Recent events highlight the need for companies to review their existing employment contracts and other agreements to ensure the protection of their confidential information, trade secrets, and other important intellectual property.
Mass layoffs in the technology industry resulting in high-level employees seeking new employment and newly proposed federal legislation banning non-compete restrictive covenants create a heightened risk for companies that are not taking steps to ensure that their confidential information, trade secrets, and other intellectual property are adequately protected from competitors.
The continued downsizing of technology companies in 2024, such as large layoffs at Google, Amazon, Microsoft, and Fisker, has released hundreds of employees into the work force, many of whom likely had access to the confidential information and trade secrets of their former employers.
The former employees, in turn, will likely join existing competitors or start their own businesses likely to compete with their former employers. Companies should be rightly concerned that their former employees will walk down the street and use important, proprietary information against them.
To add to the risk, the Federal Trade Commission (FTC) recently proposed a rule banning non-compete restrictive covenants in employment agreements. Non-Compete Clause Rule, 89 Fed. Reg. 38342-01, at *38342 (May 7, 2024) (to be codified at 16 C.F.R. pt. 910 & 912). The proposed rule, regardless of whether it goes into effect (of which there is a divergence of opinion), does not apply to existing non-compete restrictive covenants with high-level employees, including C-suite professionals.
If codified however, the proposed rule immediately invalidates non-compete restrictive covenants currently in effect with lower level employees and bars non-compete restrictive covenants going forward for all employees—even high level employees.
As a result, a primary means that companies currently use to protect their confidential information, trade secrets, intellectual property, and other business interests could evaporate if the FTC proposed rule goes into effect.
Critically, the proposed rule does not prevent restrictive covenants that are limited to the restriction of the disclosure of confidential information, trade secrets, and other intellectual property. In fact, the Federal Register justification for the new rule highlights how these narrower restrictions better balance employer business interest with employee freedom.
The proposed rule tracks the trend in courts around the country that are taking a closer look at non-compete restrictive covenants to ensure they are not overbroad. Companies relying solely on outdated non-compete restrictive covenants are likely opening themselves up to disappointment.
Before getting to how companies can protect confidential information and trade secrets, one should ask what information is at issue? Intellectual property falls into four broad categories: patents, trademarks, copyrights, and trade secrets. Of these four, trade secrets are kept from the public at large. Generally speaking, a trade secret protects: (i) information; (ii) that has economic value from not being generally known by others; and (iii) is secret.
Trade secrets are often a formula, process, device, or compilation regularly used in business. Factors considered by courts in determining if something is a trade secret include: (i) the value of the information to a company and its competitors; (ii) the extent of knowledge of the information to those within a company and the actions taken to guard and limit its dissemination; (iii) the amount of money spent in developing the information; and (iv) the difficulty for others to obtain or create the information.
A trade secret is entitled to protection for as long as it is secret. Confidential information is information important to a company but that does not rise to the formal level of a trade secret, such as the majority of customer and pricing lists. Companies make efforts to protect this information from competitors for obvious reasons, but the development of trade secret law has kept it from consideration as a formal trade secret.
Because trade secrets and confidential information rely on a lack of public knowledge, companies must be vigilant in maintaining the secrecy of this information to preserve its value.
Historically, this has been accomplished through employment agreement restrictive covenants—like non-compete agreements—and non-disclosures agreements (NDAs). The combination of increased employment turnover and disfavor of non-compete restrictive covenants puts renewed focus on how companies can protect their intangible intellectual property.
Astute companies will include with their traditional non-compete restrictive covenants a covenant restricting the disclosure of confidential information. These confidential information restrictions typically bar a former employee from taking or using the confidential information of the company during and after employment.
Confidential information provisions are usually broad and state something to the effect of: "employee shall not use or disclose, except for the sole benefit of or with the written consent of the company, any confidential information relating to the business, processes or products of the company." As one can see, the definition of confidential information in such a covenant tracks the definition of a trade secret.
In addition to restrictive covenants barring the disclosure of confidential information, employers sometimes also use NDAs for specific projects or specific trade secrets. NDAs are generally more detailed than restrictive covenants as to what constitutes the trade secret or other confidential information being protected.
The trade secret is typically not described extensively in such agreements, but it should be described in sufficient detail so as to allow all parties to know and understand what information is intended to be protected.
Using the famous example of the Coke formula trade secret, an NDA for someone with access to the formula would not identify the actual formula but, rather, it would refer to "the formula for Coke." In the technology context, an NDA could refer to a "system for generative artificial intelligence using open source information" without describing the technical details.
Again, the idea is to identify a specific trade secret or category of confidential information in an amount of detail to reasonably inform the parties as to what information is intended to be safeguarded without disclosing the actual secret.
What are the five best practices for companies to use to protect their confidential information, trade secrets, and other intellectual property in light of the current environment?
First, include specific restrictive covenants preventing the disclosure of confidential information in employment contracts. The FTC's proposed rule banning non-competes is limited to non-competes. The proposed rule is explicit in allowing the restriction of confidential information, and even encourages the use of these more specific restrictions. To the extent provisions barring the disclosure of confidential information are not already in a company's employment agreements, they should be added going forward.
Second, companies should adopt policies requiring employees to sign NDAs for specific projects and trade secrets to which they are exposed. Because NDAs are more specific than generic confidential information restrictions, they offer better protection for specific pieces of confidential information and trade secrets. If a former employee takes confidential information or a trade secret identified in an NDA, they will have a difficult time arguing they were not aware of the protected status of the information.
Third, companies should limit access to confidential information and trade secrets to only those employees that need to know the information. One of the important factors in determining whether certain information is confidential or a trade secret is which employees have access to the information. Limiting access to only those that need the information to perform his or her job duties is crucial. If many employees have access to the information that do not need it to perform his or her job duties, a court is unlikely to conclude that the information provides economic value from secrecy.
Fourth, companies should ensure its confidential information and trade secrets cannot be disseminated easily to those to whom it is not directly disclosed. In addition to limiting the individual employees exposed to confidential information and trade secrets, companies should also take steps to limit the ease of disclosure of the confidential information or trade secret. Restrictions can include password protecting access to electronic information, not permitting physical devices to leave certain areas, and any other restriction that makes sense based on the particular form of the confidential information or trade secret.
Fifth, companies should designate confidential information and trade secrets as "confidential" in a manner that makes the most sense based on the particular circumstances. Making it clear to people exposed to confidential information and trade secrets that the information is supposed to remain secret is another factor courts will look at if an issue arises where a company needs to assert its rights against a former employee or competitor. A former employee or competitor will have a hard time claiming ignorance of the confidentiality of any misappropriated information that is marked "confidential" or something similar.
In order to avoid the uncertainty in the marketplace, companies should review their existing agreements to ensure they are adequately protecting their valuable intellectual property. Proactive companies will make sure they are not relying on out-of-date covenants that may run into trouble if challenged in court. They will focus on specific, tailored agreements to protect information that is only disclosed to those who actually need it. By using a combination of strategies, companies can ensure that their confidential information and trade secrets stay secret and valuable indefinitely.
Originally published by New York Law Journal.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.