Podcast Episode 14—Trade Secret Misappropriation in the Context of McDonald’s Ice Cream Machine Drama
Podcast Episode Timestamps
00:00 — Unreliable McDonald’s ice cream machine lawsuit
00:08 — Intro
00:32 — Recent misappropriation of trade secret lawsuit related to unreliable McDonald’s ice cream machines, and the company that tried to fix the problem
01:30 — Outline of the episode
01:45 — Factual background—a listener asked about this issue after listening to the misappropriation of trade secrets Keith Law, PLLC Podcast episode.
02:35 — Factual context for the lawsuit
06:05 — The “tangled web of contracts” in this situation
06:49 — The agreements between McDonald’s and Taylor
08:38 — The McDonald’s Master Franchise Agreement with its franchisees
09:59 — The Kytch contract with McDonald’s franchisees using Kytch technology
10:52 — Kytch’s lawsuit
11:20 — Breach of contract, the cause of action elements and allegations
12:13 — Tortious interference with contract, the cause of action elements and allegations
13:32 — Misappropriation of trade secrets, and the and allegations
14:35 — The court’s docket for this lawsuit
15:10 — I’m looking forward to seeing the answers to the complaint
15:25 — McDonald’s has not been made a party to the lawsuit, and speculation as to why
16:00 — Let me know if you’re interested in my digging deeper into this situation
16:55 — How NDAs and confidentiality agreements work in practice
18:00 — Thank you for listening and letting me know your questions
18:30 — Outro
Bacground
In the recent blog post and Keith Law, PLLC Podcast episode I tried to explain what a cause of action is and specifically go over the misappropriation of trade secrets cause of action. Following the episode, a listener sent me a link to the Wired article covering McDonald’s restaurants’ notoriously broken ice cream machine and asked about how trade secret misappropriation might apply. I’ll provide some links in this blog post (and even more in the podcast episode’s show notes) for deeper reading into the situation, but I’ll try to provide a summary of key points here before jumping into a bit of legal.
In general, you will need to know that under their franchise agreement with McDonald’s, franchise owners are limited to two permissible ice cream machines and most of them use the machine at issue in this drama which is manufactured by a company called Taylor. The Taylor machine is compared to a supercar that performs amazingly—when it works. The problem is that it often does not work. In fact, it is so notoriously unreliable that Internet memes, tracking websites, and (probably joking) crowd funding efforts have been created in honor of the unreliability of these machines.
In an open marketplace of supply and demand, there was a strong demand (a strong market need) for a solution to the unreliability of the machines. The only solution had been to wait for very expensive technicians to show up—certified technicians with exclusive knowledge of a secret menu in the operating system of the machines.
That’s where the company called Kytch comes in. In April 2019, Kytch developed a small aftermarket device that could be installed in the Taylor ice cream machine that not only had access to the secret menu, but also had connectivity that allowed the franchise owner to remotely monitor the status of the machine and even perform some of the secret menu activities that had previously only been available by paying expensive technicians who might take weeks to show up and repair the machine. This disruptive Kytch machine relatively quickly got the attention of Taylor—the manufacturer of the unreliable ice cream machines.
Taylor appears to have begun attempting through overt and covert means to purchase a Kytch device, presumable to reverse engineer it to acquire the value of the market Kytch (and the Taylor machine’s unreliability) created. Kytch detected and cancelled a number of these orders. But when the suspicious order attempts ended, and Taylor came out with a competitive device, Kytch suspected that Taylor had obtained one of the Kytch devices—and possibly from one of Kytch’s McDonald’s franchisee customers.
The problem with the possibility that a Kytch McDonald’s franchise customer may have turned over a Kytch device to Taylor for reverse engineering is that doing so would violate contractual agreements with Kytch that, among other things, aimed to protect Kytch’s trade secrets. Two month’s ago, Kytch filed suit in Alemeda county, California against Taylor and a McDonald’s franchisee Kytch alleges violated its contract with Kytch by turning over its Kytch device to Taylor for reverse engineering.
Tangled Web of Contracts
This situation cannot be better understood without first understanding the web of contractual agreements affecting the parties in this McDonald’s ice cream machine drama. First there’s the agreement between McDonald’s and Taylor reaching back to 1956. Then there’s McDonald’s iron fisted master franchise agreement that it uses to maintain consistent branding and quality control among its 39,000+ restaurants across the globe. Lastly, there is the contract between Kytch and McDonald’s franchisees who signed up to use its device and software in attempt to quell their ice cream machine woes.
McDonald’s and Taylor. In 1956 Taylor formed a handshake deal with Ray Kroc of McDonald’s to supply McDonald’s restaurants with its ice cream machines. Apparently, under the current deal Taylor sells its C602 digital ice cream machine to McDonald’s and can be found in more than 14,000 US McDonald’s locations and many more around the world. In exchange for selling its machines at a loss to McDonald’s franchisees, Taylor requires that its technicians are the only people who can repair the notoriously unreliable machines. In 2017 alone, 6,500 Taylor-certified technicians brought in almost $80M in revenue for parts and service support. One of Kytch’s owners claims that this specific model of Taylor’s machine which is different from the model Burger King restaurants use, suggesting that there is an intentional unreliability in the machines that are sold at a loss to make significant money from repairs (see part 1 of Security Ledger podcast interviewing Kytch co-founder, Mr. O’Sullivan).
