- Protecting Your IP in a Troubled Economy: A Modest (and Cost-Effective) Proposal
- September 21, 2009 | Authors: Anthony C. Valiulis; James M. Kunick
- Law Firm: Much Shelist Denenberg Ament & Rubenstein, P.C. - Chicago Office
Much has been written about the use of patents, trademarks and copyrights as the preferred means of protecting a company's valuable intellectual property (IP). Press coverage of IP-related news invariably focuses on lawsuits involving patents or copyrights, most often regarding Web-based and wireless technologies. But obtaining patents and copyrights (and especially enforcing them) can be extremely costly, so much so that companies often forgo protection altogether. That is both unfortunate and unnecessary, since there are less expensive ways to protect your IP.
What are these alternatives? Non-competition and non-solicitation agreements, as well as the use of trade secrets and other confidential information, are cost-effective means of protecting IP that have historically been misunderstood and are often relegated to the legal "boilerplate" at the back end of contracts or forgotten altogether. Particularly in a troubled economy, now is a good time to make use of these alternatives to ensure that your valuable IP assets are not in jeopardy.
Non-Competition and Non-Solicitation Agreements
A general non-compete or non-solicitation agreement can be ancillary to an employment relationship, usually as part of an employment contract or a separate written agreement signed by an employee before or after beginning work. It can also be a post-closing condition on the buyer of a business in a purchase and sale agreement. In the employment context, an employee typically promises not to work for a competitor of the current employer within a specified geographical area for a certain period of time after leaving his or her current employment. With respect to the sale of a business, a buyer will often promise not to sell or market goods or services that would compete with the seller, again for a certain period of time in a specified geographical area. In a non-solicitation agreement, the employee/buyer typically promises not to solicit the customers of the employer/seller for a certain period of time. Some agreements contain combinations of both types of restrictions (i.e., against competition and solicitation of customers). Often, these agreements will also have a provision prohibiting the solicitation of employees.
Both general and more limited non-compete and non-solicitation agreements can be used to mitigate the risks associated with departing employees who have had access to an employer's trade secrets, confidential information and IP, as well as the risks associated with the loss of customer relationships resulting from the sale of a business to a potential competitor. Although such agreements are typically subject to certain restrictions, all 50 states recognize and enforce (1) the rights of employers to protect the confidential information and IP acquired by ex-employees and (2) the rights of sellers of a business to restrict a buyer's right to compete with them post-closing. However, the protection afforded by the courts for customer relationships after employment or post-closing varies greatly within the United States, with Illinois providing a somewhat weaker level of protection than many other states for customer relationships, at least in the employment context.
Despite what many people say, non-compete and non-solicitation agreements, even in Illinois, can be enforceable, especially when used to protect confidential information. In that regard, people frequently espouse two conflicting opinions as to the enforceability of non-competition or non-solicitation agreements in the employment context: that they are never enforceable or that they are always enforceable if they are reasonable in scope. These positions are essentially the opposite sides of the same coin, and in this case, both sides are untrue if taken literally.
As a general rule, non-compete and non-solicitation agreements are enforceable if they (1) protect a "legitimate interest" and (2) are reasonably limited in scope (which generally means time and geographical reach, although non-solicitation agreements can be enforceable at times without a geographic limitation). The "legitimate interest" component is particularly crucial. In Illinois, there are only two things that qualify as "legitimate interests," at least for employee non-compete or non-solicitation agreements: trade secrets, which in this context include confidential information, and "near permanent customer relationships." For this purpose, trade secrets and confidential information encompass more than just secret formulas; they also include virtually any information that is not generally known and whose secrecy a company has taken reasonable steps to protect but, if known, would provide competitive value to a competitor (e.g., financial data, customer lists, methods of operation, etc.).
The term "near permanent customer relationships" generally refers to relationships with customers that have been with an employer for a sufficient amount of time and for which an employer has devoted substantial time and money. While the scope of what can and cannot be protected as a "near permanent customer relationship" is often debated (and litigated), courts have generally held that relationships with professionals and unique providers of goods and services are more likely to be protected as "near permanent" than the sellers of commodity goods and services. Customer goodwill by itself is usually not sufficient, except in the context of the sale of a business.
In deciding whether such a "near permanent customer relationship" exists in the employment context, courts often turn to a "balance of factors" test. In so doing, the courts seek to balance the interests of an employer in protecting its legitimate interest and customer relationships against the interests of its former employees in developing their own careers and customer relationships. Factors considered by courts when applying this test include (1) the length and continuity of the relationship between the parties, (2) the amount of development time and money invested in the legitimate interests, (3) the amount of contact the employee had with the protectable legitimate interests and (4) knowledge of customers.
As a practical matter, courts do not ignore the economy when determining whether to enforce non-compete or non-solicitation agreements. In today's declining job market, courts are less and less likely to enforce post-employment restrictions on former employees, thus giving them more breathing room to take advantage of the limited number of available jobs.
