The Uniform Trade Secrets Act: Differences from the Common Law and from State to State

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Recently, Texas adopted the Uniform Trade Secrets Act (“UTSA” or “the Act”), with some minor modifications, S.B. 953, 83rd Leg., Reg. Sess., § 4 (Tex. 2013), becoming the 47th State (plus Washington, D.C. and Puerto Rico) to do so. Massachusetts, North Carolina, and New York are the remaining holdouts, and a bill to adopt the Act is pending in the Massachusetts House of Representatives. The UTSA, which was promulgated in 1979, was significantly amended in 1985 and has been steadily adopted by the States since then. This article examines some of the Act’s significant deviations from the common law, particularly the common law of New York, which is based in significant measure on the Restatement (Third) of Unfair Competition. Additionally, since States can (and often do) make changes to the Act when they enact it, this article discusses differences among certain major jurisdictions that have adopted some form of the UTSA, including California, Illinois, and Texas, as well as variations in interpretation of the UTSA among the courts of those States.

I. The UTSA’s Departure from the Common Law
The first major difference between the Act and the common law lies in the definition of a “trade secret.” New York case law defines a trade secret as any “formula, pattern, device or compilation of information which is used in one’s business, and which gives [the employer] an opportunity to obtain an advantage over competitors who do not know or use it.” Ashland Mgt. v. Janien, 82 N.Y.2d 395, 407 (1993). New York courts typically use a complicated, six-factor balancing test to determine if a “trade secret” exists, examining (1) the extent to which the information is known outside the business; (2) the extent to which those involved with the business know the information; (3) the extent to which measures are taken to protect the information’s secrecy; (4) how valuable the information is; (5) the expense and/or difficulty involved in developing the information; and (6) the difficulty with which others could develop the information. See, e.g., Marietta Corp. v. Fairhurst, 301 A.D.2d 734, 738 (3d Dep’t 2003).

The UTSA shortens and simplifies the definition somewhat, stating that a “trade secret” is “information … that (i) derives independent economic value … from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and (ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.” UTSA § 1(4). The UTSA definition thus expressly narrows the definition of “trade secret” by making reasonable efforts to maintain secrecy and difficulty in independently ascertaining the information prerequisites to the existence of a “trade secret,” as opposed to only factors in a balancing test. (In practice, however, under the common law, courts often treated both factors as requirements.) The UTSA definition, however, also broadens the definition of “trade secret” from the common law by eliminating the factor concerning the expense or difficulty involved in developing the information, meaning that even information discovered by accident or at minimal cost may constitute a “trade secret.” This expansion is diluted somewhat by the requirement that third parties not be able to readily ascertain the information.}

Another significant difference between New York common law and the UTSA is that in New York, a singular, discrete event will not qualify as a “trade secret”; rather, a trade secret “is a process or device for continuous use in the operation of the business.” Softel, Inc. v. Dragon Med. & Scientific Commc’ns, Inc., 118 F.3d 955, 968 (2d Cir. 1997). The UTSA, in contrast, contains no such continuous use requirement, and the commentary makes clear that it is a departure from the common law, broadening the definition of trade secret and the protections for the holders of such secrets. UTSA § 1.

Trade secret status can also be destroyed if one ceases to take reasonable precautionary measures. The UTSA states only that the measures must be “reasonable under the circumstances,” and the commentary allows for controlled disclosure to employees and licensees. Id. The common law has taken different approaches. In Lamont v. Vaquillas Energy Lopeno Ltd., No. 04-12-00219-CV (Tex. App. – San Antonio, Dec. 11, 2013), a case involving conduct that occurred before the effective date of the UTSA in Texas, a Texas appellate court held that showing a document to prospective investors does not destroy a document’s status as a trade secret. While the UTSA does not specifically address this issue, the provisions of the commentary approving limited disclosures to employees and licensees would seem to preclude prospective investors. Indeed, courts interpreting the UTSA’s “reasonable measures” provision have emphasized that businesses only divulged information to their own employees in determining that such disclosure did not destroy the trade secret status, implying that divulging information outside of the business would destroy the protection. See, e.g., Food Servs. of Am., Inc. v. Carringon, 2013 WL 4507593 (D. Ariz. 2013); Sw. Whey, Inc. v. Nutrition 101, Inc., 117 F. Supp. 2d 770 (C.D. Ill 2000); Alta Analytics, Inc. v. Muuss, 75 F. Supp. 2d 773 (S.D. Ohio 1999); Alagold Corp. v. Freeman, 20 F. Supp. 2d 1305 (M.D. Ala. 1998); Courtesy Temp. Serv., Inc. v. Camacho, 222 Cal. App. 3d 1278 (Ct. App. 1990). Regardless of jurisdiction, it is prudent for companies to advise their employees that particular information constitutes a trade secret and that they should not disclose it widely, or to limit access to the trade secret in the first place.

