Keeping Trade Secrets Secret

According to a recent survey conducted by Symantec Corporation (2009), 59% of individuals who were laid off, fired, or quit their jobs admitted to misappropriating company data.  Of those individuals who misappropriated data, a staggering 67% used the data to leverage a new job.  In a time where information can be a company’s most valuable asset, the misappropriation of information by rogue employees poses a very real and significant threat.  While there is no cure-all to prevent information theft, a company can decrease the risk of misappropriation by implementing trade secret policies and procedures.

Trade Secrets?

Generally, a trade secret is any information that makes a company money by virtue of not being publicly know.  Because a trade secret is a legally-recognized asset, one can sue for misappropriation of that asset under a number of common law theories.   In Illinois, a trade secret is entitled to further protections  if it meets the requirements of the Illinois Trade Secrets Act (“ITSA”).  Under ITSA, a trade secret must be:

information, including but not limited to, technical or non-technical data, a formula, pattern, compilation, program, device, method, technique, drawing, process, financial data, or list of actual or potential customers or suppliers, that: (1) is sufficiently secret to derive economic value, actual or potential, from not being generally known to other persons who can obtain economic value from its disclosure or use; and (2) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy or confidentiality.

In deciding whether information is entitled to protection under ITSA, Illinois courts additionally consider: (i) the extent of measures taken to guard the secrecy of information;  (ii) the extent to which the information is known outside of the company’s business; (iii) the extent to which the information is known by employees and others involved in the company’s business;  (iv) the value of the information to the company’s business and to its competitors; (v) the effort and money expended in developing the information, and (vi) the ease or difficulty with which the information could be properly acquired or duplicated by others.  See Liebert Corp. v. Mazur, 357 Ill.App.3d 265 (1st Dist. 2005).

There are a number of benefits to trade secret protection under ITSA.  One such benefit is the ease of obtaining injunctive relief to prevent actual or threatened misappropriation of information.  Additionally, ITSA allows for an award of damages measured in terms of reasonable royalty for the unauthorized disclosure/use of a trade secret.  Such an award is significant if one cannot demonstrate actual damages or unjust enrichment resulting from the misappropriation.  Finally, unlike other forms of IP protection, like patents, trade secrets remain protectable indefinitely, e.g., Coca-Cola’s secret formula.

How to Protect Trade Secrets

Regardless of whether a trade secret qualifies for the extra protection of ITSA, there are a number of measures a company can employ to generally help protect its trade secrets.  These measures include:

• Written confidentiality policy — at minimum, the policy should: (i) define exactly what information is confidential, (ii) state that all confidential information is the company’s property, (iii) provide a procedure for returning any confidential information at employee’s termination, and (iv) require an employee signature acknowledging the receipt of confidentiality policy and acceptance of its terms.
• Limited access to physical and electronic confidential information — any given employee should only have access to the information needed to perform his duties (e.g. one’s secretary, salesperson, and financial manager each work with different sets of information, and do not necessarily need access to all the company’s confidential information). For physical information, use locks, security codes, “confidential information” labels, etc.  For electronic information, use passwords on computers and specific files, limited networks, etc.
• Post-employment restrictive covenant — separate agreement for key employees to sign at termination.  The signed agreement should acknowledge that (i) employee returned all confidential information to company upon termination, and (ii) employee has a continuing obligation to keep trade secrets confidential.
• Preservation of employee’s computer activity in months leading up to termination — this includes emails, files on the hard drive, etc.

In Conclusion

Trade secrets are only valuable so long as they remain secret.  While laws like ITSA provide trade secret owners with a certain degree of protection, they can not undue damage that has already been done.  For this reason, it is extremely important to take preventative measures to protect one’s trade secrets.

If you have any questions regarding the protection of trade secrets, please call one of our experienced attorneys at Acumen Law Group.

Authored by Dominika Szreder Fard, Esq.

Contracts by Email: Writer Beware

Important business transactions are regularly decided and agreed upon via email these days.   Email is instantaneous, easy, (mostly) secure, and with the proliferation of smart phones, allows big decisions to be made as quickly as one can type on her Blackberry.  Despite the obvious advantages of  email in business, there is a very real danger of inadvertently binding oneself to a contract through informal email exchanges.  If an email or chain of emails contains an offer of a deal by one party, and the other party responds by email accepting the deal, then there’s a good chance that a contract has been formed, despite the fact that no signatures are exchanged (and even if one party had no intention of entering into a contract in the first place).

