California Choice-of-Law Rulings Strike Sensible Balance

Choice-of-law and -forum clauses are not only some of the most important issues in non-compete agreements, but they also are some of the most complex.

To step back, the clauses are just what they sound like. If you have a restrictive covenant agreement, look to the back and you'll find what many normal people call "boilerplate" terms. A choice-of-law clause says what State's law will govern the agreement. And a choice-of-forum clause will tell you where the case can, or even must, be heard.

These clauses take on added importance for employees who work for larger enterprises, because often the employee's place of citizenship will differ from the corporate nerve center. A valued sales employee may have selling responsibility only on the west coast, but her company may be situated in New York or Florida. This is extremely common, and employees often don't quite know what to do when their place of residence is different than the law governing their agreements.

Red-flag States, such as California and Oklahoma, pose special problems because of clear public policy concerns that deal with non-compete law. In those States (and others), many restrictive covenants enforceable in States like Texas or Florida won't be reasonable at all. What to do, then, when a citizen of one of these States has an agreement governed by a State's law that embraces non-competes?

Let's walk through how to assess this.

Step 1: Determine the employee's place of citizenship. This should be easy, but we've seen cases where employees move in order to take a new job in a State that is somewhat hostile to non-competes. Can this move aid the employee, or is it irrelevant?

Step 2: Find out if the employee's home State poses special enforcement problems. Those States are California, Oklahoma, North Dakota, Louisiana, and Wisconsin. There may be others, too, but for certain an employee's citizenship in one of these States should cause counsel to engage in a deep enforceability analysis.

Step 3: Ascertain whether suit in State or Federal court is likely. If there is a possibility of a suit in Federal court, then the Supreme Court's case of Atlantic Marine in 2013 will be important to consider. But, that is only if the contract contains a choice-of-forum clause.

Step 4: Review State choice-of-law rules. Most States adopt the analysis from Section 187 of the Restatement (Second) of Conflicts of Laws. If the parties select a State's law to apply, it will be given effect unless one of two conditions is met: (a) the selected State has no substantial relationship to the parties or the transaction; or (b) application of the chosen State's law would be contrary to the public policy of a State that has a materially greater interest and whose law would apply absent the choice-of-law clause.

Step 5: Apply the choice-of-law rules. Often, the first exception noted above won't apply, unless you encounter the totally bonkers situation where an employer gratuitously picks the most authoritarian State even though that State has nothing to do with the employment relationship. Or, perhaps, the employer picks Delaware when the only connection to Delaware is that the company chose to be incorporated there. That may fall within exception (a).

More likely, you'll need to do a deep dive on exception (b), which often applies when an employee has little connection to the forum State. Again, consider my example where an employee sells only in Oklahoma and has no job responsibilities in New York where the company home is. Very common fact pattern.

Step 6: Assuming you have a scenario involving exception (b), consider the nature of the public-policy at stake. Do you have a California problem, where non-competes are totally off-limits? Or do you have a State with marginal deviations to the general rule of reason, like a Nebraska which does not allow overbroad non-competes to be enforced? Sometimes these small deviations can be outcome-determinative in a particular dispute, but is that enough to qualify as a "public policy"? Debatable, to be sure.

Step 7: See if some other limiting condition applies. That is, does a State have a particular rule about choice-of-law or -forum clauses that applies to employees? Some States do by statute.

There are a few recent illustrations that involve some or all of these steps. The first comes from the redundantly-named Supreme Judicial Court of Massachusetts in a case called Oxford Global Resources, LLC v. Hernandez, in which the SJC held that a Massachusetts court would not enforce choice-of-law and -forum clauses that both selected Massachusetts against a former employee residing in California. Of particular note, that employee had job responsibilities only in California. The deciding factor was California's strong public policy that I have discussed often, which bars non-competes for employees.

Conversely, the Delaware Court of Chancery addressed a slightly different question in NuVasive, Inc. v. Miles. There, an employee in California entered into an employment contract that specified Delaware law and venue. But that agreement was entered into after California amended its Labor Code, Section 925. That section was generally intended to deepen the public policy interest against non-competes by preventing circumvention of California law through choice-of-law clauses. But Section 925 also carved out contracts where the employee's counsel negotiates the choice-of-law provision. As the Delaware court found, that carve-out balanced an overriding public policy interest in favor of free competition with a countervailing interest in the freedom to contract. As such, the choice-of-law clause was valid.

These issues are extremely important, and sometimes the case law can be confusing. That is more so with venue clauses than with choice-of-law provisions. But an employee and counsel must be attuned to the importance of both when it appears they can have an impact on the agreement.

California Dreamin'

I often think of living in California.

The warm weather, the fact that the air just somehow feels different. The sand running through your toes as you soak it all. And of course, the punishing taxes and regulations...but still.

And of course I think of what it would be like to be a non-compete attorney in California, because man would it be weird. You'd almost have to reverse most of your instincts. You wouldn't have to hedge when you talk to clients. You could actually dispense advice without the maddening qualifiers like, "well maybe a court would do this, but hey maybe not. Good luck!"

The reason, of course, is that California is pretty hostile to most types of restraints on trade, due to Section 16600 of the Business and Professions Code, which states that "every contract" in which one is restrained from engaging in a lawful profession, trade, or business is void. That's strong stuff. But despite attorneys' ability to give somewhat clearer answers than we can give in say Illinois, some nuance still remains.

Take no-hire clauses, which bar employees from soliciting co-workers for a reasonable period of time post-employment. Those are often far less controversial than non-competes and customer non-solicitation covenants because they don't really tend to limit one from working. Except, though, recruiters.

Recruiters are basically salespersons, but they specialize in placing people (sometimes consultants, sometimes other employees) with clients. Their relationships, which restrictive covenants try to protect, thus cross over into two different areas of the distribution chain. And so recruiters more than any group of employees feel restrained by no-hire clauses.

The California courts haven't been as troubled by no-hire clauses as the more common and restrictive form of post-employment covenants, with some courts allowing them. But that rule now appears in doubt after AMN Healthcare, Inc. v. Aya Healthcare Services, Inc. There, the Fourth District Court of Appeal held void under Section 16600 a garden-variety no-hire clause in the travel nurse staffing business.

The employees impacted by the no-hire were travel nurse recruiters of AMN Healthcare, who had signed no-hire clauses of either a year or 18 months that limited their ability to solicit co-workers to leave AMN. Those recruiters then left and contacted various travel nurses, who typically were placed at health care facilities on 13-week assignments.

The Court of Appeal found the no-hire clauses void as a matter of law, thus casting doubt about older case that lawyers typically relied upon to enforce those clauses. The gist is that those older cases pre-dated a significant Supreme Court of California decision in a case called Edwards v. Arthur Anderson LLP, which generally disapproved of a narrow-restraint exception to Section 16600. As a result of Edwards, Section 16600 still applied when a post-employment covenant restricts only a limited part of an employee's profession, such as solicitation of clients.

The Court of Appeal in AMN Healthcare found Edwards controlling. As applied to the travel nurse recruiter scenario, the court had little trouble concluding that the no-hire clause was a void restraint. In particular, it focused on the nature of the recruiting business (which makes no-hire clauses much more significant than in other industries), the impact on recruiters' compensation if restrained from soliciting nurses for work, and the temporary nature of the travel-nurse assignments.

Despite all that, it's hard not to see AMN Healthcare as a significant shift in how courts evaluate no-hire clauses. A copy of the decision is available here.

Ninth Circuit Expands Reach of Section 16600 in Golden II

Three years ago, I wrote a lengthy blog post on the case of Golden v. California Emergency Physicians, a Ninth Circuit case that I felt was a bit of an oddity. It addressed California's well-known statute, Section 16600 of the Business and Professions Code, which generally bars non-compete agreements.

The problem in Golden I was that the provisions at issue weren't really non-compete covenants at all, and so the application of Section 16600 was a little confusing. Though I punt to my 2015 post for a factual run-down of Golden I, summarized briefly the case involved this scenario. Am emergency physician had an employment dispute with a staffing company. As part of a settlement, the company required him to agree not to work at any facility where the company had a staffing contract. It further provided that if the company later acquired a staffing contract at another facility, it could and would terminate the physician.

So how does this implicate Section 16600? Golden I didn't necessarily address that question and remanded for fact-finding about how this covenant impacted Dr. Golden. I wrote three years ago that I didn't understand the fact-finding rationale at all. I still don't. But the Ninth Circuit now has addressed the application of Section 16600 and what the district court did on remand.

To start with, the Ninth Circuit says Section 16600 covers all contractual provisions that impose "a restraint of a substantial character." That means, the provision cannot "significantly or materially" impede a person's lawful profession, trade, or business. According to the California decisions summarized in Golden II, restraints that meet this definition include:

1. Restrictions on working for a competitor;
2. Restrictions on soliciting customers;
3. Clauses that impose a monetary penalty for engaging in competitive conduct.

What won't meet the definition? A limited provision allowing for a company to recoup training program costs when an employee leaves.

