Wednesday, December 31, 2008

2008 In Review: Top Five Developments In Non-Compete Law

We've reached the end of the year, and my first month of writing this blog. I hope to continue this for many years to come. There's no doubt 2008 was a significant year in non-compete developments. I don't have a Top 10 List for you, but rather an extended Top 5. Here are the Top 5 Developments in Non-Competition Agreements for 2008.

5. Idaho Passes New Non-Compete Legislation: Effective July 1, 2008, Idaho enacted a new non-compete law. As with many states, Idaho had operated solely under the common law. The new legislation codified much of the common-law concerning the requirements of reasonableness, but identified several “legitimate business interests” that an employer may assert in seeking to enforce a non-compete clause. The most significant change is the requirement that the non-compete agreement relate only to key employees or independent contractors. The new statute actually defines those class of persons and provides a rebuttable presumption that anyone who is among the highest 5 per cent in terms of compensation qualifies. Also significant is the change in the law that a non-compete term cannot exceed 18 months from the date of termination, unless an employer specifically gives extra consideration to an employee to sit out longer. In addition, the employer is granted some presumptions of reasonableness if the term is 18 months or less, and if the geographic area of restriction is confined to where the individual “provided services or had a significant presence or influence.” Finally, courts must modify agreements that are overbroad.

4. Massachusetts Legislator Considers Introduction of Law Banning Non-Competes for All Employees: Inspired by the growth of the high-tech economy in California (where non-competes are void), one Massachusetts legislator is considering legislation to bar non-compete agreements entirely within that state. Will Brownsberger admits to a dual motivation for seeking a substantial change in the law: (a) preventing organizations from taking advantage of average, mid-level laborers who have no bargaining power and are subject to inherently unfair restraints; and (b) keeping talented engineers in Massachusetts. Most experienced employment law attorneys agree that non-compete agreements are viewed less favorably the farther west one migrates, where economic libertarianism tends to flourish. On the East Coast, the bias tilts heavily towards the employer. Whether this movement gains traction in Massachusetts may portend a shift away from regional trends in non-compete law.

3. Louisiana Amendments Extend Permissible Uses of Non-Compete Agreements: Louisiana is one of a handful of states that regulate non-compete agreements through a combination of statutory and common law. Effective August 15, the Louisiana Legislature amended LSA-R.S. 23:921 to expand the permissible scope of non-compete agreements. Now, corporations, partnerships and limited liability companies may enter into non-compete covenants with shareholders, partners or members (as the case may be) once their ownership interest in the organization ends. Previously, these types of arrangements were not permitted under the Louisiana statute, and by operation of the default clause against restraints of trade, they were void.

2. California Supreme Court Rejects “Narrow Restraint” Rule: By now, most attorneys are aware that non-compete agreements are invalid restraints of trade under California Business and Professions Code Section 16600. A number of Ninth Circuit cases had tried to limit the application of Section 16600 and impliedly created a “narrow restraint” exception, which basically said that non-compete clauses were acceptable if they barred employees from pursuing only a small or limited part of his or her trade. However, in Edwards v. Arthur Andersen, 189 P. 3d 285 (Cal. 2008), the Supreme Court of California rejected the so-called “narrow restraint” doctrine. In fact, the narrow restraint was anything but. The 18-month non-compete at issue prevented a high-level tax manager from working with any client for whom he conducted professional services or any client of the office (Los Angeles) to which he was assigned. In most states, this is called a customer non-solicitation clause. In Illinois, it is subject to the same standard of reasonableness as any non-compete contract. For professionals and sales employees, it is tantamount to a general non-compete clause barring work in the industry. The Court expressly rejected the exception and upheld a strong public policy against employee non-compete agreements.

1. The Papermaster Case: The year’s most high-profile case is also the most significant. A discussion of IBM v. Papermaster can be found by tracking back to my earlier post.

That's it for the year. As the calendar turns, my first full year with this blog. Stop back often!

Tuesday, December 30, 2008

Florida Court Rejects Two Non-Compete Defenses In Granting Injunction (Charles Schwab & Co. v. McMurry)

In issuing a preliminary injunction against a former financial consultant of Charles Schwab & Co., the district court rejected two rather common defenses employees offer in the hopes of breaking their non-compete agreement.

First, the defendant, Lance McMurry, argued that Schwab failed to pay him in a timely manner, and that this delay released him from his obligations under the contract. The court rejected the defense, noting that mere delay in payment - as opposed to an outright failure to pay - will not allow an employee to escape otherwise valid restrictive covenants.

Second, McMurry argued that his mere act of sending announcements to Schwab clients regarding his new position at Bank of America did not constitute improper solicitation within the meaning of the non-compete clause. Again, the court had little trouble rejecting the contention - particularly since McMurry did more than just mail announcements. He followed them up with actual phone calls to clients.

The court noted that mere sending of announcements may constitute impermissible solicitation, and it cited a number of cases dealing with the financial brokerage industry holding as such.


Court: United States District Court for the Middle District of Florida
Opinion Date: 12/23/08
Cite: Charles Schwab & Co., Inc. v. McMurry, 2008 U.S. Dist. LEXIS 104140 (M.D. Fla. Dec. 23, 2008)
Favors: Employer
Law: Florida

Monday, December 29, 2008

Faulty Affidavit Prevents Employer From Obtaining TRO (American Family v. Gustafson)

An effort by American Family Insurance to obtain an ex parte temporary restraining order against a former employee, Barry Gustafson, failed in large part because of an insufficient affidavit submitted by the plaintiff in its TRO application.

The case arose under the Computer Fraud and Abuse Act (CFAA), as well as other pendent state claims for unfair competition. Increasingly, employers are using the CFAA to federalize competition cases, particularly given the expansive reading some circuit courts have given to the statute. The gist of plaintiff's claim was that Gustafson downloaded information from American Family's computers and used that information to solicit away customers for his new venture. The TRO was denied, and the court chastised the plaintiff for its conclusory affidavit.

In particular, the court noted that the affiant could not set forth any facts demonstrating that Gustafson had solicited or continued to solicit customers improperly. Additionally, the affidavit indicated that Gustafson began soliciting customers in July or August of 2008, but given that the complaint and ex parte TRO were filed on December 21, the statements of the affiant undercut any argument of "immediate injury."

The case demonstrates the care which attorneys must take in securing testimony by way of affidavit. Too often, insufficient or hastily prepared affidavits contain inadmissible hearsay or improper conclusions. This can doom an employer's chances of obtaining immediate injunctive relief regardless of the merits.


Court: United States District Court for the District of Colorado
Opinion Date: 12/22/08
Cite: American Fam. Mut. Ins. Co. v. Gustafson, 2008 U.S. Dist. LEXIS 103068 (D. Col. Dec. 22, 2008)
Favors: Employee
Law: Federal Rules of Civil Procedure

New York Court Upholds Validity of Unlimited Non-Disclosure Clause (Ashland Management v. Altair Investments)

Investment management firms - much like other professional service organizations - are highly dependent on the goodwill and personal contacts developed by managing directors and portfolio managers. In a recent case decided by the Appellate Division in New York, the court upheld broad application of a standard non-disclosure clause to limit two ex-employees' ability to solicit and service certain clients seeking investment advice.

In Ashland Management v. Altair Investments, a managing director and a vice-president formed a competing investment management firm just prior to their departure from Ashland. Before they had resigned, the two upper-level employees sent an unauthorized commentary on investment performance for the second quarter of 2003 to plaintiff's clients, along with a third quarter forecast. The letter was a breach of company policy. The record also listed other improper pre-termination conduct.

The defendants appealed the trial court's order denying them summary judgment on the breach of contract claims arising out of the non-disclosure covenant. They contended it was unenforceable due to its overbreadth and lack of a durational limit. The court, over a dissent, affirmed the trial court's order and held that the defendants were not entitled to summary judgment on the reasonableness of the non-disclosure covenant.

The decision is somewhat significant in that the court appeared to sanction the use of a non-disclosure covenant as a de facto client non-solicitation clause. Indeed, the underlying injunction barred the defendants from soliciting or working with a select group of plaintiff's wealth management contacts. No non-compete was at issue, and the record is unclear whether the trial court upheld injunctive relief based on a breach of fiduciary duty theory.

This case serves a somewhat cautionary note for employees who are bound only by a non-disclosure agreement and seek to use customer lists or proprietary contact management software following their departure. Frequently, employees do this, reasoning that since no non-compete exists, any restraint would be limited to turnover of their ex-employer's data. However, courts have broad discretion to fashion injunctive relief to achieve an equitable result; in certain instances, the only way to remedy a breach of a non-disclosure agreement, particularly if the breach touches directly upon client information, may be to order an employee to stay away from those clients.


