Here are this week’s notable posts, articles and links: Trade Secrets and Covenant Not Compete Posts, Articles and Links: 
  • In a high profile case filed in California last week, American International Group and its subsidiary ILFC sued the co-founder and former chief executive of its aircraft-leasing business, Steven Udvar-Házy, and accused the industry veteran of stealing trade secrets and other confidential information for Air Lease Corp., a rival company he now runs.  The complaint alleges several employees, while still working at ILFC, downloaded confidential files and allegedly diverted deals with certain ILFC customers to Air Lease, before leaving to join Air Lease.  The case has generated a lot of headlines in the financial press and will be worth following. 
  • Law360 is reporting that two former Alliance-Bernstein executives have been held in contempt for using confidential information to lure their former clients to their new employer, Morgan Stanley. The two executivies, Peter A. Gelwarg and Kenneth A. Mayer, apparently violated a June 2011 TRO issued by New York Supreme Court Judge Eileen Bransten.
  • Does the practice of psychology fall within “the practice of medicine”? In Thomas Krajacich v. Great Falls Clinic, the Montana Supreme Court recently found that it did, at least based on its review of the four corners of the covenant not to compete. The court affirmed a lower court’s ruling that three psychologists who had left a medical practice forfeited their partnership shares when they began competing with their former partners. (A PDF copy of the opinion can be found below).
  • How long can a non-compete last in Texas? According to Strasburg’s Non-Compete Blog, in a recent case, Heritage Operating v. Rhine Bros., the Fort Worth Court of Appeals found that a 10 year covenant that accompanied the sale of a business was not per se unreasonable.
  • In the latest article extolling prior user rights under the America Invents Act (AIA), Fast Company’s John Villasenor concludes that the AIA’s new prior user rights have effectively given trade secrets a “promotion” over patents. In “5 Ways To Leverage Trade Secrets,” John writes that trade secrets “retain the same advantages as before in terms of offering a competitive advantage, while one of their risks–the possibility of being held liable for practicing your own trade secret–has been lowered.” 
  • Two weeks ago, I wrote about a non-compete dispute between an Ohio radio station and a pair of its former radio personalities over whether a streaming online show was covered by that non-compete. Stark County Court of Common Pleas Judge Charles E. Brown, Jr. has since issued his opinion finding that WDJQ’s covenant not to compete did not apply to the online venture launched by Patrick DeLuca and Charlotte DiFranco. (A copy of the opinion can be found in the second PDF below).
  • Apple is notoriously good at keeping its trade secrets secure. Its latest idea? Building its own employee-only restaurant to keep prying ears from listening to shop-talk between Apple employees. 
  • In the latest legislative development involving non-competes, Tennessee’s legislature recently eliminated the six-year limitation on non-compete agreements and extended the statute to include osteopathic physicians, reports Burr & Forman’s new Non-Competes & Trade Secrets Blog. However, the statute will continue to prohibit non-compete agreements for physicians specializing in emergency medicine.
China and Trade Secrets:
  • “US Grapples With Growing Threat From Trade Secret Theft,” reports The Wall Street Journal. The article details efforts by the Obama administration to work more closely with the private sector to address this threat which it details is primarily originating within China. The Journal says the catalyst for this planned public-private partnership was a recent study released by The Center for Responsible Enterprise and Trade, or Create, a nonprofit that promotes “better practices in the supply chains of multinationals on issues like corruption and intellectual property rights.” According to the article, Pamela Passman, a former deputy general counsel at Microsoft who founded Create, said trade secret theft is becoming an “epidemic,” but isn’t discussed much because of the sensitivities involved.
Computer Fraud & Abuse Act Articles and Posts: 
  • The Computer Fraud and Abuse Act (CFAA) does not apply to throttling cases, according to the Eastern District of New York. The practice of “throttling,” or limiting heavy users’ access to Internet servers to free up bandwidth for others has spawned a number of lawsuits against ISPs who are struggling to manage their bandwith. Robert Milligan of Seyfarth’s Trading Secrets Blog reports that in Serrano v. Cablevision Systems Corp., the Eastern District dismissed a class action under the CFAA, finding the claims were barred “by the clear language of the Terms of Service and the Acceptable Use Policy.”
Cybersecurity Articles and Posts:
  • The U.S. House of Representatives passed the Cyber Intelligence Sharing and Protection Act (CISPA) last week, and it is shaping up to be a battle as it moves to the Senate. The Washington Post has a good summary of the legislation.
  • For a fairly balanced view of CISPA, check out Alex Howard’s “Passage of CISPA in the U.S. House Highlights Need for Viable Cybersecurity Legislation” on O’Reilly’s Radar.
  • “An Ex-FBI Cybersecurity Expert’s Dire Warnings for Corporate America,” reports Catherine Dunn of Corporate Counsel. Former FBI official Shawn Henry has become one of the stronger advocates for greater corporate emphasis on cybersecurity.
News You Can Use:
  • “Do iPhones Make Us Narccisists”? asks SmartMoney.  
Krajacich v. Great Falls.pdf (144.86 kb) DeLuca v. DA Peterson.pdf (1.13 mb)

Last month, I wrote about Allergan’s “Botox” trade secret dispute with its competitor, Merz Pharma, a dispute that led to an extraordinary injunction forbidding Merz from rolling out its drug Xeomin for cosmetic purposes for 10 months. That post generated a lot traffic; in fact, it was easily the most popular post that I have written over the past year. Given that it struck a chord, I thought it would be useful to outline what lessons can be drawn from that case.

