Podcast Episode 11—Trade Secret Misappropriation and a Real World Example
Podcast Episode Timestamps
00:00 — Topic
00:07 — Intro
00:32 — This episode’s vs. the previous episode’s topic
00:40 — The real world example
03:40 — What a cause of action is
04:47 — The four elements of a trade secret misappropriation cause of action in Texas
05:35 — TUTSA’s definition of “misappropriation”
06:55 — Element one – a trade secret exists
07:40 — Element two – improper acquisition
09:18 — Acquisition during employment
10:17 — Discovery of another person’s trade secret
11:09 — Element three – unauthorized use or disclosure
12:25 — A few examples of “commercial use”
12:58 — The 5th Circuit’s 2012 definition
13:29 — So many topics are beyond the scope of this episode
14:23 — The real takeaway from the episode
14:33 — Check the show notes
14:52 — Use these time stamps [they’re tediously compiled]
15:15 — Preserve your potential evidence of trade secret misappropriation
15:45 — Use this information as a caution of things to avoid doing to reduce the chance of ending up a defendant
16:27 — Closing thoughts & Outro
The Real World Example:
I had a client that sold goods to other businesses in a certain industry. After years of success they decided to risk the time, capital, and effort to open up their business in another Texas market, far away from their usual customers. But first, before they sent their key employee out there, they presented him with a agreement that included restrictive terms such as a confidentiality agreement, a non-solicitation agreement (of customers and employees), and a noncompete. Importantly, the agreement also contained a venue selection provision requiring that any lawsuit related to the agreement had to be brought in a Harris County, Texas court.
The reason for requiring this agreement prior to their attempted expansion was to manage the risk related to sending their trusted employee to a new region where he would use their resources to open up the distant market (including establishing essential customer relationships). Then, if something went wrong, there would be a risk he might attempt to take all the business information and relationships he developed to open a competing operation.
As it happened, something like that actually occurred. After establishing a successful regional market position, he quit, quickly formed a competing entity with the Texas Secretary of State (see this earlier blog post and Keith Law PLLC Podcast episode for a discussion of doing business via filing entities) and their importance in doing business wisely), emailed himself confidential information, emailed a remaining employee to send him trade secret information, then began providing competing goods to my client’s customers.
When I presented the lawsuit and application for emergency injunction to the Harris County Ancillary Court seeking a temporary restraining order, I was glad I had a signed copy of the agreement and other compelling evidence. The same day, the court issued a temporary restrain order stopping him from competing until an evidentiary hearing could be held to determine whether an injunction should be issued to protect my client until the full trial could be held.
The court’s swift action provided immediate relief to my client and put the former employee in a position where he was willing to quickly cooperate on a reasonable solution to this business problem.
The Lawsuit “Recipe”—it’s a “Cause of Action”
Every lawsuit requires what’s called a “cause of action” (which is an actionable legal theory) to allow a court to grant relief. Three examples of common causes of action are breach of contract, trespass to real estate, and trade secret misappropriation. Think of a cause of action like a baking recipe. Just like a cake requires all its ingredients to turn out right, a lawsuit requires a cause of action with a recipe of essential elements, all of which must be proven in order to prevail. I will refer to the essential ingredients of the trade secret misappropriation cause of action “elements.”
Elements of a Trade Secret Misappropriation Cause of Action:
Under Texas law, misappropriation of a trade secret occurs when the owner of a trade secret establishes that:
(1) a trade secret exists (see this earlier blog post and Keith Law PLLC Podcast episode for a discussion of what a trade secret is);
(2) the trade secret was improperly acquired through a confidential (or contractual) relationship or by other improper means;
(3) the defendant used or disclosed the trade secret without the plaintiff’s authorization ; and
(4) the plaintiff sustained damages as a result of the misappropriation.
The Texas Uniform Trade Secrets Act defines “misappropriation” as the acquisition of a trade secret of another by a person who knows or has reason to know that the trade secret was acquired by improper means. It also means the disclosure or use of a trade secret of another without express or implied consent by a person who:
(1) used improper means to acquire knowledge of the trade secret;
(2) at the time of the disclosure or use, knew or had reason to know, that the person’s knowledge of the trade secret was derived from or through a person who used improper means to acquire it, acquired under circumstances giving rise to a duty to maintain its secrecy or limit its use, or derived from or though a person who owed a duty to the person seeking relief to maintain its secrecy or limit its use; or
(3) before a material change of the person’s position, knew or had reason to know that it was a trade secret and that knowledge of it had been acquired by accident or mistake.
Of course, to prevail, a plaintiff in a trade secret case must also establish that the plaintiff is the owner of the trade secret.
Element 1—a Trade Secret Exists:
Check out this earlier blog post and Keith Law PLLC Podcast episode for a discussion of what a trade secret is. As briefly mentioned there, the question of whether a trade secret misappropriation occurred is also determined by reference to when the defendant learned it and misused it, and not at the time of suit. So, if the secret has fallen into the public domain after the defendant breached a confidential relationship, the fact that it is no longer a trade secret will not exonerate the defendant from liability for misappropriation—meaning that the bad actor cannot reveal the secret then say ‘it’s not secret, so it isn’t a trade secret.’
