Lawyer Article

Published in the November 17, 2004 issue of Southeast Tech Wire.

When it starts, it’s usually with a bang. Key executives from an important company division resign en masse and open a competing business in the same city. Three salesmen with intimate knowledge of their employer’s customer base and pricing structure simply email that information to their new employer, a competitor, and immediately begin to sell to their old accounts. A software engineer who ostensibly left his employment six months ago to pursue other interests quietly winds up on the payroll of a competitor. A clerical employee leaves in the midst of the bidding for an important contract and relocates to the headquarters of another bidder. Each of these scenarios is based on a real trade secrets case from the past several years. Each of them provides a study of the importance of trade secrets as critical intellectual property. In the "low-tech" economy of the past, large capital investment – think of blast furnaces, factories and mines – was usually the key to the success of a business. Few employees could swing the cost of a blast furnace in order to enter into competition with their employers. Today though, in an economy more driven by information than large capital investment, the greatest risk faced by many companies is the prospect that its most valuable assets – their employees and the knowledge in their heads – will walk out the door. Few companies can easily withstand the shock of losing key members of a sales force, top R&D personnel, or their best marketers to the competition. Loss of a whole division can be devastating. With a significant amount – often the majority – of the value of most companies residing in intellectual property, those companies can no longer afford to treat their trade secrets cavalierly or, worse yet, to ignore them altogether.

Trade Secrets in the Knowledge Economy

Other forms of intellectual property are well known and part of the routine protection mechanisms within companies. Companies know they can prevent others from using their copyrighted works and their trademarks and take care to register them. They understand that a strong patent can block others from using their technology without a license and spend lavishly on lawyers and others to prosecute and protect patent rights.

Trade secrets protection presents a different set of issues. While obtaining protection for patents and copyrights requires public disclosure, to obtain protection for trade secrets the information has to be held close to the vest. It’s no wonder that trade secrets, though also a form of intellectual property, are murkier and not well understood by most companies.

Although it’s not easy to come by good empirical data demonstrating the size of the trade secrets protection problem, the most recent survey sponsored by the American Society for Industrial Security and PriceWaterhouseCoopers indicated that Fortune 1000 companies sustained losses of more than $45 billion from thefts of proprietary information. While the greatest known losses were in manufacturing processes and research & development, customer lists, bid and price information and financial data also figured prominently in the losses. The companies reported that the most significant threats to their trade secrets came from on-site contractors, original equipment manufacturers (OEM’s), and, of course, current and former employees.

Not surprisingly, the growth of the Internet and the proliferation of information systems have significantly increased the risks of loss of trade secrets. In nearly every court case, the trade secrets at issue – rather than being carried out the door as hard copies – were removed in the form of digital information such as computer disks and, most often, as attachments to emails. Yet, as discussed below, few companies have even heard of the potential protections provided by the federal Computer Fraud and Abuse Act, let alone taken the necessary steps to avail themselves of those protections. More broadly, as our experience in trade secrets litigation has shown over and over, few companies have a comprehensive plan in place for the protection of trade secrets. The survey data confirms that the majority of companies do not provide a comprehensive framework for safeguarding trade secrets. Instead, in most companies the responsibility for trade secrets protection – if, indeed, responsibility has been assigned at all – is split between the legal department, the human relations department, the information technology function, and sometimes even physical plant security. Divided responsibility, of course, is a recipe for problems. The most common problem is that a divided responsibility becomes no one’s responsibility. In fact, the most fundamental problem in this area within the majority of companies is the failure to have a single person in charge of protection of proprietary information and trade secrets.

