Selected Developments in Business Law — Trade Secrets Practice in California

Courtesy of CEB, we are bringing you selected legal developments in areas of California business law that are covered by CEB’s publications.  This month’s feature is from the November 2022 update to Trade Secrets Practice in California.  References are to the book’s section numbers.  The most significant legal developments since the last update include developments in such important topic areas as public records, workplace issues, trade secrets misappropriation, and ownership and disclosure issues. 

Trade Secrets Practice in California

Selected Developments
November 2022

Government Code §7924.510(f) defines trade secrets as follows:

As used in this section, “trade secret” may include, but is not limited to, any formula, plan, pattern, process, tool, mechanism, compound, procedure, production data, or compilation of information that satisfies all of the following requirements:

(1) It is not patented.

(2) It is known only to certain individuals within a commercial concern who are using it to fabricate, produce, or compound an article of trade or a service having commercial value.

(3) It gives its user an opportunity to obtain a business advantage over competitors who do not know or use it.

This statutory definition is intended to clarify that trade secrets are not subject to public disclosure in environmental impact statements or any other governmental report accessible by the general public. See §2.16.

Under the Defend Trade Secrets Act of 2016 (18 USC §1839(3)(A)), confidentiality agreements between the owner and another can be essential to the existence of a trade secret. In Woodall v Walt Disney Co. (CD Cal Aug. 5, 2021, No. CV 20-3772-CBM-(Ex)) 2021 US Dist Lexis 190332, *13, the court stated that “[c]ourts have found trade secret claims fail as a matter of law where the trade secret owner fails to obtain a non-disclosure agreement from persons receiving the purported trade secret information.” See also Corbel Communications. Indus. LLC v Lat Long Infrastructure LLC (CD Cal, Oct. 28, 2021) US Dist Lexis 219132. See §2.32G.

A trade secret owner may be entitled to ownership of the patent obtained by a wrongdoer on a misappropriated trade secret, unless the patent contains significant inventive elements that were not misappropriated. See BioCorRX, Inc. v VDM Biochemicals, Inc. (CD Cal July 21, 2021, No. SACV 21-938 JVS (KESx)) 2021 US Dist Lexis 136097 for a discussion of ownership of a trade secret versus ownership of a patent in the context of an attempt to remove a case to federal court. See §2.35.

In MBS Eng’g INC v Black Hemp Box, LLC (ND Cal, June 16, 2021, No. 20-cv-02825-JD) 2021 US Dist Lexis 113054, the court rejected the defendant’s argument that the mere possibility of reverse engineering by a third party purchaser necessarily invalidates a trade secret. See §4A.1.

In April 2022, the Office of the U.S. Intellectual Property Enforcement Coordinator (IPEC) issued its Annual Intellectual Property Report to Congress. The report provides an overview of the intellectual property enforcement strategy and related efforts undertaken by various departments and agencies. The included trade secret theft and economic espionage cases from 2021 highlight the importance of monitoring employee access to secure company databases and limiting access to important data on a need-to-know basis. See https://www.whitehouse.gov/wp-content/uploads/2022/04/FY21-IPEC-Annual-Report-Final.pdf. See §4A.1A.

In Bladeroom Group, Ltd. v Emerson Elec. Co. (9th Cir 2021) 11 F4th 1010, the court reversed a $60 million verdict for trade secret theft on grounds that defendant’s confidentiality obligations had expired before its alleged misappropriation. See §4A.9.

The California Public Records Act (CPRA) (former Govt C §§6250–6276.48) was reorganized and restated in 2021 and newly codified at Govt C §§7920.000–7931.000, effective January 1, 2023. However, nothing in connection with the restatement was intended to substantively change the law relating to inspection of public records. The changes were intended to be entirely nonsubstantive in effect. See Govt C §7920.100. See §5.21.

Under the CPRA, public records are generally open to inspection by members of the public unless exempted by law. See Govt C §§7921.000, 7921.500, 7922.000, 7922.500, 7922.525. The purpose for which the record has been requested is irrelevant. The CPRA does not permit limiting access to a public record based on the purpose for which the record is being requested if the record is otherwise subject to disclosure. Govt C §7921.300. “Members of the public” include individual persons, corporations, partnerships, limited liability companies, firms, and associations, other than a member, agent, officer, or employee of a federal, state, or local agency who is acting within the scope of that membership, agency, office, or employment. Govt C §§7920.515–7920.520. An agency may comply with the inspection requirement by making records publicly available on the internet. Govt C §7922.545. Social security numbers are required to be redacted from any record before it is disclosed. Govt C §7922.200. See §5.21.

In general, records are exempted from disclosure under the CPRA if they are exempted from disclosure under federal or state law (Govt C §7927.705) or if they are personnel, medical, or similar files the disclosure of which would constitute an unwarranted invasion of personal privacy (Govt C §7927.700). Although principally a law that allows the disclosure of information in the government’s possession, the CPRA also protects from disclosure many specified classes of information. Dozens of categories of documents are exempt from disclosure under the CPRA (see Govt C §§7928.000–7929.605, 7930.100–7930.215). See §5.21.

