What's Going On in Texas: No Trade Secret Protection for Software? | Practical Law

What's Going On in Texas: No Trade Secret Protection for Software? | Practical Law

A discussion of the potential effect of the US Court of Appeals for the Fifth Circuit's copyright preemption ruling in Spear Marketing, Inc. v. BancorpSouth Bank on the availability of trade secret protection for software.

What's Going On in Texas: No Trade Secret Protection for Software?

Practical Law Legal Update 5-617-6793 (Approx. 6 pages)

What's Going On in Texas: No Trade Secret Protection for Software?

by Practical Law Intellectual Property & Technology
Law stated as of 29 Jul 2015 • USA (National/Federal)
A discussion of the potential effect of the US Court of Appeals for the Fifth Circuit's copyright preemption ruling in Spear Marketing, Inc. v. BancorpSouth Bank on the availability of trade secret protection for software.
Protection of trade secrets in the US is governed primarily by state law. State statutory and common law definitions of trade secrets vary in detail, but commonly provide that protectable trade secrets include any business, financial, technical or other information that:
  • Is not generally known or ascertainable through proper means.
  • Provides economic value or a business advantage to the owner by not being generally known.
  • The owner makes reasonable efforts to keep confidential.
(See, for example, Uniform Trade Secrets Act (UTSA) § 1(4).)
Citing various state statutory and common law embodiments of these general principles, courts repeatedly have held that a software rights owner may assert a claim for misappropriation of trade secrets in its software where the owner:
  • Maintains the software in confidence.
  • Releases the software only selectively subject to:
    • prohibitions against decompiling or otherwise reverse engineering the software's object code to obtain its source code; and
    • duties of restricted use, non-transfer and nondisclosure.
(See, for example, Wellogix, Inc. v. Accenture, LLP, 823 F. Supp.2d 555, 562-68 (S.D. Tex. 2011) (software contained protectable trade secrets under the Texas Theft Liability Act and Texas common law), aff'd in relevant part, 716 F.3d 867, 874-78 (5th Cir. 2013); Softel, Inc. v. Dragon Med. & Scientific Commc'ns, Inc., 118 F.3d 955, 968-69 (2d Cir. 1997) (same under New York common law); Trandes Corp. v. Guy F. Atkinson Co., 996 F.2d 655, 663-64 (4th Cir. 1993) (same under Maryland UTSA); S.O.S., Inc. v. Payday, Inc., 886 F.2d 1081, 1089-90 (9th Cir. 1989) (same under California UTSA).
However, state law claims alleging violations of trade secret rights in software are preempted under the Copyright Act if:
  • The software falls within the subject matter of copyright described under Section 102 or Section 103 of the Copyright Act as an original work of authorship fixed in a tangible medium of expression (17 U.S.C. §§ 102 and 103).
  • The trade secret claim asserts rights that are equivalent to any of the exclusive rights of reproduction, distribution, public performance, public display or adaptation set out in Section 106 of the Copyright Act (17 U.S.C. § 106).
(17 U.S.C. § 301(a).)
Both requirements of this two-part test must be met for copyright preemption to apply (see, for example, Sybersound Records, Inc. v. UAV Corp., 517 F.3d 1137, 1150 (9th Cir. 2008); Computer Assocs. Int'l, Inc. v. Altai, Inc., 982 F.2d 693, 717 (2d Cir. 1992)).

Spear Marketing and Copyrightable Subject Matter

In Spear Marketing, Inc. v. BancorpSouth Bank, the Fifth Circuit recently confronted the question of whether the first prong of the copyright preemption test is satisfied whenever the work at issue comes within the subject matter of copyright, even if certain contents or features of the work are not protected under the Copyright Act (No. 14-10753, , at *5 (5th Cir. June 30, 2015)). Joining the majority of circuit courts that have addressed this question, the Fifth Circuit answered it in the affirmative, reasoning that:
  • The Copyright Act's preemptive scope is broader than that of its protection.
  • As a result, for the purposes of copyright preemption, the ideas, systems, methods of operation and similar functional features typically embodied in software fall within the subject matter of copyright, even though Section 102(b) of the Copyright Act expressly excludes them from copyright protection.
(, at *6 (citing Forest Park Pictures v. Universal Television Network, Inc., 683 F.3d 424, 430 (2d Cir. 2012); Montz v. Pilgrim Films & Television, Inc., 649 F.3d 975, 979 (9th Cir. 2011) (en banc); Stromback v. New Line Cinema, 384 F.3d 283, 300 (6th Cir. 2004); U.S. ex rel. Berge v. Bd. of Trs. of the Univ. of Ala., 104 F.3d 1453, 1463 (4th Cir. 1997); ProCD, Inc. v. Zeidenberg, 86 F.3d 1447, 1453 (7th Cir. 1996).)
Based on this reasoning, the Fifth Circuit concluded generally that "state law claims based on ideas fixed in tangible media are preempted by § 301(a)" of the Copyright Act and, more specifically, that Spear Marketing's claim that the defendants converted confidential information and trade secrets in its software was copyright preempted (, at *6 and 7).
Taken at face value, these broad conclusions appear contrary to the virtually unbroken line of rulings that trade secret misappropriation claims are not preempted by the Copyright Act because:
  • A breach of a duty of trust or confidence is an essential element of a claim that rights in trade secrets have been violated.
  • This breach of duty is an "extra element" that is absent from a copyright infringement claim.
  • Due to this extra element, claims based on copyrights are not equivalent to claims based on trade secret rights.
  • Therefore, trade secret rights and claims for their misappropriation fail to satisfy the equivalence requirement of the second prong of the copyright preemption test.
(See, for example, Stromback, 384 F.3d at 303-04 (citing cases).)
The Spear Marketing decision would therefore seem both to mark a departure from the settled law of other circuits and to threaten the trade secret rights of software owners who seek to vindicate these rights in the courts of the Fifth Circuit. However, viewed in context, the Fifth Circuit's holding in Spear Marketing may well have limited application to the specific laws and facts there at bar.