Court: Supreme Court of New York, Appellate Division, First Department
Opinion Date: 12/23/08
Cite: Ashland Mgmt. Inc. v. Altair Investments NA, LLC, 2008 N.Y. App. Div. LEXIS 9787 (N.Y. App. Div. 1st Dep't Dec. 23, 2008)
Favors: Employer
Law: New York

Ohio Appellate Court Requires Heightened Proof for "Inevitable Disclosure" Case (Hydrofarm v. Orendorff)

The "inevitable disclosure" theory of trade secrets misappropriation continues to yield new rules and concepts. One of the most hotly litigated areas of unfair competition law involves application of the theory absent an actual non-compete agreement. Courts have taken a number of different approaches in balancing the rights of an employer to protect its intellectual property with an employee's right to earn a livelihood.

Three of the earliest and most frequently cited inevitable disclosure cases - PepsiCo v. Redmond, Merck v. Lyon, and DoubleClick v. Henderson - all dealt with direct competition, but no non-compete. What emerged from those cases was that courts required something more than just a theoretical threat of trade secrets disclosure. Some element of bad faith, or a willingness to use actual, identifiable trade secrets had to be present.

A recent Ohio case follows suit.

In late 2005, Hydrofarm - a manufacturer of indoor gardening products - entered into a separation agreement with Phil Orendorff. As is now common, that agreement contained a covenant requiring Orendorff to keep confidential Hydrofarm's proprietary information. It contained no non-compete covenant.

Nearly two years later, Orendorff accepted a job with one of Hydrofarm's direct competitors, Sunlight Supply. Hydrofarm then sued, seeking preliminary injunctive relief under a number of different legal theories, including trade secrets theft. The trial court issued the injunction, barring Orendorff from working for Sunlight Supply for six months.

On appeal, the Court of Appeals of Ohio reversed under the exacting abuse of discretion standard. Notably, the court stated that "[n]either this court nor the Supreme Court of Ohio has applied the 'inevitable disclosure' doctrine in a case that did not involve an enforceable noncompetition agreement." Still, the court did not go so far as to hold that the doctrine couldn't be applied in the absence of a non-compete.

But its holding makes clear that employers must show something more than a direct competitive relationship and an overlap in job duties to enjoin a former employee under the inevitable disclosure doctrine. In particular, the court held:

"Hydrofarm must demonstrate by clear and convincing evidence not only that defendant possesses Hydrofarm's trade secrets, but, also, that defendant will inevitably disclose them to Sunlight Supply, or will utilize those trade secrets in his competitive work on behalf of Sunlight Supply, and that those trade secrets will enable Sunlight Supply to achieve a substantial competitive advantage over Hydrofarm."

Put another way, the employer seeking utilize the doctrine must demonstrate irreparable harm under a heightened standard of proof - something that appears to require bad faith or a concrete demonstrable threat to use the trade secrets at issue. In the Hydrofarm case, the court had little trouble reversing the decision, since Orendorff had not had access to proprietary information of Hydrofarm for almost two years. The court found that pricing and marketing information, along with certain trade show selection criteria and customer feedback concerning products, was stale. As such, it is doubtful this type of cyclical, operational data could be considered trade secret information - and nothing indicated Orendorff threatened to use it.


Court: Court of Appeals of Ohio, Tenth Appellate District
Opinion Date: 12/23/08
Cite: Hydrofarm, Inc. v. Orendorff, 2008 Ohio App. LEXIS 5717 (Ohio App. Ct. Dec. 23, 2008)
Favors: Employee
Law: Ohio

Wednesday, December 24, 2008

New York Case Provides Paradigm for Impermissible "Indirect Solicitation" of Clients (Marsh USA v. Karasaki)

The State of New York continues to be the venue where some of the most significant non-compete and trade secret issues have been decided in 2008. A week from today (12/31), I will be posting my top 5 developments and cases of the year - and we can be sure New York will be well-represented on the list.

A recent decision on a preliminary injunction motion addresses a common issue in non-compete agreements: to what extent can a contractually bound employee facilitate solicitation of former clients through strawpersons? This type of indirect solicitation is usually quite transparent, and the case of Marsh USA v. Karasaki demonstrates this perfectly.

By all accounts, Chad Karasaki was a highly successful insurance brokerage executive at Marsh & McLennan, responsible for supervising and cultivating construction industry clients in Hawaii. In 2003, nearly 17 years after he started his career at Marsh, Karasaki signed a one-year non-compete agreement (in connection with Karasaki's participation in a discretionary bonus plan) with Marsh prohibiting him from servicing Marsh clients he contacted or supervised for a period of one year after the termination of his employment. Four years later, he signed a similar agreement.

In 2007, Aon - unquestionably Marsh's biggest competitor - had suffered from poor performance in its Hawaii office and began an effort to recruit Karasaki - and other account executives - away from Marsh. Karasaki eventually quit Marsh and joined Aon a week later. Marsh sued to prevent Karasaki from breaching his non-solicitation clauses, and after the case was transferred from Hawaii to New York, Marsh prevailed with relative ease. In fact, the court awarded Marsh its attorney's fees after the preliminary injunction and before any final judgment in the case.

The case is notable in two respects. First, New York courts continue to follow the rule that when the asserted protectable interest in a non-compete is client relationships or goodwill, the employer can only prevent an employee from capitalizing on relationships the company helped create or facilitate. In this respect, New York is similar to Illinois - but unlike a lot of other states - in reasoning that an employer cannot recruit someone with pre-existing relationships, capitalize on those relationships, and then seek to preclude the employee from working on those accounts after he or she leaves. This rule, of course, would not apply if the asserted protectable interest were protection of trade secrets.

Second, the Karasaki case is a textbook example of indirect client solicitation. In other words, Karasaki tried to circumvent his restrictions by funneling client names, key contacts and other important client information to others who would serve as a proxy or conduit for Karasaki. Once again, discovery of e-mail between Karasaki and Aon executives involved in the mass exodus effort provided all the evidence needed to link Karasaki to the ruse. (It is clear Karasaki breached his covenants directly, as well, but the bulk of the competitive activity occurred through others.)

Most well-drafted agreements now specifically provide that a non-compete clause will bar solicitation of clients - either directly or indirectly. Karasaki's did as well. Even in the absence of such explicit language, however, courts will not allow an employee to benefit from this so-called loophole. In fact, as I have always advised clients, many competition cases turn on whether the court views the defendant as dishonorable or sympathetic. Indirect solicitation certainly does not help engender sympathy. Rather, it shows conscious wrongdoing and evasive behavior.


Court: United States District Court for the Southern District of New York
Opinion Date: 10/31/08
Cite: Marsh USA Inc. v. Karasaki, 2008 U.S. Dist. LEXIS 90986 (S.D.N.Y. Oct. 31, 2008)
Favors: Employer
Law: New York

Tuesday, December 23, 2008

IBM-Apple Dispute Provides Year's Most Significant Competition Dispute (IBM v. Papermaster)

The preliminary injunction issued in the year's most high profile competition dispute, IBM v. Papermaster, has received quite a bit of attention and commentary in legal circles. The intricacies of that case - now over a month old - won't be rehashed here.

But IBM's success in preventing its former Vice-President of Microprocessor Technology Development from taking an executive position with Apple, Inc. should send shockwaves through the high-tech community and serve as a stark reminder of the impact non-compete clauses can have when enforced.

By way of (brief) background, Papermaster ran a division for IBM noted for its "Power" architecture technology. Up until 2006, Apple utilized IBM's PowerPC microprocessors in its personal computers. However, in 2008, Apple purchased a microchip design company - P.A. Semi - to replace IBM and to use its processors to power game applications, PCs, and...the iPhone and the iPod. You might have heard of those.

Enter Papermaster. After one unsuccessful round at interviews with Apple, Papermaster was re-approached earlier this Fall about becoming Apple's Senior Vice-President for the iPod/iPhone Division - a substantial promotion with a big pay raise. IBM balked and filed suit to prevent Papermaster from assuming such a position under his non-compete agreement and the inevitable disclosure of trade secrets theory of misappropriation.

IBM prevailed with the Court concluding that Papermaster could not perform his job in the iPod/iPhone Division without relying or disclosing (even if inadvertent) high-level technical, proprietary and strategic information he learned at IBM. The court noted there was no evidence Papermaster engaged in underhanded or dishonorable conduct. However, it issued a sweeping injunction that prevented him from working for Apple.