First, a quick recap for those not familiar with the case. Judge Andrew Guilford of the Central District of California came down like a ton of bricks on Merz Pharma, forbidding it from rolling out its drug, Xeomin, for ten months because of the misappropriation of trade secrets by a team of seven former Botox sales representatives and sales managers from Allergan. Merz had defeated Allergan’s motion for a temporary restraining order in August 2010, after assuring the court that Merz did not have any of Allergan’s trade secrets and no intention of using its trade secrets. 

Subsequent events, however proved otherwise. After a pre-trial conference, Merz produced thousands of documents and emails which indicated that the sales team had in fact taken proprietary documents with them and they had been circulated within Merz. At the close of the nine day bench trial, Judge Guilford stated that he had concluded there were “dramatic acts of misappropriation” and his opinion emphasized that his findings of fact were “largely based” on the credibility of the witnesses. Judge Guilford also identified nearly a dozen confidential Allergan documents that Merz had in its possession prior to the TRO conference in August 2010, including internal emails circulating a confidential Allergan PowerPoint addressing its launch of another cosmetic product (Juvederm), detailing Allergan’s sales volumes in specific territories, Allergan employee information that was apparently used for recruiting purposes, and information about Allergan’s Partner Privilege Program. 
 
So what are the lessons we can draw from this case?

Lessons for In-House Counsel:
 
1. Keep an Eye on New Research and Sales Teams. Of course, in retrospect, it all seems so obvious. A new sales team from a competitor is brought aboard and is under tremendous pressure to deliver sales for a potential blockbuster product. The temptation to bring proprietary information to meet those goals and to cut corners may be too tough to ignore in this highly-pressurized situation.

In-house counsel need to be attuned to these situations, and it may be a tough tightrope to walk. Periodic audits and deep dives to make sure that the team is not succumbing to the temptation may be necessary. However, the best approach may be the old-fashioned approach: a face-to-face meeting with the entire team to reinforce the importance of safeguarding the previous employer’s information and business interests. Establishing that personal bond may be the most effective way to communicate the importance of abiding by the safeguards in place to avoid litigation.

2. Don’t get Complacent after an Early Win. It is easy to envision what may have happened here: the client probably felt that the storm had passed and did not want to commit any further spend to the litigation. It’s a tough situation to manage, but in-house counsel have to remember that only the first battle has been won, and not the war. 

It appears that Merz may have let its guard down, because there are a number of telltale signs: not following up on all of the forensic examiner’s hits (a sure sign to me that the client wanted to scale back its expenses in the case); failure to search appropriate computers; and failure to timely produce relevant documents. 

3. Make Sure Management Has Your Back. In order to effectively manage any situation like this one, counsel needs to know that they have senior management’s support. Before the hiring of the team is complete, in-house counsel should be supportive of the hire but make sure that management knows of the potential for trouble and the need for its backing to avoid a similar result.

Lessons for Outside Counsel:
 
1. Don’t Oversell at the TRO Conference. This is a really tough one to put into practice, as the emotion and intensity of a TRO conference, particularly one with the stakes of this kind of case, can cause the best of us to get carried away. However, it is clear that the district court felt that the first court got burned at the TRO stage. Reading Judge Guilford’s quotes from the TRO conference is enough to make you cringe. At the time that Merz’s counsel were making forceful statements about not using or wanting Allergan’s trade secrets, Merz’s new sales team was circulating proprietary information and trying to cover their tracks. The lesson? Be measured in your statements at the TRO conference because you never know what lurks around the corner.

2. Let Your Forensic Expert Do His Job. It appears that the forensic expert retained by Merz was not fully utilized by counsel. Indeed, Judge Guilford emphasized the disconnect between the forensic examiner and the trial team. Dylan Wiseman’s post on the Littler Unfair Competition & Trade Secrets Counsel Blog, has a solid analysis:

The Merz defendants’ own computer forensic review was arguably superficial. The search terms were developed by the Merz defendants without consultation or input from their computer forensic expert. Further, the search terms oddly did not include the term “Allergan.” The Merz defendants also did not search the computers belonging to the four former Allergan employees who had joined Merz Aesthetics. The Merz defendants also did not include any portable storage media from the 50 custodians they had identified as potentially having Allergan’s information. Likewise, the results of the Merz defendants’ computer forensics, which produced “thousands” of hits, were not analyzed by its own consultant, but rather were turned over to the Merz defendants and their outside counsel. The court concluded that “the Merz Defendants’ searches for Allergan’s trade secrets and confidential information were inadequate.

3. If You Have a Good Case, Don’t Let an Early Setback Deter You. Allergan and its outside counsel should be commended as it would have been easy to throw in the towel after a disheartening loss at the TRO stage. I feel like I am giving a motivational speech to my 12 year old’s football team, but it had to be extraordinarily tough to get up off the mat after that early loss and turn this case around. Allergan and its trial team concluded that they had the goods on the former employees that had departed based on their own forensic examination of their laptops and other devices. They persevered despite a significant setback early on by staying the course, perhaps the most important lesson of all.

