The Plain-Language NDA

The Plain-Language NDA

TexasBarToday_TopTen_Badge_VectorGraphicNDAs—also known as Non-Disclosure Agreements or Confidentiality Agreements—have been in the news a lot lately. At the same time, people have been asking me for a form NDA. I wasn’t thrilled with the barnacle-encrusted forms I’d collected, so I figured it was time to write my own NDA from scratch.

NDAs come in all shapes and sizes, but they all have four basic components:

  1. An agreement not to disclose or use the confidential information
  2. A definition of confidential information
  3. Exceptions
  4. Other stuff

And usually the NDA is written with a lot of unnecessary legalese.

That’s not a big problem. When I have a case involving a confidentiality agreement, I’m going to read the agreement—of course—but I’m not going to get too hung up on its specific language.

Don’t get me wrong, the language of the NDA does matter. But regardless of how an NDA is worded, if a dispute about it goes to court, the judge or jury is going to ask themselves the same basic question: did the person who signed the NDA use the company’s confidential information in a way they weren’t supposed to?

The definition of confidential information is the part lawyers tend to make more complicated than it needs to be. You might even question whether any definition is needed at all.

The definition is the first thing I look for when an employee asks for my advice on an NDA proposed by the employer. The most common problem I encounter is that the NDA defines virtually all of the company’s information—confidential or not—as confidential. The problem is that this turns the confidentiality agreement into a de facto non-compete.

Think about it. If, for example, the employee can’t use any information about her customers, then she can’t continue doing business with those customers after leaving.

Sometimes an overbroad definition of confidential information can be fixed simply by inserting the adjective “confidential” before the long laundry list of things the agreement includes in the definition of confidential information.

Another quick fix is to add a simple carve-out: “Confidential information does not include information that is readily available outside the company,” or something like that.

But what if my client is the employer? In that case, I should draft the definition of confidential information as broadly as possible, right?

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You must unlearn what you have learned. About NDAs. Om.

Not necessarily. I view this from the perspective of a trial lawyer. Let’s say there’s a dispute about the employee violating the NDA. The employee is going to have three kinds of information: (1) confidential information, (2) “confidential” information that isn’t really confidential, and (3) information that the employer argues is confidential—but the employee argues is readily available.

If the NDA defines everything as confidential, it’s going to cloud the issue. The employee’s lawyer is going to point out all the non-confidential information the employee has and say “this is ridiculous, how can they argue all this information is confidential?” And that  argument will have some appeal to a judge and a jury.

So whether I represent the employer or the employee, I favor a form of NDA that limits the definition of confidential information to information that is actually, well, confidential.

I also favor plain language. And mainly for the same reason: I’m thinking about how the NDA is going to look to a judge or jury, and there is no good reason not to write it in plain language.

Some of my Fivers may be thinking “isn’t this the same point you already made when you wrote about your Plain-Language Non-Compete?”

Guilty as charged.

But sometimes people just need an NDA, not a non-compete. So here it is: the Plain-Language NDA.

*MASSIVE LAWYER DISCLAIMER* I offer the Plain-Language NDA merely for your consideration. It may or may not be appropriate for your particular situation. And if you are not a lawyer, don’t even think about using it without getting advice from a lawyer.

Also note there is one thing conspicuously absent from my form NDA: a liquidated damages clause, e.g. a requirement that the employee pay $1 million in damages per violation.

You can add one if you want, but liquidated damages clauses are tricky, for reasons I covered in Liquidated Damages Lessons from the Stormy Daniels Settlement. I prefer to avoid that complication.

As with my Plain-Language Non-Compete, some of you may think the Plain-Language NDA doesn’t sound “legal” enough. Others may think it’s not “plain” enough. And some of you may even take issue with some of the substance of it. In any case, let me know. I’d love to hear from you.

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IMG_4571Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC. By clicking on the link to the Plain-Language NDA, you agree to arbitrate any dispute about it. 

