Thursday, November 4, 2010

Court Rejects "Inevitable Disclosure" Claim Arising Out of Failed Transaction (Texarkana Beh. Assoc. v. Universal Health)

Courts still struggle to uphold the "inevitable disclosure" doctrine.

There's no easy way to say it. The idea of enjoining a party based on the theory that disclosure (really, use) of trade secrets is inevitable is a difficult one to grasp. Courts are called upon to make inferences and assumptions that are tough to make when the end result is a restraint on trade.

Inevitable disclosure is a theory of misappropriation. It is not based on actual use or even an identifiable threat to use a particular secret. Rather, it revolves around the idea that a party, even one who tries in good faith, cannot help but use certain secrets for an unfair competitive advantage.

A dispute arising out of a failed acquisition illustrates the struggle that courts have. The case is notable in that it does not follow the usual factual matrix of an employee leaving to join a competitor. Rather, it concerned a dispute between two nationwide healthcare management companies that operate behavioral health centers following a failed acquisition.

The two companies, Texarkana Behavioral and Universal Health Services, were direct competitors, and UHS tried to buy Texarkana in 2004. Negotiations broke down that year. Two years later, UHS bought property in Fayetteville to build a health care facility. Texarkana appropached UHS and inquired whether it was interested in buying Texarkana's facility in Fayetteville. The parties entered into a confidentiality agreement, shared business information and discussed an acquisition, but negotiations again broke down.

UHS then moved forward with constructing its own facility in Fayetteville. Texarkana sued, claiming trade secrets theft under the inevitable disclosure doctrine. The court noted that Texarkana likely had not identified its trade secrets well enough, but assumed for summary judgment purposes that it did. The court held, however, that Texarkana established nothing to demonstrate that it was inevitable UHS would disclose anything secret to Texarkana.

Three facts were central to the court's holding. First, one of Texarkana's key executives (a former UHS employee) stated that he felt as though he could perform his duties at TBA without using anything confidential to UHS. Second, UHS never manifested any intent to use anything proprietary to Texarkana. Third, and most importantly (in my mind), the confidentiality agreements contained no provisions that restricted what UHS could construct or operate around Fayetteville.

The inevitable disclosure doctrine, as applied in the commercial context, can be particularly difficult to justify. In an arms' length transaction such as the one entered into between Texarkana and UHS, the parties could have bargained for a limited non-compete as a condition to exchanging sensitive information. Clearly, Texarkana had to know in 2007 that UHS would have constructed a health facility if the deal did not go through. Texarkana did not obtain any sort of activity covenant from UHS, however.

Courts rightly should be concerned about applying the inevitable disclosure doctrine when sophisticated entities (particularly those with a history of failed negotiations) enter into a contract for a potential acquisition, are aware of the consequences of not closing the deal, and don't include some type of a non-compete. Allowing a party like Texarkana to use the inevitable disclosure doctrine in this circumstance would have vitiated those negotiations and allowed it to create non-compete provision when none was ever anticipated. Both parties had to know the potential risks if the deal did not close.


Court: United States District Court for the Western District of Arkansas
Opinion Date: 10/26/10
Cite: Texarkana Behavioral Assocs., L.C. v. Universal Health Svcs., Inc., 2010 U.S. Dist. LEXIS 114112 (W.D. Ark. Oct. 26, 2010)
Favors: N/A
Law: Arkansas

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