The no-employment clauses at issue in Golden I and Golden II don't fit neatly into any of these boxes. Instead, they make clear that Dr. Golden won't work where CEP is contracted to provide services, now or in the future. The Ninth Circuit concluded that a clause pertaining only to Dr. Golden's employment at CEP wasn't problematic and was so limited that it didn't meet the "significantly or materially" impeding test it created.

The other provisions in the draft settlement agreement, however, were void under Section 16600. Those prohibited his current and future employment at CEP-contracted facilities. The court's analysis suggested that it was focused more on results and less on methodology. For instance, it emphasized CEP's expansive reach into California medical facilities. But it also downplayed Dr. Golden's admissions concerning his medical specialties, which suggested that the restraint in practice might not be that onerous.

To be sure, it's hard to make much of this case. I suspect that it's so factually goofy that any other case that deals with obliquely limited clauses having some peripheral impact on employment will easily be able to navigate around the court's rationale. About all the case may do for practitioners is reinforce the reach of Section 16600 and solidify that true covenants against competition are almost certain to fail, even if those covenants are very specific and narrow. 

Back from Hiatus (Part II): State Law Updates

Last week, I discussed three examples of Illinois courts analyzing similar non-compete issues in very different ways, a post that amply illustrates how difficult it is for lawyers to predict outcomes for clients. It also reminded me of a famous Abraham Lincoln quote: "Discourage litigation. Persuade your neighbors to compromise whenever you can. Point out to them how the nominal winner is often a real loser - in fees, expenses, and waste of time. As a peacemaker the lawyer has a superior opportunity of being a good man. There will still be business enough."

But to be sure, many people ignore Lincoln and litigate anyway - often with profoundly silly reasons motivating them.

So because we have litigation, we have legal developments and I therefore have a blog that continues to chug along. And you continue to read, meaning I must update you with some new rulings over the past several months.

California:

The infamous, long-running case involving ex-Korn/Ferry International executive David Nosal may have reached its end, with the Supreme Court declining a cert petition and the District Court now having finally decided on the scope of Nosal's restitution to KFI. United States v. Nosal is the most notable case under the Computer Fraud and Abuse Act, which generally criminalizes unauthorized access to protected computers. Nosal had its roots as a garden-variety trade secret case, but it was a criminal prosecution and tested the CFAA's limits.

Ultimately, Nosal secured some victories along the way. But still he will serve a year in prison and pay restitution to KFI. As to the scope of restitution, KFI sought about $1,000,000 in legal fees incurred to assist the Department of Justice investigation. After the Ninth Circuit weighed in KFI, will have to settle for less: $164,000. Still a heavy price to pay for Nosal, who probably deserved a civil suit but definitely does not deserve to spend a year in prison.

Connecticut:

The case of Datto, Inc. v. Falk discussed whether a forfeiture-for-competition clause was reasonable and enforceable. A minority of jurisdictions apply the same, or at least a similar, non-compete standard to these clauses, which (as one might expect) enable an employer to clawback certain benefits if an employee leaves to compete.

Forfeiture clauses range in scope, frequently calling for the forfeiture of unvested stock options but sometimes also calling for the employee to pay back income earned from the exercise of a grant within a certain period before the end of employment. Datto involved a dispute as to whether the cancellation of certain stock options were void because Falk (an ex-Chief Revenue Officer) accepted a position with a competitor.

The court was bound to apply Delaware law on the question of reasonableness, and that law in my view is somewhat confusing. Precedent, in effect, equated true non-competes with forfeiture clauses, finding they accomplished the same results. That's not necessarily true. A forfeiture clause may incent future performance, while a non-compete unquestionably tries to protect a separate economic interest beyond employee loyalty.

Datto illustrates the confusion in its analysis, though the district court judge admittedly was bound by controlling law. He noted, for instance, that the forfeiture clause was reasonable because "[t]his is not a case of an employee who is barred altogether from working for the competition anywhere in the world."

In my opinion, courts ought to use varying levels of scrutiny when examining restraints, similar to the current First Amendment jurisprudence. Specifically, I think that for employment-based non-competes, courts should use the strict scrutiny test (which by and large, they say they do), and for sale-of-business non-competes, they should examine them under a rational basis inquiry.

For mid-tier restrictions, like franchise non-competes and forfeiture clauses like that in Datto, I would use intermediate scrutiny. That test would require courts to determine whether the restrictive means used (e.g., the scope of the event triggering the forfeiture) are substantially related to the interest the restraint is designed to protect. This test, though it may not be perfect, would at least provide courts with a flexible, coherent way to analyze less problematic covenants that lack adhesive properties.

New York:

The New York Court of Appeals answered a significant question of damages related to trade secrets claims in the case of E.J. Brooks v. Cambridge Security Seals. The Court held that a plaintiff's damages cannot be measured by the costs the defendant avoided due to unlawful activity.

If a principal goal of trade secret law is to encourage innovation, then a cost-avoidance theory of damages seems to be a logical means to further that goal. Stated another way, if the misappropriation shortens a product-development cycle and enables X to bring a product to market more efficiently, then X is unjustly enriched by not incurring research-and-development expenses.

In the Court's view, cost-avoidance is inconsistent with a compensatory theory of damages. And under New York law, only the plaintiff's losses count. Cost-avoidance theory resembles unjust enrichment, but because New York has not adopted some variation of the Uniform Trade Secrets Act -- which specifically allows for unjust enrichment-type damages -- the theory is not viable.

The holding, predictably, spurred a long and persuasive dissent. It summarized the pragmatism and utility of cost-avoidance damages, noting that they are "generally much simpler than, and less subject to challenge than, lost-profit damages, which makes them an attractive alternative for plaintiffs who are willing to forego a potentially larger recovery in favor of a smaller, more certain one." (The assumption of a "smaller" recovery reasonably invokes the principle that a developer does not spend X to recover X. Normally, a rational economic actor would spend X to recover some multiple of X.)

A link to E.J. Brooks is available here. I emphasize again that I view this as a distinctly New York rule of law, and not one likely to be adopted across jurisdictions that have embraced a more flexible approach to damages.

South Carolina:

In Hartsock v. Goodyear Dunlop Tires North America, Ltd., the Supreme Court of South Carolina recognized an evidentiary privilege for trade secrets, but held the privilege was "qualified." That means it is different than, say, an attorney-client privilege or one barring self-incrimination. By "qualified," the Court held that a party seeking the disclosure of trade-secret material must show a "substantial need" for it that is relevant to the specific issues involved in the litigation. If a proponent makes that showing, the trade-secret holder still can gain the benefit of a protective order over the compelled disclosure.

The decision is, to be certain, a weird one. This is not really a privilege rule, but rather a rule of discovery that calls upon courts to make a balancing decision. If anything, this rule will create confusion where none should exist.

Texas:

Everything is bigger in Texas, including damages and attorneys' fee judgments. In the long-running case of Quantlab Technologies v. Godlevsky, a federal district court awarded the plaintiff its attorneys' fees in a trade secrets suit for what the court called defense behavior that was "so acrimonious, vexatious, and indefensible that...[it] exceeds any that this judge has seen in his nineteen years on the bench." The case involved stolen technology in the high-frequency trading industry, and the court at various times had sanctioned the defendants for destroying or failing to preserve evidence.

The price for that behavior was a fee judgment of $3,220,205 against each individual defendant.

The plaintiff didn't fare so well in GE Betz v. Moffitt-Johnston. There, the Fifth Circuit held that under Texas law, a company failed prove than ex-employee breached a customer non-solicitation covenant. The employee succeeded despite "highly suspicious" computer activity, including the mass download of data to an external device. But the company couldn't prove that any contacts with customers amounted to solicitation of business, rendering the contract claim unsupportable.

The Fifth Circuit did, however, vacate a large fee award for the ex-employee. Texas law allows an employee sued on a non-compete violation to obtain fees if the employer knows the agreement is overbroad and sues to enforce the agreement to an extent greater than necessary to protect the employer's interests. That's a hard standard to meet, absent some damaging admission or a truly terrible agreement. And the employee here didn't do so. 

The Reading List (2017, No. 25): Eighth Circuit Affirms Damages Award in West Plains Litigation

Non-Compete and Trade Secrets News for the week ended September 1, 2017

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Jury Verdict Affirmed in West Plains Litigation

The Nebraska case of West Plains, LLC v. Retzlaff Grain is unique in that it belongs in the limited group of trade secrets and unfair competition cases to proceed to jury verdict. The case is garden-variety lift-out, engineered by a former owner of the plaintiff who systematically recruited away key employees to replicate his former business. A Nebraska jury returned a verdict of $1,513,000 in compensatory damages (along with compensation forfeiture in varying amounts against certain ex-employees).

