Case Law Update: Riding Circuit

The last few months we've seen a number of interesting decisions from the federal circuit courts of appeal, both on issues of State law and under the federal Defend Trade Secrets Act. These cases not only raise a few interesting legal issues, but they also amplify some practical concerns that lawyers and litigants should be aware of.

Soarus LLC v. Bolson Materials Int'l Corp. (Seventh Circuit)

This short decision from the Seventh Circuit stems from a short commercial non-disclosure agreement in the 3D printing industry. In essence, the dispute stemmed from a patent application carve-out to a broad confidentiality restriction. The defendant, Bolson, sought to acquire and use a type of specialty polymer in its 3D printing process, agreeing in turn with Soarus to keep information about the polymer confidential.

But the NDA contained a carve-out, which said that notwithstanding this intellectual property protection, Bolson was "free to patent and protect any new application" using the polymer in a specific type of process. Bolson in fact did so, leading Soarus to argue that Bolson breached the NDA.

The Seventh Circuit rejected Soarus' argument that no reasonably company would seek to protect confidential information around a new product and also allow that party to file information in a public document with the U.S. Patent Office. Under Illinois law, those subjective expectations could not trump an unambiguous contract provision, which the patent application carve-out was.

A relatively straightforward case of contract interpretation, to be sure. But the practical lesson is important. Commercial NDAs can arise in a number of different situations, including deal evaluations and supply arrangements. The problem is that the forms used for these situations don't necessarily translate, based on the specific business concerns underpinning the relationship. Here, Bolson and Soarus seemed to have addressed how Bolson could have used otherwise protected information in a patent filing. But a much more common situation is to have the parties sign an NDA that may have been perfectly fine for one transaction that is ill-suited to another. These particular nuances can include not only the ability to use information in patent filings, but also restrictions on which employees a party can solicit or hire, whether parties acquire any intellectual property rights or merely have the right to license them, and when the agreement expires.

NDAs are a very common commercial agreement. But the details of the restrictive clauses must align with business expectations. There is an inherent danger in simply copying a template that looks really pretty.

A copy of the opinion is available here.

Dunster Live LLC v. Lonestar Logos Management Co., LLC (Fifth Circuit)

The Defend Trade Secrets Act has only been the subject of a few circuit court decisions. In one from last year, the Tenth Circuit rejected the argument that a moving party could presume irreparable harm when evaluating a preliminary injunction predicated on a DTSA claim. And other decisions haven't told us much at all.

The DTSA reared its head again in Dunster Live LLC v. Lonestar Logos Management, but only in a cameo role. In that case, the defendant sought attorneys' fees after the plaintiff dismissed its trade secrets action without prejudice. The case stemmed from a classic business divorce, but the plaintiff soon ditched its trade secrets claim, opting to streamline its case and refile in state court. The Fifth Circuit found that the defendant was not the "prevailing party," a requirement for fee-shifting under the DTSA's bad-faith provision.

It appears the defendant raised a host of arguments for why it prevailed, but the most intriguing was the idea that the district court denied the plaintiff's preliminary injunction motion. The Fifth Circuit rejected this, holding that "prevailing party status ordinarily requires being ahead when the final whistle blows in a case, not at halftime."

Of interest to readers, the defendant racked up $600,000 in attorneys' fees before the voluntary dismissal order was entered. That's a lot, but not outrageously so if the preliminary injunction resembled a merits trial (which many do). Still, it is understandable why the defendant pulled out all the stops in seeking fees if they achieved some success short of a full win, before the plaintiff called an audible.

A copy of the opinion is available here.

Brand Services LLC v. Irex Corp. (Fifth Circuit)

The Fifth Circuit weighed in on another procedural issue under trade secrets law, one that has split courts and vexed commentators. The issue is whether the preemption clause of the uniform trade secrets act (here, the act was Louisiana's version) means that a plaintiff is barred from pursuing a civil law conversion claim for confidential information that fails to qualify as a trade secret.

In Brand Services v. Irex Corp., the court held that the preemption clause doesn't extend that far. While it's generally non-controversial that a plaintiff cannot sue for conversion of trade secrets, courts have been less willing to extend preemption to confidential information. The issue can be very confusing for lawyers and parties because it is common for claims to meld the two concepts. Often times, plaintiffs will allege something to the effect that the defendant misappropriated "confidential information, including trade secrets." Very infrequently, a plaintiff will demarcate the two in a way that allows a court to understand fully what the plaintiff is claiming as trade secrets and what it is contending as lesser-protected confidential information.

What the Fifth Circuit is saying in Brand Services is that for the latter category, a plaintiff can maintain a conversion claim for civil theft without invoking trade secrets law. That alleviates the burden of proof on some important issues, like reasonable secrecy measures. In Brand Services, the Fifth Circuit was persuaded by some intermediate appellate court law in Louisiana that took a narrower view of preemption. It bolstered its finding by looking to the text of the preemption provision, which does seem to leave open some room for common-law torts related to theft of confidential, but non-trade secret, information. For those interested in examining the range of court cases and the split of authority, footnote 4 to the Brand Services opinion contains an exhaustive range of citations.