I’m active in the American Intellectual Property Law Association’s Trade Secrets Law Committee and for those who are either attending the AIPLA’s Spring Meeting in Austin, Texas or still considering it, I wanted to let you know that a panel that I helped organize will be speaking on a number of significant trade secret issues with an emphasis on the increasingly international aspects of trade secrets disputes. 
 
The presentation, “The Internationalization of Trade Secret Disputes:  Big Cases, Big Verdicts and Big Challenges” is scheduled for the morning of May 10, 2012 and runs from 9 a.m. to noon. The topics and speakers include:

  • “Managing and Protecting Your Trade Secrets Overseas – Best Practices to Minimize Misappropriation” – Beth Apperley of AMD in Austin, Texas;
  • “Employees Without Borders:  Managing personal devices and digital technology in an increasingly mobile world” – Ron Johnstone of Yahoo in Sunnyvale, California;
  • “Overcoming the Special Challenges of Litigating against Foreign Parties and Companies” — Michael J. Songer of Crowell & Moring’s Washington, D.C. office;
  • “Litigating Spoliation of Evidence Disputes:  Fallout from the DuPont v. Kolon case and how to use, or avoid, it in your trade secret case” – Griffith Price of Finnegan’s Washington, D.C. office;
  • “Litigating Trade Secret Cases before the ITC – The future of TianRui Group v. ITC and the fallout on trade secret protection internationally” – Bryan Wilson of Morrison Foerster’s Palo Alto, California office; and
  • “Update on Pending Trade Secret Legislation – Status of the Economic Espionage Act, Cybersecurity Bill, New Jersey’s recent adoption of UTSA and recent state trade secret and non-compete legislation” – Peter J. Toren of Weisbrod Mateis & Copley in Washington, D.C.

Mark Halligan of Nixon Peabody’s Chicago office and one of the prominent voices in the trade secret community will be serving as moderator.  Having had the privilege to help put together the presentation and assemble the panel with Dan Westman of Morrison Foerster and David De Bruin of Michael Best, I am excited about the presentation as it hits a number of big decisions and topics in the news — DuPont v. Kolon, TianRui Group v. ITC, mobile devices, and the Economic Espionage Act, among others.
 
It is not too late to register for the AIPLA’s Spring Meeting (here’s the link).  Hope to see you there!

Here are the noteworthy posts of the week: Trade Secret and Covenant Not to Compete Posts, Cases and Articles: 
  • In the latest high profile battle over which state’s law should apply (i.e., California v. every other state), sports agent Aaron Mintz is battling his former employer Priority Sports & Entertainment over the enforceability of his non-compete. Mintz filed a lawsuit in California on the day he left Priority Sports to join powerhouse Creative Artists Agency. Mintz, who has resided in California for the past 11 years, is challenging the enforceability of his employment agreement’s choice of law provision, which provides that Illinois law will apply and he is asking the California federal court to set aside the restrictive covenant on the grounds that it is against California’s public policy. 
  • Does an employer get screwed if it can’t extend its non-compete past the expiration date? Littler’s Unfair Competition & Trade Secrets Counsel Blog has a fine post about this rule in many states — namely, that even if an employee breaches a non-compete, an employer cannot extend the covenant past its expiration date to get the full benefit of its covenant.  For what it is worth, Ohio is an exception to this general rule, as it allows an employer to get the full term of its covenant provided the employer initiates the action before the expiration of the non-compete. 
  • Ignore a permanent injunction and you may find yourself in jail, at least that’s what a Nebraska insurance agent is learning.  Larry Hall was jailed because of his most recent violation of a judge’s order that he stop writing policies and commissions to certain clients, having been held in contempt before for violating a previous injunction enforcing a non-compete, according to the insurance website ProducersWEB.com.
  • Freedom of Information Act Requests (FOIA) seeking potential trade secrets are becoming a hot topic.  Law360 is reporting that power plant operator PPL Montana LLC has sued the EPA to stop it from releasing data to two environmental groups about upgrades to its Montana coal-fired plant, arguing the move would reveal confidential business information to competitors.
China and Trade Secrets:
  • Should you be worried about employees providing trade secrets to Chinese competitors?  Peter Torren says you should and notes that 86% of recent prosecutions under the Economic Espionage Act (EEA) have had a connection to China in an article for Forbes entitled “Chinese Espionage:  The Risks Within U.S. Companies.”  Peter urges Congress to act on the pending Cybersecurity legislation and proposed civil amendment to the EEA.
  • U.S. corporations have lost more than $13 billion due to spying and that’s just for cases now under FBI investigation according to FBI counterintelligence chief Frank Figliuzzi in an article entitled “China-linked economic spying on the rise” according to a post by The Beaumont Enterprise.
Posts and Articles on Procedural Issues Important in Trade Secret Disputes:
  • What does it take to persuade a court to order the imaging of computers of a departing employee?  KL Gates has a fine post in its Electronic Discovery Law Blog about a recent case, United Factory Furniture Corp. v. Alterwitz,  that provides a template for what you may need to show to image that evidence (always good to have in your hip pocket in a trade secret case).
  • You have great electronic evidence but can you authenticate it?  Given the growing importance of social media and other electronic communications in litigation, authentication may be a greater challenge than you might expect.  Eric Goldman’s Technology & Marketing Blog reports on a recent case allowing “circumstantial” authentication and provides other links to cases looking at this issue.
  • Are settlement negotiations discoverable? The Eastern District of Texas says “maybe,” according to a post about a recent ruling in a patent case, Hill v. Abt.  According to EDtexweblog, in the context of determining the reasonableness of a royalty rate, “[w]hether the license negotiations and settlement discussions are properly discoverable will likely depend on whether, within the context of each case, they are an accurate reflection of the patents’ underlying value and whether their probative value exceeds their prejudicial effect.”
Cybersecurity Articles and Posts:
  • “With so much at stake, companies turn to hired hackers” according to the Los Angeles Times.
  • “Is the boss spying on you? Cyber-snooping on rise,” according to an article by The Palm Beach Post News.
  • “Do you have a data breach response plan?” asks tech blogger Pete DiNardo (thanks to Mark Halligan for locating this one, which I missed from last February).
  • “Refund Tax Fraud, iPhone, Feed Identity Theft By Employees” reports Janet Novack of Forbes.
News You Can Use:
  • “Is Your Smartphone Making You Less Productive?” asks the Harvard Business Review.
  • “FBI: Disinfect Your Computer Or Risk Losing Internet Access Come July” advises Adrian Kingsley-Hughes of Forbes.