The case is valuable for its discussion of a very common tort that usually accompanies trade-secret or non-compete claims: interference with business relationships. In most cases, interference can be privileged or legally justified if it's for competitive purposes. But interference can be tortious (or wrongful) if done in bad faith, with improper means, or as part of a fraudulent or illegal scheme. Here, the Eighth Circuit found that enough evidence of unjust interference was present in the employees' mass exodus from their former employer. Specifically, the employees used customer lists, documents, and other internal confidential information to plan a coordinated departure. Too, the plaintiff introduced communications that suggested the defendants knew they were acting inappropriately in using their then-employer's information to establish a turn-key competitor from day one.

West Plains shows the value that ancillary tort claims can play in competition cases. With the right facts, it is not always necessary to have a restrictive covenant. To be sure, finding evidence of bad faith or willful misconduct is not easy. But employees seem to keep finding a way to leave digital fingerprints all over the place.

A link to the opinion is available here.

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Privilege in the Waymo/Uber Fight

Privilege issues in trade secrets litigation can arise in a variety of ways. But those issues extend well beyond garden-variety claims of attorney-client or work-product privilege.

The trade-secrets battle-of-the-millennium in Waymo, LLC v. Uber Technologies, Inc. has featured several intricate disputes over production of privileged materials. In July, Magistrate Judge Corley denied Waymo's efforts to compel Anthony Levandowski - the ex-Google engineer in charge of driverless car technology - to produce documentation and media that would have reflected his retention of 14,000 files belonging to Waymo and that concerned its proprietary LiDAR technology. Given that Levandowski's pre-termination conduct posed a risk that he would be prosecuted for trade-secrets theft, the court found that compelling the production of those files would implicate his Fifth Amendment privilege against self-incrimination.

But Judge Corley's order denying Waymo's motion to compel went further. She extended the Fifth Amendment privilege to a privilege log that Levandowski had to prepare. The court had required Levandowski to develop the privilege log with enough substance so that Waymo could respond to his Fifth Amendment arguments. As her ruling shows, even the outlines and parameters of a privilege log, without a corresponding production of the logged materials, can provide enough of a link to a potential crime so as to implicate constitutional concerns.

The Order is available at Waymo, LLC v. Uber Techs., Inc., No. 17-cv-939, 2017 WL 2864854 (N.D. Cal. July 5, 2017).

An Analysis of Two California Cases. Big California Cases.

Over the past week, we received two big decisions from two different California courts on two vastly different issues. One was a decision that has no precedential effect, but which garnered a lot of headlines, particularly in tech circles. That case was decided correctly. The other received almost no attention, but which is precedential. And that case was wrongly decided.

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The Computer Fraud and Abuse Act and Data Scraping

I have a been a long-time critic of the CFAA, a law put together so haphazardly and over so many years that it is difficult to resolve important questions of statutory interpretation. The key legal question that arises under the CFAA - at least in the context of employee claims - is when one exceeds her authorized access to a protected computer or accesses that computer "without authorization." Put another way, many cases have analyzed claims of insider misappropriation within the CFAA's statutory text, even though it seems clear the statute didn't really have that type of case in mind.

But applying the "without authorization" language of the CFAA goes beyond just employment claims, as reflected in the important case of hiQ Labs, Inc. v. LinkedIn Corp. The case involved another question of statutory interpretation: whether the CFAA prohibited access to public LinkedIn profiles after LinkedIn revoked permission to such access.

A little background is essential, since the idea of an open internet is crucial to the case's disposition. hiQ Labs is a data analytics company. Its business model revolves around scraping data off of LinkedIn users' public profiles. It then can offer products to its client companies: an analysis of which employees are likely to leave or be recruited (such as by employees updating their skills and other LinkedIn fields) and a separate analysis of which skills individual workers possess.

LinkedIn demanded that hiQ stop scraping public data from its website, relying on its User Agreement and the term that prohibited data collection. hiQ sought injunctive relief, arguing that LinkedIn's threats undermined its business model and violated state statutory and common law. The analysis, though, hinged on the CFAA - for a reading of that statute in LinkedIn's favor would have preempted the offensive claims hiQ brought.

The district court found that the CFAA likely did not preclude hiQ's claims, and it relied on two general concepts. First, it distinguished other cases where CFAA infractions involved access to private, as opposed to public, data. And second, it looked to the law of trespass to conclude that, despite LinkedIn's supposed revocation of hiQ's access to public profiles on its website, hiQ hadn't circumvented any sort of authentication system to view those profiles. This analysis incorporated Professor Orin Kerr's influential Columbia Law Review article that discussed the law of trespass as explaining some of the ambiguity and context of the "without authorization" language in the CFAA.

The decision seems intuitive and obvious, but in large part it was constrained by the text of the CFAA itself, which has confounded courts over the years. Thank goodness we have thought leaders like Orin Kerr to make sense of the statute and provide the appropriate analytical framework on which courts can reconcile very difficult questions. Public websites need to be open and accessible, and operators cannot erect artificial barriers under the guise of an unread, boilerplate user agreement to invoke the specter of criminal liability for viewing and using what's freely available.

Malicious Prosecution

The second decision comes from the Supreme Court of California, where the Court absolved Latham & Watkins for its pursuit of a frivolous trade-secrets claim many years ago. That case made its way up to the Court of Appeal and is somewhat well-known to lawyers (like me) who believe that a robust, common-sense interpretation of "bad faith" is essential to defense fee-shifting claims. The case of FLIR Systems, Inc. v. Parrish, 174 Cal. App. 4th 1270 (2009), was the precursor to Parrish v. Latham & Watkins. In FLIR Systems, the Court of Appeal affirmed a fee award for the prevailing defendants after the plaintiff's trade-secret claim (and the expert testimony girding that claim) fell apart at trial. As the Court had held, the plaintiff's modest success in defeating summary judgment did not insulate the bad-faith fee award. That was a sound rationale: trade secrets plaintiffs often dodge, duck, and distract a trial court into believing there are factual issues in need of resolution.

Unfortunately, for the defendants in that case, the summary-judgment "loss" hurt them in a later, independent malicious prosecution claim that they brought against Latham & Watkins, the law firm that represented FLIR Systems. The Court of Appeal held that the so-called "interim adverse judgment" rule barred the malicious prosecution claim, a decision the Supreme Court of California affirmed last week.

That rule says that a malicious prosecution plaintiff cannot maintain a claim if a "trial court judgment or verdict" is rendered in favor of the plaintiff in the underlying suit - here the FLIR Systems litigation. The problem with applying this rule is that FLIR Systems' defeat of a summary judgment motion is not a judgment in and of itself. It's an interlocutory order that is not even appealable and is a reflection of the trial judge's perception that fact issues need a full airing in court. Indeed, a denial of a summary judgment motion is not a ruling on the merits in any sense.

California is ground-zero for crummy trade secrets claims, so the ruling is an important one. It is particularly important if the plaintiff cannot satisfy a fee award or if the pursuit of the claim caused collateral damage that flowed from the pursuit of the action (such as lost investors, delayed market entry, jettisoned goodwill). A fee award won't cover those damages, but a malicious prosecution suit will. The "interim adverse judgment" rule, applied to denials of summary judgment motions, is an artificial construct that insulates attorneys who pursue claims without an objective, good-faith basis. That they survive a summary judgment is by no means a reflection of the suit's merit, since the trial is where the facts are most tested. Courts need flexibility to assess whether the entirety of the prosecution was malicious, not whether the plaintiff's lawyers were skilled enough to defeat a motion.

An obvious consequence? California courts may see less summary judgment motions. Why risk it after the Latham & Watkins case?

The Reading List (2017, No. 20): Are Prince's Unreleased Songs "Trade Secrets"?

Non-Compete and Trade Secrets News for the week ended May 26, 2017

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The Trade Secret Status of Prince's Unreleased Recordings

Prince's death last year unleashed an unfortunate - and somewhat predictable - wave of litigation in his home State of Minnesota.

One lawsuit involves a claim of trade secrets misappropriation. The nature of the action? A sound engineer's possession of five previously unrecorded Prince songs. Prince's estate sued to enjoin the promotion and distribution of those recordings. The engineer signed a Confidentiality Agreement providing that any recordings were the "sole and exclusive property" of Paisley Park Enterprises, a corporation Prince owned while he was alive. The five songs were recorded and edited between 2006 and 2008, long before Prince's death. Around this time, the engineer had stopped working with Prince.

After Prince's estate learned that the engineer was planning to release one of the recordings, it sued and sought both possession of all recordings and a temporary restraining order barring their release. The court ultimately issued a temporary restraining order in favor of Prince's estate and Paisley Park. But the claim to trade-secret protection over the recordings failed.

Though the recordings themselves were kept secret, that alone was not enough to vest them with trade-secret status under Minnesota law. The court stated that "[n]o other artist or record company could take market share from Paisley Park Enterprises by discovering the contents of the disputed recordings." Though the recordings unquestionably had economic value, that value did not derive from their secrecy; rather, the value came from Paisely Park's exclusive right to sell them to the public.

Here is a link to the district court's opinion.

