When do you need a nondisclosure agreement?

I wrote a blog post for Tech Cocktail called 5 Reasons You May Need an NDA. I hope you’ll click on over and give it a read.

Here are the 5 reasons I came up with. Can you think of others?:

  1. Your discussions turn from “what” to “how.”
  2. You are dealing with someone other than an investor.
  3. You have made substantial investment in your innovation.
  4. You will be sharing documents or data.
  5. You want to save on legal fees.

Leave your comments below. I know there are many other reasons — pro and con — concerning NDAs.

Court rejects constitutional argument in Microsoft trade secret prosecution

New York federal court holds that Economic Espionage Act of 1996 not unconstitutionally overbroad or vague.

In February 2004, defendant Genovese posted a message on his website that the source code for Windows 2000 had been “jacked,” and offered to provide copies of it via FTP to anyone willing to pay a small fee. After Microsoft investigated Genovese’s claims and successfully obtained one of the “jacked” copies, it notified the FBI. Genovese was arrested and charged under the federal Economic Espionage Act of 1996, 18 U.S.C. §1832 et seq. (“EEA”).

Genovese moved to dismiss the indictment, arguing that the EEA was facially overbroad and unconstitutionally vague as applied to him. The court rejected his arguments, and denied the motion to dismiss the indictment.

In holding that the statute was not overbroad, the court determined that Genovese’s alleged conduct, namely, distributing the source code “with intent to convert a trade secret…to the economic benefit of anyone other than the owner thereof” was not protected speech under the First Amendment.

On the question of whether the statute was unconstitutionally vague, the court concluded that the term “trade secret” was defined with “sufficient definiteness” so that an ordinary person in Genovese’s position would understand that trafficking in the Windows source code was prohibited by law. Genovese’s own conduct demonstrated that he knew the source code derived value from not being generally known (namely, by referring to it as “jacked” and by charging a fee for access to it.) Furthermore, the court found that one could infer Genovese knew the code was proprietary and that protective measures taken by Microsoft had been circumvented. Thus, Genovese could “reasonably understand” that his conduct was proscribed by the Act.

U.S. v. Genovese, 2005 WL 1439860 (S.D.N.Y., June 21, 2005).

UPDATE: Genovese pleads guilty. [More here.]

Web content and domain names denied trade secret status

Dynamic Scales hired Ivan Paramanandam (“Ivan”) and his consulting firm to develop an online retail store to sell scales. Ivan developed the site, and registered a staggering 400 domain names to be used in connection with it. Eventually the Dynamic Scales site became the largest online retail store in the scale industry.

After a dispute over compensation for his work, Ivan informed Dynamic Scales that he wished to get out of the scale business, and his relationship with Dynamic Scales was terminated. A few days later, however, Dynamic Scales learned that Ivan had set up his own online retail store. Ivan’s new site was “practically identical in both content and appearance” to the Dynamic Scales site.

Despite the striking similarities between the websites, Dynamic Scales forsook an action in federal court for copyright infringement, and instead filed an action in state court for violation of Indiana’s trade secrets statute [Ind. Code § 24-2-3-1 et seq.]. The complaint alleged that Ivan had misappropriated “[t]he information contained on [the Dynamic Scales] website” and the “domain names developed, created, and maintained by and for Dynamic Scales.”

Dynamic Scales sought a preliminary injunction against Ivan, and the trial court granted the request. Ivan sought review of the trial court’s award, and the appellate court reversed. It concluded that Dynamic Scales had failed to present a prima facie case of misappropriation of trade secrets.

One of the owners of Dynamic Scales had testified that it had taken no steps at all to protect the content of its website. To the contrary, he testified that “[w]e chose to show all our cards to our competition.” He further testified that information was “left out for the general public to see.” Given the lack of reasonable efforts to maintain the secrecy of the information, and the fact that the 400 domain names had been registered to make the site readily available to potential customers, the court held that the district court abused its discretion in awarding injunctive relief.

Paramanandam v. Herrmann, — N.E.2d —, 2005 WL 1220162 (Ind.App., May 24, 2005).

Drug company can sue FDA for posting trade secrets online

The U.S. Court of Appeals for the D.C. Circuit has reversed the district court’s dismissal of a drug company’s tort claims against the Food and Drug Administration (“FDA”), holding that the drug company could proceed against the FDA for violations of the company’s trade secrets which the FDA had posted on its website.

Jerome Stevens Pharmaceuticals (“JSP”) is a drug company that sought FDA approval of one of its drugs used to treat thyroid diseases. As required by the regulations governing new drug approval, JSP provided the FDA with various information about the drug, including trade secrets and confidential information relating to the manufacturing of the drug. The FDA accidentally posted these trade secrets on its website.

JSP was one of only two companies that met the FDA’s initial deadline for submitting New Drug Applications for drugs of this type. Before the deadline expired, however, the FDA extended the deadline by a year, allowing other drug companies to enter into the market.

JSP filed suit alleging, among other things, damages of approximately $1.3 billion as a result of the FDA’s posting of JSP’s trade secrets and for arbitrarily and capriciously extending the deadline for New Drug Applications. The FDA moved to dismiss, claiming that the Federal Tort Claims Act (“FTCA”) 28 U.S.C. §§ 2671-2680 barred the claims. The district court granted the motion, and JSP appealed. The appellate court reversed.

