Another Non-Solicit Bites the Dust

The Court of Appeal took up a complex lawsuit involving claims and cross-claims of unfair competition, including strong agreements not to compete or solicit and choices of law and forum clauses. The Court expanded on the decision this summer in The Retirement Group v. Galante, posted here.

Basically, Dowell, other employees and their new employer, St. Jude, sued Biosense Webster, which was attempting to enforce a non-compete agreement, which included broad non-solicitation clauses. The Court of Appeal agreed with the trial court that the agreements were unenforceable. Here is some language from the opinion:

Biosense contends that the clauses are valid because they were tailored to protect trade secrets or confidential information, and as such satisfy the so-called trade secret exception, citing cases such as Thompson v. Impaxx, Inc. (2003) 113 Cal.App.4th 1425, 1429–1430; Whyte v. Schlage Lock Co. (2002) 101 Cal.App.4th 1443, 1462; Metro Traffic, supra, 22 Cal.App.4th at p. 860; and American Paper & Packaging Products, Inc. v. Kirgan (1986) 183 Cal.App.3d 1318, 1322. Plaintiffs counter that in light of our Supreme Court’s recent decision of Edwards, supra, 44 Cal.4th 937, a common law trade secret exception no longer exists.The Court in Edwards concluded that section 16600 “prohibits employee noncompetition agreements unless the agreement falls within a statutory exception.” (Edwards, supra, 44 Cal.4th at p. 942.) . . . .

* * *

Although we doubt the continued viability of the common law trade secret exception to covenants not to compete, we need not resolve the issue here. Even assuming the exception exists, we agree with the trial court that it has no application here. This is so because the noncompete and nonsolicitation clauses in the agreements are not narrowly tailored or carefully limited to the protection of trade secrets, but are so broadly worded as to restrain competition. ...

Biosense argues that the clauses in the agreements are narrowly tailored to protect trade secrets and confidential information because they are “tethered” to the use of confidential information, and are triggered only when the former employee’s services for a competitor implicate the use of confidential information. As such, to the extent that no confidential information was disclosed or made known to Dowell and Chapman during their employment with Biosense, the noncompete clause would never be triggered. But this argument ignores the broad wording of the agreements. The noncompete clause prohibits an employee from rendering services, directly or indirectly, to a competitor where those services could enhance the use or marketability of a conflicting product through the use of confidential information to which the employee had access at Biosense. “Confidential information” is broadly
defined as information disclosed to or known by the employee, including such
information as the number or location of sales representatives, the names of customers, customer preferences, needs, requirements, purchasing histories or
other customer-specific information. Given such an inclusive and broad list of confidential information, it seems nearly impossible that employees like Dowell and Chapman, who worked directly with customers, would not have possession of such information. The prohibition here is not unlike the noncompete clause found facially invalid by the court in D’Sa, supra, 85 Cal.App.4th at p. 930. . . . .

We also reject the argument of Biosense that the nonsolicitation clause is narrowly tailored to protect trade secrets and confidential information. The same argument was rejected by the Galante court, which noted: “However, Edwards rejected the claim that antisolicitation clauses could be exempt from section 16600 if the conduct covered by such clauses fell within the ‘narrow-restraint’ exception discussed in Campbell (Edwards, supra, 44 Cal.4th at pp. 948–950), and we decline TRG’s implicit invitation to engraft that exception onto this case.” (Galante, supra, 176 Cal.App.4th at p. 1241.) Moreover, the clause at issue here goes well beyond prohibiting active solicitation by prohibiting departing employees from selling or rendering any services to Biosense customers or directly or indirectly assisting others to do so—even if it is the customer who solicits the former employee. (See
Morris v. Harris (1954) 127 Cal.App.2d 476, 478 [invalidating restraint that
prohibited employee from providing services to former customers who sought him
out without any solicitation].)

St. Jude, though, lost on its attempt to enjoin Biosense from enforcing its non-compete agreement against all employees in California. The court said that St. Jude had no standing under the UCL to enforce an injunction in favor of plaintiffs not before the court.

Biosense cross-claimed against St. Jude for "raiding" by hiring Dowell and other employees. The Court of Appeal again affirmed summary judgment against Biosense, holding there was no evidence of unlawful conduct by St. Jude, which by default has the right to hire away St. Jude employees.