Stryker Wins Sixth Circuit Appeal

Back in February, I noted the significance of Stone Surgical LLC v. Striker Corp., at least in the sense that the Sixth Circuit appeal from a jury verdict raised an interesting choice-of-law question. The dispute centered on a non-compete with a Michigan choice-of-law clause. But the relevant conduct involved a Louisiana salesman who had Louisiana contacts. Given that State's pro-employee stance towards non-compete agreements, the employee (Ridgeway) had a good argument that applying Michigan law would violate Louisiana public policy.

But the Sixth Circuit - though acknowledging it was a fairly close question - found that Louisiana's interest was not materially greater than Michigan's. In other words, though Louisiana had an interest in protecting its residents from unfair and overbroad non-compete agreements, the court had to weigh the employer's interest in protecting its economic rights against a breach. And on that score, it saw no error in the district court's conclusion that Louisiana's interest was not significantly greater. The Michigan choice-of-law clause applied, and the jury's verdict against Ridgeway was upheld.

Here is a link to the Stone Surgical opinion.

Baseless Suits as a "Deceptive Trade Practice"

Defense strategies for fighting frivolous lawsuits generally are fairly limited. Counsel always have the ability to seek fees under Rule 11 or state-law equivalents if the suit is groundless. Most trade-secret statutes have "bad faith" fee-shifting clauses. Those are a tough sell in most suits. In other cases, business corporation act indemnity provisions may give rise to broad fee-shifting. And, of course, prevailing-party clauses that allow for winners to obtain fees may provide relief.

But are there other grounds for prevailing defendants to seek legal costs? The options are out there. I was interested to read an Order out of the Eastern District of Louisiana in a case called Byram Healthcare Centers, Inc. v. Rauth, No. 16-16854. In that case, the court allowed a defendant to counterclaim against her ex-employer for seeking to prevent her from working for a competitor. The legal basis? The state's Unfair Trade Practices Act, which allows a person to bring an action if she suffers "any ascertainable loss of money or movable property, corporeal or incorporeal, as a result of the use or employment by another person of an unfair or deceptive method..."

The gist of the opinion is that misuse of the judicial process itself can be a deceptive trade practice. Some state-law interpretations of the abuse of process tort would say, in essence, the same thing. But state trade practices statutes often provide for mandatory fee-shifting. This is a very creative use of state law by the employee's counsel to gain leverage in a case where the employer, even on a flimsy case, holds all the leverage simply because it is able to bear the cost of litigation.

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It's pretty hard not to read the New York Times and the Washington Post these days, a journalistic battle that illustrates the profound benefits of competition. But the NYT has gone well past all things Russia and has published a series of pieces concerning non-competition agreements. The latest comes from Paul Krugman in an opinion piece tilted "The Unfreeing of American Workers." This article discusses the shackling of employees due to the unreasonable proliferation of non-competes and the irrational linkage of health care to employment. Krugman even manages to work in a reference to Russia - noting American workers are "yoked to corporate employers the way Russian peasants were once tied to their masters' land."

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The Waymo-Uber driverless car technology fight continues to dominate the news. Jonathan Pollard takes an in-depth look at the latest developments, including Waymo's "loss" at not obtaining a broader injunction to stop Uber from pursuing its competing technology. In his usual candid style, Jonathan thinks Uber's lawyers are getting the better of their counterparts at Waymo.

For background on the man at the center of the trade-secrets case of the year, I recommend the Wall Street Journal profile on Anthony Levandowski and his rather unconventional tenure at Google.

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Russell Beck's Fair Competition Law blog discusses an amendment to the Texas Uniform Trade Secrets Act. The amendment does not allow for a trade-secrets injunction that prohibits a person from using his general skill, knowledge, and experience acquired during employment. That language helps, but it still falls short of what is needed - a clear ban on so-called inevitable disclosure injunctions.

Eric Ostroff has an excellent practical piece for lawyers who represent clients in trade-secrets suits. The gist: as an ethical matter, they probably need to encrypt e-mails that refer to the trade secrets. The American Bar Association's opinion on encryption only formalizes what a lot of us have been discussing for sometime, particularly given law firms' obvious status as targets for hackers.

Dechert has a lengthy analysis, in case summary form, of the Ninth Circuit's opinion in United States v. Liew. This matter arose of the conviction of Walter Liew under the Economic Espionage Act arising out of his theft of certain trade secrets of DuPont and his apparent agreement with the Chinese government to supply it with certain technology for titanium dioxide. Confirming the correctness of my decision never to eat Oreo cookies, titanium dioxide is the pigment that makes the center of the Oreo white. Almost as troubling as what Liew did.

Michael Starr of Holland & Knight discusses the Molon Motor case, about which I wrote last week, and its preliminary ruling that an inevitable disclosure claim withstood a defense motion to dismiss. Despite some scuttlebutt, Molon Motor does nothing to pierce the DTSA's ban on inevitable disclosure claims in the employment context. We lawyers tend to overread cases from time to time. The upshot is this: inevitable disclosure claims, even in States that recognize the theory, are incredibly hard to pursue and by no means give an employer a clear path to injunctive relief. Without some evidence of bad-faith conduct giving rise to an actual threat, they almost always fail.

Trade Secrets and Anti-SLAPP Laws: A Surprising Texas Decision

In recent years, States across the country have enacted Citizen Participation Acts, or as they're commonly known, "anti-SLAPP" statutes. The term SLAPP refers to "strategic lawsuits against public participation." Generally, they are meant to provide a defendant with an expedient way to dismiss a meritless lawsuit brought because of some governmental petitioning activity or due to the exercise of free-speech rights. Crucially, the statutes shift the burden to the plaintiff to demonstrate some factual merit to the case and then, assuming the motion to dismiss is successful, mandate an award of attorneys' fees to a defendant.

Trade secrets lawsuits are not thought to be the foreground for anti-SLAPP suits. Still, they broadly implicate associational activity, in that individuals' rights to associate with co-workers or pursue an occupation can be impacted by frivolous lawsuits. In this regard, the interplay between the text of anti-SLAPP statutes and trade secrets claims can generate considerable tension.

Historically, courts have been reluctant to extend anti-SLAPP protection to defendants in trade secrets action. In California, for instance, the Court of Appeal has held that the State's anti-SLAPP law did not include a trade secrets claim because the conduct complained of did not implicate a person's rights of petition or free speech in connection with a public issue.

Illinois, in recent years, has limited its Citizen Participation Act. The Supreme Court, for instance, appeared to add words to the plain language of the statute, effectively requiring defendants to show that an action "solely" was brought in retaliation for protected speech. As a result, lower courts have not necessarily focused on the underlying conduct of the defendants - which should be the focus an anti-SLAPP inquiry - but rather whether the plaintiff had some legitimate intent in bringing the claim.

In that wake, the Texas Court of Appeals last week applied its Texas Citizens Participation Act ("TCPA") in a way that nominally affords trade secrets defendants with additional protection. In Elite Auto Body LLC v. Autocraft Bodywerks, Inc., the court held that the TCPA may enable a trade-secrets defendant to bring an early motion to dismiss. Crucial to the court's ruling was the protection afforded under the statute to individuals "exercise of the right of association." The TCPA defines that to include: "a communication between individuals who join together to collectively express, promote, pursue, or defend common interests."

The court rejected the plaintiff's argument that some constitutional gloss must be applied to the TCPA's definitions, with the opinion providing a fairly stark example of how textualist judges analyze statutory provisions. In other words, the "communications" that form an associational right (for TCPA purposes) need not touch a matter of public concern - because nothing in the statute says that.

The case may be jarring to some plaintiffs who seek redress for legitimately unfair competition. But the TCPA would allow for them to meet their burden of establishing the factual basis for the lawsuit, just at an earlier time than many plaintiffs would prefer. Conversely, it could provide wrongly sued defendants an early means by which to extricate themselves from suit - with a fee award in tow.

Props, of course, to defense counsel for their excellent advocacy here. It's yet another example of how defense attorneys must get creative in stopping opportunistic, competitive litigation by exploring ways to stop abusive discovery and shift legal fees.

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Next week, I'll summarize the Ninth Circuit's important decision in United States v. Liew. And then in a few weeks, I'll return with my weekly recap, The Reading List.

The Reading List (2017, No. 17): Non-Competes When the Agreement Expires

Non-Compete and Trade Secrets News for the week ended April 28, 2017

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Non-Competes in Expired Employment Agreements

The case of Metallico Pittsburgh, Inc. v. Newman from the Superior Court of Pennsylvania addressed a question that I have confronted on at least 5 or 6 occasions. What happens when a term employment agreement (say, for three years) that contains a non-compete expires, but the employee stays on in an at-will context? The basic answer is that it depends entirely on the contract language and whether the non-competes start running once the contract is over or once the relationship is over. In Metallico Pittsburgh, the non-competes ran once the relationship ended so the employee's transition to at-will employment did not trigger the time period. Several years ago Illinois courts addressed a case similar to Metallico Pittsburgh and reached the opposite result. But the cases are consistent. The Illinois case involved an agreement that was worded much more favorably towards the employee.