Further supporting the notion that the UTSA made protection requirements more stringent, at least in Texas, is that, before the UTSA’s passage, plaintiffs alleging trade secret misappropriation could sue under either the common law or the Texas Theft Liability Act (TTLA). The TTLA required only that the holder of a trade secret take any precaution to guard its secrecy, as opposed to the reasonable precautions requirement in the UTSA. Tex. Penal Code § 31.05(a)(4) (suit under the TTLA was by way of the Texas Penal Code). The UTSA has supplanted the TTLA as a remedy for trade secret misappropriation in Texas, and holders must now guard their secrets more carefully for them to be protectable.

Indeed, with respect to the efforts required to prevent disclosure of a trade secret, the UTSA standard is comparable to the relatively strict New York common law. Under New York law, if a trade secret is disclosed to an individual who is not under an obligation to protect the confidentiality of the information, then the trade secret loses its status as such. See, e.g., Big Vision Private Ltd. v. E.I. DuPont De Nemours & Co., 2014 WL 812820 (S.D.N.Y. 2014). Similarly, the UTSA stresses that disclosure may be made only to those individuals who are associated with a company and thus have a duty of loyalty not to disclose the information, or to those who have signed a confidentiality agreement. Confidentiality agreements satisfy both the UTSA and New York’s standards for maintaining secrecy, as they are “reasonable precautions” that create an obligation by the third party to protect the information’s confidentiality.

Consistent with its more restrictive standard for protection of information compared to the common law, the UTSA has established a so-called “royalty injunction” that provides an alternative to an injunction prohibiting a defendant’s continued use of a trade secret. The royalty injunction provides that “[i]n exceptional circumstances, an injunction may condition future use upon payment of a reasonable royalty for no longer than the period of time for which use could have been prohibited.” UTSA § 2(b) (1985). The provision thus provides courts with discretion to impose a royalty instead of a prohibitory injunction, typically in circumstances involving good-faith acquisition of trade secrets that others have misappropriated. Id. §2 at cmt.¶5 As discussed below, however, courts have differed in their interpretation of this provision.

Finally, the availability of attorneys’ fees under UTSA presents an issue that should give all parties—both plaintiffs and defendants—pause. Under the common law, attorneys’ fees were typically unavailable in the absence of specific contractual or statutory provisions. 2 Trade Secrets Law §§ 22:6, 41:3; Mount Vernon City School Dist. v. Nova Cas. Co., 19 N.Y.3d 28 (2012); Stilwell Dev. Inc. v. Chen, 1989 WL 418783 (C.D.Cal. 1989); Chernus Indus., Inc. v. Grounds & Assocs., Inc., 278 N.W.2d 81 (Minn. 1979). In contrast, the UTSA makes reasonable attorneys’ fees available “if (i) a claim of misappropriation is made in bad faith, (ii) a motion to terminate an injunction is made or resisted in bad faith, or (iii) willful and malicious misappropriation exists.” UTSA § 4 (1985). Thus, under the UTSA, attorneys’ fees may be assessed against both the misappropriator acting wrongly and any party in litigation that does not prosecute an action in good faith. Courts have interpreted “bad faith” to include both “a subjective misconduct component and an objective speciousness component,” see, e.g., VSL Corp. v. General Techs. Inc., 1998 WL 124208 (N.D. Cal. 1998) (applying California law), and therefore an award of attorneys’ fees is not available if the motive behind the misappropriation is competition rather than malice, Roton Barrier, Inc. v. Stanley Works, 79 F.3d 1112 (Fed. Cir. 1996) (applying Illinois law).

II. The Lack of Uniformity Among the States That Have Adopted Some Form of the UTSA

A. Variations in States’ Versions of the UTSA
In addition to the numerous differences between the common law and the UTSA, there are substantial differences among the States that have adopted the UTSA, including among California, Illinois, and Texas. These differences are both a product of timing—California, for example, passed its version of the Act in 1984 and therefore did not incorporate the substantial 1985 amendments—and a State’s deliberate intent to deviate from particular provisions in the Act.

One significant difference between California’s version of the Act and the 1985 UTSA is that the latter includes an exception regarding the availability of monetary damages: if awarding money damages would be inequitable because of a material and prejudicial change in position prior to learning of or having reason to learn of the misappropriation, the court will resort to injunctive relief rather than monetary relief. UTSA § 3(a) (1985). California law has no such protection for unwitting defendants. Cal. Civ. Code § 3426.3(a). Also, California law expressly provides that, under certain circumstances, a customer list for an employment agency is a trade secret. Cal. Bus. & Prof. Code § 16607. In contrast, under the common law doctrine of “casual memory,” whether a customer list received trade secret protection was (and still is, in New York) a question of fact dependent on the specific circumstances of the case. See, e.g., Leo Silfen, Inc. v. Cream, 29 N.Y.2d 387 (1972); Riedman Corp. v. Gallager, 48 A.D.3d 1188 (4th Dep’t 2008).