McDonald’s and its franchisees. McDonald’s has an interest in maintaining consistency among its products sold in its 39,000+ restaurants. This is why they have a legitimate interest in having an extensive, detailed, and some may say onerous master franchise agreement. The agreement includes McDonald’s control over the equipment used in its restaurants and the right to inspect for the purpose of monitoring what McDonald’s refers to as “Intellectual Property,” including that which is licensed to McDonald’s. It also includes an entire section on trade secret protection. It appears that until 2017, Taylor was the only supplier of ice cream machines that franchisees could choose. In 2017, McDonald’s began allowing franchisees to use a machine made by an Italian company, Carpigiani.
As a part of its contract, a material breach can expressly result in termination of the Master Franchise Agreement. Because McDonald’s leases most of the land and building to its franchisees, upon breach, it appears that the franchisee becomes a former franchisee and McDonald’s can simply evict its former franchisee post-breach.
Kytch and McDonald’s franchisees. Kytch developed a device and software aimed at helping franchisees decrease the headaches cause by their Taylor ice cream machines—which, at various times, have been estimated to be out of order at a rate of 20% – 25%. Kytch has an extensive terms of service page that claims that violating the terms may constitute actionable conduct that, among many other things, violates the federal Defend Trade Secrets Act and the California Uniform Trade Secrets Act. Exhibit A attached to the PDF of the lawsuit provides the entire signed agreement between the McDonald’s franchisee and Kytch.
Kytch’s Lawsuit
In May of 2021, Kytch filed a lawsuit against Taylor and a specific McDonald’s franchisee. Kytch asserts three causes of action: (1) breach of contract; (2) tortious interference with contract; and (3) misappropriation of trade secrets. It seeks monetary damages and an injunction. Exhibit A attached to the PDF of the lawsuit provides the entire signed agreement between the McDonald’s franchisee defendant and Kytch.
Breach of Contract. A cause of action for breach of contract tends to be consistent across jurisdictions and includes three primary elements: (1) the existence of an enforceable contract, (2) breach of the contract, and (3) damages caused by the breach. In its lawsuit, Kytch alleges element one, that its contract contained enforceable confidentiality provisions. For element two, breach, Kytch alleges that the individual defendant participated in developing a Kytch-competitive device for Taylor; assisted in disassembly, reverse engineering, and distribution of a Kytch device; and provided Taylor with access to the Kytch device. As for the damages element, Kytch asserts that the amount of monetary damages cannot currently be ascertained but will proven at trial.
Tortious Interference with Contract. A cause of action for tortious interference with contract in California appears to include four primary elements: (1) the existence of an enforceable contract, (2) a third party’s knowledge of the existence of the enforceable contract, (3) intentional encouragement, or inducement, of a party to the contract to breach its contractual obligations, and (4) damages caused by the interference with the contract. To establish element one, Kytch points to its contract with the the individual McDonald’s franchisee defendant. For element two, Kytch alleges that Taylor knew of Kytch’s contract with the individual McDonald’s franchisee defendant based on the individual’s public discussion of his use of Kytch’s product. For element three, intentional inducement to breach, Kytch alleges that Taylor used its influence within McDonald’s to push the individual defendant to breach his contract with Kytch. For element four, damages, Kytch points to the disruption with its contract with the individual defendant, its allowing Taylor to develop a competing product, and its driving investors away from Kytch.
Trade Secret Misappropriation. See the previous blog post and Keith Law, PLLC Podcast episode for the elements of a trade secret misappropriation cause of action. For element one, Kytch points to 77 paragraphs of its lawsuit and three exhibits attached to an affidavit as supporting the existence of its trade secrets. Kytch alleges that its trade secrets were misappropriated when its device and software were provided to Taylor for at least eight months. Kytch claims that it took reasonable steps to keep its device and software secret and that its secrecy provides “actual or potential independent economic value.”
Takeaway
An important lesson to take away from this situation is to understand how nondisclosure agreement (NDAs) and confidentiality agreements work in the real world. They are important to have in place to help demonstrate that you have taken reasonable steps to protect your trade secrets. But they are not magical. In a situation where a misappropriation of trade secrets and/or a breach of the agreements has occurred, the agreements are important to present to a judge to seek enforcement. In the absence of the agreements you are in a weaker position when asking a judge to protect your trade secrets. But, it’s important to remember that the agreements do not enforce themselves.
Disclaimer: This audio and blog post are for informational purposes only and should not be misinterpreted as legal or other professional advice. If you have a legal question, you should consult with an attorney in your jurisdiction. Thank you for tuning in to Keith Law, PLLC.
(Photo by Rakicevic Nenad from Pexels)