The decision in Metallico Pittsburgh is available here.

Continuing Use Claims under the DTSA

The Defend Trade Secrets Act has generated a fair amount of case law about whether the statute applies to conduct occurring, at least in part, before it went into effect last May. The latest case comes from California, and involves the theory of misappropriation based on improper use of a trade secret. The use prong - as opposed to improper acquisition or disclosure - is more nebulous as far as the DTSA is concerned. Acquisition is usually a discrete event. Disclosure may not be, but it too is usually something that a plaintiff can pinpoint. Use, however, is tough to nail down. Use of a trade secret can occur systematically - continuously from the time the secret is acquired until it's enjoined.

That raises a knotty issue. If the same use-based conduct occurs before and after the DTSA's effective date, does the plaintiff have a federal claim. The district court in Cave Consulting Group, Inc. v. Truven Health Analytics Inc. said no and dismissed it. Applying that court's reasoning, the post-enactment use of the trade secret must be different than what occurred before the law went into effect.

The decision is available here.

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Russell Beck's Fair Competition Law blog has available an updated "Trade Secret and Noncompete Survey -- National Case Graph 2017." The graph has helpful data to show the trends in reported cases. One thing to consider: the rise of private arbitration may not reflect the full scope of how much this type of litigation has grown.

Ever curious to know which States are most and least employer-friendly when it comes to non-compete enforcement? Take a spin through an old favorite of mine, Fifty Ways to Leave Your Employer: Relative Enforcement of Covenants not to Compete, Trends, and Implications for Employee Mobility Policy. Norman D. Bishara wrote this article in 2011 and it graphs the States' enforcement trends. Though the study is now a few years old, I doubt the findings would change significantly. Even in those States with legislative changes (Georgia, Utah), the changes are too new to be statistically important to this research compilation.

The Reading List (2017, No. 13): The DTSA Is Not an Unconstitutional Ex Post Facto Law

Non-Compete and Trade Secrets News for the week ended March 31, 2017

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The Defend Trade Secrets Act and "Continuing" Misappropriations

The Eastern District of Pennsylvania rejected a defense challenge to the Defend Trade Secrets Act, which I must confess I didn't see coming.

In Brand Energy & Infrastructure Svcs., Inc. v. Irex Contracting Group, No. 5:16-cv-2499, the court first noted that the DTSA can apply to continuing acts of misappropriation that began before the law's enactment in May of 2016 if those acts continued later. This would, for instance, capture a continuing improper or unauthorized use of an alleged trade secret.

The court then rejected a constitutional challenge as applied to the facts under the ex post facto clause of the United States Constitution. In a long and interesting passage, the court noted the DTSA's heavy reliance on state versions of the Uniform Trade Secrets Act and described how the DTSA was substantially different in its textual description of the law's effective date. As a result, the court found Congress intended to apply the DTSA to continuing claims of misappropriation and to provide a remedy that dealt not only with the acts occurring after the effective date but before as well.

A copy of the decision is available here.

The Anheuser-Busch Whistleblower Case

Remember James Clark? Yeah, I didn't think so. Clark accused Anheuser-Busch of filing a "strategic lawsuit against public participation" (called a "SLAPP action") when it accused him of misappropriating trade secrets related to A-B's brewing process. Clark allegedly took the information to institute a class action against A-B concerning the supposed mislabeling of alcohol content on its beer products.

A California district court had denied Clark's motion to dismiss the case as an improper SLAPP suit. Clark then appealed, a procedure that many state SLAPP statutes allow (even though the denial of a motion to dismiss is not otherwise appealable). In late 2015, the Ninth Circuit reversed and found the district court incorrectly determined that Clark's efforts to litigate (or share information with class counsel) were not the type of "protected activity" encompassed within California's SLAPP statute. The circuit court then remanded for the district court to determine whether A-B had established some probability of success on its misappropriation claim. That inquiry is a core part of determining whether an anti-SLAPP motion should be granted.

Last week, the district court once again ruled in A-B's favor and found it demonstrated such a probability of success, thereby denying Clark's anti-SLAPP motion for a second time. The court commented briefly on Clark's whistleblower defense, a topic of particular interest given how the Defend Trade Secrets Act contains a specific provision to protect whistleblowers The problem for the court, it appeared, is that assisting in a class action is not at all whistleblowing activity. Under California law, for instance, protected whistleblowing activity involves some complaint to a governmental agency.

A copy of the opinion is available here. Clark, by the way, appealed the adverse ruling once again.

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For an extended discussion on the various States' treatment of consideration in non-compete contracts, please see Sheppard Mullin's article in The National Law Review. Not surprisingly, Illinois merits an extended discussion.

GeekWire reports on the passage of a non-compete bill in the Washington House. The bill is generally considered employee-friendly, particularly as to technology workers. Amazon has been fairly aggressive in its use of non-competes.

The Reading List (2017, No. 10): South Carolina Interprets Stealth Confidentiality Agreement

Non-Compete and Trade Secrets News for the week ended March 10, 2017

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South Carolina Non-Competes

The Court of Appeals of South Carolina issued a very interesting and important ruling on the oft-overlooked interplay between non-disclosure and non-competition covenants. The case is Fay v. Total Quality Logistics, LLC, No. 2014-1828.

In Fay, the Court of Appeals determined that an indefinite non-disclosure agreement operated as a stealth non-competition restriction, because it provided that if the ex-employee entered into a similar business as his employer and worked in a similar type of position, he would "necessarily and inevitably" use the employer's confidential information to perform his job. In other words, the agreement attempted to graft the devilish "inevitable disclosure" doctrine into a non-disclosure/non-competition covenant. Bad move. This contractual language in effect prohibited the employee ever from competing with his former employer. Under South Carolina's strict "blue-pencil" rule, the court couldn't modify the contract to add in a reasonable time limit. As such, it was unenforceable.

The concurring opinion offered the same conclusion, but first looked to Ohio law because that's what the parties agreed to apply to the contract. But even under Ohio law (which is more friendly), the indefinite non-disclosure agreement would be unenforceable. Fay represents yet another case in an emerging area: an employee's challenge of a broad non-disclosure agreement and arguing it operates as a stealth non-compete. You can read the opinion of the Court of Appeals by clicking here.

Proposed Amendments to CFAA

The Computer Fraud and Abuse Act has been amended many times since it first appeared on the scene in 1986. In reality, it needs to be rewritten or broken up into several different laws. But it's back on the legislative docket, at least if one Congressman has his way.

Rep. Tom Graves (R. GA) has proposed the Active Cyber Defense Certainty Act. The bill would allow victims of cyber-attacks to engage in limited defensive measures to identify and stop attackers. In essence, it's a bill that enables "hacking back" and formalizes that concept as a defense to prosecution for unlawful computer access. The text of the bill is available here.

The theory of hack-backs have generated a lot of debate among scholars in recent years, with some arguing that, even if legal, it could have dramatic unintended consequences in ensnaring innocent third-parties. It is often difficult to trace the source of a hack.

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In other news, a great deal of news is floating around about Waymo, LLC v. Uber Techs., Inc., the trade secrets case involving Google's self-driving technology. News reports first surfaced a few weeks ago about the claim that featured, at its core, the departure of Waymo manager Anthony Levandowski and the supposed downloading of nearly 14,000 confidential Waymo files. Waymo appears to have suspected misappropriation based on the erroneous e-mail transmission of a circuit board drawing, intended for Uber but delivered instead to Waymo. A copy of the Complaint, which features a claim under the Defend Trade Secrets Act, is available here. The "Introduction" sets forth the big-picture story and is a great example of persuasive legal writing.

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For those interested in the ex parte seizure order procedure available under the DTSA, this link contains the first ever federal court seizure order carried out. The case is Mission Capital Advisors LLC v. Romaka, No. 1:16-cv-5878 (S.D.N.Y.). The collateral costs of obtaining such an order are fairly high. Of note, the defendant in this case never was represented by counsel during the litigation.

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Finally, the U.S. Attorney's Office in the Middle District of Louisiana released a statement on February 16 that confirms the sentence of Brian Johnson for violating Section (a)(5)(A) of the CFAA. Johnson's guilty plea stemmed from his installation of malicious code on Georgia-Pacific's information technology system after G-P terminated his employment. The code resulted in significant damage to G-P's operations. Johnson will serve a 3-year prison term and must pay more than $1 million in restitution.

The Reading List (2017, No. 8): An Example of How Differently Courts Treat Non-Competes

Non-Compete and Trade Secret News for the week ended February 24, 2017

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Overbroad Non-Competes in Virginia

This week's first two updates could be called a Tale of Two Non-Competes.

A federal district court in Virginia ruled that an employee's non-compete agreement, ancillary to a stock option award, was unenforceable because of its overly broad geographic scope. This case illustrates the perils of linking a restrictive covenant to customers or markets about which an employee has "confidential information." For starters, that may require a court to assess how the agreement treats that defined term - a notorious plot of unruly thatch.