The notable aspects of the case are inter-related. The court utilized the inevitable disclosure theory to support its finding of irreparable harm - a key component of any showing a plaintiff must make when seeking preliminary injunctive relief. It then issued the injunction as a necessary remedy to prohibit Papermaster from violating his one-year non-compete agreement with IBM.

The decision is somewhat remarkable in that, during his last 2 years at IBM, Papermaster ran a division which designed and developed "blade servers." Those are not consumer products. In fact, the court acknowledged that IBM does not compete with the iPhone or iPod but it does seek to provide the brains (i.e., the processors) to run those products. Still, IBM lost the business in 2006, and at least as far as I can tell, there was no evidence that IBM was working its way back in at Apple.

So the key here, apparently, was the acquisition of P.A. Semi - the company that competes with IBM because it sells a microprocessor capable of running the iPod and iPhone. The disconnect, in this observer's opinion, is that it's not clear Papermaster was even responsible for overseeing the P.A. Semi products. Just how he would be using trade secrets was not clear.

The inevitable disclosure theory continues to mature. The fact Papermaster had a non-compete agreement certainly helped backstop the court's reasoning. But often times, inevitable disclosure cases proceed when no non-compete is at issue. Whether the court would have rendered the same decision had Papermaster not signed a non-compete in 2006 is a question for academics.


Court: United States District Court for the Southern District of New York
Opinion Date: 11/21/08
Cite: IBM Co. v. Papermaster, 2008 U.S. Dist. LEXIS 95516 (S.D.N.Y. Nov. 21, 2008)
Favors: Employer
Law: New York

Monday, December 22, 2008

Missing Non-Compete Agreement Fails to Help Employees (Aim High Academy v. Jessen)

Should this really happen in a society that is rapidly going "paperless"? Probably not.

A recent Rhode Island trial court solved - with relative ease - the case of the missing non-compete agreements. The dispute arose out of a competitive cheerleading and gymnastics business operating in East Greenwich (the geographic center of what the court called "this wonderful, if diminuitive, state"). The owners of the plaintiff, Aim High Academy, were able to recruit the Jessens (a husband/wife tandem, the wife being a 1988 Olympian for the former Czechoslovakia) to work as coaches for Aim High. Prior to this time, the Jessens ran a financially-troubled competitor in Connecticut.

The treasurer of Aim High was concerned about the Jessens and made them sign non-compete agreements. However, when the Jessens were terminated in 2008, and after they started a competing gym in Warwick, the non-compete agreements were missing from their personnel files. In addition to the usual arguments concerning enforceability, the court had to confront the question of whether the agreements were ever signed in the first place.

The court had little trouble discounting the testimony of the Jessens and another ex-Aim High employee who started the Jessens' Warwick facility despite having no coaching credentials. It concluded the Jessens had in fact signed the agreements at or around the time of their employment. Those agreements both contained covenants against any competitive business activity for one year following termination of employment within the entire State of Rhode Island. This was an important trial court finding, since the Statute of Frauds would have barred enforcement of an agreement that could not be performed within one year. In Rhode Island, as in most states, an oral non-compete for 6 months is permissible, but not one extending a year or more.

The court, concluding the Jessens signed non-compete agreements, issued a preliminary injunction against business competition for the entire year. (Since the order was preliminary injunctive relief, it could be modified and the injunction dismissed if the dispute is ripe for final decision before the one-year period lapses.) It did, however, modify the non-compete agreements based on the overbreadth of the language. The court found that the geographic restriction extending to the entire State of Rhode Island was too broad and pared the scope back to 15 radius miles from Aim High's East Greenwich facility.

The court also upheld the non-disclosure provision in the agreement and managed to interpret that clause as a restriction against customer solicitation. How the court reached this conclusion is somehow unclear, but it found that customer information and coaching/training information was proprietary to Aim High. Apparently, it dovetailed a non-solicitation restriction out of this confidentiality clause. But, it did allow the Jessens to accept business from Aim High clients as long as they did not actively solicit them. Under the court's reasoning, passive acceptance of business from customers would not implicate the use of confidential information.

The decision is significant because it demonstrates that attorneys should advise clients to store (and password-protect) digital copies of key personnel documents. This would avoid an evidentiary problem if an employee is cunning enough to raid his or her personnel file. The decision also is significant in that it is sort of a poor-man's inevitable disclosure case; the court used a confidentiality clause to impose a customer-based restriction on an employee.


Court: Superior Court of Rhode Island
Opinion Date: 12/10/08
Cite: Aim High Academy, Inc. v. Jessen, 208 R.I. Super. LEXIS 152 (R.I. Super. Ct. Dec. 10, 2008)
Favors: Employer
Law: Rhode Island

Ohio Decision Demonstrates Vagueness Problem With Trade Secrets Injunctions (Chornyak & Assoc. v. Nadler)

A recent decision out of the Ohio appellate courts demonstrates a common, amateurish mistake many attorneys make in trade secrets litigation.

On appeal, a company in the financial services industry contended the trial court improperly refused to hold its ex-employee in contempt of court for violating a permanent injunction order entered in November 2005. That order restrained defendant from "directly or indirectly, ... disclosing, using, transferring or destroying any Chornyak & Associates, Ltd. trade secret(s) as that term is defined in [Ohio Code Section] 1333.61 in any form whatsoever including originals, copies, other reproductions, derivatives, or computerized information, in any form whatsoever."

The plaintiff filed a contempt citation when its expert determined that the defendant had uploaded and used one Word document and two Excel spreadsheets generated during the course of his employment with Chornyak and which had been in his home office stored on a floppy disk. Eventually, the appellate court affirmed the trial court's determination that none of the documents constituted trade secrets of the former employer, and it upheld the trial court's denial of the contempt citation.

The more central question, though, is why the court even addressed the status of the documents as trade secrets in the first place. The underlying injunction order was patently void.

Illinois law on this issue is particularly exacting, mandating that a party seeking an order of injunctive relief spell out with reasonable specificity the exact trade secrets that are the subject of the restraint. In state court, Tseutaki v. Novicky, 158 Ill. App. 3d 505 (1st Dist. 1983), sets forth the standard, while in federal courts the landmark decision from American Can v. Mansukhani, 742 F. 2d 314 (7th Cir. 1984), delineates the law to be followed.

At bottom, a reasonable person with no legal training must be able to ascertain what documents or categories of information are subject to an order punishable by contempt. Simply incorporating the terms "trade secrets or confidential information of the Plaintiff" is too vague and not enforceable by contempt sanctions.

Poor drafting and lack of judicial oversight of such orders does no one any good. The plaintiff will not be able to rely on the order in the event the defendant uses its information, and the defendant will have to test its conduct through contempt proceedings. Great care must be taken with the drafting of injunction orders. And if the plaintiff is concerned about disclosing its trade secrets in a court order, it can always make reference to an attached schedule kept under seal in the court file.


Court: Court of Appeals of Ohio, Tenth Appellate District
Opinion Date: 12/18/08
Cite: Chornyak & Assoc., Ltd. v. Nadler, 2008 Ohio App. LEXIS 5569 (Ohio App. Ct. Dec. 18, 2008)
Favors: Employee
Law: Ohio

Discovery Dispute Clarifies Permissible Scope of Protective Order in Trade Secrets Case (Directory Concepts v. Fox)

A federal district court opinion and order rendered last week highlights the problem of conducting discovery in a trade secrets case. Normally, it is standard operating procedure for the parties to agree on a protective order to facilitate the orderly, efficient flow of discovery. Indeed, the Uniform Trade Secrets Act actually requires a court to enter a protective order to safeguard against even "an alleged trade secret."

In an Indiana dispute between administrators of yellow pages advertising, the parties were not quite so amenable to agreeing on the terms of a protective order. The defendants challenged the very entry of the protective order claiming that the trade secret information at issue was readily ascertainable in the industry. The court sensibly concluded that this argument went to the ultimate merits of the case, and that plaintiff's allegations demonstrated good cause for entry of a Rule 26(c) protective order.

However, the court addressed a number of other concerns litigants have over the terms of the order. The Seventh Circuit, which includes federal district courts in Indiana, has taken a more hands-on approach to scrutinzing protective orders so that trial judges simply are not allowed to rubber-stamp agreed orders parties place in front of them. The case of Citizens First Nat'l Bank v. Cincinnati Ins Co., 178 F. 3d 943 (7th Cir. 1999), instructs that parties can keep trade secrets out of a public court record if:

(a) the judge satisfies himself that the parties know what a trade secret is and are acting in good faith in deciding which parts of the record are trade secrets; and

(b) the judge makes explicit that either party and any interested member of the public can challenge the secreting of any particular information.