04242012A recent survey by Harris Interactive for security software provider FileTrek has some discouraging findings regarding American attitudes about confidential information in the workplace. Here are the particulars:

Although most adults (79%) agree that taking confidential files outside the office is grounds for termination, a majority of Americans (90%) nevertheless believe people remove confidential documents from the workplace. Most adults surveyed said that if they were going to risk taking confidential documents, they would use a USB drive (55%).

Not surprisingly, the study also found a “generational gap” in attitudes about confidential information in the workplace. While a solid majority (68%) of the so-called Millennial generation (those between the ages of 18-34) believe it is acceptable to remove confidential files out of the office, only 50% of the 55+ age group believe the same.  In addition, adults 55 and older are more likely to believe someone should be fired for taking confidential information than their younger counterparts (86% vs. 74% of those ages 18-54).

Though 40% of adults surveyed said it is never acceptable to remove confidential company information out of the office, the report found there are circumstances for which they believe it is acceptable:

  • 48% – when boss says it’s okay to do so;
  • 32% – to finish a late night project from home instead of having to stay at the office;
  • 30% – to work over the weekend or while on vacation;
  • 16% – when it is confidential information about themselves;
  •  2% – when it can be brought back to the office before the boss knows it was gone;
  •  2% – to show something to family or friends who promise to keep it confidential (my personal favorite).

FileTrek’s CEO, Dale Quayle, interprets the survey’s results to mean that “[t]oday’s workforce believes information is an asset to be shared, and while companies have benefited from this collaborative attitude with new technologies and increased productivity, there are risks too.” 

The takeaway? Employers need to be prepared to address these attitudes with better education and training to make sure that employees fully understand the importance of preserving the confidentiality of trade secrets and other proprietary data. As I wrote a couple of months ago, building and reinforcing a culture of security is the first and most important step. And unfortunately, if the message does not get through, they may need to be prepared to use litigation to protect themselves. (Thanks to Jon Hyman’s excellent Ohio Employers Law Blog, which had a post about the study this month).

To what extent should a company enforce a covenant not to compete? Should it enforce against every employee that leaves to join a competitor? Should it enforce the covenant to its full terms or reach a compromise with the departing employee? These are some of the thorny questions that companies and their lawyers face when a valued researcher, manager, officer or sales representative leaves for a competitor.
 
However, simply because you can potentially restrict someone under a covenant not to compete does not necessarily mean that you should. “Exhibit A” in that discussion is what ESPN described as “Transfergate” — a commotion last week involving University of Wisconsin basketball coach Bo Ryan, who came under withering criticism for imposing a number of heavy-handed restrictions on the transfer request of an unhappy freshman player named Jarod Uthoff. 
 
The National Collegiate Athletic Association requires a player to sit out a year if he or she wishes to transfer to another school, but its rules also give a coach the discretion to “block” an athlete from transferring to specific schools.  Ryan wielded that perogative like a hammer. He not only blocked Uthoff from transferring to any of the other eleven schools within the Big Ten Conference, but also barred him from transferring to any of the twelve teams in the Athletic Coast Conference, nearby Marquette, and, in what was viewed as a display of vindictiveness,  Iowa State University, a school located near Uthoff’s hometown. 
 
Wisconsin and Ryan ultimately backed down after Ryan’s ill-fated interview on ESPN Radio’s “Mike & Mike in the Morning” Show. Cutting its losses, Wisconsin announced it would allow Uthoff to transfer to any school outside the Big Ten. 
 
You may now be asking, that is all well and good, but what does this have to do with covenants not to compete?  Several things.  First, don’t let emotion drive the decision-making process. Non-compete disputes are notoriously emotional affairs — feelings of betrayal, rushed decision-making, fears about the loss of a business. It’s easy to get swept up, as Ryan apparently did in wanting to stick it to Uthoff. However, remember that you may find yourself playing to a higher authority (a judge) so it is important to take a deep breath and apply a measured approach.
 