A copy of the opinion is available here.

AirFacts, Inc. v. De Amezaga (Fourth Circuit)

The Fourth Circuit's recent opinion in AirFacts, Inc. v. De Amezaga is one of those fairly fact-intensive cases that provide only helpful guidance and not any particular rules or standards. The basic facts are fairly familiar, but for our purposes here one issue of trade secrets law caught my eye.

The employee who was sued sent himself (to a personal email account) a particular spreadsheet on his last day of employment. Part of the employer's trade-secret claim hinged on this fact. The key question: did that act rise to the level of misappropriation (for the document itself earned trade secret status)?

Here, a number of facts compelled the circuit court to adopt the district court's finding of no misappropriation. Those facts were:

• The employee's supervisors told him they might contact him if they had questions about his work;
• The employee testified this is why he sent the spreadsheet to his personal e-mail account;
• The trial judge found him credible.
• The employee did not access the spreadsheet after he left and did not disclose them to any third-party;
• Other employees regularly worked from home, which included using personal email accounts for work purposes.

This particular issue recurs time and again in departing employee scenarios, and as AirFacts demonstrates, the question of liability is intensely fact-specific. What are the lessons to be learned?

From the company's perspective, it could have dealt with this better by instituting policies and procedures that bar the use of personal email for work purposes, by clarifying the ex-employee's obligation at departure, by asking him whether he had anything in his account that was company related, and by conducting a thorough exit interview.

From the employee's perspective (though he won, he still got sued), he could have sought pre-clearance to retain the spreadsheet. That would have eliminated any factual dispute about his authority to send the document to his personal account. And he should not have deleted the sent item from his work folder, which certainly raises suspicion about his intent (though the district court didn't seem to care much).

Many disputes like this end up in court simply due to a breakdown in communication. It is pretty clear that this was not anywhere close to a theft situation. But neither party covered themselves particularly well before litigation ensued.

A copy of the opinion is available here.

California Choice-of-Law Rulings Strike Sensible Balance

Choice-of-law and -forum clauses are not only some of the most important issues in non-compete agreements, but they also are some of the most complex.

To step back, the clauses are just what they sound like. If you have a restrictive covenant agreement, look to the back and you'll find what many normal people call "boilerplate" terms. A choice-of-law clause says what State's law will govern the agreement. And a choice-of-forum clause will tell you where the case can, or even must, be heard.

These clauses take on added importance for employees who work for larger enterprises, because often the employee's place of citizenship will differ from the corporate nerve center. A valued sales employee may have selling responsibility only on the west coast, but her company may be situated in New York or Florida. This is extremely common, and employees often don't quite know what to do when their place of residence is different than the law governing their agreements.

Red-flag States, such as California and Oklahoma, pose special problems because of clear public policy concerns that deal with non-compete law. In those States (and others), many restrictive covenants enforceable in States like Texas or Florida won't be reasonable at all. What to do, then, when a citizen of one of these States has an agreement governed by a State's law that embraces non-competes?

Let's walk through how to assess this.

Step 1: Determine the employee's place of citizenship. This should be easy, but we've seen cases where employees move in order to take a new job in a State that is somewhat hostile to non-competes. Can this move aid the employee, or is it irrelevant?

Step 2: Find out if the employee's home State poses special enforcement problems. Those States are California, Oklahoma, North Dakota, Louisiana, and Wisconsin. There may be others, too, but for certain an employee's citizenship in one of these States should cause counsel to engage in a deep enforceability analysis.

Step 3: Ascertain whether suit in State or Federal court is likely. If there is a possibility of a suit in Federal court, then the Supreme Court's case of Atlantic Marine in 2013 will be important to consider. But, that is only if the contract contains a choice-of-forum clause.

Step 4: Review State choice-of-law rules. Most States adopt the analysis from Section 187 of the Restatement (Second) of Conflicts of Laws. If the parties select a State's law to apply, it will be given effect unless one of two conditions is met: (a) the selected State has no substantial relationship to the parties or the transaction; or (b) application of the chosen State's law would be contrary to the public policy of a State that has a materially greater interest and whose law would apply absent the choice-of-law clause.

Step 5: Apply the choice-of-law rules. Often, the first exception noted above won't apply, unless you encounter the totally bonkers situation where an employer gratuitously picks the most authoritarian State even though that State has nothing to do with the employment relationship. Or, perhaps, the employer picks Delaware when the only connection to Delaware is that the company chose to be incorporated there. That may fall within exception (a).

More likely, you'll need to do a deep dive on exception (b), which often applies when an employee has little connection to the forum State. Again, consider my example where an employee sells only in Oklahoma and has no job responsibilities in New York where the company home is. Very common fact pattern.