Element 2—Improper Acquisition:
The defendant must have acquired the trade secret improperly or through breach of either a confidential relationship or a contractual obligation not to disclose it. In other words, to misappropriate a trade secret, a person must violate some legal duty toward the trade secret owner, and the trade secret owner must have at least taken steps to protect the secret from discovery by improper means. This duty may arise without a contract as a matter of law, such as in the case of a fiduciary relationship, but it most often will arise as a matter of fact in licensing, manufacturing, business-purchase relationships, by other written contract, or by implied contract in employment relationships.
TUTSA defines “improper means” as including theft, bribery, misrepresentation, breach or inducement of a breach of a duty to maintain secrecy, to limit use, or to prohibit discovery of a trade secret, or espionage through electronic or other means. Conversely, “proper means” is defined as discovery by independent development, reverse engineering unless prohibited, or any other means that is not improper. “Reverse engineering” is the process of studying, analyzing, or disassembling a product or device to discover its design, structure, construction, or source code, provided that the product or device was acquired lawfully or from a person having the legal right to convey it.
INFORMATION ACQUIRED DURING EMPLOYMENT:
Despite the following, it’s best practice to explicitly define and protect your business’s trade secrets with written agreements with your employees. But if a business fails to have such written agreements, it can be argued that an employee is under an obligation not to divulge or use the trade secrets of the employer except for the employer’s benefit, not only during employment but after the employment terminates. However, a former employee may use in competition with the former employer the general knowledge, skills, and experience acquired during employment, as well as any information learned in employment that is not subject to a duty of nondisclosure, provided that competition is fairly and legally conducted. The existence of a written agreement makes it much easier to (a) prove what everyone understood the trade secrets to be, (b) expressly agree that injunctions should be available, and (c) specify the county in which an action should be brought.
IMPROPER DISCOVERY OF ANOTHER’S TRADE SECRET:
The discovery of another person’s trade secret by improper means is actionable. A few examples of improper means of acquiring another’s trade secrets include theft, fraud, unauthorized interception of communications, knowing participation in or inducement of a breach of confidence, and other means either wrongful in themselves or wrongful under the particular circumstances of the case.
As mentioned in this earlier blog post and Keith Law PLLC Podcast episode, the fact that knowledge of the plaintiff’s trade secret may potentially be acquired through lawful means, such as inspection, experimentation, and analysis, does not preclude protection from those who would secure that knowledge by unfair means. The question is not how the knowledge could have been acquired, but how it was actually acquired.
Element 3—Unauthorized Use:
To be actionable for misappropriation, the trade secret must have been used or disclosed by the defendant without authorization from the owner. “Use” of a trade secret means “commercial use” and occurs when a person seeks to profit from the use of another person’s trade secret. “Use” has also been defined more broadly as any exploitation of a trade secret that is likely to cause harm to the trade secret’s owner or benefit to the appropriator. For example, use of another person’s trade secret to produce a product that is then sold in competition with the trade secret owner is actionable under Texas law.
Liability is not limited to the situation in which the appropriator used a trade secret exactly in the form in which it was received, and the defendant can be liable for its use with modifications or improvements. Likewise, divulging another person’s trade secret that was obtained by improper means is also actionable.
Other activities short of direct use of the trade secret in competition with the trade secret owner may also be actionable “commercial uses” of the trade secret. A “commercial use” has been defined by courts as one by which the offending party seeks to profit from the use of the secret. Many courts have held that a misappropriation of trade secrets followed by an exercise of control and domination is a “commercial use.”
A handful of examples of commercial uses include:
• The internal use of a competitor’s trade secret in advance of marketing the appropriator’s product.
• The use of a trade secret to produce a design for which a patent application is filed
• The use of another person’s trade secret with modification and improvements to produce a competitive product.
• The use of a product design embodying trade secrets to obtain financing for development of a product.
• The use of another’s dynamic templates source code to create its own templates.
More recently, in Bohnsack v. Varco, L.P., the Fifth Circuit, applying Texas law, addressed the issue of what constitutes “use of a trade secret.” In Varco, the Court rejected the “control and domination test” sometimes cited by the Texas courts in favor of a broader standard: any misappropriation of a trade secret that is likely to result in injury to the trade secret owner or enrichment to the defendant.
This blog post and related podcast episode focused on what a cause of action for trade secret misappropriation requires. As always, so many other topics and subtopics are beyond the scope of this post and episode. We didn’t cover potential remedies including injunctions (and the Texas three-part injunction system). We didn’t cover related legal theories that may be available depending on the particular circumstances. And, we didn’t cover potentially available defenses to a trade secret misappropriation lawsuit.
But the takeaway, as always when it comes to protecting trade secrets, is that reasonable steps must be taken to protect the trade secrets in order for them to be protected under TUTSA.
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.