In the case before it, the plaintiff proposed a protective order that did not have a sufficiently demarcated category of confidential information. Specifically, the proposed order defined "trade secrets" as "defined by Indiana Code Section 24-2-3-2 and Indiana case law." The court demurred on plaintiff's attempt.

However, the court accepted the plaintiff's affidavit submitted in support of its motion in which plaintiff broke down categories of alleged trade secrets into sub-categories: Workflow Information, Order Information by Client, Billing Preferences by Region, Databases That Show Billing Preferences by Location and Region, Client Databases Detail by Location, Contact Databases, and Nat Reports by Region or Location. Each category contained examples and identifications of the types of data that plaintiff used to operate is business.

The court incorporated those terms and held that they were "sufficiently specific to satisfy the Court that the parties know what a Trade Secret is..." Finally, the court held that most of the information in the proposed protective order (except, oddly, for Non-Party Private Information) could be designated as "attorneys-eyes only."

Entering a protective order in federal court - especially in districts within the Seventh Circuit - requires much more work and diligence than it does in state court. Normally, defense attorneys can mitigate any concerns about agreeing to or acknowledging that certain information constitutes a trade secret. The easiest way to do this is by inserting a simple clause that states a party's mere designation of a document as "confidential", or the other party's decision not to challenge such a designation with the court, does not operate as an admission as to the trade secret or proprietary status of the document itself.

In fact, defense attorneys who challenge the propriety of a protective order in the first place will be hindering their own chances at discovery and will only add to the time and expense of litigation.


Court: United States District Court for the Northern District of Indiana
Opinion Date: 12/16/08
Cite: Directory Concepts, Inc. v. Fox, 2008 U.S. Dist. LEXIS 102192 (N.D. Ind. Dec. 16, 2008)
Favors: Employer
Law: Indiana, Federal Rules of Civil Procedure

Sunday, December 21, 2008

Novel Question Concerning Scope of Release At Issue in New Jersey Trade Secrets Action (Grow Company v. Choksi)

A New Jersey appellate court recently addressed two novel procedural questions on which there has been a relative paucity of case law throughout the United States. The trade secrets dispute required the construction of a settlement agreement entered into in 2001 between the plaintiff, Grow Company, and its former chemist, Dilip Choski. The defendant and two other ex-Grow Company employees had formed a competitor in 1991 and allegedly used certain trade secrets over a period of 8 years to compete with their former employer. The parties eventually signed a settlement agreement and release in 2001.

Grow Company then filed suit again in 2005 against Choski and Pharachem (with whom he had some sort of business affiliation) claiming that Choski was again using trade secrets of Grow Company improperly. Although the appeal addressed a number of procedural issues, two stood out:

(a) did the 2001 release preclude Grow Company from suing Choski again for trade secrets theft?

(b) if Choski prevailed, could he recover attorney's fees from Grow Company under the release document even though Pharmachem financed his litigation?

The first issue was left unresolved by the court, primarily because the exact nature of the trade secrets claim was unclear and left unresolved at summary judgment. The court, basically, needed more factual development before it could ascertain whether the release precluded the 2005 lawsuit. However, the court did note (but did not adopt) two tests were used by other courts to determine whether an employee could be sued more than once for the same trade secret theft. The answer depends on whether trade secrets theft is a continuing wrong based on misappropriation of a "property right", or whether it arises out of the breach of a confidential relationship - such as that created between an employee and employer.

If it is the latter, some courts (such as those in California) have held that an action "arises but once." A release from the 2001 suit would therefore preclude Grow Company from claiming that Choski was up to his old tricks again. Under the former theory, though, destruction or compromise of a property right - even if intangible - would not be barred by a prior release. The New Jersey court declined to adopt a test and noted the relative scarce amount of legal opinion on the issue.

(Parenthetically, New York and Massachusetts - two of the states which have not adopted the Uniform Trade Secrets Act - appear to endorse the "property right" theory of trade secrets theft. Since New Jersey also is one of the few states not endorsing the UTSA, it ultimately may side with the more employer-friendly, liberal approach.)

It seems unusual that the release agreement in question would not have addressed Choski's prospective obligation to Grow Company regarding use of any confidential or proprietary information learned by him. Similarly, the opinion is not clear whether the release required Choski to return documents concurrent with the settlement. These issues, frankly, could have been avoided, and the parties should have clarified their options - particularly if everyone knew Choski would remain in his field of expertise.

The second issue of note was resolved in favor of Choski. The fact he did not bear responsibility for paying attorney's fees - they were picked up by Pharmachem - won't bar recovery of the same should he prevail on the ultimate issue. As the court noted, "[t]he existence of an obligation on the part of the actual payor of fees to the benefited party is not relevant because, as a general matter, it would be inequitable for a person or entity in Grow's position to be able to avoid its contractual obligation to pay fees simply because another has provided financing to the wronged party."


Court: Superior Court of New Jersey, Appellate Division
Opinion Date: 11/12/08
Cite: Grow Co., Inc. v. Choski, 959 A. 2d 252 (N.J. App. Ct. Nov. 12, 2008)
Favors: Employee
Law: New Jersey

Saturday, December 20, 2008

Virginia Court Refuses to Dismiss Nationwide Non-Compete Agreement (Senture, LLC v. Dietrich)

Geographic restrictions in non-compete agreements continue to undergo a judicial re-analysis in light of the high-tech, nationwide economy. Most older cases across jurisdictions require an employer to craft a non-compete agreement with a reasonable geographic scope.

However, a recent Virginia case demonstrates the problem when an employer conducts business nationwide. Senture, LLC entered into an employment agreements with Joe Dietrich and Tom Swider. Each contained a Kentucky choice-of-law provision, which the court found was reasonable given Senture's business ties to Kentucky. The agreements also contained nationwide non-compete covenants, which the employees challenged on a Rule 12(b)(6) motion to dismiss.

The court refused to dismiss the claims for breach of contract, expressly noting that nationwide non-competes can be valid if the employer demonstrates that it conducts business throughout the United States. Because of the procedural posture of the case, Senture will still have to demonstrate a nexus between its business and the contractual restrictions.

Employers can always limit a challenge to the scope of a non-compete agreement by instead including an activity restraint requiring an ex-employee to stay away from customers he or she worked with during the course of employment. Such clauses normally mitigate a defendant's arguments as to overbreadth. In Illinois, however, customer non-solicitation covenants also must make sure they do not include all of the employer's accounts as restricted - only those the employee had some responsibility for servicing or supervising.


Court: United States District Court for the Eastern District of Virginia
Opinion Date: 9/8/08
Cite: Senture, LLC v. Dietrich, 2008 U.S. Dist. LEXIS 100288 (E.D. Va. Sept. 8, 2008)
Favors: Employer
Law: Kentucky

Friday, December 19, 2008

Missouri Courts Botch Non-Compete Phantom Dispute (Naegele v. Biomedical Systems)

A Missouri appellate court issued a downright bizarre and non-sensical opinion involving a declaratory judgment claim brought by an employee seeking an adjudication of her rights under a non-solicitation agreement.

Mary Naegele worked for Biomedical Systems as a national sales director in its Women's Health Services Division. Her non-compete clause contained a customary 2-year restriction against solicitation of any client within her division. Under Illinois law, the covenant may have been unreasonably broad because it arguably was not restricted to those clients Naegele serviced directly or as a supervisor.

Naegele gave notice of her resignation with Biomedical after a relatively short tenure. She immediately sought a declaration of her rights and obligations under the non-solicit agreement - just as she had done when she first joined Biomedical from a competitor. Oddly enough, Naegele returned to Matria - the employer she sued under a non-compete when she started with Biomedical. Even more strange - Naegele sued Biomedical before her two-week notice period was up and while she was still making sales calls on its behalf.

Biomedical filed a counterclaim seeking injunctive relief and attorney's fees as called for under her agreement.

The evidence was somewhat murky. It was clear that Matria did not want Naegele to breach her Biomedical non-compete; it in fact prohibited her from working until a court rendered an opinion on the issue. Ultimately, Naegele's position and territory were crafted so as to avoid work in areas where Biomedical customers were located.

Still, the court granted the injunction and awarded Biomedical over $300,000 in attorney's fees. Naegele appealed.