Just kidding.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

 

Liquidated Damages Lessons from the Stormy Daniels Settlement

Liquidated Damages Lessons from the Stormy Daniels Settlement

Five Minute Law has obtained a top secret legal memo prepared for Donald Trump’s personal lawyer, Michael Cohen, shortly before the 2016 presidential election. The memo provides valuable lessons on the use of “liquidated damages” clauses in confidentiality agreements and other contracts, e.g. non-competes. The memo also reveals that, unlike the author of the Stormy Daniels settlement agreement, Cohen’s associate writes memos in plain English. Enjoy.

CONFIDENTIAL ATTORNEY WORK PRODUCT MEMORANDUM

TO:                  Michael Cohen

FROM:            Alex Associate

RE:                  Enforceability of Liquidated Damages Clause

DATE:             October 15, 2016

Facts

Our client, “David Dennison,” is a public figure concerned with protecting his reputation.  An “adult film” star named “Peggy Peterson” claims she had a sexual relationship with Dennison.  Peterson has offered to sign a strict confidentiality agreement in exchange for a one-time payment of $130,000.

Dennison says that disclosure of the relationship with Peterson will cause severe damage to his relationship with his third wife. He also fears the damage it will cause to his public reputation and the resulting effect on an upcoming public event of some importance to him. Dennison has also implied that disclosure could be embarrassing for additional unidentified reasons.

Dennison has tasked us with preparing “the greatest non-disclosure agreement you’ve ever seen, with real teeth.” In the event that Peterson violates the agreement by disclosing information about the affair, he wants the ability to “sue the pants off her.”

You have prepared a non-disclosure agreement with a liquidated damages clause, i.e. a provision specifying in advance the amount of damages Dennison gets if Peterson breaks the agreement. The clause states that in the event of a breach by Peterson, Dennison can choose to recover either his actual damages or liquidated damages in the amount of $1 million per violation.

The draft agreement also says that a violation will cause Dennison “irreparable injury,” and that Dennison therefore can get a temporary restraining order or injunction to bar disclosure of information about the alleged affair.

Issues Presented

1. Is the $1 million per violation liquidated damages clause enforceable, or will it be considered an unenforceable penalty?

2. Does it make any difference if news of the alleged affair is already public?

3. Does Dennison’s right to elect actual damages or liquidated damages affect enforceability of the liquidated damages clause?

4. Does the liquidated damages clause undermine Dennison’s right to get an injunction to prevent disclosure of the confidential information?

Short Answers

1. The liquidated damages clause is likely enforceable if Dennison can show that $1 million per violation is a reasonable forecast of his actual damages resulting from disclosure of the affair.

2. It may be harder for Dennison to argue that $1 million per violation is a reasonable forecast of actual damages if the affair has already become public information.

3. The fact that Dennison can elect actual damages could support an argument that the liquidated damages clause is an unenforceable penalty.

4. The liquidated damages clause could undermine Dennison’s right to get an injunction because it implies that damages are adequate compensation.

Analysis

1. Reasonable forecast?

A liquidated damages clause that functions as a “penalty” is unenforceable.  This is consistent with the fundamental principle of contract law that the remedy for a breach should put the non-breaching party in the same position as if the breaching party had performed the contract.

Remember, contract law is essentially amoral. Students arrive at law school with quaint moral notions about keeping one’s word, that a covenant is sacred, etc. The goal of the first-year Contracts course is to beat this moral sense out of the students. Contract law is supposed to compensate for actual loss, not punish wrongdoing.

This is why a contractual penalty is unenforceable. Different states formulate the test for liquidated damages differently, but the Texas version is typical. A liquidated damages clause is enforceable if (1) the harm caused by the breach is “incapable or difficult of estimation” and (2) the amount of liquidated damages is a “reasonable forecast” of just compensation. Phillips v. Phillips, 820 S.W.2d 785, 788 (Tex. 1992).

Courts have applied this standard to various types of contracts, including non-competes. Sometimes a non-compete will have a liquidated damages clause stating that, because actual damages from the employee competing are difficult to measure, the employer can recover a set amount of liquidated damages.

