Understand How Trade Secret Rights Arise

In this segment on trade secrets, we’re going to talk about how these issues apply in the real world when working with individuals and working with law enforcement. So here’s an example of the kind of company trade secrets, company assets, that law enforcement has decided is worthy of being involved in. And although I won’t walk through each of them, you can see some of them are engineering information, some of them are technology, such as software and source code, some is purely business information, project information, pricing.

And even though this particular slide talks about secrets that are investigated by the FBI, you should know that the framework we’ve been discussing applies identically for criminal investigations or for enforcement by you, through your courts on a civil basis. The only difference is the burden of proof, meaning everything we have talked about to what is a trade secret, the measures you have to take, the value it has to provide your company applies whether a criminal matter, or a civil matter is commenced. So ethics do matter. I have discussed with clients the fact that there isn’t a contract I can write that is more important than indeed the ethics of the individuals that they hire.

So although I would like to say that your contracts written by your lawyer, will be very helpful to you, and they will be. It is also true that when you have employees and staff who are ethical, You’re not likely to run into trade secret misappropriation issues. It is important to have contracts because first of all, by having a written agreement, it raises to the level of consciousness of the individuals who are working with you, that this obligation does exist and it reminds them of the conduct that they need to exercise, in terms of casual discussions that they have.

I remember several years ago, I received the phone call from a very close friend who said, do I have to read on the the front page of the paper that you were involved in this very high profile opportunity with the major hospital, and I said I guess you do. And that was because, despite the fact that this person is a friend, and this person is very trusted, there is simply no reason for me to be disclosing to an individual anything over which I have a duty to maintain in confidence. So how do you develop trade secrets? It’s a very simple answer. You develop them through the act of invention, the act of innovation.

The act of literally creating the trade secret. Unlike patent, there is no agency who reviews your trade secret and declares it to ba a trade secrete. There is no registration. How do you know it’s a trade secret? Truth is, you don’t really know it until you like around your industry and you assess whether it appears that anyone else in that industry has this information or this process, or if it’s tested in court. One example of how these rights arise, a friend of mine was a chemist for a pharmaceutical company and he said that in the time period that patent covered their drug they were also optimizing their manufacturing processes.

They figured out, over time, who were the best sources of supply for certain ingredients. They figured out the sequence in which this particular drug should be made, the batch size, the temperatures, the rate at which certain ingredients should be mixed. The time period that they needed to cool. Many, many elements of process optimization. None of which were disclosed in their patent application. And that’s because they were not claiming a patent on a process, they were claiming a patent on a drug.

But, they relied on trade secret to continue to protect all of the information that was not publicly known, so that even when the patent expired and competitors were allowed to make the same drug, this company could say we have the technology to develop a product that has greater bio availability. We have the processes to have a product with greater shelf stability, and they made various product claims because they had had 15 to 20 years of advanced experience working with that particular drug. What is important to about how rights arise is how they are lost. They are lost by your own actions. If you do not exercise obligations that are reasonable under the circumstances.

And they arise by lawful acts of third parties. Meaning there can be, let’s say, university scientists who are working in a particular field, and they publish papers, they give speeches, and what you claim to be a trade secret, may in fact, lawfully enter the public domain by those who are committed to publication. A trade secret can theoretically last forever. They tend really not to last forever because over time, in an industry, others who are competing with you begin to figure out the same kinds of processes that you have figured out to manufacture products. What a trade secret can give you is the first mover advantage.

Therefore, because trade secrets can last forever, you have to think very carefully before you sign a nondisclosure agreement. Where you agree that the information will be kept secret for three years, or five years or two years. Because what the means is that after that time period expires the other party is free to use that information. And indeed, there will be some information which is very difficult to reverse engineer. An example, I have a client who’s in the business of shot pinging. And that’s an engineering process where tiny, tiny pellets at certain trajectories and speeds, certain concentrations are focused on metal, and it will deform the metal at the molecular level, the atomic level.

And it will result in the metal being much stronger as a result of this shot pinging process. Companies who deliver certain metal materials to my client do not see all of the elements that are involved in the decision. What kind of pellets, what kind of concentration, what period of time, what the force should be, what the trajectory should be. The customers simply get back a metal product that is much stronger than the product they originally delivered. That client was initially going to protect that process through patent, but concluded that they would actually have a longer period of protection if they kept it a trade secret.

And indeed, it’s been about 25 years since I had that initial discussion with that client and the information is still a trade secret. The third bullet point is just a reminder that although we hear from Coca-Cola that its formula is a trade secret, there are many individuals who believe they have recovered some of the early notebooks relating to the development for the formula for Coca-Cola. And there is an episode of the radio show This American Life, where they discuss whether or not the formula is indeed a secret.