In Becerra v Superior Court (2020) 44 CA5th 897, 914, the court held that the CPRA balances dual concerns for privacy and disclosure. See §5.21.

In Voice of San Diego v Superior Court (2021) 66 CA5th 669, the court held that, under the catchall exemption to the CPRA news media requests for unredacted records from San Diego County showing the exact location of disease outbreaks during the COVID-19 pandemic were properly denied. The county had submitted uncontradicted evidence that disclosing the exact name and address of an outbreak location would have a chilling effect on the public’s willingness to cooperate with contact tracing efforts; therefore, disclosure was not in the public interest. See §§5.21, 5.23.

The principal exemption for trade secrets provides that records are exempt from disclosure under the CPRA if their disclosure “is exempted or prohibited pursuant to federal or state law, including, but not limited to, provisions of the Evidence Code relating to privilege.” Govt C §7927.705 (former Govt C §6254(k)). This exemption has been held to apply only to “records which would be held not to be covered by one or more specific exemptions.” City of Hemet v Superior Court (1995) 37 CA4th 1411, 1422, citing Roberts v City of Palmdale (1993) 5 C4th 363, 373. See also Govt C §§7927.605 and 7930.205, which lists eight categories of trade secrets that are expressly exempt. The term “trade secret” is used 40 times in the CPRA; thus, a comprehensive search of the CPRA may be useful to determine whether a specific trade secrets exemption exists in a particular case. Note that after the 2021 restatement, the applicable statute no longer includes a subsection “k.” See §5.22.

Designating specific items of nonpublic information as trade secrets may be proof of the existence of the trade secrets and the receiving party’s agreement to their trade secret status when seeking remedies for the receiving party’s subsequent misappropriation. See Olaplex, Inc. v L’Oréal U.S., Inc. (Fed Cir 2021) 855 Fed Appx 701. See §7.8.

When a trade secret is apparent to users of a product, such as the functionality of computer software, including specific protections in the license agreement will help demonstrate that the licensor has taken reasonable measures to keep this information secret. Those protections may include requiring the licensee to have confidentiality and nondisclosure agreements in place with third parties who are given access to the software. See Turret Labs U.S. v CargoSprint, LLC (2d Cir, Mar. 9, 2022, No. 21-952) 2022 US App Lexis 6070. See §7.12.

Government Code §12964.5 was amended in 2021 in SB 331 (Stats 2021, ch 638) to further restrict the permissible contents of certain agreements with employees. Government Code §12964.5(a)(2)(B) defines “information about unlawful acts in the workplace” broadly to include any “information pertaining to harassment or discrimination or any other conduct that the employee has reasonable cause to believe is unlawful.” Government Code §12964.5(a)(2) (see also Govt C §12964.5(b)(1)(B)(2)) states that “[a]ny agreement or document in violation of this subdivision is contrary to public policy and shall be unenforceable.” See §10.13.

Importantly, Govt C §12964.5(f) provides that “[t]his section does not prohibit an employer from protecting the employer’s trade secrets, proprietary information, or confidential information that does not involve unlawful acts in the workplace.” See §10.13.

In Blue Mountain Enters, LLC v Owen (2022) 74 CA5th 537, the court held that the sale of goodwill exception (Bus & Prof C §16601) to the general prohibition against noncompetition covenants applied; the nonsolicitation covenant was enforceable when multiple contracts were properly construed together to dispose of the appellant’s entire ownership interest. See §§10.56, 11.91.

In Huy Fong Foods, Inc. v Underwood Ranches, LP (2021) 66 CA5th 1112, the court entered a judgment finding fraudulent concealment liability under CC §1710 and affirmative misrepresentation under CC §1709 when a hot sauce manufacturer induced a pepper farmer to purchase more land in reliance on manufacturer’s assurance that it would buy entire crop of peppers produced but the manufacturer later refused to buy the crop. See §11.101.

In Lee v Luxottica Retail N. Am., Inc. (2021) 65 CA5th 793, the court held that Bus & P C §17203 does not authorize compensation for lost market share, because lost market share does not constitute restitution; unearned income is not restitution. See §11.106.

In June 2021, the Supreme Court adopted the narrow interpretation of the “exceeds authorized access” clause of the Computer Fraud and Abuse Act (CFAA) (18 USC §1030) and resolved the circuit split in authority. See Van Buren v U.S. (2021) 141 S Ct 1648 (police officer who was allowed to use system to retrieve license-plate information did not exceed authorized access to database, as CFAA defined that phrase, even though he had obtained information for improper purpose). See §§11.118, 12.1, 13.5A.

