Badges of bad faith in trade secret litigation

In light of California's recent legislation underscoring its prohibition of covenants not to compete, it is important to appreciate how the State and federal trade secret statutory schemes address the award of attorneys' fees for "bad faith" trade secret litigation. Trade secret claims brought or maintained in "bad faith" often have several common characteristics or "badges." This article addresses the State and federal legal standard for "bad faith," and the "badges" of bad faith that often appear in litigation pursued for an improper, anti-competitive purpose.

Statutory background

California Uniform Trade Secrets Act

The California UTSA provides for an award of attorneys' fees to the prevailing party if a claim of misappropriation is made in bad faith or a motion to terminate an injunction is made or resisted in bad faith. (Civ. Code section 3426.4.)

Although the statute does not define "bad faith" for purposes of section 3426.4, the courts "have developed a two-prong standard: (1) objective speciousness of the claim, and (2) subjective bad faith in bringing or maintaining the action, i.e., for an improper purpose." (FLIR Systems, Inc. v. Parrish 174 Cal.App.4th 1270, 1275 (2009).) Objective speciousness "exists where the action superficially appears to have merit but there is a complete lack of evidence to support the claim." (Id., 174 Cal.App.4th at 1276.) Under the 'objectively specious' standard, it "[i]s enough for defendants to point to the absence of evidence of misappropriation in the record." (Cypress Semiconductor Corp. v. Maxim Integrated Products, Inc. 236 Cal. App. 4th 243, 267-270 (2015).)

Subjective bad faith "means the action was commenced or continued for an improper purpose, such as harassment, delay, or to thwart competition." (SASCO v. Rosendin Elec., Inc., 207 Cal. App. 4th 837, 847 (2012).) Subjective bad faith may be inferred from evidence that plaintiff intended to cause unnecessary delay, filed the action to harass defendant, or harbored an improper motive. (FLIR Systems, supra, 174 Cal.App.4th at 1278.)

Federal Defend Trade Secrets Act

The DTSA similarly awards reasonable attorneys' fees to the prevailing party "if a claim of the misappropriation is made in bad faith, which may be established by circumstantial evidence, [or] a motion to terminate an injunction is made or opposed in bad faith." (28 U.S.C. section 1836(3)(D).) Like the CUTSA, the DTSA does not define "bad faith. The Ninth Circuit generally follows the standard developed under California law. "[C]ourts generally adopt a two-pronged standard for the evaluation of such claims." (Swarmify, Inc. v. Cloudflare, Inc., No. C 17-06957 WHA, 2018 U.S. Dist. LEXIS 168317, at *5 (N.D.Cal. Sept. 28, 2018). "The party seeking attorney's fees must show (1) the objective speciousness of the claim, and (2) the subjective bad faith in bringing or maintaining the claim." (Id., citing CRST Van Expedited, Inc. v. Werner Enterprises, Inc., 479 F.3d 1099, 1111 (9th Cir. 2007) (quoting Gemini Aluminum Corp. v. California Custom Shapes, Inc., 95 Cal. App. 4th 1249, 1262 (2002)).

Badges of bad faith

After determining that a trade secret claim was objectively specious, both State and federal courts turn their attention to assessing the plaintiff's motives and intent in pursuing its claim. Cases brought or maintained in "subjective bad faith" often demonstrate common characteristics indicating an intent to thwart competition.

Of course a legitimate, meritorious lawsuit may contain some of these "badges." Nevertheless, most actions brought in bad faith exhibit some or all of the following symptoms:

Economic disparity of the parties

Because California forbids covenants not to compete, bad faith trade secret litigation can be used to stifle a former employee's new business or new career with a competitor. In such circumstances, typically the plaintiff has the funding and resources to fight an expensive legal battle, while its competitor may be a start-up or solo entrepreneur. Not all David and Goliath stories involve "bad faith," but courts should review the economic disparity of the parties when considering the plaintiff's motives.

Avoidance of describing trade secrets

California state courts, and many California federal district courts, require a plaintiff to identify its claimed trade secrets with "reasonable particularity" before commencing discovery regarding the trade secret. The purpose of the "reasonable particularity" standard is to avoid an unwarranted intrusion into the defendant's intellectual property. Trade secret plaintiffs who are proceeding in bad faith often balk at identifying the allegedly misappropriated trade secret, or define it in vague generalities resulting in expensive legal fights and delays over the scope of the claimed trade secret.

Failed attempts at injunctions

Courts may deny injunctions for several reasons - the plaintiff is unlikely to prevail on the merits, the plaintiff has an adequate remedy through monetary damages, or the equities do not favor granting the injunction. If the court denies the injunction because the plaintiff is unlikely to prevail on the merits, but the plaintiff nonetheless proceeds, this can be emblematic of prosecuting a trade secret claim in bad faith. The same concern applies to plaintiffs who prosecute claims even though the evidence does not support liability or damages.

Speculative damages

Damages in trade secrets disputes can take the form of the plaintiff's actual losses or the defendant's unjust enrichment. In situations where the plaintiff has not suffered any actual losses, courts should pay close attention to the plaintiff's motives for proceeding. Similarly, if the defendant arguably benefited from using the claimed trade secret, that alone is not enough to recover unjust enrichment damages. The benefit must be the type the defendant "otherwise would not have achieved." (CACI 4410.)

Recognizing that trade secret disputes are always hard-fought, emotional, and contentious, there will be entirely meritorious disputes involving these "badges." However, as California elevates the importance of trade secret litigation to police free and fair competition, courts and practitioners should be mindful of these badges of bad faith.

Dylan W. Wiseman is a shareholder and co-chair of the Trade Secret and Employee Mobility Practice Group, and Julian ("Pete") Mack is of counsel at Buchalter, a Professional Corporation.