A Cautionary Tale from New York

A court in New York recently recognized that a series of emails exchanged between two parties constituted a valid modification to one party’s existing employment agreement.  Stevens v. Publicis, S.A., et al., 50 A.D. 3d. 253, 854 N.Y.S. 2d 690 (N.Y.A.D. 1 Dept. 2008).  Specifically, one of the emails exchanged between the parties included a detailed proposal of employment duties, and it was followed by an email from the other party accepting the proposal.  Stevens, 50 A.D. 3d 253.   The court found that the parties had agreed “in writing” to modify one of the parties’ duties under the employment agreement, and the emails were “signed writings” because they included the parties’ names and signature blocks at the end of their emails.  The court reasoned that the parties’ names signified an intent to authenticate the contents and satisfied the requirement of the employment agreement that any modification be signed by all parties.

Another Case In Massachusetts

In another case, the court  bound two parties to settlement terms that were exchanged via email by the parties’ respective attorneys.  The first email, written by one party’s attorney, summarized the settlement terms.  This email was followed by a one-word reply from the opposing attorney stating  that the terms were “correct.” Here, the court ruled that the emails constituted a sufficiently complete and unambiguous statement as to the terms of the settlement agreement, and that both parties intended to be bound by that communication of settlement terms.  Basis Technology Corp. v. Amazon.com Inc., 71 Mass App. Ct. 29, 878 N.E.2d 952 (Mass. App. Ct. 2008).

Takeaway

As these two cases demonstrate, although email may be an informal means of communication, the substance of emails is subject to the same level of scrutiny as signed writings.  As such, it is very important to be particularly cautious when discussing a possible business deal in an email.  At bottom, if all you intend is to negotiate issues leading up to a formal written and signed contract, make sure you clearly state that in your emails.

If you have any questions regarding the formation or enforcement of contracts, please call one of our experienced attorneys at Acumen Law Group.

Authored by Dominika Szreder Fard, Esq. and Shoko Asaka, Law Clerk

The Low-Profit LLC: A New Entity in Illinois

On January 1, 2010, Illinois will become one of only 5 states to recognize the low-profit limited liability company (“L3C”).  The L3C is a variation of the familiar limited liability company (“LLC”), and is only available to for-profit entities whose primary goal is to achieve a socially beneficial objective.  Put differently, profits must be a secondary goal of the entity.  This entity form aims to make it easier for social enterprises to attract capital.  Currently, an L3C can only be formed in the states of Michigan, Vermont, Wyoming, and Utah.

The L3C shares many characteristics with a typical LLC – it is a for-profit entity; offers a flexible ownership structure; is treated like an LLC for tax purposes, rather than a not-for-profit entity; and its members enjoy limited liability.  Unlike an LLC, however, the primary purpose of the L3C must be to achieve a socially beneficial objective.  In order for an entity to qualify as a L3C, it must (i) significantly further the accomplishment of one or more charitable or educational purposes, and would not have been formed but for its relationship to the accomplishment of such purpose(s); (ii) not have as a significant purpose the production of income or the appreciation of property (though the company is permitted to earn a profit); and (iii) must not be organized to accomplish any political or legislative purposes.

One of the advantages of the L3C is that it embodies the operating efficiencies of a for-profit entity, while remaining unburdened by the many not-for-profit entity regulations.  This structure also provides the entity with a better chance at recovering its principal investment and potentially realizing a capital gain which, in turn, can be plowed back into the entities’ charitable or educational endeavors.

If you have any questions regarding the Illinois low-profit limited liability company, please call one of our experienced attorneys at Acumen Law Group.

Authored by Dominika Szreder Fard, Esq. and Shoko Asaka

Enforceable Non-Compete Agreements in Illinois

One of the most litigated issues in employment law is the legality of restrictive covenants like non-compete agreements. A non-compete agreement is a contract between an employer and an employee, in which the employee agrees not to engage in certain activities for a set period of time should she leave the employer. Non-compete agreements are frequently used by businesses to protect legitimate business interests, such as confidential information, trade secrets, and customer lists. Because non-compete agreements restrain trade, they are not looked upon with favor by Illinois courts, especially where the agreements are unreasonable and overly-inclusive.