Biosense argued St. Jude used similar agreements to prevent competition by its own former employees. Therefore, Biosense reasoned, St. Jude came into court with "unclean hands." No sale. St. Jude's alleged unfair practices with respect to their own employees did not go to the heart of the matter with respect to Dowell's suit against Biosense. Therefore, unclean hands did not apply.

So, lots to read. Bottom line, though, is that a non-solicit probably is not going to be enforced except as a remedy for trade secret violations, not as a prophylactic measure where there is no finding of actual or threatened misappropriation under the UTSA. The agreement here was too broad, but there does not seem to be much room left for clauses that prohibit solicitation merely because an employee is exposed to "confidential" information and might use them some day.

The case is Dowell v. Biosense Webster, Inc. and the opinion is here.

No More Non-Solicits?

Looks that way. Mostly. The Court of Appeal held in The Retirement Group v. Galante, opinion here, that contractual agreements not to solicit customers are not enforceable because of California's unfair competition statute, Bus. and Prof. Code section 16600.

TRG sued a bunch of ex-employees for stealing trade secrets and violating a non-solicitation agreement. TRG obtained a preliminary injunction and the employees appealed. The Court of Appeal in essence held that if a former employer proves misuse of trade secrets under the Trade Secrets Act or Unfair Competition Law, the former employee may be enjoined from misusing those trade secrets. But no court can enjoin a non-solicitation clause merely because it appears in an agreement. Here is the money quote:

We distill from the foregoing cases that section 16600 bars a court from specifically enforcing (by way of injunctive relief) a contractual clause purporting to ban a former employee from soliciting former customers to transfer their business away from the former employer to the employee's new business, but a court may enjoin tortious conduct (as violative of either the Uniform Trade Secrets Act and/or the Unfair Competition Law) by banning the former employee from using trade secret information to identify existing customers, to facilitate the solicitation of such customers, or to otherwise unfairly compete with the former employer. Viewed in this light, therefore, the conduct is enjoinable not because it falls within a judicially-created "exception" to section 16600's ban on contractual nonsolicitation clauses, but is instead enjoinable because it is wrongful independent of any contractual undertaking.

Recent decisions have said as much, albeit less concisely. The point is that a non-solicitation agreement is now legally unnecessary to create substantive rights because the Trade Secret Act does not require such an agreement for an employer to come within its provisions. However, a non-solicitation clause, which is usually found in a confidentiality agreement, may be part of the evidence showing that the employer takes reasonable measures to maintain the secrecy of trade secrets. Therefore, it may not be a good idea to abandon such contractual provisions.
At the same time, it remains to be seen whether such clauses will be attacked as "overreaching" and, therefore, unfair competition.

Court of Appeal Upholds Attorney's Fees Award in Bad Faith Trade Secrets Litigation

If you sue a former employee for violating the Trade Secrets Act, you have to have a case. That means you have, at minimum, (1) a bona fide trade secret and (2) evidence of actual or threatened "misappropriation" of the trade secret. If you are missing evidence of one or more elements, and you're just suing a competitor, it can be an expensive mistake. That's what FLIR Systems, Inc. found out when it sued former employees who were trying to set up a competing business.

Here are the facts from the opinion:

Indigo manufactures and sells microbolometers. A microbolometer is a device used in connection with infrared cameras, night vision, and thermal imaging. A significant portion of Indigo's technology was created by respondent William Parrish. FLIR manufactures and sells infrared cameras, night vision, and thermal imaging systems that use microbolometers. In 2004, FLIR purchased Indigo for approximately $185 million, acquiring Indigo's patents, technology, and intellectual property. Parish and Fitzgibbons were shareholders and officers of Indigo before the company was sold.
After the sale, they continued working at Indigo.

In 2005, respondents decided to start a new company to mass produce bolometers
and gave notice that they would quit Indigo on or about January 6, 2006. The new company was based on a business plan (Thermicon) developed by Fitzgibbons in 1998 and 1999 when he was self-employed.

Before leaving Indigo, respondents discussed allowing appellants to participate in
Thermicon. Respondents proposed outsourcing bolometer production to a third party. The production startup time would be quick, assuming respondents could acquire technology licenses and intellectual property from a third party. Respondents offered FLIR a non-controlling interest in Thermicon. FLIR rejected the offer and wished respondents success in the new endeavor.

