In a significant decision that was handed down on April 20 in MSCI Inc., Financial Engineering Associates, Inc., et al. v. Jacob, Axioma, Inc., et al., New York County trial justice Shirley Kornreich held that a software company claiming that one of its competitors had wrongly misappropriated their trade secret software that is sold to their clients from the global financial sector, was precluded from seeking further discovery from defendants until they identify, with reasonable particularity, which of the component parts or sequencing of their source code are not (1) publicly available information, (2) commonly-used algorithms, or (3) third-party licensing.

“Why is this significant?” you ask.

Because the court held that in the context of a trade secret theft case, the defendant was inherently entitled to priority of discovery, i.e., that the defendant did not have to disclose anything about its own technologies until the plaintiff first disclosed the specific trade secrets it claims were misappropriated, or stolen.

The Court’s reasoning was compelling: “[I]t would be unfair to allow plaintiffs to discover [defendant]‘s trade secrets prior to revealing their own. Should defendants remain in the dark as to the explicit portions of the source codes that plaintiffs deem to be trade secrets misappropriated by defendants, plaintiffs, once privy to [defendant]‘s source codes, could tailor their theory of misappropriation to [defendant]‘s work.”

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Sometimes, uphill battles must be fought because there really isn’t a viable second option; the stakes are too high, and allowing the status quo to remain undisturbed without a fight can mean forfeiting your business. And that’s precisely what MGA Entertainment did in its prolonged fight over the proprietary intellectual property rights to the Bratz dolls. (It also appears that a central element to the case was a claim that a former Mattel employee who left to work for MGA Entertainment had breached his fiduciary duty to Mattel in bringing the Bratz concept to MGA).

As I noted nearly two years ago in  “Infingers Beware: Court Upholds $100 Million Verdict in Bratz Dolls Case,” appellate courts tend to give great deference to jury verdicts, and therefore, the likelihood of an appeals court throwing out a jury’s verdict was unlikely. But MGA really had no choice. Allowing this verdict to stand may have meant the ruination of their business.

So they fought. And, according to a news report from earlier today, not only did they get that jury’s verdict thrown out, but a second jury found in their favor, awarding MGA Entertainment $88.5 million in damages due to Mattel’s wrongful actions.

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Here’s the general rule in New York: if an employee is fired without cause, any non-compete agreement he or she signed will no longer be enforceable. And the reason for this is fairly straightforward – because once the employer is no longer keeping up their end of the contract, the employee shouldn’t be forced to do so (in legalese, “there no longer exists the mutuality of obligation on which the covenant rests”).  The seminal case in New York addressing the issue of what constitutes termination for cause, and what constitutes termination that is without cause in the context of non-compete agreements (a.k.a. “restrictive covenants”) is Post v. Merrill Lynch, Pierce, Fenner & Smith Inc., 48 NY2d 84, 87 (1979). For more information on that topic, please see “When NY Courts Will Uphold Non-Compete Clauses – No Matter How Unreasonable,” and “When NY Employers Condition Receipt of Post-Employment Benefits on a Non-Compete.”

But what about if the employee is terminated for cause? Will the non-compete be enforceable then under New York law?

The short answer is this: Yes.

Although there are relatively few reported decisions on this particular issue, both New York State and Federal trial courts have read the Post v. Merrill, Lynch decision to permit enforcement of non-compete clauses against employees that were terminated for good cause. See, e.g., Gismondi, Paglia, Sherling, M.D., P.C. v. Franco, 104 F.Supp.2d 223 (S.D.N.Y. 2000); MTV Networks v. Fox Kids Worldwide, Inc., 1998 WL 57480 (Sup.Ct. NY Cty. 1998).

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Two days ago, the New York Times reported on a lawsuit that was brought by California-based Cybersitter, claiming that two Chinese software companies had engaged in unfair competition, and misappropriated, or stolen, thousands of lines of the code contained in its proprietary software to develop Green Dam, a type of software designed to block users from viewing unwanted websites.

