Eye on IP
Vol. No. 2009 - Issue No. 3
TRADE SECRETS AND DEPARTING EMPLOYEES
When an employee leaves a job and sets up a competing business, there can be serious concerns for both the departing employee and the employer. What information can an employee maintain, and what information belongs to the employer? California law clarifies the rights and obligations of employers and employees on a variety of issues, including:
An ex-employee has the right to pursue a trade or occupation. An attempt by an employer to prevent a departing employee from doing so is generally unlawful under California law. Thus, a non-compete clause in an employment agreement in California can only apply while the employee is employed by the employer. A clause that the employee cannot compete after terminating employment is not enforceable in California, except in special circumstances, as for example when the employee also is a partner or part owner of the enterprise and on termination he also sells back his interest, in which case a non-compete clause might be lawful.
Note: In many other states, a non-compete clause in an employment contract will be enforceable after termination of employment as long as it is reasonable in scope and duration. It is important to know the law of the particular jurisdiction in this regard.
- During employment, an employee owes a duty of loyalty to his employer. For example, if an employee plans to set up a competing business, and while still employed with the current employer, actively diverts business to the new enterprise, the employee will have breached the duty of loyalty. After leaving employment there is no duty of loyalty, provided the employee does not unfairly compete or misappropriate trade secrets or other confidential, proprietary information of the employer.
- A departing employee cannot misappropriate the former employer's trade secrets. This is often the crux of a dispute between the parties. Trade secret issues can be complex and difficult.
The first question is whether particular information is a trade secret. Confidential information is not necessarily a trade secret. It also has to have independent economic value from not being generally known to competitors in order to qualify. An employee's generalized skill and know-how developed during employment cannot be categorized as a trade secret.
The second question is whether the employer has taken reasonable precautions to preserve secrecy of the information. If the employer has not done so, there is no trade secret protection.
Finally, and most importantly, it is not only a question of whether the employee knows the secret, but whether he has misused it or threatened to use it in a competing business. An employer's reasonable suspicion that the employee will probably use the confidential information is insufficient to establish trade secret misappropriation.
- There is a concept known as the "inevitable disclosure" doctrine. That doctrine, which is applicable in some states, but NOT in California, posits that an employee will not be able to compartmentalize the former employer's trade secrets and will "inevitably" use them in a new competing business or disclose them to a new competing employer. The former employer can get an injunction against the departing employee just on the basis of this doctrine. In California, an employer needs to prove more than that. The employer needs to show an actual misuse of the information or threat to do so. For example, if the departing employee downloads confidential information from a company computer, in many cases that will amount to an actual misappropriation.
The stakes can be high for both sides. If the employee is found guilty of misappropriating the employer's trade secrets in a new competing enterprise, that employee can be liable for damages and punitive damages, as well as have an injunction against the use of the misappropriated information, and potentially be forced to shut down the business. On the other hand, if the employer sues for trade secret misappropriation but cannot prove an actual or threatened misappropriation, a court could find that the employer acted in bad faith, in which case the employer could be liable to pay the former employee's attorney's fees.
In a recent case, the court determined that the former employer was motivated by a desire to prevent competition by two departing employees, but only had a reasonable suspicion that they were using the employer's trade secrets with no proof of an actual or threatened misappropriation. The employer was held liable for more than $1 million in attorney's fees. In a similar situation, the employer might have liability to a departing employee for disrupting the new business or interfering with economic advantage.
In short, both parties should use care. When departing employees are candid, above board about their plans, and take steps to assure the employer that they will not use the employer's confidential information, they will be well-served. Employers should carefully scrutinize the situation to insure that their confidential information qualifies for trade secret protection, and that suspicions of misuse will lead to actual evidence of misappropriation. The rights and responsibilities of both parties will always depend on the circumstances of the specific case. Parties on both sides of the situation should consult qualified attorneys to advise them on what they should and should not do. Although it is impossible to completely prevent a legal dispute, careful planning can go a long way toward avoiding unpleasant consequences for employer and employee.
"Eye on IP" is a trademark of Sheldon Mak & Anderson. Information provided in the "Eye on IP" newsletter is not intended to be a comprehensive summary of recent developments in the law, treat exhaustively the subjects covered, provide legal advice or render a legal opinion.