When a seller signs a non-compete or non-solicitation agreement in connection with the sale of a business, however, courts are still likely to enforce the covenant, provided the scope is related to the area in which the company does business and generally not longer than five years. (Employee non-compete or non-solicitation agreements are seldom enforced past two, or at most three, years.) Accordingly, if an employee signs a non-compete or non-solicitation agreement in connection with a sale, that agreement is more likely to be treated as if it were signed by the seller (instead of the individual employee) if it is clear that the agreement is expressly tied to the sale. In that way, any customers brought into the company by that employee will more likely be considered part of the assets and goodwill acquired by the buyer. As a result, a best practice for maximizing the enforceability of such employee non-compete or non-solicitation agreements is, where possible, to expressly connect them to the sale of a business and the specific protectable interest and assets.
The bottom line is that, especially in today's economy, it is more important than ever to draft your non-compete or non-solicitation agreements as narrowly as possible. The more narrow the restrictions, the more likely they will be enforced. Although courts have the authority to modify a broadly written non-compete or non-solicitation agreement, they may not do so if the provisions are so broad that the court feels that the employer was overreaching. Again, in this economy, that is yet another reason to draft as narrowly as possible while still getting the protection you need.
Trade secrets are essentially a creature of state law, unlike patents and copyrights, which are exclusively governed by federal law, and non-compete and non-solicitation agreements, which are contractually bounded. There are two basic sources of trade secret law: Section 39 of the Restatement (Third) of Unfair Competition and the Uniform Trade Secret Act (UTSA), which has been adopted by all 50 U.S. states. In evaluating legal strategies, a business should always be aware of which definition its particular state has adopted. Differences aside, however, both the Restatement of Unfair Competition and the UTSA contain three fundamental requirements that must be met in order to obtain trade secret protection: the information must (1) be sufficiently secret; (2) have actual or potential economic value because it is secret; and (3) be subject to reasonable efforts to maintain its secrecy.
So what advantage does trade secret protection offer and how does it relate to the protection afforded by patents and copyrights? In general, patent law protects the embodiment of an idea in a particular invention, while copyright law protects the expression of an idea in a tangible medium. In contrast, a trade secret need not be embodied or expressed in any particular invention, medium or technology. Rather, trade secret protection can be applied to the idea itself, thus filling the "gap" between patent and copyright protection. Therefore, a significant advantage provided by trade secret protection is that the subject matter being protected is almost without limit. According to the Restatement of Unfair Competition (Comment B), the list of possible trade secrets includes "a formula for a chemical compound, a process of manufacturing, treating or preserving materials, a pattern for a machine or other device, or a list of customers." And under the comment to the UTSA, even negative information (e.g., a design that does not work or an invalid processing algorithm) can constitute a trade secret.
Moreover, unlike patents, which usually require a complex and expensive application and examination process with the United States Patent and Trademark Office, and copyrights, which must be registered with the Library of Congress before filing suit, trade secret protection can generally be obtained by complying with the three requirements above and do not require interaction with a government agency.
Trade secrets have another distinct advantage; trade secret law is less likely to be preempted by federal law. Patents and copyrights are regulated exclusively by federal laws that preempt any state legislation to the extent that it interferes or overlaps with the federal law. As a result, there are no state or common law components of patent and copyright law. In the seminal Kewanee Oil Co. v. Bicron Oil Corp. decision, however, the U.S. Supreme Court ruled that federal patent law does not preempt state trade secret law. In so doing, the Court held that state trade secret law could prohibit the disclosure of industrial technology, even though that technology was unpatented. In rendering its decision, the Supreme Court viewed trade secret protection as the most meaningful economic incentive to promote the development of inventions that could not be patented; without it, the Court felt that the licensing of unpatentable inventions simply could not occur.
There are, of course, a few drawbacks associated with trade secret protection. One is that the protection can be lost when the secret becomes known to others; accordingly, ensuring against disclosure requires ongoing efforts to maintain secrecy. These efforts can be both time-consuming and expensive, depending on the scope of the trade secret and the size of the business. This is, to some extent, balanced by the fact that trade secret protection can potentially exist indefinitely—unlike patents, which are valid for 21 years from the date on which their application was filed, and copyrights, which are generally valid for the life of the author plus 70 years.
Although trade secret protection is usually not preempted by federal patent law, the two forms of protection cannot coexist. This is because the written description of an invention in a patent application becomes available to the public upon issuance of the patent, thus "disclosing" any prior secrets. On the other hand, trade secret and copyright protection can coexist. Although publication of a copyrighted work could potentially destroy the trade secrets in that work, publication of only a limited amount of the trade secret would not destroy its trade secret nature if a reader would still have to exert significant additional effort to uncover and use the secret.
All things considered, trade secret protection can be a valuable alternative to the complex and often expensive procedural regimens for obtaining patent and copyright protection. Furthermore, the potentially limitless nature of the subject matter that can be protected should be a strong selling point to any business that markets a variety of products and services.
Getting Started with IP Protection
What is the best way to get started? Since the goal of most inventors and businesses is to protect their products and the unique nature of their IP from misappropriation by competitors, you should consider working with legal counsel to perform an IP audit. You should then institute a program to identify and document (through the use of invention disclosure forms or other means) the IP in your business that may be subject to trade secret protection and take the steps necessary to ensure that those assets are actually protected.
So the next time you start wondering what your business can do in this distressed economy to protect your most important assets (including your ideas, confidential information and the way you do business) think non-competes and trade secrets. Then get to work taking that "boilerplate" from the back end of your contracts into the forefront of your legal strategy.