Second, consider the facts on the ground. An employer may receive assurances from the former employee and his/her new employer that eliminate the need for rushing into court. If they offer proof of their intention to protect the former employer’s trade secrets and not solicit its customers and employees, it may be prudent to find a way to reach a compromise. (See the IBM v. Visentin case for an effective example of this strategy). Conversely, there may be cirmcumstances where compromise won’t be possible — such as situations involving serious misconduct by the former employee or the mass exodus of senior executives — which may require enforcement of the covenant in its entirety.  
 
Third, remember that the actions that you take may ultimately be reviewed under the microscope of litigation.  To illustrate, Ryan and Wisconsin lost considerable credibility in the debate when they added Iowa State and the entire ACC conference to their “do not transfer” list. They appeared mean-spirited and unreasonable. 

As most non-compete disputes involve considerations other than the letter of the contract, equitable considerations can sway the day. A company may squander the high road if it appears to be punitive in its negotiations or legal position with its former employee. Indeed, many covenant not to compete cases are fought not only in the courts but in the media, so efforts at perceived over-reach can truly boomerang (Witness Cisco’s battle with HP over HP’s efforts to enforce a non-compete against Paul Perez last year). 

The takeaway? Consider every potential dispute on its facts, protect your legitimate interests but be open to compromise where appropriate, and minimize the emotion as best you can. 

04202012An interesting case is developing here in Ohio over whether two former radio personalities who launched a streaming online show violated their covenants not to compete with the radio station that formerly employed them. The first round has gone to the former employees, as Stark County Common Pleas Court Judge Charles E. Brown, Jr. denied the request for a preliminary injunction sought by DA Peterson, a media company that owns FM WDJQ (Q92). (I have attached a PDF of the complaint, which includes the covenant, below; Judge Brown has not yet committed his decision to writing). There has been a significant number of media reports covering this case already and it may prove to be an important dispute in the radio and television industry.

The two former employees, Patrick DeLuca and Charlotte DiFranco, had spent the last six years co-hosting a morning show on WDJQ, a contemporary-hits radio station that broadcasts to the Canton and Youngstown areas. They left the station in February when they were unable to negotiate a new contract with WDJQ. According to the former hosts’ website, DeLuca and DiFranco were the top-ranked Canton morning show radio market for key demographic groups as recently as late 2011. They then launched an online station at www.theradiosucks.com, with live morning shows three times a week.

Because Judge Brown’s decision appears to have been based on the language of the covenant, the definitions are critical to understanding his decision. The covenant defined WDJQ’s business as “the operation, promotion and marketing of commercial radio stations, print and direct mail operations, and bulk mail facilities” and defined “Competing Business” as any person or entity “carrying on business that is the same or essentially the same as the Company Business.” The covenant barred the co-hosts from, among other things, “engag[ing] in any activities the same as the Job Duties for any Competing Business.” The definition of Job Duties is fairly lengthy but it reinforces that their job concerned broadcasting governed by the FCC. According to one report, the terms of their covenant are  “like many in the industry” that typically bar employees “from any on-air duties at terrestrial radio stations within 60 miles” of the radio station’s market.  

Given this relatively narrow language, DeLuca and DiFranco argued that their non-compete only prohibited them from running a business that was “the same or essentially the same as a commercial radio station.” According to that media report, they argued that their online venture fell outside the language of the non-compete because it did not use the public airwaves, required no FCC license, was not regulated by the FCC, and was not subject to the 60 mile transmission radius restricting radio stations. Having just received the complaint this morning, my preliminary review leads me to conclude that the judge’s decision was solidly within his discretion under Ohio law. 

I don’t pretend to be an authority on radio or television stations (although I did represent a television station in a trade secret dispute several years ago and know that they can be complicated due to the heavy regulation of those industries) but I would expect that every media company in the country will be double-checking its non-competes with its on-air talent and executives to make sure that they cover potential competition over the Internet. The Wall Street Journal is reporting today that the CW network’s decision to offer some of its programming online has rankled some of the television stations carrying that network, so online distribution will continue to be a future flashpoint for the media industry. Not surprisingly, DeLuca has just announced a three-year distribution agreement with tunein, a stream aggregation company from Palo Alto, California looking for opportunities to distribute original Internet-based content. 

The takeaway? The radio station’s covenants did not contemplate or specifically include online shows. As a result, when the judge considered the covenant, he construed it against the employer and found that any ambiguity would be in favor of the former co-hosts. In that respect, this case resembles the recent Florida case, Heiderich v. Florida Equine Veterinary Svcs., Inc, which involved a covenant that failed to adequately provide for the many ways in which the employee could conceivably compete with the old employer. 

In short, this case reinforces the importance of trade secret audits that would include updating agreements to make sure that they cover all potential competitive ventures as an employer’s market evolves and its competitive technology changes.