For example, in Nacogdoches Heart Clinic, P.A. v. Pokala (it’s pronounced “Nak-uh-doach-us”), a doctor agreed to pay liquidated damages of $100,000 per month for each month he violated the non-compete. This amount was based on his earnings while working for the clinic, not the actual loss the clinic expected to suffer if he left. The clause therefore was unenforceable because it was not a reasonable forecast of just compensation.[1]

We can draw two lessons from Nacogdoches Heart Clinic. First, maybe I should have picked medical school over law school. Second, a liquidated damages clause in a non-compete should not be based on the amount the employee earns at the company.

Another problem with a liquidated damages clause in a non-compete is that actual damages for breach of a non-compete are usually not that difficult to measure. The typical measure is lost profits. While calculating lost profits is not necessarily easy, it’s not exceedingly difficult either, especially if you hire a good CPA as an expert witness on damages.

Damages for harm to reputation, on the other hand, are more difficult to measure. It won’t be hard for Dennison to argue that damages from Peterson revealing information about the alleged affair are “incapable or difficult of estimation.”

It’s the second prong of the liquidated damages test that will be more of a challenge for Dennison: showing that $1 million per violation is a reasonable forecast of actual damages.

One million per violation does not appear to be a reasonable forecast of the actual damage. It’s almost eight times the amount of consideration Dennison will pay to obtain Peterson’s commitment to non-disclosure. Presumably, $130,000 is a reasonable estimate of what it is worth to Dennison to keep Peterson’s information from becoming public.

2. What if the information is already public?

If information about the alleged affair is already public, it may become more difficult to argue that $1 million per violation is a reasonable forecast of actual damages.

If the public had no inkling about the alleged affair, Dennison could argue that any public disclosure of the information would cause great harm to his reputation.

But what if facts about the alleged affair—including details shared in a 2011 tabloid interview—are already public knowledge? In that case, Dennison would have to make the difficult argument that $1 million is a reasonable forecast of the additional harm to his reputation that the additional disclosure would cause.

And proving additional harm to his reputation would become even more difficult if, hypothetically, it is well known that Dennison has a history of adultery, or if multiple women have accused him of sexual harassment or assault.

3. Election of actual damages

You have advised me that our client likes to have his cake and eat it too. Accordingly, the draft settlement agreement says that if Peterson violates the non-disclosure agreement, Dennison gets to choose between recovering actual damages or liquidated damages.

This is problematic. First, the fact that Dennison can recover actual damages could weaken the argument that actual damages are “incapable or difficult of estimation.” If recovering actual damages is an option, that implies that actual damages can be reasonably calculated, making enforceability of the liquidated damages clause less likely.

To illustrate, one Virginia case said that allowing a party to choose between actual damages and liquidated damages suggested that the liquidated damages clause was an unenforceable penalty.

Second, the ability to elect between actual or liquidated damages could render the agreement “unconscionable.”

Courts generally don’t second-guess whether a contract is fair. In the absence of fraud or duress, private parties are generally free to enter into unfair contracts. But this freedom is not without limits. At some point, a contract provision can be so fundamentally unfair that a court will rule the contract unconscionable and unenforceable.

In this case, a judge or arbitrator might think giving Dennison the right to choose between actual damages and liquidated damages is just too much.

4. Can Dennison have liquidated damages and an injunction too?

Not only does the draft agreement allow Dennison to elect whether to recover actual or liquidated damages, it also expressly gives him the right to get a temporary restraining order or injunction to prevent threatened disclosure of the confidential information, i.e. a “gag order.”

But would the liquidated damages clause undermine Dennison’s ability to get an injunction?

It is typical for a confidentiality agreement to recite that disclosure of the information would cause “irreparable injury” and entitle the non-breaching party to get an injunction. This type of clause is also found in non-competes and other employment-related agreements.

There are essentially three views of these “irreparable injury” clauses:

(1) They have no legal effect whatsoever, because private parties don’t get to tell courts how to decide whether to grant an injunction.

(2) They conclusively establish that the non-breaching party is entitled to an injunction.

(3) They are not dispositive but are a factor to be considered.

Courts tend to sidestep the issue by choosing option (3). So, let’s assume the irreparable injury clause will not necessarily relieve Dennison of the burden of showing that a threatened violation would cause him irreparable harm.