Illinois Courts on Non-Competes

The general rule in Illinois is that a non-compete agreement is enforceable to the extent that it is reasonable and necessary to protect an employer’s legitimate business interest. There are two situations in which Illinois courts may find an employers’ interests legitimate and protectable: (1) the nature of the business creates a near-permanent relationship between the employer and customers, and the employee had contact with the customers solely because of the employment; and (2) an employer has trade secrets which the agreement is designed to protect, and an employee learned of such secrets during her employment. The “near-permanent” relationship can be established where there is a showing of long-term exclusive relationships, which were difficult and costly for the employer to develop. Other factors, such as the duration or closeness of such relationships, may also be considered. As to trade secrets, Illinois is considerably protective of an employer’s trade secrets and confidential information. Of course, the employer still has the burden of establishing that trade secrets exist in the first place, and that they are treated as “secrets,” i.e., the employer restricts access to such information from outsiders.

Regardless of whether trade secrets or a near-permanent relationships exists, a non-compete agreement will not be enforced unless the restrictions on competition are “reasonable.” Factors in determining the reasonableness of the restriction include the hardship to the employee, its effect upon the general public, and the reasonableness of the time (duration), territory, and activities restrictions.

Tips on Drafting a Non-Compete

Given the general reluctance of Illinois courts in enforcing non-compete agreements, employers would be wise to consider the following narrow-drafting tips which may increase the odds of enforceability:

• Restrictions on a former employee’s activities should not be broader than necessary. If your employee never engaged in marketing activities while she was employed, you generally can’t prevent her from engaging in marketing activities after she leaves your company.

• Territory restrictions should be narrowly tailored. If your employee only handled sales in the Chicago market, you generally can’t prevent her from handling sales in Alaska after she leaves your company.

• Do not restrict your former employee’s activities for an unreasonable time. Although there is no set rule, a restraint lasting between 6 months to 3 years may be reasonable.

• Consider limiting a former employee’s ability to recruit former co-workers by including an anti-raiding clause. Illinois Courts recognize that employers have a protectable interest in maintaining a stable workforce – anti-raiding clauses prohibit solicitation of fellow employees for a set period of time.

• Consider including a “blue pencil” provision in the non-compete, which would allow an Illinois court to revise an otherwise over-inclusive and unenforceable provision. Blue Pencil provisions are enforceable in Illinois unless the original agreement is extremely unreasonable or unfair.

While these drafting tips do not ensure enforceability of a non-compete by Illinois courts, they can significantly improve the odds of enforceability. If you have any questions regarding non-compete agreements for your business, please call one of our experienced attorneys at Acumen Law Group.

Authored by Dominika Szreder Fard, Esq. and Shoko Asaka, Law Clerk

Purchasing A Business: How To Avoid Successor Liability

In purchasing a business, buyers typically have 2 options: either a stock or asset purchase agreement. Under a stock purchase transaction, the buyer acquires a majority of the seller’s shares or, if an LLC, membership units in the business. The business’s underlying assets — e.g., equipment, furniture, real estate, inventory, etc. — continue to be owned by the entity, and the entity owned by the buyer. Conversely, under an asset purchase deal, only the business’s assets are purchased, with the seller retaining ownership of the entity. Most business owners and attorneys alike are familiar with the maxim that when a business sells its assets, those assets are transferred to the buyer free and clear of all liabilities. This general rule, however, is not without exceptions like the successor liability doctrine.

What Is Successor Liability?
Under the successor liability doctrine, a buyer who purchases the assets of a business may be held accountable for the seller’s debts and liabilities where:

(i) there is an express or implied agreement of assumption;

(ii) the transaction amounts to a de facto consolidation or merger of the buyer or seller corporation;

(iii) the purchaser is merely a continuation of the seller; or

(iv) the transaction is for the fraudulent purpose of escaping liability for the seller’s obligations.