Failure to have a Plan

Another fundamental problem is that companies often don’t understand what information can qualify as trade secrets or how the protection works. Most businesspeople, when asked for a definition of a trade secret, would probably respond with something like the secret formula for Coke or some other type of secret manufacturing information. While those do fit the definition, the legal definition is much broader. Under the Uniform Trade Secrets Act (“USTA”), versions of which have been adopted by over 40 states, the definition of trade secrets encompasses not only technical information but also general business information including compilations of business information and methods, techniques and processes of doing business. Among the types of information found in the case law to qualify for trade secrets protection are customer and supplier lists, companies’ bidding and pricing practices, and market research and forecasts. The potential harm from loss of this “non-technical” information is often more devastating.

It’s not enough to simply qualify in one of the categories for trade secrets protection. In addition, under the USTA the information must have commercial value because it’s not generally known or easily recreated by reverse engineering. Most critically, the information has to be the “subject of efforts that are reasonable under the circumstances to maintain its secrecy.” In other words, the owner of the trade secret must take affirmative steps to protect the trade secrets and to maintain their confidentiality.

Yet, many companies – maybe most – fail to take those affirmative steps. Those steps include a wide range of legal and practical restrictions including confidentiality agreements and policies, computer password protections, monitored entries, special handling of confidential documents and information, and even destruction of confidential trash.

Another complementary tool for trade secrets protection is the federal Computer Fraud and Abuse Act, 18 U.S.C. § 1030 (“CFAA”), a statute originally enacted in 1984 to protect the federal government’s computers and computer data from hackers, but amended in 1996 to cover any computer used in interstate or foreign commerce or communication. Today, as a practical matter, the statute covers any computer linked to the Internet.

Most importantly, the CFAA forbids access of such a computer “without authorization” and prohibits a person with access from “exceeding the authorized access.” As noted above, many (if not most) employee departures and defections to competitors make some use of the former employer’s computer data, often by emailing confidential information to the competitor or downloading the information onto portable devices or computer disks and bringing those disks to the new employer. Those activities can violate the CFAA if the company has an appropriate computer usage policy which clearly forbids those activities by rendering them beyond authorization. Courts usually take protection of trade secrets seriously recognizing that the trade secrets law imposes an ethical restraint on unbridled competition in an effort to keep such competition from becoming destructive. Defendants found liable for misappropriation of trade secrets can be forced to pay damages. In certain states, cases of willful or malicious misappropriation, can lead to an award of punitive damages and attorneys’ fees.

Relief for Trade Secrets Violations

In practice, most trade secrets cases kick off with a request for a preliminary injunction. Injunctive relief – both preliminary and permanent – is most often at issue in trade secrets cases. Courts have recognized the potential for irreparable harm naturally flowing from disclosure of trade secrets and are generally willing to enter injunctions when the trade secrets owner can show misappropriation. (Damages and injunctive relief are also available under the CFAA, 18 U.S.C. § 1030 (g).) Because trade secrets must be affirmatively protected, many companies will be unable to proceed with trade secrets claims because their protections are simply too ad hoc. In other words, they have no comprehensive plan for identifying and protecting their trade secrets. For this reason, we work with our clients on the front-end in establishing comprehensive plans for protection of trade secrets and other confidential proprietary information. This has proven far more effective than the “back-end” litigation approach of racing into court after the trade secrets have left the barn. Moreover, when resort to litigation is necessary, comprehensive plans that clients have followed help satisfy the critical elements of a trade secrets case.

Implementing a Trade Secrets Protection Plan

Putting a plan in place requires examining in detail the nature of the client’s trade secrets. Often, this is a process that the client itself has never undertaken. Next, it’s necessary to consider how and to whom those trade secrets can be lost and, most pertinently, the potential consequences of loss of those trade secrets. After surveying the state of the client’s current protections, the client is provided with specific action steps, draft policies and agreements for improved protections, as well as assistance in implementation of the trade secrets protection plan.

The principle lesson for any company with trade secrets is that trade secrets protection can be a great tool provided the company has a comprehensive plan to identify and protect its trade secrets and the internal discipline to follow that plan.

Press Millen is a trial lawyer and Todd Sullivan a labor and employment lawyer in the Raleigh office of Womble Carlyle Sandridge & Rice, PLLC.