Principles of Trade Secret Protection in California
By Robert Bleicher, Carr McClellan PC
Trade secrets, as businesses and their advisors know, are often a company’s most valuable intellectual property assets. Protecting those assets, and avoiding claims that a company improperly used a competitor’s trade secrets when hiring a new employee or participating in a collaborative business venture, should be very high on the checklist of best management practices.
In the United States, trade secret protection is mostly a matter of state law, which can vary among the 50 states. Fortunately, 48 of the 50 states have enacted some version of the Uniform Trade Secrets Act (Massachusetts and New York have not), which provides a reasonable degree of uniformity across the United States regarding the foundational definition of a trade secret. In California, home to the world’s seventh largest economy (according to Bloomberg) and all manner of trade secrets in industries as diverse as technology, food and beverage, agriculture, entertainment, industrial manufacturing and services, finance, and professional services, the Uniform Trade Secrets Act is found in its Civil Code section 3426, et seq.
To qualify as a trade secret under section 3426.1 of California’s Civil Code, the owner of the trade secret must establish two distinct and co-equal components: First, the trade secret must derive actual or potential independent economic value from not being generally known to the public or to other persons who can obtain economic value from the use or disclosure of the claimed secret. Second, the entity claiming that its intellectual asset is a trade secret must establish that it undertook “reasonable efforts under the circumstances” to maintain the secrecy of the trade secret. Without proof of both, the asset is not a trade secret. The following addresses a few of the basic principles needed to qualify an intellectual property asset as a trade secret under California law.
What is a Trade Secret?
Perhaps the easiest starting point in identifying a company’s trade secrets is to distinguish them from intellectual property that is not a trade secret. Patents, copyrights, and trademarks are all protected intellectual property and all are publicly disclosed. Even though the patent, copyright, or trademark has been publicly disclosed, its owner nonetheless retains exclusive rights over that asset, which it can then leverage typically through a sale or license, or simply exclusive use. In contrast, once a trade secret is disclosed without efforts to maintain its secrecy, the owner loses its exclusive right over that asset — because it is no longer secret.
Further, assets that seemingly could be trade secrets often are not. For example, a process or work that is capable of reverse engineering is not a trade secret. Nor is information that is generally known in an industry a trade secret. Information that is observable, or presented without the expectation of confidentiality at a conference or over the Internet, for example, also is not a trade secret.
That leaves a broad category of intellectual property that courts in California have found to be trade secrets. Trade secrets can include manufacturing processes; product designs and specifications; customer lists; source code; future product development plans, business or marketing plans; pricing information; profitability, cost, and revenue information; and any information that took the company a long time or substantial effort to develop — even if the compilation came from public data. The baseline test is whether the intellectual property asset has value to the company because it is secret.
What are Reasonable Efforts to Maintain Secrecy?
The second prong of the trade secret analysis frequently is one of the most vigorously disputed issues in claims involving trade secret protection. The reason, not surprisingly, is that what constitutes “reasonable efforts” to maintain secrecy is highly case-specific. Rarely, if ever, are oral admonitions to maintain confidentiality considered to be “reasonable efforts” to protect secrecy. Rather, appropriate documentation and provable practices are keys to establishing that “reasonable efforts” have been taken. As a starting point in the “reasonable efforts” inquiry, courts will therefore look for the existence of employment agreements, employee confidentiality agreements, company manuals, non-disclosure agreements, material transfer agreements, etc., that clearly state the recipient’s obligation to keep secret a company’s trade secrets.
Generally, courts in California also will not give effect to sweeping assertions that all of the company’s business knowledge and processes are trade secrets. Instead, courts will normally require some degree of trade secret identification so that employees and third parties have an idea of what information the business actually considers “secret.” So, employee manuals, employment agreements, confidentiality agreements, and non-disclosure agreements should expressly state, for example, that specific manufacturing processes, customer lists, source codes, pricing information, certain financial data, etc. are the company’s trade secrets and must be kept confidential.
Courts will always examine how widely the company allows the dispersal of its trade secrets, not only outside the business but also within the company itself. Trade secret lawsuits usually explore whether access to trade secrets inside the company is limited to those who “need to know.” A common inquiry is whether the trade secret is generally accessible in the business’s electronic storage structure or is it encrypted, password protected, or otherwise insulated from wide access within the business. Also, a frequent issue is how the company monitors the use and dissemination of confidential information in its employees’ business and personal devices and social media—does it have a use/non-use policy? (If not, it should.) Although seemingly self-evident but frequently overlooked, does the company mark the materials and information it wants to keep secret as “confidential”? Trade secret lawsuits have been lost where information shared both internally and with third parties was not marked “confidential.”
Just as importantly, a business should not simply obtain a signed confidentiality agreement from an employee or third party and then file it away. Instead, the flow and evolution of confidential information should be monitored, and agreements should be updated as circumstances evolve.
In addition, having a sound process of ensuring that employees do not leave a company with trade secrets is essential Documenting exit interviews, securing electronic devices and storage systems, and promptly terminating access to confidential information are part of the “reasonable efforts” assessment. Similarly, a thorough on-boarding process for new employees that documents efforts to prevent the migration of a competitor’s trade secrets to the employee’s new company will materially reduce the chances of a successful trade secret misappropriation claim by the former employer.
Finally, in the ideal world, no employee would orally disclose a company’s trade secrets, but that world does not exist. Sound confidentiality documentation and practices, and follow-up emails mails after a company learns of a possible oral trade secret disclosure, will go a long way in establishing that the business undertook reasonable efforts under the circumstances to protect its trade secrets.
Do all these steps matter? Yes. They are fundamental to the successful maintenance of trade secret rights or to the defense against trade secret misappropriation claims. Equally, a well-protected trade secret can materially enhance a business’s value; poor trade secret protection practices can have the opposite effect. Understanding a company’s trade secrets and how best to protect them are key to securing the protections afforded by the law and maximizing the value of this core intellectual property.
Carr McClellan PC, Burlingame (CA), USA
published: July 2015