The Ninth Circuit in hiQ Labs, Inc. v LinkedIn Corp. (9th Cir 2022) 31 F4th 1180, relying on Van Buren, reaffirmed that data scraping from public websites does not violate the CFAA. The Ninth Circuit held that the CFAA’s prohibition on accessing a computer “without authorization” is violated when a person circumvents a computer’s generally applicable rules regarding access permissions, such as username and password requirements, to gain access to a computer. When a computer network generally permits public access to its data, a user’s accessing that publicly available data will not constitute access without authorization under the CFAA. The Ninth Circuit noted, however, that entities that view themselves as victims of data scraping are not without resort as other causes of action, such as trespass to chattels, copyright infringement, misappropriation, unjust enrichment, conversion, breach of contract, or breach of privacy may present separate, viable claims. See §§11.118, 12.1, 13.5A.

In Five Star Gourmet Foods, Inc. v Fresh Express, Inc. (ND Cal, Jan. 31, 2020, Case No. 19-cv-05611-PJH) 2020 US Dist LEXIS 16368, *25, the district court found the plaintiff stated a claim under the Defend Trade Secrets Act of 2016 (DTSA) (Pub L 114–153, 130 Stat 376) when the defendant was accused of misappropriating plaintiff’s trade secrets and using them to replicate the plaintiff’s salad production facility. The district court found that touring the plaintiff’s production facilities and gathering information under a nondisclosure agreement sufficiently alleged access to the trade secrets. Those allegations along with allegations that defendant copied the plaintiff’s business operations, down to using the same tool set to create its packaging, was sufficient to allege misappropriation under the DTSA. See also Applied Biological Labs., Inc. v Diomics Corp. (SD Cal, Sept. 6, 2021) 2021 US Dist Lexis 169251, *15 (“Defendants’ contention that Plaintiff must affirmatively demonstrate how Defendant used its trade secrets is not feasible.…To require Plaintiff to convey such a level of specificity in its pleadings would be unusual, if not unattainable.”). See §11.119.

In SG Blocks, Inc. v Hola Cmty. Partners (CD Cal 2021) 521 F Supp 3d 881, the court held that the economic loss rule barred a contractor’s claims for conversion, misappropriation of trade secrets, and negligence because each claim sought relief for the same economic harm caused by the hirer’s alleged failure to pay. See §12.20.

Effective January 1, 2022, the costs for developing software must be treated as research and experimentation expenditures and amortized over 5 years. IRC §174(c)(3), as modified by the Tax Cuts and Jobs Act §13206(a) (Pub L 115–97, 131 Stat 2054). This treatment modifies prior guidance, under which these costs could be currently deducted, amortized over a period of 60 months, or amortized over a period of 36 months. Rev Proc 2000–50. See §15.5.

Under both prior and current law, the deduction in IRC §174 applies to expenditures for research and experimentation that are paid or incurred during the year in connection with a trade or business. Simply for ease of reference, the Tax Cuts and Jobs Act (Pub L 115–97, 131 Stat 2054) labels these expenditures with a new term, “specified research and experimentation expenditures.” Effective January 1, 2022, IRC §174(a)(1) sets forth the general rule that no deduction is allowable for specified research and experimentation expenditures of any kind. Thus, if an expenditure falls within this definition, it cannot be deducted under IRC §162 as a business expense, under IRC §167 as depreciation, or otherwise under IRC §174. However, this general rule has a single exception: Under IRC §174(a)(2), these expenditures may be amortized in a straight-line fashion over 5 years (or 15 years if attributable to foreign research), from the midpoint of the year in which the amount is paid or incurred. See §15.15.

Effective January 1, 2022, if a taxpayer acquires or improves property with research expenditures, then disposes of the property, the taxpayer must continue amortizing the research expenditures over the original 5- (or 15-) year period. The statute provides that “no deduction shall be allowed with respect to such expenditures on account of such disposition, retirement, or abandonment.” By implication, any basis attributable to these expenditures will not be available to reduce the amount of gain arising from the disposition. See Joint Committee on Taxation, General Explanation of Public Law 115–97 (JCS–1-18 (Dec. 20, 2018)), available at https://www.jct.gov/publications/2018/jcs-1-18/. See §15.16.

Two other types of internet contracts by which providers seek to impose contract terms on consumers have been identified by the courts: scroll-wrap agreements and sign-in-wrap agreements. A scroll-wrap agreement is similar to a click-wrap agreement, but the user is presented with the entire text of the agreement, typically in a separate window, and must physically scroll down to the end of the agreement and click on a button labeled “I accept” or “I agree” in order to proceed with the transaction. A sign-in-wrap agreement is one by which a consumer signs up for an internet product or service, and the webpage states that signing up for that product or service constitutes acceptance of a separate agreement with the provider. Although the webpage usually provides a nearby link to the separate agreement, consumers are typically not required to indicate that they have read or agree to the terms of the separate agreement before signing up for the product or service. Sellers v JustAnswer LLC (2021) 73 CA5th 444, 463–464. See §16.41B.