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                                        Issue8,August 2011

 Featured Article

                                                                   Three Issues on Employee Non-Disclosure Agreement
It is a widely accepted practice for business owners to insist new employees accept non-disclosure or non-compete obligations through contracts. With our experiences in labor law practice, we set forth a few observations and suggestions regarding non-disclosure agreement (NDA).

Questions about Non-Disclosure Agreement

From a practical perspective are those NDAs really effective in preventing employees from stealing company trade secrets? And what is the useful purpose of signing such an agreement when trade secret is already protected under tort law? Finally, can an employer insist on including a liquidated damage clause in the NDA?

I. Is NDA Effective in Protecting Business Secrets?
Business or trade secret is defined under Chinese law (and under the laws of most countries) as company business or operational information not known to public, has economic and practical value and has been protected through reasonable measures by information holder. Our experiences with NDAs inform us that most employees respect and honor their obligations not to disclose sensitive company proprietary information such as trade secret or technical know-hows. The presence of NDA formalized their obligations in this respect and it is a necessary legal protection for those employees with access to critical company business secrets (as explained below). Nonetheless, the Chinese litigation system also reflect that it is extremely difficult from a litigation perspective to demonstrate that business secrets were indeed stolen or exploited without permission. This is because Chinese civil procedural law places extreme emphasis on documentary evidence while not allowing litigants much right to request relevant evidence from their law suit adversary. This means in a typical trade secret theft case, it is very challenging for plaintiff company to prove that an employee has stolen company secrets to benefit others or the employee. One recent successful prosecution of employee trade secret theft centered on an ex-employee of Foxconn passing off sensitive Apple iPad2 design information to another Chinese manufacturer.

II. Why bother with a NDA when tort law already prohibits unauthorized business secret disclosure or use?
Although Chinese tort law provides general protection against employees or former employees from disclosing or using company trade secrets, a NDA may fill in gaps left unaddressed by tort law. For example, Chinese tort law does not protect against reverse engineering as a way of uncovering other’s business secrets. However a NDA may prohibit reverse engineering by an employee. Additionally, often disputes over business secret theft involve client lists. On this issue, Chinese law states that no illegality is involved if a departed employee can prove clients on the list willingly and voluntarily enters into a business relationship with the former employee’s new company. But if employee and the original company have otherwise agreed in the NDA, then such action is a breach of contract.

III. Is an employer allowed to include a liquidated damage clause in the NDA?
This is an unsettled issue under Chinese law. Many lawyers believe that there are only two circumstances where an employer may seek liquidated damages (a pre-determined amount of damage for breach of contract) from an employee: for breach of employee training and non-compete agreement. Some Chinese courts have also ruled that an NDA cannot include a liquidated damage clause. Contrary authorities also exist such as a model employee non-disclosure agreement issued by Jiangsu Province, on which a liquidated damage clause was included. Our suggestion on this issue is if employer insists on including such a clause, the worst outcome would be that this clause would not be recognized if disputes arises. For those employees who have signed a NDA, a related issue is about employee compensation payment from employer after such employees leave the company. Our view is that it is not legally required for a company to pay employee compensations to former employees for the purpose of compensating ex-employers to keep the non-disclosure obligation unless the NDA was signed as part of a non-compete agreement (to be discussed in our next newsletter issue).

In our next newsletter edition, we will discuss a topic in labor employment related to non-disclosure agreement – non-compete agreement – and we will also highlight some of the issues we commonly see in such agreements from our clients.