It is common for companies to share confidential information with a third party in order to achieve an operational objective, where the third party may be a prospective joint venturer, an acquirer, an investor or even a client. Prior to disclosing such confidential information, however, these same companies usually require the execution of a confidentiality/non-disclosure agreement by the other party.
This blog has previously discussed issues surrounding confidentiality/non-disclosure agreements. Today’s topic however is specific: the time limits, if any, that should be considered in such agreements.
Most companies if given a choice would prefer to include in their NDA/confidentiality agreements a perpetual term, which essentially means that the confidential information can never be disclosed by the third party except in limited circumstances. Often times however, this desire is diluted in the course of negotiations, leading to a final agreement containing just a limited time for confidentiality, ie, for example, 2, 5 or even 10 years.
Unbeknownst to such parties, agreeing to this watered-down time limit may lead to substantial future risks with regard to confidential information. An example is the California case of Silicon Image, Inc. v. Analogk Semiconductor, Inc. In furtherance of its goal to protect its confidential information, Silicon Image took numerous prudent steps to protect its trade secrets, including: i) requiring its own employees, customers and business partners to sign confidentiality agreements; ii) maintaining a key card access system and by requiring visitors to sign in to protect its trade secrets; iii) protecting computer systems through network security and access control; iv) labeling confidential proprietary information and watermarking all information disclosed outside the company with the name of the individual receiving the information; and, v) providing training sessions to employees on its trade secret protection program.
Yet in spite of its strict adherence to the protection of its confidential information, Silicon Image decided to limit the term of its confidentiality agreements to a set number of years, instead of a perpetual term, due to the fact that that’s what other high-tech companies were doing, and due to the fact that many partners, investors and other third parties pushed back and refused to execute non-disclosure agreements containing a perpetual duration of confidentiality.
Despite its best practices described above, Silicon allowed itself to frequently enter into confidentiality agreements with terms of 2 to 4 years, which proved to be a serious error when the time came for Silicon to seek a preliminary injunction in California Court against a competitor it alleged misappropriated its confidential information.
In denying Silicon’s request for a preliminary injunction, the Court analyzed whether Silicon Image made reasonable efforts to protect its confidential information. One of the key factors the Court focused on was whether or not the non-disclosure agreements between Silicon Image and its customers and distributors provided adequate protection. Unfortunately for Silicon, the Court concluded that reasonable steps to protect trade secrets were not shown by Silicon, pointing particularly to the time limits included in its confidentiality agreements.
The Court held that “one who claims that he has a trade secret must exercise eternal vigilance,” requiring all persons to whom a trade secret becomes known to acknowledge and promise to respect the secrecy in a written agreement. A time limit contained in an NDA demonstrated to the Court that Silicon’s own expectations of maintaining its trade secrets were time limited and, thus, a failure to demonstrate “eternal vigilance” over its trade secrets.
As a result, Silicon lost a serious case in its attempt to protect its confidential information. The moral of this story is a simple one. Companies who include time limits in their confidentiality agreements do so at their peril. In order to avoid the Silicon Image outcome, it is prudent to stand firm and refuse to include a set time limit for the receiving party’s obligations to maintain the confidential information. The best practices are for the trade secret owner to insist that the obligation to maintain confidentiality survive as long as the information disclosed qualifies as a trade secret under the requirements of applicable law.