Step 6: Assuming you have a scenario involving exception (b), consider the nature of the public-policy at stake. Do you have a California problem, where non-competes are totally off-limits? Or do you have a State with marginal deviations to the general rule of reason, like a Nebraska which does not allow overbroad non-competes to be enforced? Sometimes these small deviations can be outcome-determinative in a particular dispute, but is that enough to qualify as a "public policy"? Debatable, to be sure.

Step 7: See if some other limiting condition applies. That is, does a State have a particular rule about choice-of-law or -forum clauses that applies to employees? Some States do by statute.

There are a few recent illustrations that involve some or all of these steps. The first comes from the redundantly-named Supreme Judicial Court of Massachusetts in a case called Oxford Global Resources, LLC v. Hernandez, in which the SJC held that a Massachusetts court would not enforce choice-of-law and -forum clauses that both selected Massachusetts against a former employee residing in California. Of particular note, that employee had job responsibilities only in California. The deciding factor was California's strong public policy that I have discussed often, which bars non-competes for employees.

Conversely, the Delaware Court of Chancery addressed a slightly different question in NuVasive, Inc. v. Miles. There, an employee in California entered into an employment contract that specified Delaware law and venue. But that agreement was entered into after California amended its Labor Code, Section 925. That section was generally intended to deepen the public policy interest against non-competes by preventing circumvention of California law through choice-of-law clauses. But Section 925 also carved out contracts where the employee's counsel negotiates the choice-of-law provision. As the Delaware court found, that carve-out balanced an overriding public policy interest in favor of free competition with a countervailing interest in the freedom to contract. As such, the choice-of-law clause was valid.

These issues are extremely important, and sometimes the case law can be confusing. That is more so with venue clauses than with choice-of-law provisions. But an employee and counsel must be attuned to the importance of both when it appears they can have an impact on the agreement.

California Dreamin'

I often think of living in California.

The warm weather, the fact that the air just somehow feels different. The sand running through your toes as you soak it all. And of course, the punishing taxes and regulations...but still.

And of course I think of what it would be like to be a non-compete attorney in California, because man would it be weird. You'd almost have to reverse most of your instincts. You wouldn't have to hedge when you talk to clients. You could actually dispense advice without the maddening qualifiers like, "well maybe a court would do this, but hey maybe not. Good luck!"

The reason, of course, is that California is pretty hostile to most types of restraints on trade, due to Section 16600 of the Business and Professions Code, which states that "every contract" in which one is restrained from engaging in a lawful profession, trade, or business is void. That's strong stuff. But despite attorneys' ability to give somewhat clearer answers than we can give in say Illinois, some nuance still remains.

Take no-hire clauses, which bar employees from soliciting co-workers for a reasonable period of time post-employment. Those are often far less controversial than non-competes and customer non-solicitation covenants because they don't really tend to limit one from working. Except, though, recruiters.

Recruiters are basically salespersons, but they specialize in placing people (sometimes consultants, sometimes other employees) with clients. Their relationships, which restrictive covenants try to protect, thus cross over into two different areas of the distribution chain. And so recruiters more than any group of employees feel restrained by no-hire clauses.

The California courts haven't been as troubled by no-hire clauses as the more common and restrictive form of post-employment covenants, with some courts allowing them. But that rule now appears in doubt after AMN Healthcare, Inc. v. Aya Healthcare Services, Inc. There, the Fourth District Court of Appeal held void under Section 16600 a garden-variety no-hire clause in the travel nurse staffing business.

The employees impacted by the no-hire were travel nurse recruiters of AMN Healthcare, who had signed no-hire clauses of either a year or 18 months that limited their ability to solicit co-workers to leave AMN. Those recruiters then left and contacted various travel nurses, who typically were placed at health care facilities on 13-week assignments.

The Court of Appeal found the no-hire clauses void as a matter of law, thus casting doubt about older case that lawyers typically relied upon to enforce those clauses. The gist is that those older cases pre-dated a significant Supreme Court of California decision in a case called Edwards v. Arthur Anderson LLP, which generally disapproved of a narrow-restraint exception to Section 16600. As a result of Edwards, Section 16600 still applied when a post-employment covenant restricts only a limited part of an employee's profession, such as solicitation of clients.

The Court of Appeal in AMN Healthcare found Edwards controlling. As applied to the travel nurse recruiter scenario, the court had little trouble concluding that the no-hire clause was a void restraint. In particular, it focused on the nature of the recruiting business (which makes no-hire clauses much more significant than in other industries), the impact on recruiters' compensation if restrained from soliciting nurses for work, and the temporary nature of the travel-nurse assignments.

Despite all that, it's hard not to see AMN Healthcare as a significant shift in how courts evaluate no-hire clauses. A copy of the decision is available here.