Commercializing Your Startup's Big Secret Without Losing Its Value (Part 1)

Congratulations! Your startup is developing a revolutionary product or service that has the potential to transform an industry. Whatever the nature of that new product or service, at its core is an innovation – perhaps an algorithm, a concept, a formula or a compilation of data – that represents a major investment of effort and resources on your part. Now you get to showcase your innovation to prospective investors and other third parties in order to bring your startup to the next level.

But there's a catch. How can you let others in on your big, exciting innovation without compromising it? And how can you protect your innovation without breaking the bank?

In this two-post series, we first outline how trade secret law protects valuable business information such as the innovation discussed above. In the second post, we offer a primer on identifying and maintaining trade secrets, cognizant of a startup's generally limited resources, and with an eye toward any potential disputes in the future.

Is It a Trade Secret?

Trade secrets are defined under both state and federal law. The Uniform Trade Secrets Act (UTSA), a version of which has been adopted by nearly every U.S. state, defines a trade secret as:

[I]information, including a formula, pattern, compilation, program, device, method, technique, or process, that:

(i) derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and

(ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.

UTSA § 1(4).

The federal Defend Trade Secrets Act (DTSA) similarly defines a trade secret as:

[A]ll forms and types of financial, business, scientific, technical, economic, or engineering information, including patterns, plans, compilations, program devices, formulas, designs, prototypes, methods, techniques, processes, procedures, programs, or codes, whether tangible or intangible, and whether or how stored, compiled, or memorialized physically, electronically, graphically, photographically, or in writing if –

(A) the owner thereof has taken reasonable measures to keep such information secret; and

(B) the information derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable through proper means by, another person who can obtain economic value from the disclosure or use of the information;

18 U.S.C. § 1839(3). In other words, a trade secret is a type of "information," with a potentially boundless scope of subject matter. Despite this broad definition of a trade secret, however, not all information makes the cut.

First, the information must have "independent economic value" as a result of not being known or easily discoverable by others. So, the information's secrecy is what gives it value.

Some information is secret and quite valuable (think of the great stock tip that Warren Buffet is not willing to tell you or, to use a famous example, the recipe for Coca-Cola). Other information is secret, but not valuable (think of the "great" stock tip that a four year-old is not willing to tell you, or your Aunt Maude's recipe for "matzah-ball chowder"). Still other information is secret, but does not qualify as a trade secret because it is "readily ascertainable" by others (think of the great stock tip Warren Buffet is currently trading on in a public market, or a recipe that consists of putting potato chips in a sandwich).

Second, the information must be the subject of "efforts that are reasonable under the circumstances" to keep it secret.

That great stock tip (or recipe)? It would not qualify as a trade secret if stored in an unsecured shoebox … on the sidewalk … in a neighborhood full of curious financiers (or chefs). Even if no one has opened the shoebox yet, storing the information in such a unsecure way would not be exercising reasonable efforts to maintain secrecy. (In Part 2, we discuss some best practices to exercise "reasonable efforts," none of which involve shoeboxes.)

That said, the effort to maintain secrecy does not have to be perfect – only reasonable, given the nature of the information and the risk of disclosure. So, you do not need to wrap your office space in tinfoil to prevent aliens from reading your employees' minds, unless you happen to know that is a distinct threat.

All in all, while trade secret protection is not unlimited, it is broad and flexible enough to cover information assets under virtually any business model.

How Do You Establish Trade Secret Protection? And What About Patents?

Trade secret protection is easy and inexpensive to obtain, particularly in contrast to patent protection. Whereas filing for and receiving a patent can take years and come at a significant expense, there is no formal process to creating a trade secret. Trade secret protection arises naturally, and persists indefinitely, wherever the foregoing definition is satisfied: You possess information that has economic value by virtue of its secrecy, and you take reasonable precautions to prevent its disclosure.

As long as those requirements continue to be met, you can continue to enjoy trade secret protection.

In addition, a properly maintained trade secret may be eligible for patent protection down the road. Conversely, information loses any trade secret status once it becomes the subject of a patent application, which involves publicly disclosing a novel invention in exchange for the right to exclude others from using it for a period of time.

To be clear, not all trade secret information is patentable, and each form of protection has pros and cons (a topic for another day). But to the extent one chapter leads to another, the story begins with trade secrets.

How Is Trade Secret Protection Enforced?

Enforcing a trade secret is done by bringing a claim of "misappropriation" in state or federal court. Every state provides a cause of action for trade secret misappropriation. In addition, since 2016, the DTSA has provided a federal cause of action for misappropriation of trade secrets that implicate interstate commerce.

Misappropriation is the act of "improperly" acquiring, disclosing or using another's trade secret. USTA § 1(2); 18 U.S.C. § 1839(5). Notably, neither independent creation nor reverse engineering constitute misappropriation. If someone independently creates the same product or figures out how your innovation works, it is not actionable as misappropriation.

Trade secret law does, however, protect your information against both intentional theft (e.g., by unscrupulous competitors or disgruntled former employees) and inadvertent disclosure (e.g., by well-intentioned but careless business partners or employees). The latter type of misappropriation, although less salacious, is far more common and can be just as damaging.

In Part 2 of this post, we will cover best practices for maintaining trade secret protection and positioning your startup to enforce its trade secret rights, if necessary.