Of the foregoing bases for successor liability, the 1st and 4th predicates are the easiest to understand, and therefore the easiest to avoid. With respect to express or implied assumption of liabilities, careful drafting of the asset purchase agreement should ensure that unwanted liabilities are not transferred to the buyer. Similarly, transactions satisfying the fraud standard are avoidable, especially where the assets are purchased for adequate consideration, and where there are no interested (or related) parties to the transaction.

The remaining two predicates for successor liability — de facto merger and mere continuation — require a more nuanced analysis of the circumstances surrounding the asset purchase. The de facto merger doctrine is usually implicated where (i) the buyer retains the same management, employees, location, and general business operations as the seller; (ii) the seller becomes a shareholder of the buyer; and (iii) the seller dissolves its operations shortly after the sale. Illinois courts have opined that the continuity of shareholder element is the most important, as it would appear unjust to force a buyer to assume the liabilities of the seller when a substantial price has already been paid for the seller’s assets.

The mere continuation predicate for successor liability, unlike de facto merger, applies where a corporate reorganization has taken place such that the corporation has simply put on a “new coat”; thus, there is no combination of two existing entities into a single successor entity. Illinois courts will invoke the mere continuation doctrine where there is continuity of same management, corporate organization, and ownership.

How To Avoiding Successor Liability?
Buyers and their counsel should consider the following measures before, during, and after the consummation of an asset purchase agreement:

Request insurance. Buyers should request sellers to maintain their corporate existence post-closing, or to retain insurance policies covering pre-closing liabilities, like product defects. These issues should be negotiated while drafting the asset purchase agreement, and any associated costs can be easily built into the purchase price.

Due diligence. And more due diligence! Buyers should conduct a thorough review of sellers business to identify practices or products that may give rise to post-closing liability. Particular attention should be paid to the sellers’ industry, as some industries have higher occurrences of certain types of claims, e.g., car dealerships frequently deal with state/federal lemon laws.

Separate good assets from bad assets. Buyers should consider establishing a separate entity to hold any problematic asset they deems risky or susceptible to legal claims. This way, the entire investment is not lost if a bad apple gives rise to successor liability.

Draft a clear purchase agreement. The asset purchase agreement should expressly state that buyer is not assuming any of seller’s debts or liabilities. Additionally, the agreement should contain a comprehensive indemnification provision, obligating seller to defend and hold buyer harmless should a post-closing liability arise. Holding a portion of the purchase price in escrow – for a set time – is an effective way of buttressing an indemnification provision.

Structure a deal that contemplates Illinois successor liability precedent. To the extent possible, buyers and sellers should ensure that there is no continuity of management, employees, and especially shareholders post-closing. Buyers would also be well advised to obligate sellers to maintain their corporate existence for a period of time post-closing. Implementing these measures will appreciably reduce the risk of a court invoking the successor liability doctrine to the buyer’s detriment.

Prudent buyers to asset purchase agreements should heed the old adage that “an ounce of prevention is worth a pound of cure.” The involvement of competent counsel in the negotiating and drafting of an asset purchase agreement can significantly reduce the risk of post-closing litigation, and the implication of the successor liability doctrine. Indeed, buying a business through an asset purchase is no longer a sure way of acquiring the business free and clear of all debts and liabilities. In the vast majority of cases, the financial cost of litigating an asset purchase agreement post-closing will dwarf the costs that should have been incurred initially to draft a comprehensive asset purchase agreement.

If you are interested in learning more about successor liability or more generally about asset purchase agreements, please feel free to contact Acumen Law Group to discuss what types of contractual provisions will best protect you when purchasing a business.

Authored By Bardia Fard, Esq. & Brian Afshar (Law Clerk)

The Series LLC: Sure Bet or Risky Business?

Common legal sense dictates that business owners operating multiple businesses, or holding multiple assets, organize each business or asset as a separate entity.  The reason for this is simple: in the event that one of your businesses is sued, you don’t want the other businesses to be exposed to liability (especially if those other businesses have significant amounts of assets).  Before the advent of the series LLC, business owners would have to pay a separate filing fee for each legal entity to the Illinois Secretary of State. Currently, the filing fee for a single LLC in Illinois is $500, and the required annual filing fee is $250.  For the owner of a fleet of 20 taxicabs, these filing fees can be burdensome ($10,000 in initial filing fees and $5,000 in annual filing fees).  Enter the series LLC, a means of lifting (some of) that costly burden.