But additionally, a restrictive covenant that is drafted this way often lacks objective parameters. In NVR, Inc. v. Nelson, the covenant's geographic term extended to areas "from which [the employee] received...Confidential Information." Because he received information digitally and since there was no way to tell from where the information originated, the non-compete was overbroad. A copy of the opinion denying the employer's temporary restraining order motion is available here.

Preliminary Injunction in New Jersey

The employer fared better with pursuing injunctive relief in Menasha Packaging Co. v. Pratt Industries, a New Jersey case in which the district court applied Illinois law. This dispute stems from the movement of three ex-Menasha employees to Pratt Industries during the period in which Menasha's client, Mondelez, had put up a packaging contract for bid. Unlike the NVR case, the competition and the immediate threat to Menasha were more tangible and apparent from the record. Menasha also sought very limited enforcement of the restrictive covenant, despite some dispute about whether the contract was facially overbroad. The court enjoined the employees' work with Mondelez, on Pratt's behalf, for the 18-month non-solicit term. The case illustrates the wisdom of narrowing the dispute and seeking relief that is directly tailored to the conduct in question. A copy of the New Jersey' court's preliminary injunction opinion is available here.

Non-Competes in Bankruptcy

The United States Bankruptcy Court for the Northern District of Illinois held in United Providers, Inc. v. Pagan that a claim for intentional breach of contract is dischargeable in bankruptcy. The breach arose from the debtor's alleged violation of an employee no-hire agreement in the medical billing field.

The nondischargeability provision of the Bankruptcy Code for "willful and malicious" injuries, Section 523(a)(6), requires that the breach of contract also give rise to an independent tort claim (e.g., breach of fiduciary duty, trade secrets misappropriation). And even then, a court's finding of nondischargeability is not guaranteed. The court's opinion makes sense because many breach-of-contract scenarios give rise to an economically efficient result, regardless of whether the employer likes it or feels as if it has been the victim of a maliciously designed plot. Only if the underlying conduct is intended to produce a harmful result will a viable nondischargeability argument arise. The opinion is available here.

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One of the more interesting trade-secret filings in a long time comes from the Central District of California, where Songkick has amended its suit against Live Nation Entertainment and Ticketmaster to allege trade secrets theft. The 91-page Complaint is quite a read, but the pertinent allegations of trade-secret theft appear to rest on a departed executive's misappropriation of thousands of documents in order to benefit Ticketmaster's "Artist Services" division, which is now known as OnTour. Consumers may be familiar with this type of service, since it promotes ticket pre-sales, fan clubs, and more direct fan engagement. Songkick's trade-secret theft allegations bolster a more robust antitrust claim against Live Nation, which vigorously has disputed the veracity of the accusations.

For those interested in exploring the data concerning non-competes' impact on wages and mobility, please see the University of Michigan Working Paper entitled Locked In? The Enforceability of Covenants not to Compete and the Careers of High-Tech Workers. The paper details a number of interesting conclusions, including that technology workers in higher enforcement states (think Florida) earn lower wages than their counterparts in lower enforcement states (think California). This at least seems to support the notion that employers do not share the marginal gains from non-compete regimes with their existing employees, a theoretical justification many on the pro-enforcement side frequently offer.

The Reading List (2017, No. 7): Claims of Continuing Misappropriation and the Defend Trade Secrets Act

Non-Compete and Trade Secret News for the week ended February 17, 2017

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Choice-of-Forum Clauses

The Illinois case of Aon, PLC v. Heffernan, No. 1:16-cv-1924, shows the difficulty of transferring a non-compete case in federal court when the parties have agreed in advance to a forum-selection clause. This difficult became more pronounced after the Supreme Court's Atlantic Marine decision. And the presence of a California defendant does not appear to alleviate this difficulty. Put simply, a defendant's motion to transfer venue, in the face of a clear forum-selection clause, is the exception and must cite a clear public-interest rationale. The transfer decision in Heffernan is available here.

For those wanting a deeper analytical dive into forum-selection clauses post-Atlantic Marine, please read Professor Stephen Sachs' article in the Hastings Law Journal.

Defend Trade Secrets Act

In my second weekly column of the year, I alluded to the New Jersey case of Chubb INA Holdings v. Chang, No. 3:16-cv-02354, which presented an interesting procedural question about the Defend Trade Secrets Act. Specifically, the case raised the issue of whether the DTSA applies to potential acts of misappropriation that arose before the Act went to effect.

The key fact concerning the DTSA's reach are simple: certain ex-Chubb employees allegedly downloaded critical sales and operational information before leaving Chubb. Importantly, this occurred before May 11, 2016 when the DTSA went into effect. But Chubb alleged something else: that the employees inevitably would use that misappropriated information for their new employer's benefit. And that allegation implicated concerns after May 11. This illustrates that the concept of "misappropriation" embodies three separate and distinct branches of conduct: (1) improper acquisition, (2) improper disclosure, and (3) improper use. Because Chubb (at least in part) relied on the "use" branch, the DTSA claim was viable at the initial filing stage. Put another way, each improper use (if proven) would be a separate wrong and independent of the initial acquisition that enabled the use.

The opinion on Chubb's motion for preliminary injunction (which was denied) is available here.

Contract Acceptance

The Third Circuit Court of Appeals has rejected the argument of two ex-ADP employees, who contended that they did not "agree" to non-compete obligations by electronically accepting stock awards electronically on ADP's website. The non-competes were embedded within the electronic documents that each employee signed online. As with many of these click-wrap agreements, the employees acknowledged reading the contracts. The agreements further noted that the non-compete restrictions were a condition of accepting the stock award. The court had no trouble rejecting the employees' novel defense about contract interpretation. A contrary ruling potentially would have lead to absurd results in other cases.

You can read the Third Circuit's unpublished opinion in ADP, LLC v. Lynch, No. 16-3617, by clicking here.

Judge Gorsuch and Trade Secrets

For Supreme Court watchers, Judge Neil Gorsuch of the Tenth Circuit has written one rather notable opinion that delves into trade secrets law. His discussion of Utah's trade secret statute, and the availability of unjust enrichment damages, comprises only part of his opinion for the 10th Circuit in Russo v. Ballard Medical Products, but it is nonetheless an interesting read.

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A few interesting new law review articles have appeared recently.

Jim Pooley, a former Deputy Director General of the World Intellectual Property Organization, published The Myth of the Trade Secret Troll: Why the Defend Trade Secrets Act Improves the Protection of Commercial Information. Mr. Pooley addresses and refutes many of the arguments advanced, particularly in the academy, against the DTSA.

On the non-compete side, Kristen Almond published in the Louisiana Law Review an extensive analysis of that State's quirky non-compete law. Having advised on Louisiana law recently (and frequently in the past), articles like this are essential for a practitioner's full understanding of the law from all perspectives. The publication is called Equalizing the Threat of Noncompete Agreements: Solutions Beyond Louisiana's Tangled Web of Nullity.

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Finally, next Friday I am speaking at the University of Denver at CLE International's Defend Trade Secrets Act conference. I will be presenting with John Marsh on the topic "The Search for Uniformity and Understanding: Reconciling Differences Among the States." I plan to use my upcoming March monthly column to discuss the CLE International conference and the impressions I gained. Many thanks to Mike Greco of Fisher Phillips, who is chairing this event.

The Reading List (2017, No. 6): Surprise Result on Blue-Penciling Rule in Georgia

Non-Compete and Trade Secrets News for the week ended February 10, 2017

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Georgia Blue-Penciling of Restrictive Covenants

Last December, a federal district court in Georgia limited courts' ability to modify overbroad restrictive covenants. More on this significant case in my end-of-the-month column, but LifeBrite Labs. v. Cooksey, No. 1:15-cv-4309, merits a brief mention this week.

The court held that Georgia's relatively new state statute concerning non-competes, which permits courts to "modify a covenant that is otherwise void and unenforceable," allowed it only to excise language that rendered the agreement overbroad. In other words, courts could not rewrite the contract, or supply it with any new terms, as part of its statutory ability to modify agreements. The court relied principally on Georgia's existing case law in the sale-of-business context and the rule that it must construe statutes in derogation of the common-law narrowly. Put simply, "modify" means blue-penciling. The opinion and order, with its very insightful analysis, is available here.

(FordHarrison also comments on this case in its Non-Compete News.)

Military Contractor Trade Secrets

The Eleventh Circuit Court of Appeals has reversed a summary judgment of a trade-secrets claim between military contractors, Advantor Systems of Florida and DRS Technical Services, Inc. The disputed technology involved intrusion detection systems that Advantor originally sold certain United States Air Force bases. When the Air Force elected to consolidate its security systems across all AF bases, Advantor was left out in the cold. DRS won the contract and dumped Advantor as a potential sub-contractor during negotiations. The parties had signed a transactional confidentiality agreement and a one-year "no direct hire" agreement that precluded either from directly soliciting the other's employees.