The court affirmed the grant of a preliminary injunction, which barred Naegele from disclosing any confidential information of Biomedical and from soliciting business from Biomedical customers - including those Naegele brought with her from Matria. However, it reversed the order granting Biomedical its attorney's fees.

This is where the reasoning of the appellate court gets downright bizarre. The reason why the attorney's fee petition was denied? No evidence of breach, or threatened breach, by Naegele.

Still, the court ruled that the injunction was proper, even going so far as to note that the extension of the restraint to ex-Matria customers that Naegele brought with her was appropriate under Missouri law. (Under Illinois law, this part of the order would be reversible error).

The court's decision seems to be an advisory order or opinion without any case or controversy at issue. Without any evidence of a breach or threatened breach of the non-compete agreement, the court never should have issued an injunction. Indeed, the declaratory judgment petition should have been dismissed as not being ripe for adjudication.

Perhaps some justice was accomplished on appeal insofar as Naegele was not ordered to pay attorney's fees to Biomedical. But why the court waded into this mess in the first place is utterly confounding.


Court: Court of Appeals of Missouri, Eastern District, Division One
Opinion Date: 10/28/08
Cite: Naegele v. Biomedical Systems Corp., 2008 Mo. App. LEXIS 1577 (Mo. Ct. App. Oct. 28, 2008)
Favors: Employer
Law: Missouri

Temporary Restraining Order Granted In Insurance Brokerage Dispute (Prudential Ins. Co. v. Hosto)

A federal district court in Illinois issued a temporary restraining order against an insurance agent who left Prudential to work for a competitor, Broker Dealer Financial. The employee, Barry Hosto, had executed a non-compete agreement with Prudential before his departure.

Hosto's undoing was largely caused by his new employer, which, after receiving information about Hosto's post-employment activities, turned over to Prudential 109 customer files Hosto allegedly pilfered before he quit. Several months later, when it was apparent Hosto was still violating his non-compete obligations and contacting his old insurance accounts from Prudential, Prudential filed suit seeking an immediate injunction.

The district court had little trouble concluding a temporary restraining order was warranted. It did not discuss or analyze the validity or reasonableness of the non-compete agreement. The opinion issued by Judge Reagan was notable in one respect - despite the clear evidence of Hosto's misappropriation of customer files, the court rejected Prudential's request for Hosto to turn over all documents then in his possession related to his former Prudential clients.

Decisions are generally split over whether this element of relief is warranted at the TRO or preliminary injunction proceeding, with the dissenters claiming such an order would be tantamount to a permanent injunction. However, in the face of clear evidence Hosto had taken Prudential's property, it seems a better result would have required Hosto to immediately turn over and account for property taken at the TRO stage.


Court: United States District Court for the Southern District of Illinois
Opinion Date: 10/2/08
Cite: Prudential Ins. Co. of America v. Hosto, 2008 U.S. Dist. LEXIS 77051 (S.D. Ill. Oct. 2, 2008)
Favors: Employer
Law: Illinois

Confusion Reigns In Alabama Sale-of-Business Non-Compete Dispute (Martin v. Battistella)

For some reason, doctors and veterinarians seem to be aggressive litigants in the context of non-compete agreements. The disputes permeate not only the employment context, but also when one of these professionals sells his or her business.

In a "sale-of-business" scenario, non-compete agreements are not cloaked with unequal bargaining positions. When a buyer purchases intangibles or goodwill, a non-compete with respect to certain business or clients can sometimes be implied. More often, however, the non-compete is set forth in the purchase agreement. In addition, longer restrictive periods and more flexibility in terms of scope (both for geography and type of activity) are permitted as necessary to effecutate the integrity of the deal.

The rules in Alabama, however, are a little different. Alabama is one of those states which has a statute governing non-compete agreements. Section 8-1-1(a) of the Alabama Code purports to bar contracts by which anyone is "restrained from exercising a lawful profession, trade or business." The statute creates an exception for employment and sale-of-business non-compete agreements, but does not mention the term "professionals." Alabama courts have, therefore, read the two provisions together as barring non-competes for professionals in the sale-of-business context.

In a recent case involving veterinarians, the court proceeded to hold that a declaratory judgment action against the seller was premature and not ripe because no damage had yet occurred as a result of the veterinary practice she commenced within the non-compete period. The court's decision is curious, because it would have been far easier to hold simply that a veterinarian cannot be subject to a non-compete - as prior case law clearly said. Instead, the court analyzed whether the buyer's payment for goodwill had been impacted, and it concluded there was no evidence yet of any damages.

Apparently, the buyer did not pursue an injunction. That remedy was not discussed in the appeal.


Court: Supreme Court of Alabama
Opinion Date: 11/26/08
Cite: Martin v. Batistella, 2008 Ala. LEXIS 248 (Ala. Nov. 26, 2008)
Favors: Employee/Seller of Business
Law: Alabama

Thursday, December 18, 2008

Wisconsin Appellate Court Upholds Choice-of-Law and Choice-of-Forum Provisions (Martin v. Stassen Insurance Agency)

Most non-compete agreements contain choice-of-law and forum selection clauses, usually favoring the employer. Both clauses have been the subject of litigation over the last several years, with employees prevailing when either type of clause has no rational connection to the employment relationship. Because non-compete law widely among the jurisdictions, these issues often can be outcome-determinative.

This week, a Wisconsin appellate court addressed these clauses in a declaratory judgment claim filed by an ex-employee who left one insurance agency to start his own competing brokerage. Plaintiff, John Martin, resigned from a Woodstock, Illinois agency and opened up a competitor across the border in Lake Geneva, Wisconsin. He promptly sued in Wisconsin state court seeking a declaration of his rights under the contract. (This is an accepted procedural move as long as there is at least a threat of litigation or a genuine dispute about the covenant's applicability.)

Immediately after Martin's lawyer sent a copy of the complaint to Stassen, Stassen's lawyer filed a mirror-image complaint in McHenry County, Illinois. Stassen moved to dismiss the Wisconsin case on the basis of the forum selection clause, which provided for "exclusive jurisdiction" either in McHenry County state court or the federal district court in Rockford, Illinois.

Though the Illinois suit proceeded to preliminary injunction, the parties still litigated over the dismissal issue in Wisconsin. Martin contended the choice-of-law clause was invalid because Wisconsin law was more favorable than Illinois law to employees, and that Wisconsin had a public policy interest in ensuring that its own non-compete law was applied to its citizens.

The court rejected that argument, however, glossing right past the rule regarding the validity of choice-of-law clauses. Instead, it ruled that the parties' most significant contacts were with Illinois. Martin signed the employment agreement there and worked in Stassen's Illinois office. Thus, there was no reason to even examine whether the choice-of-law clause implicated public policy concerns.

On appeal, the court did not discuss the Full Faith and Credit Clause of the U.S. Constitution and whether a Wisconsin court was required to honor the injunction issued against Martin in Illinois.


Court: Court of Appeals of Wisconsin, District Two
Opinion Date: 12/16/08
Cite: Martin v. Stassen Ins. Agency, Inc., 2008 Wisc. App. LEXIS 995 (Wisc. Ct. App. Dec. 16, 2008)
Favors: Employer
Law: Wisconsin

Injunction Issued in New York Mass Exodus Case (Ikon Office Solutions v. Usherwood Office Technology)

IKON, a well-known purveyor of office equipment systems and related technology, recently filed a sweeping injunction complaint against eight former employees and their new employer, Usherwood Office Technology. The employees systematically left IKON in late October and early November and all joined Usherwood.

The crux of the defendants' rationale for leaving en masse relied on the impact of an acquisition by Ricoh of IKON. As a result of the merger, IKON could not sell Canon products. Correspondingly, Usherwood could not sell Ricoh equipment. The defendants all claimed that they spent a substantial portion of their time at IKON selling Canon products, and that their migration to Usherwood was motivated by legitimate career concerns. Collectively, the defendants were responsible for nearly $20,000,000 in sales for IKON.

As one might expect, IKON was not pleased with the mass exodus and pursued sweeping injunctive relief against the defendants and Usherwood under an array of legal theories.

The two main issues decided by the Supreme Court (which is New York's trial level court) involved whether IKON made a required showing of trade secret theft and whether defendants breached enforceable non-compete agreements.