Like the name suggests, a series LLC is a single limited liability company with multiple series.  Each series within the company is separate and legally distinct from the remaining series.  In other words, each series is insulated from the risks and liabilities of the other series under the same company.  One can organize the different series with separate managers, members, even operating agreements.  Despite the separateness of each series, the Illinois Secretary of State treats the entire series LLC as one entity.  One entity = one filing fee and one annual report.  For our friend with a fleet of 20 taxicabs, this means that although each cab within the fleet can be designated as its own series, the fleet as a whole is only responsible for paying a single series LLC filing fee (currently $750 plus $50 for each series).  To illustrate the significant cost savings, the taxicab company with 20 series would pay $1,750 in initial filing fees, as compared to $10,000 in initial filings for 20 separate  LLCs.

To create a series LLC, one must designate the series in the master operating agreement for the company and file a Certificate of Designation with the Secretary of State.  The operating agreement must explicitly provide for the limitation of liability.   This limitation of liability should be upheld by courts if the following conditions are met:  (1) each series maintains its own records; (2) each series holds its assets separate and apart from the assets of other series; (3) the operating agreement provides for separate accounting of assets and liabilities; and (4) the company provides notice of the liability limitation in its Articles of Organization.  Failure to fulfill these conditions can produce severe results.  For example, a court may completely disregard the separate status of each series and apply all of the assets of the series LLC to satisfy any creditor’s claim.  It cannot be stressed enough that business owners must observe all the formalities and operate each series separately.

Although the series LLC has been around in Illinois since late 2005, there is little precedent interpreting the provisions of the Illinois LLC Act authorizing series LLCs.  While the Illinois LLC statute specifically states that each series is treated as a separate entity in all respects, the application of the statute has not been fully tested by the courts.  Adding to the uncertainly, only seven states currently have series LLC statutes, so an Illinois series LLC cannot be certain that another state without a series LLC statute will honor the separateness of each series in the LLC.  Additionally, the IRS has not yet provided any guidance on how the series LLC should be taxed, and there is little case law addressing series LLCs in bankruptcy.  For these reasons, prudent business owners (and their attorneys) would be be well advised to ensure that the series LLC complies with all the strictures of the Illinois LLC Act and that the conditions discussed in this article are met.

There are a number of other relevant issues and concerns regarding the series LLC in Illinois.  Depending on the nature of your business, the series LLC may or may not be a wise vehicle.    If you are interested in learning more about the series LLC please feel free to contact us to speak with one of our attorneys at Acumen Law Group.

Authored by Dominika Szreder Fard, Esq.

Non-Compete Agreements and the Sale of a Business

In utilizing a non-compete agreement as a condition to the sale of a business, it is critical to recognize two nuances:  (1) restrictions on competition are enforceable only to the extent they’re reasonable; and (2) a covenant not to compete could have significant tax implications for both buyer and seller.

Typically, non-compete agreements state that in exchange for compensation, which is usually part of the sale price, the seller will promise not to enter a similar business, within a geographic area, for a limited time period. Courts will only enforce such an agreement if it is reasonable in scope and duration. What qualifies as reasonable depends on the industry and the state in which the agreement was entered into, as states have different standards for evaluating reasonableness.

In negotiating the business sale price, buyer and seller must decide upon  the monetary worth of the non-compete agreement.  In a typical asset sale of a business, each sold asset is treated separately for tax reasons. Currently,  assets treated as capital gains are taxed at an appreciably lower rate than those treated as ordinary income. Notably, gains on some intangible assets, such as non-compete agreements, aren’t usually eligible for capital gains treatment.   Thus, they are usually taxed as ordinary income.  It follows that in allocating the business sale price to all tangible and intangible assets, the buyer and seller should be mindful that assigning a portion of the sale price to the  non-compete agreement could lower  the after-tax profit for the  seller.

Because of these tax implications, buyer and seller alike should carefully structure any non-compete agreement and its monetary value.  If you have any questions regarding the structure of a business sale or a non-compete agreement, please feel free to contact us to speak with one of our attorneys at Acumen Law Group.

Authored by  Dominika Szreder Fard, Esq.