Startup Law 101 Series – What Every Founder Should Know About Trade Secrets

Here are (mostly) practical suggestions distilled from over 25 years of working with founders and their startups when it comes to trade-secret and related wrongs.

Here are some rules of thumb.

1. If it feels dirty, don’t do it.

Trade secret violations are generally considered to be a form of unfair competition. You can get into technical points as you like, but if what you are doing looks or feels dirty, watch out!

That is how a court will see it as well. Once you get to that stage, all a judge needs to nail you is a legal hook upon which to hang the case. At that point, as they say, stick a fork in it. Trade secret law is full of gray areas. If you look like a stinker, you are likely already dead, legally speaking.

Example: you hack a competitor’s site and rip off the code. Blatant. Indefensible. Maybe criminal. Almost certainly a trade secret theft, among other potentially serious legal wrongs.

OK, that one’s pretty obvious.

Try this. You did sales for your previous employer. You leave and start your own company. You target your old customer base with a price-shaving campaign made possible only by your knowledge of your old boss’s proprietary pricing used with those customers.

How do you think you will fare when that one comes before the court?

Remember, trade secret theft is ultimately a species of unfair competition. If you use dirty tactics to gain or use information giving you competitive advantage, you greatly enhance your risks of being found to violate trade secret laws.

2. Don’t be disloyal to your employer.

Your employer pays your salary. By law, that means you as an employee owe the employer something in return.

Specifically, as an employee, you owe what is called a fiduciary duty to your company. That is a term that applies to trustees of a trust managing the affairs of minors. And to attorneys entrusted with confidential affairs of their clients. And to directors sitting on the boards of corporations. It means you have the duty to act in the highest good faith in performing your duties for the benefit of your employer.

If it makes your blood boil to think of a trustee stealing funds from beneficiaries, or of a lawyer betraying the interests of a client, or of a director taking a bribe from the competition, then it should make you pause to think that you as an employee would act to cheat your employer while doing the duties for which you are paid. That is certainly how the law sees it.

If, then, in your single-minded desire to launch your venture, you approach your customers while still employed by your old boss and, while writing up your sales order, soliciting those customers for your new business, you are asking for it.

That particular act may not be a trade secret violation as such but, since legal rules tend to travel in packs, it usually is part of a pattern of misconduct by a meretricious employee that the law will ultimately condemn as unfair competition, trade secret misappropriation, or breach of fiduciary duty.

If you are ensnared by all this, the label won’t matter much. You will be in trouble.

What about moonlighting?

Yes, for the most part, you can do it as long as you do it by the rules, which likely will vary somewhat from state to state. In California, you can generally do things on your own time and without use of your employer’s resources in a reasonably safe manner.  In general, whatever intellectual property you create through such off-hours efforts will belong to you and not to your employer.

But not if what you do falls squarely within the same activities you do as an employee.

In other words, you cannot be chief architect on a project for your employer and then later claim that some part of the technology used (or that could have been used) in that project belongs to you separately because you somehow developed it during off hours using only your own resources.

The California shield does not extend that far. See a good business lawyer for details.

Along this same line, you might easily get into trouble if your off-hour efforts on behalf of a startup tie squarely into your parallel duties as an employee to your employer. You can legitimately do such off-hours work in general, but make sure it is in an unrelated area.

Watch out too for those employer policies. I have seen a large employer take its former employees through several millions in legal expense just to set a company-wide example that it would not tolerate those who violate policies against moonlighting. Of course, an employer might care a lot less if your position is not high up in the company. If you are an executive, though, you should be extra cautious to abide by applicable policies.

Can you launch your startup while still employed?

Generally, you can, so long as you do not violate your duties as an employee in doing so. You will get into trouble if you try running a parallel business that competes with that of your employer. Or if you do anything to actively divert business or other resources from your employer to your side business. Or if you do anything else that creates a conflict of interest between what you do and what you owe to your employer.

If your startup is done on your own time, is in an unrelated field, is done without any use of employer resources, and is done in a way that does not compromise your duties as an employee, it is generally safe to launch it even if you are still employed.

If your new venture is potentially competitive with your employer, can you do anything while still employed with your company in preparing to launch it?

The law (California law anyway) says that you generally can take steps that are purely preparatory. For example, you might establish an entity that serves as a placeholder and does not conduct any form of activity. In theory, this might be done consistent with your duties as an employee. In practical terms, though, forget it. The minute you do so, you will be creating a paper trail by which your employer will be able to say that you were, while employed, actively conniving to do all sorts of wrong things in furtherance of your new business. The only generally safe rule in this area is to leave the preparatory steps to the day you resign your employment.

3. Don’t forget that trade secrets can be nebulous.

A trade secret is not just programming code that is carefully guarded by an employer.

Nor is it limited to technical information and intellectual property.

It is any form of confidential, proprietary information that does or may give to an employer some form of significant competitive advantage.

Note: it is confidential. That means it must be secret, i.e., known only within the company by those who have a need to know and who are obligated to keep it secret. This is why employers require their employees to sign nda-style documents. To ensure that their trade secret information is treated as such by the law, they need to take reasonable steps to guard its confidential nature.

Note further: it is proprietary. The word comes from a great old Latin word, proprius, which means “one’s own.” To be protectable in the trade-secret sense, information must effectively belong to the employer. It can’t be free floating or generally known. Thus, everybody in a given field may know all about who the main customers are. But, if your employer has established, long-time relations with those customers, and a database full of information about the particular buying needs of those customers, about whom to contact for which purpose and how, about price negotiations, and the like, that information is not generally known. Moreover, the knowledge of these things helps your employer in relation to other competitors. They would all love to have it, and they don’t. You can bet that such information will be treated as proprietary, that is, as belonging peculiarly to your employer in the sense that you can’t just walk in as an employee and take it for your own use.

The names of the customers may be publicly known. The database of information about those customers is not. It is, in effect, a form of intangible property “owned” by the employer. When you take it and use it for an improper purpose, you are basically stealing property from your employer.

Conversely, your employer may have information that is important to its business but that also may be well-known to the industry at large. Key algorithms, key design techniques, and so on are not proprietary if they represent industry standards or practice. Such information may be valuable but it is not peculiarly valuable to this employer alone. It is something that one can learn through many sources. In other words, it is not proprietary. Your employer does not “own” any special rights to it.

Note finally: it is information that gives your employer a significant competitive advantage. Any information can be kept secret. My diary recounting my daily trips to the store can be kept secret. If I am your boss, and you steal that diary, you might invade my privacy but you will not be stealing any trade secrets (unless I have business information in it). It is confidential. It is proprietary (it belongs to me alone). I may even keep it at my place of business. But the information in it is not such as would give my business any form of competitive advantage. Even if information does related to the business, it must be information of sufficient importance that it adds in a non-trivial way to the ability of the business to compete effectively. It cannot be non-material or trivial information. It cannot be incidental information touching the edges of something that may be important. It must give the employer a material advantage in the marketplace.

To sum up, to qualify as a trade secret, information must be kept guarded as confidential, it must be proprietary (belong distinctly) to your employer, and it must be competitively valuable.

If it is, it is a trade secret. If it fails to meet any one of these criteria, it is not.

So long as the criteria are met, however, the type of information that might qualify as trade secret information is basically open-ended.

Don’t make the mistake of assuming that only narrow, technical information qualifies for trade-secret protection.

4. Don’t forget the risks of the legal process – you might get hammered even though you did nothing wrong.