Trade Secrets

As one of the few remaining states not to adopt the Uniform Trade Secrets Act, the court relied on New York's common law (as interpreted under Section 757 of the Restatement of Torts) to determine the trade secret status of the customer information at issue. The defendants claimed the information was largely available through lawful, alternative means. However, the court noted that, even if customer names and identies could be gleaned from directories available to anyone, the specific buying habits and customer preferences would take a substantial investment of time and effort to recreate. IKON met with less success, however, concerning information that Canon itself provided about end-user customers. The evidence showed that Canon possessed in its own right a great deal of information about the customers' purchases, including type of equipment, on-site contact information, billing, and service details.

The court, however, found no clear evidence of misappropriation of trade secret information. Several of the defendants were dispensed with entirely. A few had e-mailed business information to their home on or around the day of their resignation, ostensibly so they could use it or print it while out of the office. The court noted that IKON raised "legitimate suspicions" concerning the activity, but opined that it fell short of the level of proof needed to make a finding of misappropriation. The court also rejected the "inevitable disclosure" theory of misappropriation, citing PepsiCo v. Redmond, 54 F. 3d 1262 (7th Cir. 1995), and noted that the theory in New York is "disfavored absent an actual misappropration of trade secrets." Why the court would need to use the inevitable disclosure doctrine if there was actual misappropriation is unclear...

Non-Compete Agreements

Finding no basis for trade secret theft, the court then turned to IKON's claim for enforcement of post-employment covenants not to compete.

Of the eight defendants, most of the non-compete clauses were identical. Some varied in temporal scope (18 months v. 2 years), and one only restricted solicitation of customers. IKON disclaimed any reliance on the geographic restrictions and only sought enforcement of the customer/account based restraints. The parties also appeared to agree that the terms of the non-compete were reasonable, particularly since the court construed the term "prospective" customer to be limited to those accounts actually assigned to each particular employee.

The bulk of the opinion centered on whether IKON demonstrated a legitimate business interest that could support the non-compete agreements. Under New York law, an employer can demonstrate a protectable interest through: (a) unique or extraordinary services; (b) trade secrets and confidential customer information; or (c) customer relationships and goodwill.

The court issued a curious decision relative to the claimed protectable interest in trade secrets. After finding no misappropriation earlier in the opinion, and jettisoning use of the "inevitable disclosure" doctrine, the court returned to inevitable disclosure and held that its application could be used to enforce the non-compete agreements: " is difficult to envision how the individual defendants could service their former customers without utilizing the information learned through their employment with IKON. These factors all support application of the inevitable disclosure doctrine as a basis for enforcement of the express restrictive covenants agreed to by the individual defendants."

In reality, the questionable reasoning relative to inevitable disclosure did not matter because the court also found that IKON demonstrated a protectable interest in the customer relationships and goodwill the ex-employees developed while working at IKON. The following passage sums up the reasoning best:

"It is apparent that the customer relationships and goodwill developed at IKON's expense will play an important role in the customer's decision-making process. IKON's customers of Canon brand equipment who are inclined to remain with a familiar and/or preferred manufacturer may well be apprehensive about turning to a new and untested vendor for their critical service and support needs. Certainly, the assurances and presence of their long-time IKON account representatives, who carry with them the goodwill cultivated over many years at IKON's expense, may well prove decisive in this calculus."

The court noted that the equities favored IKON, stating specifically that each of the defendants was given guaranteed, multi-year contracts for which they would earn a certain level of income even if their restrictive covenants prevented them from performing any work for Usherwood. The court's order did not require the defendants to leave Usherwood's employment - only to stay away from their former accounts for 18 months or 2 years. (The court also gave some credence to an acknowledgment clause in the non-compete agreements where each defendant acknowledged that irreparable harm would result if he or she breached the covenant. Normally, such clauses have no binding effect, but apparently they might be "viewed as an admission.")

Finally, the court upheld the no-hire covenants in 7 of the 8 agreements, covenants which barred IKON employees from soliciting fellow employees to quit. The defendants apparently did not challenge the enforceability of such anti-raiding restrictions. Usherwood, also, was not barred from soliciting future IKON employees.

But here's guessing they won't.


Court: Supreme Court of New York, Albany County
Opinion Date: 12/12/08
Cite: Ikon Office Solutions, Inc. v. Usherwood Office Tech., Inc., 2008 N.Y. Misc. LEXIS 7059 (Sup. Ct. Alb. Cty. Dec. 12, 2008)
Favors: Employer
Law: New York

Wednesday, December 17, 2008

Employer Hit For Sanctions in Washington Non-Compete Dispute (Anderson Paper & Packaging v. Johnson)

Sanctions, destruction of evidence, nefarious computer activity. All continue to be part and parcel of non-compete/trade secrets litigation these days.

In a recent Washington case, alteration of evidence was front and center after an employer sued a former sales representative for violating his covenant not to compete. Rick Johnson was a former employee of Anderson Paper & Packaging from 1994 through 1998. He was then re-hired in January of 2002.

At that time, Johnson was presented with a non-compete agreement - which he contended he did not sign. His employer claimed he signed it after being offered a signing bonus. Several years later, Johnson left and went to work for a competitor. Anderson Paper then sued to enforce the non-compete against him.

During the preliminary injunction phase of the proceedings, Rick Anderson, the plaintiff's President, submitted a declaration which attached a letter dated January 5 containing the covenant Johnson says he refused to sign. (Though the facts are not clear, it appears the document submitted to the court bore Johnson's signature.)

The parties later discovered that the January 5 letter Anderson submitted contained a letterhead the company was not using in 2002. In fact, Anderson manipulated the evidence to make it appear Johnson signed the January 5 covenant when he in fact did not. The trial court imposed evidentiary and monetary sanctions, effectively ending Anderson Paper's claim to enforce the non-compete clause.

On appeal, Anderson Paper did not challenge the appropriateness of sanctions ordered under the state court's equivalent of Rule 11. It did challenge the amount of the fees, since the court awarded Johnson all fees spent defending the non-compete claim. The court affirmed, though, reasoning that Anderson Paper's argument concerning consideration was so wrapped up in the January 5 letter that fees could not be parsed out.

As to the remaining issue on appeal, the court reversed the dismissal of the other common-law claims, reasoning that the dismissal sanction was not the "least severe sanction adequate to serve the purpose of" the sanctions rule. Those dismissed claims had included causes of action to which Johnson was not a party.


Court: Court of Appeals of Washington, Division One
Opinion Date: 11/3/08
Cite: Anderson Paper & Packaging, Inc. v. Johnson, 2008 Wash. App. LEXIS 2569 (Wash. Ct. App. Nov. 3, 2008)
Favors: Employee
Law: Washington

Georgia Court Rejects Employer's Attempt to Recoup Money Paid for Void Non-Compete (HRH Co. of Atlanta v. Holley)

A Georgia appellate court recently addressed a novel and unusual claim made by an employer who previously lost (both at trial and on appeal) a claim involving its non-compete agreement. In particular, an insurance brokerage, Hilb, Rogal & Hamilton (HRH) continued to pursue a claim against Hugh Holley for compensation paid to him when he signed a non-compete agreement in connection with the sale of his business to HRH.

Under his employment agreement with HRH, Holley was paid separate monetary consideration for his post-employment covenant not to compete with HRH. That consideration was listed separate from his regular salary and bonus. After HRH lost its breach of contract claim due to unenforceability of the covenant, HRH claimed it was entitled to that consideration back from Holley under the theory of unjust enrichment.

The court rejected HRH's claim, citing the general rule that if an "illegal contract be in part performed and money has been paid in pursuance of it, no action will lie to recover the money." The court, therefore, left the parties where they stood following HRH's payment to Holley for a non-compete that turned out to be void under Georgia law.

On a separate matter, the court affirmed a jury award for breach of fiduciary duty against Holley which required him to pay back the last two months of his salary. Mere employees have a duty not to compete actively with their employer or engage in steps that go beyond the preliminary stages of preparing to compete. Holley had taken steps to divert a potential client during the course of his HRH employment, and the salary forfeiture award was justified under Georgia law.


Court: Court of Appeals of Georgia, Third Division
Opinion Date: 12/2/08
Cite: Hilb, Rogal & Hamilton Co. of Atlanta, Inc. v. Holley, 670 S.E.2d 874 (Ga. Ct. App. 2008)
Favors: Employee
Law: Georgia

Iowa Court Adopts Test for Bad-Faith Trade Secrets Claim (Sun Media Systems v. KDSM)

A federal district court in Iowa has weighed in on a rapidly emerging issue for trade secrets litigants: how to determine when a plaintiff has pursued a trade secrets claim in "bad faith."