DeLuca Complaint.pdf (691.14 kb)

Here are the noteworthy posts, cases and articles from the past week:

Trade Secret and Non-Compete Articles, Cases and Posts:

    • If a law firm loses a trade secrets case, will it be sued for malicious prosecution?  That is the question raised in a post this week by Epstein Becker’s Trade Secrets and Unfair Competition Blog as it reports on a recent case filed in Los Angeles against Latham & Watkins.  The case brought by William Parrish and Timothy Fitzgibbons relies on findings by the trial court and appellate court that the underlying action was brought in bad faith.  The allegations in this case appear to echo the verdict in a major case here in Ohio, American Chemical Society v. Leadscope, which led to an award of over $25 million and is on appeal to the Ohio Supreme Court. 
    • In February, I reported on a case brought by the IP merchant bank Ocean Tomo against Steve Lee, a former president of one its business units, who was allegedly going to disclose privileged information and trade secrets to an opposing party in an arbitration pending in Illinois.  Bloomberg is reporting that the case has been settled and that an April 3rd court order bars Lee from disclosing Ocean Tomo trade secrets, including attorney-client communications and attorney workproduct related to that arbitration.
    • The IP Watchdog continues to wring its hands over the newly-expanded prior commercial use defense under the America Invents Act.  In the most recent guest post by Nicholas Mattingly entitled “Prior User Rights: The Uncertainty Will Cost You,” Nicholas argues the mere uncertainty caused by the defense will erode confidence in and use of patents. For a completely different conclusion, please check out the guest post below by David Almeling and Darin Snyder.
    • No confidentiality agreement?  No trade secret claim for you!  That pretty much sums up the Seventh Circuit’s recent decision in Fail Safe, LLC v. A.O. Smith Corp.  Both Seyfarth Shaw’s Trading Secrets Blog and Littler’s Unfair Competition & Trade Secrets Blog have more detailed posts about the case.
    • Last December, I wrote a post about AvidAir Helicopter v. Rolls Royce, an Eighth Circuit decision that enforced a relatively weak trade secret claim but conducted a nice methodical analysis of trade secret law that every court should apply.  AvidAir’s request for en banc reconsideration was recently denied and it will apparently be filing a writ of certioriari with the U.S. Supreme Court. 
    • New Hampshire is considering legislation that would require an employer to disclose the requirement of a non-compete at the time of hire.  The failure to do so under the contemplated bill, HB 1270, would render the agreement void and unenforceable.

Computer Fraud and Abuse Act Articles, Cases and Posts: 

  • The Ninth Circuit’s 9-2 en banc decision in U.S. v. Nosal continues to generate headlines and even The New York Times is chiming in with an editorial that not unexpectedly supports the Ninth Circuit’s decision. Given the tremendous interest in Nosal, I am going to put together a compilation of the various blogs and articles by commentators around the web next week, as well as my own take on the decision.

 

Social Media Posts and Articles: 

  • Looking for a good summary of all the pending legislation around the U.S. attempting to address privacy and social media?  Look no further than Russell Beck’s Fair Competition Blog.

Cybersecurity Posts: 

  • The rhetoric is already over-heating for a SOPA-like battle over the emerging cybersecurity legislation, as the Electronic Frontier Foundation exhorts that “Dangerously Vague Cybersecurity Legislation Threatens Civil Liberties.” 
  • The outcome of this legislation may turn out differently, however, because as Forbes reports in a post entitled “Facebook Responds to CISPA,” the big players that helped take down SOPA, such as Facebook, may be supporting the cybersecurity legislation. 

News You Can Use:

  • A lot of trade secret cases could be avoided if we followed Forbes‘ John Wasik’s advice, “Trusting the Wrong People: Think More Like Spock.”  

When David Almeling took me to task for my views on the prior commercial use defense under the America Invents Act and its impact on trade secrets, I invited him to present his view on my blog. David and his colleague, Darin Snyder, the Chair of O’Melveny & Myers IP and Technology Litigation Practice group, have taken me up on that offer and provided the following post responding to those (such as Gene Quinn of IP Watchdog and to a less apocalyptic extent, me) who believe that the prior commercial use may shift the balance between patents and trade secrets. 

David, Darin, and their colleagues at O’Melveny & Myers have been powerful voices in the trade secret community over the past five years. Perhaps most notably, in 2009 and 2010, David and Darin wrote two groundbreaking articles for the Gonzaga Law Review that were the first serious empirical analysis of trade secret litigation in state and federal courts over the past 50 years. These two articles concluded, among other things, that trade secret cases were growing exponentially in federal courts and steadily growing in state courts; that written agreements were essential to establishing adequate trade secret protection; and that the vast majority of trade secret disputes arose in relationships in which the plaintiff knew the defendant reasonably well (i.e., former employee, business partner).

I am really pleased to have David and Darin’s contribution, even if we don’t agree on the value of the prior use defense.

The New, Improved Prior Use Defense: The Same Patent vs. Trade Secret Calculus

By: David S. Almeling & Darin W. Snyder

As lawyers who litigate both patent and trade secret cases, we are often asked to address the merits of each strategy. Should a company protect its intellectual property by seeking a patent or by keeping it a trade secret?

Lawmakers added a new factor to that calculus in September 2011, when President Obama signed the Leahy-Smith America Invents Act (“AIA”), the most significant reform to patent law in half a century. Among its many provisions, the AIA expanded the prior use defense: once limited to business method patents, it now covers all patents. With this broader defense, a company sued for patent infringement can argue that it was already using the asserted invention — and is thus entitled to exploit it — provided the company’s use meets certain conditions. 35 U.S.C. § 273. 