The problem is that the liquidated damages clause weakens the claim of irreparable injury. Irreparable injury means harm that cannot be adequately compensated by damages. But if $1 million is a reasonable forecast of actual damages, that suggests that $1 million is adequate to compensate Dennison.

On the other hand, Dennison could argue that the liquidated damages clause is inadequate if Peterson lacks sufficient assets to satisfy a judgment of $1 million or more.

Perhaps the solution is to add a clause to the agreement allowing Dennison to obtain a confidential ex parte temporary restraining order from an arbitrator without notice to Peterson. This will give Dennison the relief he needs, and no one will ever know.

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IMG_4571Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC.

Any opinions expressed are his own, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Nacogdoches Heart Clinic, P.A. v. Pokala No. 12-11-00133-CV, 2013 WL 451810, at *7 (Tex. App.—Tyler Feb. 6, 2013, pet. denied) (mem. op.) (citing Phillips v. Phillips).

Injunction Junction, What’s Your Function?

Injunction Junction, What’s Your Function?

TexasBarToday_TopTen_Badge_VectorGraphicA Recent Case Shows What it Takes for a Texas Trade Secrets Injunction to Hold Up on Appeal

I previously wrote here about how not to enforce an injunction in a non-compete lawsuit. But when an employee takes your client’s confidential information or trade secrets, what evidence do you need to get an injunction in the first place?

Most lawyers can recite the buzzwords courts have used thousands of times: “imminent harm,” “irreparable injury,” “no adequate remedy at law.” But let’s face it. Courts have a hard time coherently explaining these concepts. The recent Texas case Daugherty v. Highland Capital Management is no exception.[1]

dangling-car
Imminent harm? Yes. Irreparable injury? Probably not.

Lawyers who handle these cases should understand that imminent harm and irreparable injury mean two different things:

  • “Imminent harm” means that harm is about to happen if the court doesn’t stop it. This has nothing to do with whether the harm is “irreparable.”
  • “Irreparable injury” means that awarding damages would be an inadequate remedy for the harm. This has nothing to do with whether the harm is about to happen or not.

Unfortunately, courts often confuse these two requirements. For example, a court will cite evidence that a competitor is in a position to use a company’s trade secrets as establishing “irreparable injury,” when that fact actually goes to the issue of “imminent harm.”[2]

Another recurring problem is that when courts cite evidence of “irreparable injury” in a trade secrets case, they often cite evidence that is either tautological or generic. In other words, they tend to cite evidence that is either (a) true by definition or (b) recited in virtually every trade secrets case. This renders the analysis less than satisfying.

Let’s use Highland Capital as an example. The basic facts were typical: Employee signs confidentiality agreement with Employer, Employee leaves Employer, Employer sues Employee for taking Confidential Stuff.

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Imminent harm, or irreparable injury?

The jury verdict, on the other hand, was a little unusual. The jury found that Employee breached the confidentiality agreement, Employer’s damages were zero dollars, and Employer’s reasonable attorneys’ fees were $2.8 million. The judge awarded Employer the attorneys’ fees plus an injunction against retaining, using, or disclosing Employer’s confidential information.

This raises important questions. First, where can I find one of these clients who will pay $2.8 million to try a confidentiality agreement case? Second, what does Highland Capital teach us about what evidence is necessary for a trade secrets injunction to hold up on appeal?

Evidence of Imminent Harm?

Here are six things the Highland Capital court cited as evidence of imminent harm, followed by my questions:

1. The court said there was “evidence that [Employee] took, kept, and used confidential information.”

This is evidence that the employee breached his confidentiality agreement, but is it evidence of imminent harm?

2. The court cited “demands and protracted litigation.”

Saying the litigation was “protracted” reminds me of what Nathan Arizona said when the police asked if he had any disgruntled employees. “Hell, they’re all disgruntled . . .”

3. Employer’s expert testified: “this information goes to the core of what [Employer] does as a business and what [Employer] is in terms of its value.”

This is fairly generic. Believe me, every company thinks the information the employee took “goes to the core” of the company’s value.

4. Employer’s expert: the information’s “existence away from [Employer] harms [Employer] because there’s always the possibility that it can get into general distribution . . . or to a competitor.”

