Your company engages in diligence while deciding whether to acquire a product, a competitor, or a development project. Your company turns the deal down. Later, the spurned partner claims that your company used confidential information from the diligence.
The claim is for millions of dollars in damages. Did you manage the diligence, and the break up, to defend against such a claim? The question is not as rare as one may think, and the monetary risks are significant.
A recent example is Tech Pharmacy Services, LLC v. Alixa RX LLC, where a jury awarded Tech Pharmacy $15 million for breach of a confidentiality agreement after finding the defendants misused Tech Pharmacy’s confidential information from retained deal diligence. The award climbed to $24 million after the court awarded prejudgment interest and attorneys’ fees. The Federal Circuit affirmed the judgment.
But companies can take steps to minimize the risk of these types of claims, including drafting a careful confidential disclosure agreement, separating deal and diligence teams, limiting access to confidential information, and ensuring the ultimate deletion of information when the deal is terminated.
Mitigating Risk When Holding a Potential Partner’s Confidential Information
Companies should consider adopting specific procedures to protect their business from risks associated with confidential information received from an external source.
Under the federal Defend Trade Secrets Act and state trade secrets statutes, a plaintiff must prove that the defendant disclosed or used a trade secret without consent.
Similarly, under contract law, a plaintiff must prove that the defendant used information outside the scope defined by any contract that may govern a now-soured diligence or joint development relationship.
Steps to Avoid Risk
A company can consider the following to minimize information comingling, and potentially a misappropriation of trade secrets or breach of contract claim.
1. Review Confidential Disclosure Agreement Carefully
Before accepting access to confidential information, a company can take steps to protect itself in the terms of a CDA. The CDA should include standard terms such as a time limit on the non-disclosure obligations, and a reasonable mechanism to identify which information is confidential, subject to the terms, and which information is not.
Ultimately, breach of a CDA is determined by a jury, and it can be helpful to include terms that help a jury understand there is legitimate competition that does not violate a CDA.
For example, the CDA can recite that the parties are engaged in separate research and development of their own, and that a party’s access to the other’s confidential information shall not limit the party’s rights to engage in and use its own research and development, even when the party develops similar or identical information.
Of course, the terms that may become part of the CDA will depend on the parties’ respective leverage and context.
2. Segregate the Deal and Diligence Teams From Anyone Who May Develop or Patent Products in the Same Market
Often a company receiving confidential information faces litigation because the deal and diligence teams were also involved in developing new products or services for the receiving company. That overlap may create an appearance of or opportunity for misappropriation.
Those individuals may be influenced by information received during diligence to later develop or improve a product or service that reflects the received information.
Companies should consider limiting access to received confidential information only to a limited diligence team and, where possible, segregating them from others who may otherwise benefit from receiving the confidential information.
3. Document and Limit Access to Confidential Information
In many instances, a company may need to rely on its in-house experts to evaluate the deal and cannot segregate them from their day-to-day responsibilities. Resources may not permit wholly separate and independent teams.
A second option can be to track and restrict access to the confidential information. Depending on context, it may be prudent to establish and be able to prove “clean room” development of a related product or service with the development team effectively walled from the competitor’s information.
The recipient company should consider establishing a clean room for housing and evaluating specific information received from a potential partner with restrictions on who can review and who can discuss the information.
This can be challenging for executive functions such as the C-suite and legal department who may need to have input on both a diligence and on the company’s own product development.
It may be prudent to limit—and be able to prove the limit—access of such executive functions to detailed technical information of the competitor, and to delegate review of detailed information to those who can be walled effectively from the company’s internal development of related products or services.
With or without a clean room, the company should track receipt and access to specific received confidential information by individuals. It is also important to document internal restrictions, including restrictions on who at the company may discuss specific information and who may not be briefed on it. This activity is useful during any later wrap-up phase, particularly in the event that the deal terminates.
4. Return and Destroy the Confidential Information
Upon termination, a company should ensure that information received is deleted. Diligence team members should confirm their search and deletion or return of received confidential information. A company should consider using signed certifications to confirm this activity (and to use as helpful exhibits if a later dispute arises).
Sometimes this last wrap-up step of a failed business partnership is not a high priority for dealmakers. But skipping “wrap-up” may increase exposure to later claims, particularly when the dealmakers are involved in launching a new competing business down the line.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Jake Holdreith is a partner, leads the Health and Life Sciences Industry Group at Robins Kaplan LLP, and serves as a member of the firm’s executive board.
David Prange is a partner and leads the Trade Secrets subpractice at Robins Kaplan LLP. He is a trial lawyer and focuses his practice on intellectual property, including patents, trade secrets, trademarks, and licensing disputes.
Emily Tremblay is an associate at Robins Kaplan LLP. Her intellectual property practice focuses on trade secrets disputes and patent litigation across technology spaces, including the pharmaceutical, video streaming, and medical device industries.