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Will that NDA’s Residuals Clause Cost You your Trade Secrets?

Envelope stamped Top Secret, symbolizing a residuals clause in an NDAAnyone who has worked in technology is familiar with nondisclosure agreements (NDAs). Differences among NDAs usually are small; they tend to cover the same territory in similar ways. However, NDAs from large companies often contain what I consider a most pernicious provision: A ” residuals clause “.

A residuals clause excludes from confidentiality obligations information that the recipient’s personnel retain in their memories. Here is a typical provision, from the Microsoft Confidentiality Agreement for Licensing Discussions:

“Further, the Receiving Party shall be free to use for any purpose the residuals resulting from access to or work with the Confidential Information of the Disclosing Party…. The term ‘residuals’ means trade secret information in intangible form, which is retained in memory by persons who have had access to the Confidential Information, including ideas, concepts, know-how, or techniques contained therein.”

At first glance, a residuals clause appears merely to acknowledge that people remember things that they see. The problem is that the clause gives any recipient with a good memory the right to use your trade secret information and reveal it to third parties!

Trade secret protection is inexpensive and easy to obtain. As a result, businesses rely on it routinely to protect information assets. California Civil Code Section 3426.1(d) says that a trade secret is “information…that [d]erives independent economic value…from not being generally known to the public…and…is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.” (Emphasis added.)

Imagine that you disclose information under an NDA that has a residuals clause. If that provision is broad enough, not only will recipients be able to use whatever they remember about your trade secret. They also will be able to disclose the information to third parties without obligation of confidentiality, potentially destroying the trade secret status that you are relying on!

So here is what I recommend. If you will be disclosing information under an NDA but do not have the negotiating leverage to remove the recipient’s standard-form residuals clause.

  • First, if at all possible, negotiate an amendment that excludes trade secrets from the definition of residuals. This change will protect you from the greatest harm.
  • Second, look at how long the NDA restricts the recipient from disclosing your confidential information to third parties. If the restriction is not perpetual, make sure the period is long enough to provide the protection that you need.
  • Third, disclose as little as you can while still accomplishing your business objectives.

Sample mutual and unilateral NDAs are available on this blog’s Downloads page.

Photo credit: B S K via stock.xchng

Dana H. Shultz, Attorney at Law  +1 510 547-0545  dana [at] danashultz [dot] com
This blog does not provide legal advice and does not create an attorney-client relationship. If you need legal advice, please contact a lawyer directly.

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