The significance of this particular case lies in its scope, however: apparently, the Chinese government mandated that Green Dam Youth Escort be included with all computers sold in the country, thereby forcing several prominent computer manufacturers, including Acer, Lenovo and Sony to include this software with its computers. According to the lawsuit, these manufacturers continued to market and sell their computers with the software even after they were made aware that the software was indeed pirated.

The lawsuit seeks more than $2 billion in damages, representing the amount of money Cybersitter would have earned had all of these users paid for their software.

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The fact pattern is all too familiar:  D enters into a contract with small business P to jointly develop certain products, and then not only breaches the contract with P, but then breaches his fiduciary duty to P and uses the proprietary information that he gained during their alliance to try and poach P’s proprietary client database. Moreover, in the process of downloading P’s confidential and proprietary information, D damages the information that remained on P’s hard drive, which forces P to expend thousands of dollars on an expert IT guy to retrieve that data in usable form.

When P confronts D about all that has transpired, D looks P right in the eye, and says “Go right ahead and sue me if you like; I’m judgment-proof. Even if you win, your award will be worthless, because I’ve set up more shell corporations than you can count, and you’ll never get through them to me.” So, here’s the big question: Is D right, or is there something that can be done to effectively fight D?

www.youtube.com/watch?v=qdvSBxFv6ko

As suggested by the title of this article, the answer is yes, under certain circumstances, you can pursue D individually by “piercing the corporate veil.” This is no simple task, however, for in order to prevail on such a claim, the plaintiff will be required to prove not only that D individually exercised total control over the company to the extent that he was effectively the alter ego of the company, but that he did not maintain corporate formalities. A practical example of this would be where he commingled funds, treating the company’s money as his own personal funds and vice versa, or the failure to maintain separate corporate accounts or file corporate tax returns.

Importantly, in a cautionary opinion that was handed down by New York’s Appellate Division, Second Department on Juy 28, blanket allegations that the individual defendant and his company are one and the same will not suffice; the party seeking to pierce the corporate veil must also allege specific facts demonstrating that the defendant had misused the special protections afforded by the corporate form (i.e., showing how these companies were really a sham), and thereby he should be deemed to have forfeited those privileges.

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Trade secret theft is not just a civil monetary matter that is derived from a breach of fiduciary duty or unfair competition. It has criminal implications as well.

In a story that was published earlier today, a former Goldman Sachs vice president was arrested by the FBI based upon this employee’s alleged trade secret theft, more particularly, claims that he stole Goldman’s proprietary automated trading codes and uploaded them to a remotely located computer server.

According to the FBI, this employee downloaded and then transferred this proprietary information from his work computer after accepting a job offer at a different company, and then tried to conceal his actions by deleting the history of his actions from his desktop computer.

He is currently out on bail.

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I came across earlier this evening entitled “Report: Business Risk of Fraud, Corruption Up Amid Economic Crisis,” which, true to its title, squarely blames the global economic recession for an uptick in employee theft, corruption and dishonesty in the business environment. A careful reading of the article reveals that the holes in the argument advanced by the author are large enough to drive an 18-wheeler through it, however.

First, and as a threshold matter, the article does not even attempt to prove – scientifically or otherwise – a link between the economy and a breach of fiduciary duty.

Ironically, the prime example cited by this article - a crackdown on wealthy companies who engaged in unfair competition by paying out hundreds of millions of dollars in fines for illicitly attempting to secure lucrative oil contracts through bribes – does not support its theory that theft and dishonesty are being perpetrated by the desperate.

In short, as noted in my earlier blog post “Study Claims That Employee Theft Rises as Economy Worsens,”  it seems that people are looking for a convenient scapegoat for unethical behavior when they should be looking in the mirror.

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I recently had an experience where an extremely costly commercial lawsuit about a claimed breach of contract and misappropriation of proprietary intellectual property by a fiduciary of a new york small business was avoided. Although I would like to say that the lawsuit was rendered completely moot, and averted entirely, to be completely candid, my efforts weren’t that successful; however,  they did have the positive effect of making the lawsuit far more limited in its scope, and thereby will likely save both sides significant sums of money on their legal fees. (Yes, believe it or not, there are some of us who actually still take pride in the amounts of money we manage to save for our clients.) So what was the magic formula?

