Wednesday, April 22, 2009
Appellate Court of Illinois Overturns Final Judgment on Trade Secrets Claim (System Development Services v. Haarman)
The recent decision in System Development Services v. Haarman, arising out of a final judgment rendered in Effingham County, Illinois, reads like an all too-familiar script. Indeed, this presents a fact pattern I probably see more often than not when counseling corporate clients or individuals seeking to join a competing organization or start their own venture.
And though the fact pattern may vary slightly from case to case, it always seems to involve these elements:
(1) The employee has no non-compete or customer non-solicitation agreement.
(2) The employee has left to form or join a competitor.
(3) The employee has key customer relationships and intimate knowledge of vital business information, including contact names, pricing history, customer requirements, and anticipated future buying needs.
(4) There is little or no evidence the employee actually took documents or downloaded information such as a customer list.
(5) The ex-employer suspects the employee might have used some information in his or her new position.
(6) The customers systematically have left to follow the new employee at his or her new venture.
In the absence of a non-compete agreement, the employer generally is left with two potential avenues of relief: breach of fiduciary duty or trade secrets theft. The former is awfully difficult to prove in the absence of demonstrable, actual competition prior to the date of resignation. The latter is a much more fact-intensive, amorphous inquiry, and the very nature of trade secrets law gives a lawyer room for creative argument.
But here is the rub. That lawyer representing the company ought to be darn careful when bringing such a claim; courts have long cautioned against using trade secrets claims to impose upon an employee an ex post facto non-compete.
The Haarman case is not that unique, but its procedural posture was and the ruling will make it more difficult for companies trying to prevent competition by ex-employees under vague claims of trade secrets theft.
The industry involved is one where non-competes are fairly common: computer network consulting. System Development Services (SDS) catered to businesses around Effingham, Illinois, and the technicians employed by SDS had substantial customer contact. They were often on-site at a customer location and had intimate knowledge of customer needs.
When several of SDS' employees left to form a new company, SDS filed suit and claimed trade secrets theft. At trial, two trade secrets were at issue: a customer list and customer requirements (i.e., knowledge of customers' computer systems). The trial court founds that the defendants misappropriated both and entered a two-year injunction against the employees which barred them from marketing to any actual or potential customer in SDS' database. The court further awarded judgment against the employees in the amount of $481,892, exemplary damages of $20,000 and a fee award of $260,695.99. In short, the trial court put the defendants out of business and fined them nearly three-quarters of a million dollars.
The defendants appealed and had to overcome a daunting standard of review; in essence, they had to argue that the evidence could never support judgment against them. They prevailed.
The court held the customer list was not a trade secret. In particular, the list at issue contained only the names, addresses and phone numbers of potential clients in the general geographic area where SDS was located. The employees testified this could be gleaned from commonly used public sources, such as the internet and telephone books. The court further noted each employee was a resident of the area with a large family and network of personal contacts. The injunction prevented them from working with a number of potential clients they already knew and which clearly required no reference to any secret list. Importantly, the court stated "the evidence established that the defendants were able to lure...customers away from SDS...because of those personal relationships, not because of SDS' client list."
Though it did not say so, this is the sina qua non of a non-compete agreement. If an employee has access to, and is able to influence customer decisions, a non-compete may be appropriate. Without one, imposing an injunction on vague, conclusory allegations of trade secrets theft smacks of unfairness.
The second trade secret at issue was even less concrete, and it is questionable whether the plaintiff even bothered identifying it. The secret involved the concept of "customer requirements", that is, buying preferences and knowledge of what a customer owns and might need in the future. Citing a litany of cases, the court had little trouble discarding the trial court's conclusion that this catch-all basket of information constituted a protectable trade secret. The court never discussed the definitional problem, and instead relied on two facts clearly established by the testimony: (a) the information was the customer's, not that of SDS; and (b) such information is the product of an employee's general skill and knowledge, not any trade secret of his employer.
Haarman does not establish any groundbreaking new precedent under trade secrets law when something less tangible and concrete is at issue. There are plenty of cases just like it, including the influential Fleming Sales decision written by Judge Shadur many years ago. Cases involving misappropriated source code or an engineering drawing are far easier to grasp analytically than something like what was presented in Haarman.
The case also demonstrates a few other things that I think are critical:
(1) An attorney must remember that a trade secret is nothing more than information that derives its value from being secret. Regardless of the factors that are used to analyze a trade secret claim, this is the most important inquiry.
(2) These disputes are frequently mishandled by the trial court - as evidenced by the judgment entered in Haarman.
(3) Litigation through trial can be awfully expensive, as evidenced by the plaintiff's fee petition (now since reversed) of more than $260,000.
(4) Identifying what the claimed trade secret is continues to be a major irritant.
Court: Appellate Court of Illinois, Fifth District
Opinion Date: 4/13/09
Cite: System Development Services, Inc. v. Haarman, 2009 Ill. App. LEXIS 218 (Ill. App. Ct. Apr. 13, 2009)