The ruling is rather lengthy (53 pages) and since it's unpublished, it does not merit an extended discussion. However, it is worth reading the passage where the court of appeals reverses summary judgment on the trade-secrets claim based on the Air Force's disclosure of technical manuals and drawings to DRS. Those manuals were necessary for DRS' continued service of Advantor equipment previously sold to the AF (recall that Advantor used to supply systems to several, but not all, AF bases). The analysis discusses a rarely litigated question concerning the term "misappropriation": whether the defendant (DRS) had "reason to know" that a third-party (AF) had some limitation on its ability to disseminate information obtained in confidence (from Advantor).

A copy of the Eleventh Circuit's unpublished opinion is available here.

Choice-of-Law Clauses

California courts have continued a trend of invalidating choice-of-law clauses with regard to employee restrictive covenants. The general principle is that courts will enforce such clauses unless the contractually chosen law is "contrary to the fundamental policy of the forum state." In Stryker Sales Corp. v. Zimmer Biomet, No. 1:16-cv-01670, a California federal district court found a public-policy rift between Michigan and California law concerning non-competes. No surprise there. Michigan is a fairly typical state when it comes to non-compete law, employing a reasonableness test to restrictive covenants. But California bars them almost entirely, which led the court to invalidate the choice-of-law clause in Stryker Sales.

This case illustrates why obtaining the proper forum, and enforcing forum selection clauses, is so crucial to non-competes directed at parties with some California connection. The original action was brought in Michigan, but venue wasn't proper there. A copy of the decision is available here.

Restoration Hardware Trade Secrets Suit

Multiple outlets have reported on a trade-secrets suit between Restoration Hardware and Crate and Barrel. The Complaint, filed in California state court, alleges that Crate and Barrel CEO and former Restoration Hardware employee Doug Diemoz tried to hire other RH executives in violation of a no-hire agreement. According to the Chicago Tribune, Diemoz is alleged to have used Gmail to communicate with RH employees, stating in one such e-mail "that damn non solicitation!" Diemoz' supposed recruitment allegedly ties into another employee's downloading of confidential information about RH's food and beverage operations in Chicago.

The crux of the trade-secret allegation is a little odd. RH seems to be claiming that Crate and Barrel is attempting to replicate its "model" of providing food-and-beverage services in conjunction with its other retail offerings. I suppose that something about the roll-out of those operations could be secret, but it seems like an allegation primed for a reverse-engineering defense. RH's pilot program was launched at the Three Arts Club in Chicago. Before its conversion (it was badly rundown), I lived at the Three Arts Club for a summer in my early 20s and consumed an untold number of alcoholic beverages - not the coffee drinks RH is now peddling to its shoppers.

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In other news, Holland & Hart reports on a $5.175 million trade-secrets verdict it obtained in Utah on behalf of Hydro Engineering, Inc. against Riveer Environmental. The case stemmed from Riveer's hiring of a key salesperson who had a non-compete with Hydro. The verdict summary illustrates, once again, that e-mail communications among the defendant's employees were central to the plaintiff's proofs.

The Reading List (2017, No. 5): Plaintiffs and Courts Avoid the DTSA's Ex Parte Seizure Order

Non-Compete and Trade Secret News for the week ended February 3, 2017

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Defend Trade Secrets Act

I alluded to this case in my prior post.

But we have another federal district court case that discusses the Defend Trade Secrets Act and the ex parte seizure order. In Magnesita Refractories Co. v. Mishra, the court found that a temporary restraining order issued under Federal Rule of Civil Procedure 65, which mandated the seizure of a defendant's laptop, did not require the plaintiff to follow the process outlined in Section 1836(b)(2) of the DTSA.

This is about as in-the-weeds as you can get, but it reaffirms the much larger point: courts are going to issue TROs that have the same effect as the seizure order. And if that's the protocol, then the seizure order may - as I predicted - be more bark than bite. A copy of Judge Simon's ruling, which is truly for nerds like me, is available here.

Non-Recruitment Clauses

Tesla Motors has sued a director of its Autopilot program, Sterling Anderson, claiming misappropriation of "hundreds of gigabytes" of confidential information and improper solicitation of Tesla employees. The Complaint reads like a typical bad divorce between a key employee and a jilted employer, with some fairly serious allegations related to efforts to conceal electronic evidence and pre-termination "cloak and dagger" meetings to plan a competing venture. In California, where the suit is based, post-employment restrictions on soliciting employees are enforceable. That's the centerpiece of the contract claim.

The case is pending in Santa Clara Superior Court. A copy of the Complaint is available here. For a detailed news account, see this article in The Verge.

Sixth Circuit Appeal

The Sixth Circuit Court of Appeals this week heard oral argument in the case of Stryker Corp. v. Ridgeway, No. 16-1654. A jury in the Western District of Michigan entered a verdict in favor of Stryker in the amount of $745,000, which was based in part on Ridgeway's breach of a non-compete agreement. Among other things, the appeal raises a very important choice-of-law/choice-of-forum issue concerning Louisiana law. That state's law is very favorable to employees, but the district court did not apply it. (The district court ruling on the choice-of-law issue is at 2015 WL 5682317.)

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Russell Beck discusses in his Fair Competition blog post the renewed efforts at non-compete reform in Massachusetts. This has become an annual rite of passage. Seyfarth Shaw discusses the same proposals floating around the Massachusetts house and senate.

IPWatchdog has posted an article entitled How to Write Enforceable Non-Compete Agreements. This is a very nice, concise summary of employers' considerations in deciding whether and how to use restrictive covenants. A number of helpful quotes from some of my colleagues...

Other colleagues of mine, from Seyfarth Shaw, have posted their Top Developments/Headlines in Trade Secret, Computer Fraud, and Non-Compete Law in 2016. This post is notably longer than my year-end list and gives a few more illustrative cases - particularly on non-competes and federal computer fraud claims.

Changes on the Horizon: Venue and Choice-of-Law Provisions in California Contracts

One of the most vexing procedural issues in recent years has been what to do with out-of-state litigation against a California employee. The contractual framework usually goes something like this:

1. California resident has a non-compete covenant in an employment contract.
2. California resident leaves to compete.
3. The contract contains a choice-of law and choice-of-venue provision that applies some other state's law.
4. That other state's law is more employer-friendly than California.
5. Litigation commences in the contractually selected state.
6. And sometimes, the employee files satellite litigation in California to get around the contractual framework.

Unfortunately, courts have not resolved these questions in a consistent manner. Some states, like Illinois and Delaware, appear to give primacy to California's overarching public policy interest embodied in its long-standing statutory prohibition on non-competes. Other states are more willing to enforce the venue and choice-of-law provisions despite that well-known California policy.

The question may get easier to resolve next year, when Section 925 of the California Labor Code goes into effect.That law will bar the procedural hurdles California employees sometimes face and give him or her the option to void contractually agreed-to venue and law provisions. An aggrieved employee also may recover fees arising out of this procedural dispute and may obtain an injunction in California against parallel litigation in another state.

Section 925 contains a potentially broad exception, stating that it "shall not apply to an employee who is individually represented by legal counsel in negotiating the terms of an agreement to waive any legal right, penalty, remedy, forum, or procedure for a violation of this code." In other words, if an employee engages counsel and waives Section 925 (and presumably gets some payment for that waiver), then the employee cannot undo the change after the fact.

By its plain language, the Section 925(i) exception does not apply to any individually negotiated agreement - only those where the actual agreement results in an express waiver of a challenge to foreign venue and choice-of-law rights.

Section 925 represents a legislative solution to a potentially serious problem of interstate comity involving California residents. In fact, it's exactly what I advocated for in a post nearly four years ago - which you can find here. I choose to be positive and will assume that the fine legislators in California relied on my blog post in crafting Section 925.

Bad-Faith in Trade Secrets Litigation and the "Access and Opportunity" Argument

Admittedly, one of my go-to topics is bad faith in the context of trade secrets litigation - if for no other reason than I've seen it time and again in my experience representing defendants.

Most of the rich, intelligently discussed bad faith cases come from California courts, which hear a disproportionate number of trade-secrets suits to begin with. And that state's strong rejection of the inevitable disclosure doctrine gives it ample opportunity to chastise plaintiffs for pursuing defendants (usually ex-employees) on a spurious "access and opportunity" theory of wrongdoing.

That theory is becoming more and more prevalent. The reasoning is utterly fallacious, of course. It goes something like this:

Employee X had certain responsibilities, all of which encompassed some trade-secret knowledge, and now she works at Employer Y in a similar position. Therefore, X must be using the trade secret for Y's benefit.

Though some litigants (let me digress into a Trumpian "believe me, I litigate against them and see this all the time, folks") dress up the theory a bit more with meaningless ancillary facts, those facts are not elemental - meaning that if proven they still can't close the deal.

The "access and opportunity" doctrine is one that hasn't necessarily received uniform treatment by courts (more on this in my next post, a very informative Fourth Circuit opinion). Some give it more credence than it clearly is due. But increasingly, courts seem apt to reject it as overly simplistic and little more than a backdoor attempt to impose a non-compete agreement where the parties never bargained for one.

