Protecting your interests

Trade Secrets Basics

July 21st, 2011 by Jacob

Trade secret law can be the most important tool for a company. It can protect information that is a key for the business’ success but would be easily used by competitors should it be publicly known. Some of the oldest and most valuable commercial information has been protected as a trade secret to this day- the Coca Cola formula, for example. In the high-tech world trade secrets are a valuable tool where sophisticated competitors understand how to read a patent that is public information. Just recently Google was sued by Paypal for trade secret violations and a Ford employee plead guilty to stealing 50 million dollars worth of trade secrets.

There is no federal trade secret law. Trade secrets originated in state case-law although now most states have trade secret laws modeled on the Uniform Trade Secrets Act (UTSA). Trade secret law has historical roots in tort law and more recently in Unfair Competition law. The UTSA 1(3) defines a ‘trade secret’ as:

“Trade secret means information, including a formula, pattern, compilation, program, device, method, technique or process, that: (i) derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by its disclosure, and (ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.”

This is actually a broader definition than the previous definition under tort law because the term in tort law required the secret be in continual use. The USTA definition protects information that may not be used in business. For example the information might reflect what not to do or the business might not yet be able to apply the information to a business use.

What is a Secret
There are two factors to determine a protected trade secret. The first is whether the information is ‘novel’ or known to the public. The UTSA definition uses the term ‘not being generally known to’ already allowing that the information can be known by a number of people, say a project group for a company. The second factor is what efforts were taken to protect the information from being known to the public.

The ‘novel’ factor for a trade secret is different from the patent law concept of novelty. A ‘novel’ idea is more akin to a new creation rather than a novel invention under patent law. Indeed, something that is already known generally known cannot be considered ‘novel’. However, the UTSA also states a trade secret cannot be “readily ascertainable”. Therefore even if information is not known, but may be easily obtained, it would not be a trade secret. Value tends to correlate to the novelty requirement because information that is not novel is fairly obvious and easily known by competitors. Obtaining such information often take a large investment although not always. Also, a significant investment to obtain the information makes a stronger case for a trade secret.

Trade secret cases are decided by weighing the equities of the facts. There are no real list of factors as in trademarks and copyright law. Trade secret law balances the need of business to keep certain information a secret and the idea that information should be available to everyone. A court will look at the facts, especially any signed agreements, and balance the equities. Additionally, contracts can provide protection from the disclosure of confidential information which may not be considered a trade secret. Courts are concerned with an employees ability to find employment if they prevent the employee from disclosing or using information. A broad claim for a trade secret will have less chance of success because preventing an employee from using so much information may ruin their ability to work in their field. A narrowly tailored nondisclosure agreement (‘NDA’) will have much more success than a one make sweeping claims of nondisclosure.

Information that may not be a trade secret may sometimes still be protected. Conflicts involving confidential information that is not a trade secret often arise when someone submits an idea or prototype to a company. Then company reject the concept and the later makes a similar design. Generally, the idea will not be a trade secret but may be protected under unfair competition if the concept is “novel” and expressed in a concrete manner distinguished from general ideas. There must also be an understanding that the information is to be treated as confidential. This is usually evidenced by a NDA. Essentially there must be proof that it is more than a common idea already in the public domain. These cases are very subjective.

Security
Actual steps to prevent disclosure are required. Merely posting procedures without enforcement will not create a trade secret no matter how good the NDA. On the other hand, courts are divided on whether a NDA is required for a trade secret. Some will still find a trade secret based on the security efforts taken while other courts say that without a NDA there can be no secrecy expectation.

The necessary security measures are evaluated by a “reasonable care” standard. USTA 1(4)(ii) This will be highly fact specific but using some guidelines you can be reasonably sure to protect your trade secret. The following are some standard security efforts a business should take:

These steps should be applied to any disclosure outside the company as well.

Distribution
Distributing a product containing a trade secret will often negate the trade secret unless it is sold on condition of confidentiality. Often this happens when a competitor reverse engineers a product. This is a legitimate act of obtaining information under USTA. The USTA incorporates reverse engineering as a “proper” method of acquiring a trade secret if

“starting with the known product and working backward to find the method by which it was developed. The acquisition of the known product, of course, must be also be a fair and honest means, such as purchase of the item on the open market for reverse engineering to be lawful.”

The ability to enforce a claim for a product in sold in the market depends upon how “readily” the secret can be discovered by reverse engineering. An obvious discovery will be treated as a ‘publication’ to the public and is no longer a secret. However, where the discovery requires great effort the secret might be retained. A sophisticated piece of technological know-how considered a trade secret but incorporated into a mass market product probably will retain trade secret status. It should be noted that copyright issues and unfair competition issues may arise in reverse engineering cases although it has been held that copying for the purposes of reverse engineering is fair use under copyright law if it is necessary to access functional elements. The case, Sony v. Connectix, involved copying software to reverse engineer a compatible hardware system.

Customer lists: to be or not to be a trade secret
This is probably the most frequent subject of trade secret litigation. Customer lists and general business practices are often not considered trade secrets. In part, this goes back to the public policy concern of allowing people the freedom to work in their field. This is balance by the needed to protect the originator of the information. Allowing an employee to take information, go to a competitor, and destroy the business that made the investment in the information would not be an incentive to create new information. This has made the courts try to split the baby and allow limited contact with former customers such as an announcement of the new employment. Not all lists are created equal. A large mass mailing list of addresses is not the same as a custom list of current customers with purchasing history and other details not found in a business directory.

NDA and confidentiality agreements will be detailed in future post.

New York Law
New York has not adopted the USTA nor does it have a trade secret statute. Instead it still relies on common law torts. New York tends to lag behind on adopting uniform laws and other legal trends. Some say this is to keep the lawyers employed, but I digress.

A trade secret in New York tort law is defined as something “which is used in one’s business, and which gives him an opportunity to obtain an advantage over competitors who do not know or use it”. Six factors are considered to determine whether there is a trade secret.
1- the extent to which the information is known outside of his business;
2- he extent to which it is known by employees and others involved in the business;
3- the extent of measures taken by him to guard the secrecy of the information;
4- the value of the information to him and to his competitors;
5- the amount of effort or money expended by him in developing the information
6- the ease or difficulty with which the information could be properly acquired or duplicated by others. (Restatement of Torts 757)

In an action against someone for ‘misappropriation’ i.e., theft, of a trade secret you must prove they had the trade secret and used the trade secret in breach of an agreement, confidential relationship or duty or as a result of discovery by improper means. It can easily occur that you had a trade secret but did not protect it well enough and therefore fail to meet the second prong of this test.

The states that have not adopted the USTA are: New York, North Carolina, Texas. Massachusetts and New Jersey have laws pending enactment as of July 2011. Check the Uniform Law Commission for updates.