In early 2006, respondents entered into negotiations with Raytheon Company to acquire licensing, technology, and manufacturing facilities for Thermicon. Respondents assured appellants they would not misappropriate Indigo's trade secrets and that the new company would use an intellectual property filter similar to the one used at Indigo to prevent the misuse of trade secrets.

Fearful that the new business would undermine FLIR's market, appellants sued for
injunctive relief and damages on June 15, 2006. The action was premised on the theory that respondents could not mass produce low-cost microbolometers based on the Thermicon time line without misappropriating trade secrets.

Upon learning of the lawsuit, Raytheon Company terminated business discussions with respondents. On August 15, 2006, respondents advised appellants that they
were not going forward with the new business.

But FLIR sought an injunction against its former employees precluding them from setting up a new business in which they would engage in the same business as FLIR. The trial court found, and the Court of Appeal agreed, the injunction claim at least implicitly was based on the theory that former employees would "inevitably" use or disclose trade secrets in setting up a new venture. Unfortunately for FLIR, the inevitable disclosure doctrine is not recognized in California.

So, this case is about whether attorney's fees should be awarded in favor of the former employees. The fees were over $1 million, with over $200k more in costs.

In trade secret cases, the defendant can recover fees if the court in its discretion finds the plaintiff prosecuted a claim in bad faith. The standard for bad faith requires proof of two elements: "(1) objective speciousness of the claim, and (2) subjective bad faith in bringing or maintaining the action, i.e., for an improper purpose. "

Here, the "objective speciousness" was premising the action on the inevitable disclosure doctrine. the "subjective bad faith" was established by evidence that FLIR brought the claim to stop a potential competitor from opening up shop. The court of appeal discussed a number of additional factors that supported bad faith, including a settlement demand with irrelevant conditions, the failure to dismiss the claim once it was obvious it lacked merit, and a number of other facts that should be guidance for the bar.

The case is FLIR Systems, Inc. v. Parrish and the opinion is here.

Cease and Desist Letter Gets SLAPP Protection

Here's the way the court put it:

An employer fired one of its employees amid allegations that the employee had misappropriated customer lists and solicited his employer’s customers to start a
competing business. Several months before litigation was commenced by the employer against its former employee, the employer’s attorney drafted a letter to the employer’s customers that accused the employee of breach of contract and
misappropriation of trade secrets, and that “suggest[ed]” to the customers that, to avoid potential involvement in any ensuing litigation “as a material witness, or otherwise,” the customers should not do business with the former employee. The employee commenced a defamation action against the former employer. We hold that, in the circumstances of this case, the lawyer’s letter to the customers was a “writing made in connection with an issue under consideration or review by a . . . judicial body” (§ 425.16, subd. (e)(2)) and therefore covered by the anti-SLAPP statute because the letter directly related to the employer’s claims against the employee, and the employer was seriously and in good faith contemplating litigation against the employee.

Of note, the court also ruled that it made no difference that the lawyer sent the letter to its customers rather than just the former employee. The court also said that the litigation privilege was irrelevant to whether the communication satisfied the requirements of the anti-SLAPP statute. However, the litigation privilege would be relevant to the second prong of anti-SLAPP analysis - the plaintiff's chance of success on the merits.

This case is good news for practitioners who send out "cease and desist" letters to former employees accused of violating restrictive covenants. It's also good news for employers, as they could have found it harder to find lawyers to send out such letters if the former employee could freely sue for defamation.

The case is Neville v. Chudacoff. The opinion is here.

Court of Appeal Rejects Trade Secrets Claim

The Court of Appeal in Yield Dynamics, Inc. v. Tea Systems Corp. undertook a detailed analysis of Yield's claims for misappropriation of trade secrets, asserted against a former employee. The court upheld the trial court's conclusions that Yield had failed to establish (1) the misappropriated items were properly defined as "trade secrets" because there was no independent economic value associated with their secrecy (2) damages. The court also upheld the trial court's decision in favor of the defense on a number of other claims, including breach of contract, fraud, and unfair competition. This case provides a useful roadmap to litigants attempting to establish trade secrets status.

DGV