I really enjoyed reading RBC Bearings v. Caliber Aero, 2016 U.S. Dist. LEXIS 100521 (C.D. Cal. Aug. 1, 2016), from the Central District of California, where the plaintiff got whacked for $130,000 in fees for pursuing a trade-secrets claim in bad faith. The case is a good read because it systematically walks through how courts assess bad faith. (Another digression: The $130,000 in defense fees is right in the wheelhouse of what I have seen in garden-variety employee trade secrets cases that go to judgment and that do not involve highly technical concepts. For technical trade secrets, the fees normally are quite a bit higher.)

Courts first look to see whether the case was objectively specious, meaning that it was notable or stood out for its weakness. As in many cases, the plaintiff in RBC Bearings couldn't prove an act of misappropriation. The "access and opportunity" theory was patently deficient because that conclusory leap is not enough to establish that an insider misappropriated anything at all. To compound the problem, RBC Bearings' identified trade secrets (a list of customers) were publicly displayed (on the plaintiff's website). Problem.

In California, courts then look to subjective purpose, in addition to the weakness of the claim. This is still troubling, to me, because requiring a defendant to prove an improper purpose is exceedingly tough. But to its credit, the RBC Bearings court did go through a rigorous analysis focusing on a few different factors that suggested an improper motive: satellite litigation that suggested an intent to run up legal fees for the defendant, evidentiary shortcomings (which is usually duplicative of the objective speciousness requirement), and improper settlement demands.

The last factor is a very interesting one, because plaintiffs often are careless with demanding money in trade-secrets claims even when that demand is not provable in court. Not all settlement communications, remember, are privileged. They are to the extent one tries to use that communication to prove liability, but they aren't to ascertain whether bad faith exists. Plaintiffs who use litigation as a weapon often fall into this trap because they want to show how tough they are. Counsel who reflexively parrot what his or her client says about demanding an exorbitant amount to compromise a claim walk right into a trap, particularly at the time of fee-shifting. The RBC Bearings court specifically discusses counsel's ethical obligation to make a good-faith settlement demand and not one that is divorced from an evidentiary analysis. This is something I've never seen discussed before in such stark, yet pragmatic, terms.

Also of interest was the court's assessment of plaintiff's counsel. Aside from the unprofessionalism of demanding a settlement payment that would not be provable and pursuing a crappy case, the court was clearly bothered by counsel's inability or unwillingness to cite precedent accurately. I am experiencing this same problem in a protracted case where counsel repeatedly misstates the record, trial evidence, or case law - to the extent that it's obvious he thinks no one will call him on it. Credibility is all a lawyer has. And in RBC Bearings, the court made clear that a lack of credibility informs a bad-faith finding.

Does Nosal II Solve "Without Authorization" Question?

The trade-secrets community has awaited the follow-up decision to the long-running prosecution of former Korn/Ferry executive, David Nosal, based in part on the controversial Computer Fraud and Abuse Act. And with the Ninth Circuit's decision on July 5 in United States v. Nosal, the question remains whether we have answered any questions about the CFAA's potential reach.

Nosal I, a 2012 decision, was largely pro-employee and restricted the scope of the CFAA's most controversial provision - the so-called "exceeds authorized access" prong of Section 1030(a)(4). As a result of Nosal I, the consensus seems to be building that violations of use policies do not mean that a user exceeding his authorized access of a protected computer. In other words, it is not sufficient to base an (a)(4) claim on misuse.

But Nosal I did not address the other part of (a)(4). One cannot obtain anything of value out of a protected computer if he accesses a protected computer "without authorization." And that's where Nosal II squarely lands. The Ninth Circuit upheld Nosal's conviction on multiple CFAA claims under this aspect of (a)(4) under a fact paradigm that is well-known to trade-secret practitioners. Nosal and two ex-employees of Korn/Ferry obtained the password of a then-current Korn/Ferry employee to access a database containing valuable information on executive search candidates.

Was that access "without authorization" under (a)(4)? Yes, said a divided panel of the Ninth Circuit.

The case predictably has produced a lot of commentary, but the most essential read is Orin Kerr's lengthy analysis. The crux of the case hinged on whether it mattered that the current employee gave Nosal's co-conspirators the database password. The majority felt it crucial that Korn/Ferry said that the employee could not disseminate log-in credentials, while the dissenting judge examined whether the employee said yes when her former co-workers asked for the password.

I agree with Professor Kerr that the court reached the right result and that Nosal's accomplice liability conviction was appropriate. But as I read the dueling analyses before Kerr's cogent summary, it was quickly apparent that the case had the chance to be an extremely limited one. For starters, the case doesn't really seem to establish a rule for future application. As Judge Reinhardt notes in dissent, the holding seems to rely heavily on employment-related facts but the CFAA is not an employment law at all.

Professor Kerr then offers his take on where the case should have gone analytically and how the court could have bridged the two opinions. His take is that the  password sharing in the context of the "without authorization" standard really should have embraced an "agency/non-agency" distinction. In other words, because Nosal's co-conspirators used the current employee's password for their own purposes, there was no agency relationship among them. Kerr's argument looks principally to the initial delegation of authority (in Nosal II, that would be the computer access granted from employer to employee) and then to the subsequent conduct and whether it's outside the agency of the initial account holder. This, Kerr argues, would solve the "parade of horribles" laid out by the dissent, which extrapolate innocuous conduct into federal crimes. And in Nosal II itself, it would establish why the employee's grant of her log-in credentials to the ex-employees was "without authorization" - they couldn't have had an agency relationship at that point.

The CFAA, of course, remains a controversial law. Its use in garden-variety employment disputes may be waning in light of the federal Defend Trade Secrets Act. But it is still a potent weapon. What is notable about the plight of David Nosal is that it's not all that far removed from many fact patterns we see in civil cases. The conduct at issue was brazen, to be sure. Still, it seems awfully arbitrary that he has endured criminal prosecution for conduct that many others like him never would face. And on that score, the dissenting opinion's cautionary tale about the influence that Korn/Ferry's firm was able to muster is worth a read in its own right.

Rule 5.6 and the Indirect Restraint

We lawyers love to make rules for ourselves.

As a regulated profession, lawyers are bound by their state's Code of Ethics. And while many of those provisions have nothing to do with competition, one rule in particular stands out. Model Rule 5.6 is the most widely known public-policy exception that invalidates non-competes. Through its text, Rule 5.6 prohibits a lawyer from entering into an agreement that "restricts the rights of a lawyer to practice after termination of the relationship, except an agreement concerning benefits upon retirement." Clients that come to me with a non-compete just love to hear that, legally, I can't even have one.

Despite the relatively clear nature of the rule, courts have not treated it uniformly and its bounds are not well-defined. Without fail, pure non-competition agreements are invalid. Therefore, lawyers cannot be bound by agreements that restrict their practice area or ability to service specific clients.

The more vexing question concerns the indirect restraint, known commonly as forfeiture-for-competition clauses. A typical forfeiture clause provides that an attorney who withdraws from the firm (normally an equity partner) suffers a reduction of what she otherwise is owed if she takes her clients with her. The contract, therefore, does not prohibit competition but amounts to an indirect restraint. It places a financial disincentive on competing directly for firm clients.

Is such an indirect restraint an impermissible restriction on the lawyer's right to practice. New York courts, for instance, have said "yes," that such clauses are unenforceable and against public policy. The state's Court of Appeals has said that a forfeiture-for-competition provision "would functionally and realistically discourages and foreclose a withdrawing partner from serving clients who might wish to continue to be represented by the withdrawing lawyer and would thus interfere with the client's choice of counsel."

One of the law's great anomalies is that the opposite view comes from the Supreme Court of California, where as a matter of policy non-competes are unenforceable in all lines of work. The Court in that case upheld a partnership provision that caused a withdrawing partner to forfeit withdrawal benefits if he practiced insurance defense work in a particular locale. The Court upheld the agreement, focusing on the changing nature of the law practice. In the Court's view, "these agreements address important business interests of law firms that can no longer be ignored." In fairness to this California decision and its seeming incongruity from the rest of non-compete law, the state's broad public policy restriction on non-competes does not apply to partnership contracts. So to this end, the state statute known as Section 16600 cannot provide a collateral source of rights for attorneys to attack forfeiture-for-competition clauses.

For its part, Maine goes further than California and declined to adopt an ethics rule similar to Rule 5.6. Lawyers, therefore, are free to sign non-competes without running afoul of that state's code of conduct. Just recently, a federal court in the District of Columbia - which had not addressed the scope of Rule 5.6 - predicted that it would follow New York's majority rule and bar indirect restraints.

Like many areas of non-compete law, this one is relatively unclear and varies from state to state. However, if lawyers are confused about the types of agreements to which they can be bound, they shouldn't expect sympathy from their clients in the real world. The landscape there is even more unsettled.