Spear Marketing Distinguished

The key factors that distinguish the US Court of Appeals for the Fifth Circuit's copyright preemption ruling in Spear Marketing are:
  • The preempted claims. While the gravamen of Spear Marketing's complaint was the defendants' alleged misappropriation of the trade secrets and confidential information embodied in its software, it asserted ten Texas state law claims. The district court ruled only that two of these claims, conversion and violation of the Texas Theft Liability Act (TTLA) (Tex. Penal Code § 31.05 and Tex. Civ. Prac. & Rem. Code § 134.005(a)), were preempted by the Copyright Act, and the Fifth Circuit's preemption analysis was directed solely to those claims (, at *4-5). Addressing these claims, the Fifth Circuit affirmed the lower court's ruling that:
    • the Texas common law claim of conversion was preempted only to the extent it alleged a wrongful exercise of dominion and control over intangible property, which under the facts presented, was equivalent to a claim of infringing reproduction and distribution of copyrighted material (, at *7 (citing Daboub v. Gibbons, 42 F.3d 285, 289-90 (5th Cir. 1995) and GlobeRanger Corp. v. Software AG, 691 F.3d 702, 709 (5th Cir. 2012))); and
    • the TTLA claim was similarly preempted, being based on an alleged theft of trade secrets committed by the defendants' copying, communicating and transmitting of screen shots and other software-related materials, each of which involved the exclusive copyrights of reproduction or distribution and was also equivalent to an act of copyright infringement.
    Notably, in finding these claims preempted, the Fifth Circuit cited no violation of a duty of trust, confidence or any other non-copyright-based obligation that could provide the extra element sufficient to distinguish the claims from claims of copyright infringement.
  • Trade secret misappropriation. In contrast, neither the district court nor the Fifth Circuit ruled that Spear Marketing's Texas common law claim of trade secret misappropriation was preempted by Section 301(a) of the Copyright Act. On the contrary, the district court squarely addressed this claim and granted summary judgment dismissing it on the merits, and not on grounds of copyright preemption. Specifically, the district court found that Spear Marketing failed to raise a genuine issue of fact over whether the defendants used its trade secrets to develop a competing software product, having produced neither:
    • direct evidence of this use; or
    • circumstantial evidence of this use consisting of the defendants' access to these trade secrets and a substantial similarity in the design of the competing software products.
    (, at *10-15.)
    The Fifth Circuit affirmed this ruling, again, on the merits and not on the grounds of preemption, noting that Spear Marketing simply failed to present any evidence of similarity between the software products at issue or that the defendants used Spear Marketing's trade secrets to replicate any design elements of its software product (, at *8-10).

Comment

While the Fifth Circuit's decision in Spear Marketing contains language that suggests that the Copyright Act preempts all state law claims seeking relief for the misappropriation of ideas, including trade secrets, that are fixed in tangible media of expression, on closer examination:
  • The court's ruling on preemption was limited to the two specific Texas state law claims of conversion and violation of the TTLA as applied to the facts of the case.
  • Neither the district court nor the Fifth Circuit questioned whether Spear Marketing's claim of trade secret misappropriation was, or even might be, preempted by Section 301(a) of the Copyright Act.
However, in light of this decision, counsel for software rights holders should ensure that their clients' state law trade secret claims allege:
  • Subject matter such as ideas, processes, methods of operation and similar functional features that is distinct from the expressive works protected by copyright.
  • Wrongful acts such as unauthorized and injurious use, which differ in kind from acts such as copying and distribution that may constitute copyright infringement.
  • The violation of a non-copyright-related duty such as a duty of trust or confidence, which adds an extra element to the state law claim that differentiates it from a claim of copyright infringement.
For more detail on the facts of the Spear Marketing case, see Legal Update, Fifth Circuit Agrees With Majority and Rules Copyright Preemption Broader Than Protection. For more information on trade secret and other legal protection of software, see Practice Note, Legal Protection of Software.