The answer is relatively straightforward: since we believed that our position was especially strong under New York law, particularly given the language in the parties’ contract which gave sole and exclusive ownership of all intellectual property to the LLC, we simply showed the other side a draft of the papers we intended to file with the Court, and gave them a day to mull it over. In response, the other side’s attorney contacted me, and began open and frank discussions about how we could resolve our clients’ differences.

Consider two alternative scenarios:

Scenario #1: we could have merely threatened suit, but as you probably know, most threats of lawsuits are not taken very seriously, and therefore, I’ve found, usually is just a waste of time.

Scenario #2: : we could have immediately filed suit and sought injunctive relief from the Court, and thereby not only incurred thousands of dollars in Court filing and attorneys’ fees for both sides, but this would have almost certainly poisoned the atmosphere between the parties, and made the resolution of this particular issue far more costly and difficult than necessary.

The moral of the story is obvious: if you have a strong and well-reasoned position, it is definitely worthwhile to spend the time and money to prepare legal papers that reflect this, and to let the other side know it. Everyone knows that’s the heavy lifting, and that it takes virtually no effort to walk (or electronically file) those papers over to the court. Taking this important first step may just save you loads of time, aggravation and money.

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Over the last several months, I’ve noticed an unmistakable trend: when people that I encounter in the small business litigation context feel that they’ve been wronged, particularly in the context of a breach of contract or breach of a fiduciary duty, they staunchly refuse to settle their case, even if it makes perfect economic sense. In fact, I’ve been told on more than one occasion, “Jonathan, I’d rather pay you $50,000 than pay them one penny.”

I don’t think there is any one factor or cause for this phenomenon, and I doubt that it’s because some sort of mystical or mythical pendulum has swung in a different direction, and people have suddenly decided to stick to their principles. Rather, I suspect that the economic downturn we are in has made people more protective of their hard-earned money, and less likely to pay out a settlement because unlike days and years past, there is a likelihood that these people will not recoup (or at least not easily recoup) that settlement from their ongoing business.

But when a client takes an intractable stance, it can put the attorney in a difficult position, and for one simple reason: virtually no case is a “slam dunk.” Every case has difficulties, and the small business lawyer’s job is to balance the zealous advocacy of his client’s position with the need to view the case objectively. Otherwise, the lawyer is doing his client a great disservice; he is reduced to being a mercenary, and is no longer a valued counselor.

The cold, hard truth is this: in a court of law the most important issue is what you can reasonably prove – it is not whether you subjectively believe you are right or wrong.  Once you accept that fact, the next steps flow logically: the smart business owner will not want a mere “hired gun”; rather, he will want someone who will be straightforward and tell him what the problems are with his case based upon an objective evaluation of the evidence. In this manner, the small business owner can make an intelligent assessment whether the case should be tried, or to assess what a fair and just settlement should be.

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A trade secret theft lawsuit that was recently filed in upstate New York by the Price Chopper chain store illustrates rather vividly how having your small business’s trade secrets – in this case pricing information – can dramatically impact your bottom line.

In its initial suit papers, Price Chopper claims that competitor Giant Market would have someone consistently and surreptitiously obtain copies of Price Choppers’ fliers that would announce their special sale items, and then undercut those specific sales items in their own advertisements, thereby depriving Price Choppers’ sales of any measurable impact, and giving Giant Market an unfair competitive advantage.

If true, the details set forth in Price Choppers’ complaint are indeed tantalizing, and if this case were ever to go to trial, would certainly have a great deal of jury appeal. For example, Price Chopper apparently has videotape of someone sneaking into the warehouse where their pre-publication fliers were stored, and then handing them to a Giant Market employee. And it appears that they have videotape of this occurring on several occasions.

One important tidbit to glean from this story is this: trade secret protection is not limited to proprietary technology and formulae; if your product marketing and pricing took time, effort, research and expense to develop, and is not readily available to the general public, it can be applied to that as well.

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