article VIII, section 1(c) of the Illinois Constitution is subject to FOIA and to provide the public with a defined tool for requesting such records within the framework of FOIA.

Second, the trade secrets exemption has been modified so that, to be considered exempt, information claimed to be trade secret or "commercial or financial information obtained from a person or business," must be "furnished under a claim that [it is] proprietary privileged or confidential, and that disclosure of the trade secrets or commercial or financial information would cause competitive harm to the person or business." In light of these changes, what Company X must do (at least going forward) is fairly plain: from now on, when Company X submits documents to an Illinois government entity, it must pre-designate information contained in those documents as trade secret and proprietary in order to be able later to claim the trade secrets exemption.

Other changes will make it easier for parties like Company X to protect their information, and others will make it harder. For instance, under the new law the city has different response times for responding to Company Y's and the reporter's respective requests. Company Y's request will likely be treated as a "commercial purpose" request, which means that the city has 21 business days to either produce the bid and contract, reject the request by citing an exemption, or provide the requester an estimate of the time it will take the city to provide the requested records and the cost of processing the request. Assuming that the phrase "solicitation . . . for sales or services" in the new definition of "commercial purpose" is construed as including a competitor's efforts to obtain contract and bid documents, Company X will have more time to marshal its factual and legal arguments for non-release and to work with the city to produce a redacted version of the requested documents.

By contrast, the reporter's request must now be answered within five business days (as opposed to seven business days under the current FOIA) and the city will be penalized if it fails to timely respond. Importantly, under both the former and the revised versions of the Act, the city is under no statutory obligation to give Company X notice of any FOIA request for its information. Thus, to the extent it can, Company X should secure a contractual requirement that it receive notice of any FOIA requests for its information. (Further, to the extent such a contractual obligation is not feasible--i.e., in the case of a losing bidder--it is prudent for private parties submitting information to government entities to stress the importance of receiving such notice, even as a courtesy.)

These changes (as well as numerous other changes in the Act) are part of a deliberate effort to overhaul what the new Act's most prominent advocate, Illinois Attorney General Lisa Madigan, referred to as the State's prevailing FOIA "culture" at a recent forum on the new law held at the Chicago Kent School of Law. Madigan and her deputy Chief of Staff, Kara Smith, emphasized at the forum that the amendments are designed to make it easier for the press and the public to gain access to information by requiring that the government respond more quickly to FOIA requests, providing additional consequences for State agencies that do not timely comply with requests, and narrowing the scope of certain exemptions.

Just what all of this means for Company X and other private parties doing business with Illinois government entities remains to be seen, but clients seeking to protect their trade secrets should be vigilant.

A redlined version of the statute, highlighting the differences between the old and new FOIA laws, is available on the Attorney General's website here.

Miracorp sued in Kansas state court, obtaining initially a temporary restraining order preventing defendants' use of Miracorp's database and operation of defendants' competing website.  Miracorp then sought to convert the TRO into a preliminary and permanent injunction.  Miracorp persuaded District Judge Vano to issue the injunction, but it was a bumpy ride for all involved.

Initially, Miracorp's heavy reliance on the law of trade secrets is curious considering that Miracorp allowed the public to search the database apparently without restriction on dissemination of the search results.  Copyright infringement would seem to have been an easier claim to prove.  (Apparently, Miracorp's lawyers eventually realized this as the decision reports that Miracorp later filed a separate suit in federal court asserting copyright infringement.)  It is also curious why Miracorp chose to distribute its CD through an outright sale, as opposed to a long-term license, and why Miracorp apparently imposed no limitations on disposition or use of the CD.

The court's decision finding that Miracorp had established a likelihood of success on its trade secrets misappropriation claim is interesting.  Certainly, the court was on firm footing in holding that a compilation of otherwise publicly available information could be a trade secret.  However, the court was generous in finding that Miracorp had reasonably protected its database compilation despite the fact that:  (a) Miracorp did not label the database--either internally or outside the company--as confidential, and apparently did not impose limitations on the use or dissemination of its contents; (b) Miracorp's employees apparently were not required to sign confidentially agreements; (c) inside Miracorp, the database only was protected by password; (d) outside Miracorp, the CD given to purchasers was password protected but that security could be broken in less than 30 minutes using open source software available for free on the Internet; and (e) during a courtroom demonstration, the defendants were able to access the entire database from plaintiff's website due to a technician's oversight in not activating security on the server housing the website.  Moreover, in overlooking all of those circumstances, the court focused on the plaintiff's subjective pure heart in intending to protect its database.  In referring to the technician having "left open the door" to the website server, the court posed what it believed to be the dispositive question as, "Can it be true that when someone forgets to lock the door to the home that the family is, therefore, found to have given its consent to intruders, vandals or thieves?  The court thinks not."

But what does consent have to do with whether the security efforts were objectively reasonable under the circumstances, which is the test under the Uniform Trade Secrets Act adopted by Kansas.  Under that test, even assuming lack of consent, it may well not be reasonable to leave open the door to a company's most valuable asset for long periods of time or to distribute that asset in a CD that could be hacked with minimal effort.

At the end of the day, the real problem for the defendants may have been that they ran a red light:  they openly admitted having copied Miracorp's database wholesale and having based their entire competing business on it.  Even in the absence of express prohibitions on copying, that is behavior for which many courts will issue a ticket.