Some attorneys view this development as reconfiguring the balance between patents and trade secrets. Those attorneys encourage companies to scrap their time-tested IP strategies and embrace trade secrets as their go-to protection. As they see it, if a company can keep its use secret, and then rely on that prior use to defend itself against an infringement claim, why risk disclosing confidential information in a patent application?

We don’t. We view the prior use defense as limited and insufficient to warrant major changes in how companies manufacture or protect their manufacturing activities. Even in cases where the prior use defense might be attractive, it can still impair a company’s defense strategy and complicate its defense burdens. No company should assert it lightly. Instead, companies should think of the defense as a specialized tool — the toothpick in a Swiss Army knife — to be summoned only in narrow circumstances.

The Prior Use Defense Is Limited and Risky to Assert in Litigation

Our doubts about the defense’s value are many. Let’s start with five.

Only a defense. The prior use defense is, by its terms, just that: a defense.  Unlike a patent, which a company can assert offensively to exclude a competitor from using an invention, this defense works only when a company is accused of infringement.  We’d rather bring a patent sword to an IP fight than a prior use shield.

Imperils noninfringement strategy. A company that advances the prior use defense likely does so at the expense of a noninfringement defense. By arguing that it was already using the patented invention, the company essentially asserts what a noninfringement defense would require it to refute. When comparing the respective burdens of proof — the defendant must prove prior use by clear and convincing evidence while the plaintiff must prove infringement by a preponderance of the evidence — the company should argue noninfringement when both arguments are equally viable.

The defense is static. It expressly “extends only to the specific subject matter for which it has been established as a commercial use.”  35 U.S.C. § 273(e)(3). If a company’s prior use differs from the accused subject matter, a finding of infringement is still possible. The defense thus presents little value to manufacturing activities that change frequently. And the long lag between the activities that would constitute a defense (i.e., at least a year before the patent’s filing) and the company’s assertion of the defense (i.e., potentially years after the patent’s issuance) also undermines its usefulness. Before relying on this defense, companies should ask themselves: Will this manufacturing process be unchanged five or ten years from now? Given the pace of innovation, we expect the answer to be no for all but the most mature technologies in the most mature industries.

Requires continued use. If a company has “abandoned” use of the asserted invention, the company “may not rely on activities performed before the date of such abandonment in establishing a defense . . . with response to actions taken on or after the date of such abandonment.”  35 U.S.C. § 273(e)(4).  For companies that have stopped or will stop using the invention, this limitation is dispositive. And for companies that use the invention only intermittently, such as for seasonal manufacturing or one-off orders, this limitation raises significant concerns about what constitutes “abandonment.”

Discovery burdens. Because the defense raises factual questions not present in standard patent cases, a company that asserts prior use will add to its already heavy discovery burdens. Was the company “acting in good faith” when it commercially used the subject matter? Did the company establish a commercial use for the specific accused subject matter? Did the company “abandon[] commercial use” of the invention at any time? And since this defense is new, courts are likely to permit broad discovery in the absence of case law to limit that scope.

The Prior Use Defense’s (Limited) Value

Still don’t believe the defense’s value is limited?  Look at its impact on every country that has it — including the United States. The prior use defense for business method patents was established here in 1999, yet it has led to only two reported decisions. PB Farradyne, Inc. v. Peterson, No. 05-03447, 2006 WL 132182, at *5 (N.D. Cal. Jan. 17, 2006); Sabasta v. Buckaroos, Inc., 507 F. Supp. 2d 986, 1004-05 (S.D. Iowa 2007). In neither case did the defendant successfully use the defense to defeat a claim of patent infringement. And while most first-to-file countries feature a prior use defense, there has been little relatively litigation of the defense.

Despite its limits, the defense is not entirely superfluous. If a company were using an invention claimed in another’s patent, then that company might be left without an invalidity argument (because the activity was secret) or a noninfringement argument (because the invention was, in fact, being used). In these rare cases, the company’s best defense could be prior use.

In short, the prior use defense does little to alter the current trade secret vs. patent calculus. Companies can and should continue to patent their manufacturing activities as they always have, and they should approach the defense with caution. Rather than an all-purpose fix, it’s more of a fallback — a complement to a company’s IP strategy, not an overhaul.

 

David Almeling is a counsel and a member of the Intellectual Property and Technology Practice within O’Melveny’s Litigation Department. David represents clients in intellectual property litigation, with a primary focus on patent and trade secret litigation. He also represents clients in trademark, copyright, and unfair competition matters. David frequently speaks and publishes on issues concerning trade secret law and patent law. Most recently, he was lead author on two articles (coauthored with Darin and others) that presented the largest-ever statistical analysis of trade secret litigation in state and federal courts. David graduated from Duke University School of Law.

  

 

Darin Snyder is a partner and the worldwide Chair of the Intellectual Property and Technology Practice within O’Melveny’s Litigation Department. Darin has over 20 years experience litigating major civil and criminal matters involving intellectual property and technology-intensive business sectors. The Daily Journal named Darin among the top 75 Intellectual Property litigators in California in both 2010 and 2011. The Legal 500 has acknowledged Darin for his work in patent, copyright, and trade secret litigation, repeatedly recognizing his excellence in trade secret litigation and quoting clients who call him “[o]ne of the West Coast’s biggest names in the area.” Darin graduated from the Law School at the University of Chicago.