The Uniform Trade Secrets Act - adopted in all but a handful of states - provides for attorneys' fee shifting if a defendant willfully misappropriates trade secrets, or if a plaintiff pursues a claim in bad faith. In recent years, courts have interpreted the meaning of bad faith on post-judgment fee petitions filed by prevailing defendants.

Iowa followed the trend and adopted a two-part test. First, the plaintiff's claim must be "objectively specious", which will be met when "there is a complete lack of evidence supporting [its] claims." Second, there must be evidence of subjective misconduct. This can manifest itself either through a woefully inadequate claim or conduct during the course of litigation.

In the case of Sun Media Systems v. KDSM, the court awarded the defendants attorneys' fees under Iowa's version of the UTSA and listed a number of factors which led to its finding of bad faith on the part of Sun Media:

(1) Plaintiff had difficulty recounting what trade secrets were at issue, stating that "Sun Media's trade secrets are so amorphous as to be nearly incomprehensible."

(2) After listing a number of trade secrets defendant allegedly misappropriated, Sun Media only defended one as a trade secret at the summary judgment briefing stage.

(3) The one claim Sun Media tried to defend involved a method for "laying out mailers", which was readily ascertainable in the industry.

(4) Sun Media offered no evidence its claimed trade secrets had economic value beyond "unsupported allegations."

(5) Sun Media never conveyed to the defendants that the information at issue was proprietary.

(6) There was no evidence any defendant actually used a trade secret.

All of these factors led the court to conclude that defendants met the two-part bad faith test, supporting an award of attorneys' fees under the Iowa UTSA.


Court: United States District Court for the Southern District of Iowa
Opinion Date: 11/24/08
Cite: Sun Media Systems, Inc. v. KDSM, LLC, 2008 U.S. Dist. LEXIS 96850 (S.D. Iowa Nov. 24, 2008)
Favors: Employee
Law: Iowa

Tuesday, December 16, 2008

Trade Secrets Identification Problems Creates Discovery Catch-22 (Gentex Corp. v. Sutter)

Identifying trade secrets invariably creates a vexing problem for courts. On the one hand, plaintiffs must be able to discover what the defendant has allegedly taken, and the information requested in discovery almost always calls for some disclosure of the defendants' proprietary data. On the other, defendants who are sued for trade secrets theft have an expectation that the plaintiffs will specify what information they claim to be trade secrets.

A pending federal court case addressed this tension in the context of discovery sequencing. Judge Caputo, in Gentex Corp. v. Sutter, was asked to rule on what level of specificity a plaintiff should have to show before obtaining discovery of a defendant's trade secrets.

After noting that courts have taken a wide variety of approaches, the court held that "a plaintiff should identify the trade secrets at issue with 'reasonable particularity', meaning [it] must provide the defendant with a sufficient description to put the latter on notice of the nature of plaintiff's claims and can discern the relevancy of any requested discovery."


Court: United States District Court for the Middle District of Pennsylvania
Opinion Date: 11/25/08
Cite: Gentex Corp. v. Sutter, 2008 U.S. Dist. LEXIS 96188 (M.D. Pa. Nov. 25, 2008)
Favors: Neutral
Law: Federal Rules of Civil Procedure

Iowa Court Holds Physician Non-Compete Fails Reasonableness Test (Board of Regents v. Warren)

The Iowa Court of Appeals recently upheld the denial of a preliminary injunction in a physician non-compete case filed by the University of Iowa against one of its assistant professors in the College of Medicine. The case highlights the "protectable interest" test as well as the infrequently-cited "public interest" consideration some courts take into account.

Dr. Thomas Warren became employed by the University of Iowa in July of 2001 as an assistant professor with the College of Medicine. Warren spent about 80 percent of his time conducting cancer research, and also provided medical care to certain patients as directed by the University. Although his tenure track was seven years, it was apparent to Warren early on that he was not going to make tenure due to his inability to meet scholarship and research funding goals.

In 2005, about four years after he started with the University, Warren left and signed on with Iowa Blood and Cancer Care, ostensibly a competing medical care provider in Cedar Rapids. Warren's non-compete agreement with the University barred the practice of medicine for two years after his resignation within 50 miles of a practice site in Iowa City. Cedar Rapids was within the restricted territory.

The University sued, seeking an injunction to bar Warren from practicing medicine consistent with the terms of the covenant. The trial court denied the injunction, and the appellate court affirmed.

Iowa courts use a sensible three-part reasonableness test. It requires a court to consider: (a) whether the restrictive covenant is reasonably necessary for the protection of the employer's business; (b) whether it is unreasonbly restrictive of the employee's rights; and (c) whether it prejudices the public interest. The first and third elements were discussed in the case.

As to the first prong of the test, the court concluded that the covenant was not reasonably protective of the employer's business. Four factors supported the finding: (a) there was no evidence Warren had high-level customer contacts with University patients, as 80 percent of his time was spent on research; (b) Warren arranged for the Cancer Care patients to remain at the University around the time he left; (c) he received no special training from the University; and (d) the University spent no money to promote Warren's practice in the community.

These factors mirror the "protectable interest" test which has caused much confusion in Illinois and other jurisdictions. Iowa courts recast the protectable interest test and embed it within an overall reasonableness analysis that is much easier for courts to apply and for litigants to understand.

The court also discussed the public interest element of the reasonableness test. The court was persuaded by the fact that the federal government had designated Cedar Rapids as underserved by physicians, and that the visa quota for physicians from other countries had been increased. The public interest, therefore, favored Warren and militated against enforcement.


Court: Court of Appeals of Iowa
Opinion Date: 11/26/08
Cite: Board of Regents v. Warren, 2008 Iowa App. LEXIS 1192 (Iowa Ct. App. Nov. 26, 2008)
Favors: Employee
Law: Iowa

Illinois Court Further Narrows Trade Secrets Preemption Doctrine (Jano Justice Systems v. Burton)

The trend in recent years - at least in Illinois - has been for courts to strictly construe and apply the so-called preemption doctrine embodied within Section 8(a) of the Illinois Trade Secrets Act. That provision provides that the ITSA is "intended to displace conflicting tort, restitutionary, unfair competition, and other laws of [Illinois] providing civil remedies for misappropriation of a trade secret." Section 8(b) limits the preemption, or displacement, provision by stating that the ITSA does not impact "other civil remedies that are not based upon misappropriation of a trade secret."

Prior to Hecny Transp., Inc. v. Chu, 430 F. 3d 402 (7th Cir. 2005), courts routinely dismissed a wide array of common-law claims often pled along with an ITSA misappropriation claim. These would normally include conversion, deceptive trade practices, civil conspiracy, and breach of fiduciary duty. The Seventh Circuit narrowed the reach of those prior district court decisions to the extent most can no longer be considered even persuasive authority.

Jano Justice Systems, Inc. v. Burton is an example of the very limited application of the preemption defense. In that case, the plaintiff alleged Burton breached his fiduciary duty as an employee and 50% owner of JJS. The claim rested on stealing information, setting up a competitor, and hiring away JJS employees. Each of these theories can support a fiduciary duty claim regardless of whether trade secrets were stolen or not. Importantly, the court cited with approval the language from Hecny that stealing of business information will not necessarily give rise to preemption, because a breach of fiduciary duty can arise even if information taken by a fiduciary - such as a customer list - were a public record.

Prior to Hecny, a court may have dismissed certain aspects of a common-law claim on preemption grounds if it appeared to be based on the taking of proprietary information. We are likely to see the trend contintue where the preemption defense will be considered only if a plaintiff makes a common-law claim for unfair competition, or a statutory deceptive trade practices claim parroting the trade secret allegations. For defense attorneys, the better practice is to raise preemption at summary judgment rather than the initial pleading stage.


Court: United States District Court for the Central District of Illinois
Opinion Date: 12/11/08
Cite: Jano Justice Systems, Inc. v. Burton, 2008 U.S. Dist. LEXIS 100232 (C.D. Ill. Dec. 11, 2008)
Favors: Employer
Law: Illinois

Supreme Court of Utah Answers Certified Questions on Non-Compete Damages (TruGreen Companies v. Mower Brothers)

In TruGreen Companies, LLC v. Mower Brothers, Inc., the Supreme Court of Utah answered a certified question regarding the appropriate measure of damages arising out of a breach of an employment non-competition agreement.

The question, as certified by the United States District Court for the District of Utah, was as follows:

"Whether under Utah law a former employer is entitled to an award of lost profits damages, or instead an award of restitution or unjust enrichment damages, where a former employee has breached contractual non-competition, non-disclosure, and employee non-solicitation provisions?"

