Misappropriation of Trade Secrets
Companies are relying more and more on trade secrets to protect their intellectual property because if done properly, the company can extend the useful life of their intellectual property well beyond the duration of a normal patent (e.g., the formula for Coke). To be considered a trade secret the owner of the trade secret must have established methods for protecting the trade secret.
The two most common ways that trade secrets are lost are through employee theft and computer breaches. Misappropriation of trade secrets most often occur when a third party takes a company's intellectual property and either uses it for their own benefit and/or provides it to another entity which then uses it for its own benefit. If a trade secret is misappropriated (i.e., stolen), the injured party will likely sue the misappropriator and, if possible, as many of the misappropriation benefiters as possible. In doing so, the injured party ("Plaintiff") will have to assert a damage claim which will likely assert financial damages against the misappropriating party ("Defendant"). The Plaintiff's financial damages will be based on one or a combination of three types of damages 1) actual damages, 2) reasonable royalty, and 3) unjust enrichment.
Actual damages generally refer to the Plaintiff's lost profit. This could include profit on lost sales and price erosion, caused by additional competition in the market. It is not uncommon for a Plaintiff's lost profit to exceed the Defendant's increase in profit. This can happen because of price erosion or because the defendant disseminated the trade secret to other competitors which also caused the Plaintiff to lose profits. The Plaintiff can sue the Defendant for these additional damages emanating from sales lost to these other competitors. Actual damages could also refer to the profits earned by the Defendant on the trade secret. In this situation, the disgorged profits of the Defendant cannot overlap the Plaintiff's lost profits claim. For example, if the claim is for the lost profit on a lost sale, then the Plaintiff cannot also disgorge the Defendant's profit on the same lost sale.
Another damage claim that could be asserted in a misappropriation of trade secrets dispute is reasonable royalty. If lost profits cannot accurately be determined, then the Plaintiff may claim a reasonable royalty on the Defendant's sales of product, which incorporated the misappropriated technology. This methodology is most frequently employed when the plaintiff and the defendant use the intellectual property in different markets and/or different products. Note that Reasonable Royalty can be:
- One-time payment
- Dollar amount applied to units
- Percent applied to revenue
Care should be taken when using a percent royalty approach on bundled products because some methods for determining revenue under GAAP (Generally Accepted Accounting Principles) may not actually measure usage and are therefore problematic if used in a royalty calculation. Depending on the facts of the case and the data available, the results of a reasonable royalty calculation may or may not be easily benchmarked.
Reasonable royalty is usually determined based on consideration of certain factors best described in the Georgia Pacific case. This case outlines fifteen factors that are considered when determining reasonable royalty (for a list of the factors, Google Georgia Pacific factors").
Other considerations important to determining reasonable royalty are cost to build around the technology in dispute, and apportionment of the product price to the trade secret. The apportionment issue is particularly critical when considering bundled products in which only one of the bundled products contains the trade secret.
Another damage claim is unjust enrichment, which has many similarities to reasonable royalty. A few examples of unjust enrichment include: plaintiff's development cost, decline in business value or stock value, and head-start damages. Head-start damages mean a defendant's efforts to bring a product or service to market were substantially shortened as a result of the misappropriation. Care should be taken to ensure that damages asserted under unjust enrichment do not duplicate the damages asserted under actual damages or reasonable royalty.
Misappropriation of trade secrets is just one of the many areas of expertise ResX, PC has developed over the years. We have brought successful outcomes to many of our clients and are well versed in many different damage claims, including:
- Lost profits and business interruption
- Intellectual property
- Construction claims
- Business valuation
Resolution Experts PC, "ResX, PC", provides independent forensic accounting services for complex litigation and contract compliance and fraud. ResX is based in Michigan and serves clients throughout the United States. For more information and to learn about working with ResX, please visit our website: www.resxpc.com.