Does it have independent economic value? Does that value come from not being generally known and not readily ascertainable by proper means? Maybe. It will depend in large part on the amount of information and the nature of the business. For example, a customer list with detailed information about each customer, including purchase history, pricing information, etc., would likely be viewed as having value. In contrast, a "naked" customer list (i.e., a customer list with just customer names and contact information, but no information about them) in an industry in which the customers are generally known or easily ascertainable would likely not be viewed as having value. There are, of course, exceptions. For example, a naked customer list that is bought and sold as a mailing list - with a confidentiality requirement attached (to protect its value) - has independent economic value. (Note that the fact that it is bought and sold, presumably demonstrates that it cannot be readily developed, which is part of the analysis of whether it has value.)

What about confidentiality? If the list is protected from disclosure, and the steps were reasonable under the circumstances, that would complete the analysis. Voilà: a trade secret. Well, two of three anyway: the detailed customer list and mailing list would likely be trade secrets, while the naked customer list used for internal purposes only very well may not be.

Of course, this analysis raises some more questions. Most significantly, what are reasonable measures? Of the three elements, only confidentiality is within the control of the possessor of the information. And, once a trade secret is publicly disclosed, it will, in most circumstances, be deemed to be lost. Accordingly, courts will focus on the possessor's efforts to maintain confidentiality.

While "heroic" measures are generally not necessary, "reasonable" measures are. What is reasonable is a highly fact intensive analysis. The quintessential example of extreme (i.e., heroic) measures is the lengths that Coca-Cola goes to protect the recipe for Coke. Those measures are, however, not necessary for most trade secrets. Instead, the nature of the of the information will influence the reasonableness of the efforts. Back to the customer list example.

Assuming the list could be protected, it may be enough to mark it confidential, keep it in a secure location, and permit access only by those with a need to know, who are themselves subject to confidentiality obligations. It may not, however. As a result, given the nature of the inquiry, it bears mention that the possessor of the information can never go wrong (as far as securing protection - as opposed to, say, corporate culture - is concerned, that is) by employing protections beyond the minimum; thus, best practice is not to hone too fine a line to what a court may consider the minimum necessary protections, but rather to err on the side of employing greater safeguards.

As this is part of our "Back to the Basics" series, we have not delved deeper into the analysis. Suffice it to say, however, that much more analysis should be undertaken with respect to any trade secret of any significant value.

With that background, even though nonsolicitation agreements are not permitted in California (and thus, that might be considered to be the end of the case), the court nevertheless found that it was proper to prevent a former employee from soliciting customers based on trade secret misappropriation law and/or unfair competition law - as opposed to based on some contractual obligations.  The court explained that "a former employee may be barred from soliciting existing customers to redirect their business away from the former employer and to the employee's new business if the employee is utilizing trade secret information to solicit those customers."  The court further explained, "[I]t is not the solicitation of the former employer's customers, but is instead the misuse of trade secret information, that may be enjoined." 

What is true in California in this regard is true elsewhere:  An employee's solicitation of an employer's customers may not only jeopardize the employer's goodwill, it may implicate the employer's trade secrets and confidential information, thus providing the employer with another arrow in its quiver to prevent such conduct.

Application of the "inevitable disclosure" doctrine is neither universal nor automatic, however.  For example, in states that have not adopted the UTSA, some courts have construed the absence of an express statutory provision allowing for claims based on threatened (as opposed to actual) misappropriation as precluding the use of the doctrine.    

Even in those states where the UTSA has been adopted, the applicability of the doctrine remains an open question.  For example, in some UTSA states, courts have expressly rejected the doctrine, holding that it "cannot be used as a substitute for proving actual or threatened misappropriation of trade secrets."  See, e.g., Whyte v. Schlage Lock Co., 125 Cal. Rptr. 2d 277 294 (Cal. Ct. App. 2002).  In other states, despite the fact that the doctrine has been recognized for at least 40 years, the state appellate courts have simply not addressed the issue, leaving the federal courts to predict what is likely to happen in those jurisdictions.  Compare, e.g., Clorox Co. v.  S.C. Johnson & Son, ___ F.Supp.2d ___, No. 09-CV-408, 2009 WL 1615522 (E.D. Wis. June 9, 2009) (noting lack of Wisconsin decisions addressing the viability of the inevitable disclosure doctrine) with Square D Co. v. Van Handel, No 04-C-775, 2005 WL 2076720 (E.D. Wis. Aug. 25, 2005) (assuming, without deciding, that even without an enforceable noncompete agreement, the inevitable disclosure doctrine would justify injunctive relief under Wisconsin law, if the information allegedly possessed by the former employer were a trade secret).  

Finally, even where the state courts have adopted the doctrine, it will not "inevitably" lead to the granting of injunctive relief for the former employer.  As the Square D court noted, there is still a threshold issue of whether the information the former employer seeks to protect is a trade secret.  And, even if a trade secret is involved, to determine whether disclosure is truly inevitable, courts will often look closely at just how much overlap there is between the employee's former and current positions or whether other actions can be taken to protect against disclosure short of enjoining the employee from working for the competitor.  See, e.g., Bridgestone/Firestone, Inc. v. Lockhart, 5 F. Supp. 2d 667 (S.D. Ind. 1998) (where sales executive had been assigned to work in a non-competitive division and "ethical walls" would be used to isolate him from decisions where his trade secret knowledge could be used, no inevitable disclosure threat existed).  Courts also continue to look closely at the balance of harms.  Thus, even while recognizing that you can't put toothpaste back in a tube and, similarly, a trade secret once disclosed is, by definition, no longer a trade secret, courts remain very concerned about limiting the mobility of employees, especially those with highly specialized knowledge.   

In short, despite the long-standing nature of the doctrine, courts continue to struggle to balance the legitimate needs of both employees and employers and, even where prior case law indicates that the doctrine is viable, where a particular court will strike the balance remains an open question.