Illinois’s trade secrets act also differs from the UTSA in a few notable ways. First, unlike the UTSA or the common law, the Illinois Trade Secrets Act explicitly states that lists of “actual or potential customers” are entitled to trade secret protection, creating protections for employers whose employees leave and join a competitor. 765 Ill. Comp. Stat. 1065/2. The Illinois statute is also more friendly to trade secret holders in that the statutes of limitations for an action is five years as opposed to three under the UTSA. 765 Ill. Comp. Stat. 1065/7. Finally, the Illinois statute specifically mentions non-disclosure covenants, stating that “a contractual or other duty to maintain secrecy or limit use of a trade secret shall not be deemed to be void or unenforceable solely for lack of durational or geographical limitation on the duty.” 765 Ill. Comp. Stat. 1065/8(1). The UTSA does not directly address non-disclosure covenants, while this provision in the Illinois statute ensures that broad non-disclosure agreements will not be presumed invalid under Illinois law.

Texas, the most recent State to enact the UTSA, also made a number of changes to the Act’s uniform provisions. First, like Illinois, Texas expressly extended protection to customer lists. Tex. Civ. Prac. & Rem. § 134A.002(6). It also provided trade secret status to financial data. Id. Second, similar to California, Texas does not have the “equity” exception for monetary damages where a defendant unknowingly misappropriates a trade secret. UTSA § 3(a) (1985). Third, Texas appears to view protective orders more favorably in the context of trade secrets litigation than the UTSA, as it directs courts to adopt a presumption in favor of granting protective orders in such litigation. Tex. Civ. Prac. & Rem. § 134A.006.

B. Variations Among Courts in Interpreting the UTSA
Turning to judicial interpretation of the UTSA, the “royalty injunction” is by far the principal area of disagreement among courts—specifically, whether irreparable harm is required prior to issuance of such an injunction. While irreparable harm is generally a prerequisite to issuance of an injunction, no such requirement explicitly appears in the UTSA. A federal district court in Ohio has ruled that the UTSA’s silence is irrelevant, as the default principles applicable to injunctive relief, including the existence of irreparable harm, apply to the statute. See Allied Erecting & Dismantling Co. v. Genesis Equip. & Mfg., Inc., 2010 WL 3370286, *3 (N.D. Ohio Aug. 26, 2010). The court thus concluded that a royalty injunction would be inequitable for the same reason that a permanent, traditional injunction would have been inequitable—the plaintiff had not adequately shown irreparable harm. Id.

The Georgia Supreme Court took a different approach in Electronic Data Systems Corp. v. Heinemann, 493 S.E.2d 132 (1997). There, the trial court granted a royalty injunction after noting “the public’s interest in competition, [the plaintiff’s] delays in bringing the matter to a resolution, and the adequacy of a royalty to protect the parties’ respective interests.” Id. at 135. In affirming, the Georgia Supreme Court did not discuss irreparable harm either and, in fact, recognized that it was possible that “all commercial advantage of the misappropriation had evaporated.” Id. Similarly, the Kansas Supreme Court, in reviewing a trial court’s decision to grant a royalty injunction, did not discuss irreparable harm as a requirement for the injunction, but it did remand the case due to the trial court’s inadequate explanation of the “exceptional circumstances” that prompted it to grant a royalty injunction. Progressive Prods. v. Swartz, 292 Kan. 947 (Kan. 2011).

While there appears to be a difference of opinion as to whether irreparable harm is a prerequisite to issuance of a royalty injunction, the magnitude of this difference is lessened considerably by “the principle that in misappropriation of trade secrets irreparable harm may be presumed,” which an Ohio state court relied upon in distinguishing Allied Erecting. See Columbus Steel Castings Co. v. King Tool Co., 2011-Ohio-6826 (App. 10th Dist. 2011).

Conclusion
The UTSA continues to spread nationwide, leaving few stragglers, but it is unlikely that New York, with its well-developed common law, will follow suit in the foreseeable future. While this variation among the States presents complications for companies that operate in multiple jurisdictions, two legal tools can provide some measure of uniformity even in jurisdictions that still follow the common law of trade secret misappropriation. First, confidentiality agreements offer protection against misuse of trade secrets and other sensitive information should interpretation or application of a specific trade secrets issue be difficult to predict. Second, regardless of variations in trade secrets law, the common law duty of loyalty will continue to protect employers in the common situation of an employee misappropriating trade secrets as they prepare to work for or start a competing business. Indeed, even if information does not rise to the level of a trade secret, employees violate their duty of loyalty—and risk monetary damages or injunctive relief—if they seek to use such information with the goal of competing. These tools thus offer companies substantial protections outside of the UTSA and its many variations.

Topics:  Trade Secrets, UTSA

Published In: General Business Updates, Intellectual Property Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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