The case arose when Mower Brothers hired Ryan Mantz away from TruGreen, a competitor in the lawn care industry. Several other ex-TruGreen employees followed Mantz. TruGreen alleged that it suffered a significant loss of key personnel, and that it had to replace them with workers from other branch locations and inexperienced staffers. TruGreen further alleged Mower Brotherws experienced steady revenue growth.

After losing a preliminary injunction battle, TruGreen positioned the case for trial on its remaining claims - which included those arising out of various non-compete agreements signed by the ex-TruGreen employees. TruGreen sought unjust enrichment damages - basically contending it was entitled to Mower Brothers' appreciably higher business income since the employees were hired. Mower Brothers argued that lost profits - presumably more difficult for TruGreen to prove - were the appropriate damages measure. The district court certified the damages issue for the Supreme Court of Utah.

The Court held that lost profits were the correct damages measure, relying on its general contract line of cases hollding that the "purpose of these damages is to compensate the nonbreaching party for 'actual injury sustained, so that [the nonbreaching party] may be restored, as nearly as possible, to the position [it] was in prior to the injury.'"

The Court also relied on precedent from other state courts for its decision. However, the Court made clear that the plaintiff may introduce the defendant's profits as evidence to support its own damages. This comports with a number of cases from across the country, including a significant opinion applying Illinois law, K.W. Plastics v. U.S. Can Co., 131 F. Supp. 2d 1265 (D. Ala. 2001). Because of the inherent difficulty of proving lost profits, the Court ruled it is entirely appropriate to use a breaching party's gains as persuasive evidence.

A cautionary word is in order, though, for plaintiffs trying to prove lost profits based on the defendant's gains: It must do more than just introduce what the defendant earned as a result of the breach of the non-compete. There must be some nexus, such as a similar cost-structure or distribution channel, which allows a fact-finder to make an inference in favor of the plaintiff based on what the defendant realized.

Finally, the Court held that unjust enrichment is not a proper remedy for breach of a non-compete agreement.


Court: Supreme Court of Utah (certified question from United States District Court for the District of Utah)
Opinion Date: 11/25/08
Cite: TruGreen Companies, LLC v. Mower Brothers, Inc., 193 P.3d 929 (Utah 2008)
Favors: Neutral
Law: Utah

Monday, December 15, 2008

Who's On First Routine Plays Out in Georgia Non-Compete Dispute (Accurate Printers v. Stark)

Accurate Printers v. Stark took me back to law school contracts class. This is an example of how not to close a deal or conduct a lawsuit.

Kenneth Stark sold his business, Oxford Printing, to Steven Young. Accurate Printers was Young's company and admittedly a competing business with Oxford. As a condition of closing, Stark agreed to work for Young to help with the business transition. Stark also executed customary covenants not to compete and not to solicit customers for a period of 5 years. Predictably, the relationship deteriorated, and Stark went to work in printing sales, purportedly in violation of the restrictive covenants.

The asset purchase agreement (and accompanying restrictive covenants), though, was between Young - individually - and Oxford Printing. Accurate Printers was not a party to either contract. Young admitted he entered into the contract in his individual capacity, and that AP was not a party. Still, AP sued to enforce the non-compete clause.

The trial court rendered a directed verdict in favor of Stark, and the Court of Appeals of Georgia affirmed. The appellate court was not persuaded by Young's post-closing attempt to assign the restrictive covenants to AP. The closing documents required Stark's express consent to any such assignments, and there was no evidence Stark was ever aware Young assigned the contract rights he obtained at closing. Further, the closing documents prohibited an assignment unless Young's promissory note to Stark had been paid in full (which it had not).

But Stark did not emerge completely victorious. His award of attorney's fees against Young was reversed by the appellate court. Although Young was a party to the restrictive covenant (which contained a fee-shifting provision), Young was not named in the lawsuit as a plaintiff - and Stark never added him to his attorney's fee claim.


Court: Court of Appeals of Georgia, Second Division
Opinion Date: 11/26/08
Cite: Accurate Printers, Inc. v. Stark, 671 S.E.2d 228 (Ga. Ct. App. 2008)
Favors: Neutral
Law: Georgia

North Carolina Case Demonstrates Limits of Blue-Pencil Rule (Technology Partners v. Hart)

A recent diversity case appealed to the United States Court of Appeals for the Fourth Circuit demonstrates the unreliability of the so-called "blue-pencil" rule in non-compete agreements. That rule allows a court to strike or delete offending provisions that ostensibly make a non-compete clause overbroad or unreasonable. (Some variations of the rule allow a court to modify the agreement, rather than just remove offending words.)

In Technology Partners, Inc. v. Hart, the defendant, a Vice-President of Product Management for a software development company, left his employment after more than 5 years and was recruited to work for a company called AMICAS to whom his former employer sold radiology software. (Although the case discussion is not entirely clear, it appears Technology Partners did retain some ownership rights in certain aspects of the software sold to AMICAS.) Along with its lawsuit, TP filed a motion for preliminary injunction seeking to prevent Hart from working for AMICAS.

The district court denied the preliminary injunction motion, and the Fourth Circuit affirmed. Aside from the fact that Hart's non-compete may have had a consideration problem (this issue was not analyzed), the main issue on which the court focused was the application of the blue-pencil rule to modify Hart's covenant. In particular, the court noted that no amount of blue-penciling could have solved the ambiguity caused by the terms "conflicting organization" or "business substantially similar" to TP, each of which served as the anchor to the non-compete clause itself.

North Carolina's blue-pencil rule is employee-friendly, in that it "severely limits what the court may do to alter the covenant [not to compete]. A court at most may choose not to enforce a distinctly separable part of a covenant in order to render the provision reasonable." A simple example illustrating the rule is that a court may strike out (or not enforce) a restricted geographic territory, such as a county or state, if the employee ends up not working or establishing relationships there.


Court: United States Court of Appeals for the Fourth Circuit
Opinion Date: 11/4/08
Cite: Technology Partners, Inc. v. Hart, 2008 U.S. App. LEXIS 22903 (4th Cir. Nov. 4, 2008)
Favors: Employee
Law: North Carolina

Drafting Errors Doom Missouri Employer (Payroll Advance v. Yates)

The Court of Appeals of Missouri affirmed a judgment in favor of an employee, Barbara Yates, who was terminated from a payday loan store called Payroll Advance. She subsequently began competing a month later with an entity owned by another former employee of Payroll Advance.

The non-competition agreement provided for a 2-year, 50-mile restriction, and in her contract, she agreed "not to compete with [Payroll Advance] as owner, manager, partner, stockholder, or employee in any business that is in competition with Payroll Advance..." The italicized portion of the covenant proved to be Payroll Advance's undoing at trial.

The company raised two issues on appeal: the trial court's determination that the restrictive covenant was not reasonable in scope, and that it failed to modify the covenant to make it reasonable. The appellate court rejected both contentions.

As to reasonableness, the court highlighted the italicized passage above. Notably, the court stated:

"If this Court interprets the plain meaning of the covenant not [to] compete as written, the covenant not to compete would prevent [Yates] not only from working at a competing business within 50 miles of the branch office in Kennett, Missouri, but [Yates] would also be barred from working in a competing business within 50 miles of any of [Payroll Advance's] branch offices." In essence, poor drafting resulted in an agreement far too broad in its geographic reach.

The court also noted that Payroll Advance failed "to set out with precision what is to be considered a competing business and certainly does not specify that it only applies to other payday loan businesses." Again, the court emphasized overbreadth and stated that a literal reading of the contract meant Yates was barred from "being employed anywhere loans are made including banks, credit unions, savings and loan organizations, title-loan companies, pawn shops, and other financial organizations." Attorneys drafting non-competes must make sure to define the nature of the business that is the subject of the restriction. Simply defaulting to "competition" will likely result in a colorable challenge to reasonableness.

Finally, the court rejected a call for modification under the judicial reform, or "blue-pencil", doctrine. In particular, the court noted that Payroll Advance failed to request in its pleadings an equitable remedy of judicial modification of an overbroad covenant.

Often times, courts will reject a call for modification if the covenant was wildly overbroad (i.e., it amounts to rewriting it, rather than striking out inapplicable words), no provision of the contract allows for it, or if the plaintiff does not specifically request it.


Court: Court of Appeals of Missouri, Southern District, Division One
Opinion Date: 11/17/08
Cite: Payroll Advance, Inc. v. Yates, 270 S.W.3d 428 (Mo. Ct. App. 2008)
Favors: Employee
Law: Missouri