Many years ago I had a discussion with a chemist at Coca-Cola who said, even if you figure out that there’s a certain amount of lemon in the formula you won’t know whether it’s lemon rind or lemon juice, and you won’t know whether the lemons are from Italy or California, and all of that go into our trade secret. Now, I don’t know if he was just teasing me, but I will say, having worked with clients for many years, sometimes it can be the details that really do make a particular formula a secret. The next few slides are the story of a very important case that was decided just a couple of years ago in the United States.

And this slide is really to remind us that if you do nothing to protect your trade secrets, the courts are not going to save you. Although these slides are rather text heavy, they tell us a story about a company that had many opportunities to step in, either have a discussion, sign a document, mark materials, and did none of those. So, Fail-Safe as we see was a company that, in this particular law suit, brought a trade secret misappropriation claim against AO Smith. Here is the court telling us what this case is about. Essentially, whether a plaintiff, in other words, whether a party who claims to be injured, can bring some legal theory, including the theory of what’s called unjust enrichment.

Unjust enrichment is a notion of legal fairness. Somebody has been unfairly enriched. When that party fails to take any protective measures to safeguard its proprietary information. And as the court notes, all of these relationships do not proceed along the same path. But where one company fails to take any protective steps to shield it’s proprietary information, it cannot then expect the law to protect it when the relationship sours. So let’s see what happened here. We see that Fail-Safe manufactures what are called anti-entrapment devices for artificial pool drains and AO Smith manufactures motors for pool and spa pumps. And it’s been developing anti-entrapment technology, so you see that the parties have sort of a symbiotic, potential symbiotic business relationship.

Maybe Fail Safe would be an entity that would want to sell it’s technology to AO Smith. But we see here, AO Smith is also developing anti-entrapment technology. There’s a trade show, AO Smith sees a fail safe technology and they begin business discussions. And this probably happens a million times a day around the world. They’re talking about whether AO Smith will develop a pump motor for fail safe’s entrapment prevention technology. There’s no agreement, so no writing comes out of this, nor did they even discuss confidentiality. And, by the way, at trade shows and other business events it’s not surprising that engineers would first be interested in whether there’s a potential business relationship, an engineering relationship.

Not necessarily that we would expect them right then to discuss confidentiality. Though probably your employees would because you will have advised them on the importance of thinking about these issues. Then Fail Safe sends a letter expressing an interest, but the letter does not mention confidentiality. Then they have a meeting to begin the process. Months of correspondence and now we’re engaging in creating test results. Neither the letter nor any correspondence mentions confidentiality and now we’re going down the road of disclosing unfavorable test results. Fail Safe goes to Milwaukee City located in Wisconsin to meet with engineers and look what happens here. Failsafe signs AO Smith’s standard one way confidentiality agreement.

A one way confidentiality agreement is where you agree to keep the other person’s information confidential. They have not agreed to keep yours confidential. The note here that is the standard agreement, often clients are not familiar with, or comfortable with legal documents. When they hear it’s the other party’s standard agreement they think, it’s the standard agreement, it’s probably fair. Well, it might be if it’s mutual, but this is a one-way agreement. And Fail Safe did not similarly require that AO Smith enter into a confidentiality agreement. And note here, despite having demanded such confidentiality agreement in other relationships. You can see here how trade secret is all about conduct.

Well, Fail Safe, you did have other companies sign a confidentiality agreement in the past, didn’t you? Yes we did. You didn’t require AO Smith to do that, did you? No we didn’t. But you signed their one way agreement, didn’t you? You can just see how bad this looks. So, Fail Safe then discloses information that will be important in developing this device, how to test it, again, no mention of confidentiality. The parties meet, Fail Safe shares test results, and again, confidentiality is never discussed. You can see how the court is telling us how this case is going to end. A year later, Fail Safe sends out a letter publicly disclosing certain information about this relationship. And the reaction of A.O.

Smith, is to say, we’re writing to those same people, we are telling them that the information in your letter is not accurate, there isn’t a joint relationship and AO Smith accuses Fail Safe of having breached the very confidentiality agreement it signed. And then what happens? AO Smith actually introduced two pump motors that Fail Safe claims incorporated the Fail Safe trade secrets two years later. Fail Safe sues, well we all know how this ends, right? There is no trade secret. Who waits for two years after they believe that a trade secret has been misappropriated to actually go to court? And here, indeed, is the motor from AO Smith.

The bottom line here, in particular, for startup companies, is the fact that you may be small, or that you may be a startup, will not excuse you from having these larger, more established companies Sign confidentiality agreements with you. Or, at least be aware that if you don’t raise the issue orally, perhaps you send in an email statement that you’re expecting that they are going to treat this information confidentially. Marking your information, do something. To your lawyer the chance down the road to remind the other party that this information is indeed confidential. In our last segment we’ll work with attorneys and with companies to talk about the steps they can take to protect the value and their trade secrets.