In general, the federal government is immune from tort lawsuits brought by individual citizens. Congress enacted the FTCA to waive that immunity to a certain extent. The FTCA “grants federal district courts jurisdiction over claims arising from certain torts committed by federal employees in the scope of their employment, and waives the government’s sovereign immunity from such claims.” This waiver of immunity, however, is subject to exceptions. For example, an individual cannot maintain an action against the government if the claim is based upon a government employee’s exercise of discretion.

The FDA had argued that JSP’s claims for damages were based on the extension of the deadline for other companies to submit new drug applications. In support of its motion to dismiss, the FDA had attached a damage calculation prepared by one of JSP’s experts in a prior administrative proceeding, which tied the alleged amount of damages to the entry into the market of other drug companies, not the disclosure of trade secrets. The FDA argued that because the extension of the deadline (the conduct alleged to have caused the damages) was an exercise of the FDA’s discretion, the FTCA barred JSP’s lawsuit.

The appellate court held, however, that the district court erred in determining that JSP’s claims were based only on the extension of the deadline. The issue before the district court was not whether JSP had established sufficient proof of damages caused by the disclosure, but whether it had sufficiently pled claims for such damages. The court held that JSP had indeed sufficiently pled such claims.

Jerome Stevens Pharmaceuticals v. FDA, —F.3d—, 2005 WL 783074 (D.C.Cir., April 8, 2005).

Password protection not enough to protect trade secrets

In the case of Liebert Corp. v. Mazur, the Illinois Court of Appeals has held that customer lists stored online in password protected directories were not entitled to trade secret protection where employer did not adequately make employees aware of the lists’ confidential nature.

After several former sales representatives began working for a competitor, Plaintiffs Zonatherm Products and Liebert Corporation filed suit for violations of the Illinois Trade Secrets Act (ITSA), 765 ILCS 1065/1 et seq. and sought a preliminary injunction against the former sales representatives. The court denied the motion for preliminary injunction and plaintiffs appealed.

Zonatherm and Liebert claimed that one of the trade secrets defendants had misappropriated was the plaintiffs’ customer lists. These customer lists were stored online on a server in password protected directories, and each sales representative had a copy on his or her desktop computer. One of the issues on appeal was whether the customer lists could be protected as a trade secret under the ITSA.

To establish that information is a trade secret under the ITSA, two requirements must be met: (1) the plaintiff must show the information was sufficiently secret to give the plaintiff a competitive advantage, and (2) the plaintiff must show that it took affirmative measures to prevent others from acquiring or using the information. Although the court determined in this case that the customer lists met the first requirement, it denied trade secret protection based on the second requirement.

The court held that “[r]estricting access to sensitive information by assigning employees passwords on a need-to-know basis is a step in the right direction.” This precaution in and of itself, however was not enough. The court was “troubled by the failure to either require employees to sign confidentiality agreements, advise employees that its records were confidential, or label the information as confidential.” There was insufficient evidence in the record to show the employees understood the information to be confidential, thus the trial court’s finding that the customer lists were not trade secrets was not against the manifest weight of the evidence.

Liebert Corp. v. Mazur, — N.E.2d —, 2005 WL 762954 (Ill.App. 1st Dist., April 5, 2005).

Misappropriation of web development services not unfair competition

In Atari, Inc. v. Games, Inc., arising from a dispute over an agreement to license games for online use, the U.S. District Court for the Southern District of New York dismissed defendant’s counterclaim for unfair competition, holding that such a claim could not stand where (1) alleged misappropriation was merely of services and not of knowledge, and (2) counterclaimant had not shown it was the exclusive owner of rights allegedly infringed.

In early 2004, the parties entered into an agreement whereby Games would acquire the domain name Games.com, the website located there, and an exclusive right to provide online versions of certain games such as Scrabble. The parties structured the transaction to occur over a period of time, culminating in a final payment to be made by Games, at which time Games would acquire the exclusive license to the website and online versions of the games.

Before the exclusive license was to be turned over to Games, Atari was to continue developing the Games.com site, and was to incorporate advertising on the site to raise revenue. Atari was slow in implementing the advertising, and Games assisted in implementing the advertising before it was to acquire the exclusive license.

Soon before the date the final payment was due, Games learned that there was another online version of Scrabble available, which would violate the exclusivity of its license. For various reasons, the parties ended up in litigation, asserting claims and counterclaims against one another.

Among the counterclaims that Games brought forth was one for unfair competition. The plaintiffs moved to dismiss, and the court granted plaintiffs’ motion.

As one aspect of its unfair competition claim, Games asserted that Atari had misappropriated the “labor and know-how” of Games employees who had figured out how to place advertising on the Games.com website during the period before the site was to be transferred. The court noted that “under New York law, ‘the gravamen of a claim of unfair competition is the bad faith misappropriation of a commercial advantage belonging to another by infringement or dilution of a trademark or trade name or by exploitation of proprietary information or trade secrets.'” The court held that Atari’s alleged misappropriation of “labor and know-how” in implementing the advertising did not meet the gravamen of an unfair competition claim because Games did not allege that it had employed any skill that was proprietary to it, or that could not have been provided by many other companies. The court stated “[t]he alleged misappropriation is therefore of Games’s services, not knowledge, and this will not support an unfair competition claim.”

The other aspect of Games’s unfair competition claim was that the presence of the other versions of the games online infringed rights exclusively held by Games. The court rejected this claim, however, after an examination of the agreement revealed that Games never held such exclusive rights. The grant of such exclusive rights was contingent on the final payment, which admittedly never was made.

Atari, Inc., v. Games, Inc., 2005 WL 447503 (S.D.N.Y., February 24, 2005).