This seems tautological. By definition, doesn’t the fact that someone else has the confidential information create a “possibility” that it could become public or known by a competitor?

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Does the “possibility” of harm establish irreparable injury?

5. Employer’s expert: the harm “may not be immediate, but the harm may occur over a long period of time.”

Doesn’t the fact that the harm may occur over a long period of time suggest it is not imminent?

6. Employer’s expert testified “I cannot quantify the total harm,” and “it may be that I can’t measure the specific relationship of these documents to that harm. . . you can’t measure things that you don’t know have occurred.” Asked if he performed “any sort of statistical analysis to try to put a number to this harm,” the expert said, “We did not and could not.”

Do these statements go to whether the harm is imminent, or whether the harm is irreparable? It seems like the court put this evidence in the wrong section of the opinion.

Evidence of Irreparable Injury?

As for irreparable injury, the Highland Capital court cited these key points from the testimony of Employer’s co-founder:

1. “A specific document [Employee] took and failed to return revealed [Employer]’s current and prospective investment strategies.”

In other words, Defendant misappropriated confidential information. But does that make the injury irreparable?

2. There was “[a] particular document [Employee] failed to return in which one of [Employer]’s investors was identified as well as names of our other clients and the investment objectives which are confidential.”

Again, this is evidence of misappropriation of confidential information, but how is it evidence of irreparable injury?

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The harm from losing confidential information can be difficult to quantify

3. “Some of the people in the marketplace can replicate our firm strategies and our investment objectives and form competing funds with these materials like marketing materials.”

This could be evidence of imminent harm, but how does it show that the harm could not be compensated by damages?

4. “If our investors see that we don’t have enough safeguards over our confidential information they would refuse to invest with us, we would be violating our agreements with them, we would be violating the law.”

Again, this is evidence of the possibility of injury, but how does it establish irreparable injury?

5. “Putting a dollar value is almost impossible. But it’s very valuable to us. It’s very, very important.”

Now we’re getting somewhere. This goes to the issue of irreparable injury. But this testimony seems generic. Very, very generic.

Based on this testimony, the court said there was “evidence of harm that could not be quantified,” and therefore, evidence of irreparable injury.

What Did We Learn Today? 

So what do you think? Does the analysis of imminent harm and irreparable injury in Highland Capital support my point that courts often get these two requirements confused? Does it show that courts often rely on tautological or generic statements to uphold an injunction?

train-stop-lights
Understand what you need to prove to stop the use of your client’s confidential information

The more practical lesson for litigators is this: If you are trying to get an injunction for your client, offer evidence showing that the defendant is going to use or disclose the confidential information soon if an injunction is not granted (imminent harm), and that damages would be an inadequate remedy because the harm is inherently difficult to quantify (irreparable injury). Even if courts get confused, don’t mix up these concepts in your own mind.

Irreparable injury can be tricky. You need to show that quantifying the damage is inherently difficult, but without conceding that the damage is speculative. This balancing act is especially difficult when, as in Highland Capital, you are also trying to persuade the jury to award lost profits or some other form of damages.

Don’t forget to prepare your witnesses to say the right “magic words,” like “putting a dollar value on this is almost impossible” (if that’s true). But take it a step further and have your witnesses explain why quantifying the damage is difficult. Because it’s not enough to have some generic testimony to uphold the injunction on appeal. It’s also important to persuade the trial court judge to grant the injunction in the first place.

Very, very important.

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Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Daugherty v. Highland Capital Mgm’t, L.P., No. 05-14-01215-CV, 2016 WL 4446158 (Tex. App.—Dallas Aug. 22, 2016).

[2] For example, in Tranter, Inc. v. Liss, No. 02-13-00167-CV, 2014 WL 1257278 (Tex. App.—Fort Worth March 27, 2014, no pet.), the court said that “[a] highly trained employee’s continued breach of a noncompete agreement creates a rebuttable presumption that the employer is suffering an irreparable injury.” While the fact that an employee is competing in violation of his non-compete suggests imminent harm, it does not show that the harm is irreparable.