 

 

On April 11, 2012, the U.S. Court of Appeals for the Second Circuit issued its eagerly-awaited opinion explaining its reasons for vacating the conviction of former Goldman Sachs’ programmer, Sergey Aleynikov, under the Economic Espionage Act (EEA). A New York jury had convicted Aleynikov in December 2010 of stealing source code for Goldman’s high frequency trading (HTF) program under the EEA. On appeal, Aleynikov successfully argued that the source code was not related to a product “produced for . . . interstate or foreign commerce” under §1832(a) of the EEA. 

Did the Second Circuit get it right or wrong? And what are the ramifications of the decision, particularly now that Congress is contemplating adding a civil remedy to that section of the EEA? (I have attached a PDF of the decision below). 

Unfortunately, I think the Second Circuit’s analysis is wrong, for the reasons that I explain below. Fortunately, however, Congress has the opportunity to rectify that mistake as it deliberates over the Kohl/Coons Amendment to the EEA. 

Background: Aleynikov was responsible for developing Goldman’s HFT computer programs for various commodities and equities markets. In April 2009, Aleynikov resigned from Goldman and accepted a job at Teza Technologies to help develop that firm’s own version of a computer platform that would allow Teza to engage in HFT.

On his last day, Aleynikov transferred thousands of computer files, including source code to the HFT trading system, to a server in Germany that was not blocked by Goldman’s firewall. That evening, at his home, Aleynikov downloaded the material from the German server to his personal computer and then to his laptop and a thumb drive so that he could make it available to Teza.

My Concerns About the Second Circuit’s Analysis: The conviction and its reversal have generated a fair amount of buzz in the blogosphere, partly because Goldman remains a lightning rod in any debate and party because some members of the open-source community feel that he did nothing wrong. I don’t have a dog in either fight, and but I would note that, whatever your opinion of Goldman, Aleynikov’s conduct (downloading the software to a German server, deleting evidence of the transfer, etc.) falls well short of someone who believed he was copying open source code not proprietary to Goldman. But whether prosecutors should have indicted him is not the subject of this post. 

Turning to the Second Circuit’s opinion, I, too, struggled with some of the issues that vexed the court when it tried to read the language of §1832(a) as a whole, and give meaning to all of the statutory language at issue. Nevertheless, the Second Circuit has effectively read the words “produced for” out of the statute. 

Here is the key passage from the opinion:

“Goldman’s HFT system was neither ‘produced for’ nor ‘placed in’ interstate or foreign commerce.  Goldman had no intention of selling its HFT system or licensing it to anyone. . .. It went to great lengths to maintain the secrecy of its system.  The enormous profits the system yielded for Goldman depended on no one else having it.  Because the HFT system was not designed to enter or pass in commerce, or to make something that does, Aleynikov’s theft of source code relating to that system was not offense under the EEA.”

But if Goldman’s HFT system was not produced for interstate or foreign commerce, then for what was it produced? The software was certainly not produced for development purposes or limited to research. Although it was not physically placed in commerce or actually sold in commerce, it was certainly produced for interstate commerce — namely, to facilitate the profits for Goldman identified by the court.

Essentially, the Second Circuit imposed a requirement that the product be intended to be sold in an open market to qualify for prosecution under the EEA. In its opinion, the Second Circuit reasoned the words “produced for” had likely been intended to cover a prototype or developmental product, but the court could not identify any particular legislative history in support of that position. Had Congress intended that narrow construction, it would have selected those words or at least supplied legislative history demonstrating that was what those words were meant to convey.

In sum, the Second Circuit was troubled that the interpretation applied by the district court was simply too broad.  However, the district court’s interpretation was consistent with the language of §1832. In other words, the language is what the language is. If the Second Circuit instead believed that the statute was facially ambiguous because of the breadth of that language (a point it briefly made), then that should have been the basis of its decision.

In a concurring opinion that has garnered some interest, Justice Guido Calabresi wrote that Congress probably intended to criminalize this type of conduct and he “express[ed] the hope that Congress will return to the issue and state in appropriate language, what I believe they meant to make criminal in the EEA.” I have to confess that if Justice Calabresi thought that was the intent, and if the words were present in the statute, he should have dissented rather than joining in the opinion.

What are the Ramifications of this Decision? The obvious fallout is that prosecutors in the Second Circuit have lost the ability to prosecute anyone for the theft of software not actually included in a product that is sold or is being developed to be sold in the open market. (Peter Toren makes the interesting observation that federal prosecutors could have avoided this problem if they had included a criminal copyright claim). It remains to be seen whether other federal courts will follow the Second Circuit’s lead. 

My greater concern is the impact this decision may have on the Kohl/Coons Amendment to the EEA that is still in Committee. As readers of this blog will recall, that Amendment adds a civil remedy to §1832 (but not to §1831, which is the provision that addresses trade secret theft for the benefit of a foreign power). As a result, any future civil cases could be restricted by this holding and certainly those in the Second Circuit. Fortunately, there may be an opportunity to rectify the request voiced by Justice Calabresi and provide language that resolves this issue.

U.S. v. Aleynikov.pdf (85.90 kb)