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Senior Executives’ Non-compete Obligation and Trade Secrets Protection

2018-02-23

1.Non-Compete Obligations 

Non-competition originate from the UK Equity Law which stipulated the obligation of loyalty and the obligation of safekeeping for the trustee of fiduciary relationship. With the foundation of corporation, the principle of fiduciary relationship is extendedly applied in the relationship between companies and directors. Based on trust , companies entrust directors, supervisors and executives to manage and operate assets. Accordingly, as trustees, executives shall bear the duties of faith and loyalty.

 

Under Chinese laws and regulations, there are relevant provisions on Non-competition for senior executives, such as Corporation Law and Labor Contract Law.

 

As enumerated under Article 148 of the Corporation Law, no director or senior manager may commit any of the following acts: (…) (5) Without consent of the shareholders' meeting or shareholders' assembly, seeking business opportunities that belong to the company for himself or any other persons by taking advantages of his powers, or operating similar business of the company for which he works for himself or for any other persons; (…)The income of any director or senior manager from any act in violation of the preceding paragraph shall belong to the company.

 

Additionally, Article 23 of Labor Contract Law leaves the freedom of setting non-competition clause to employer and employee while prescribing limits on the applicable period and objects.

 

To examine the violation of non-competition obligation, the following two aspects are taken into account: subject and action. If the subject meets the requirements, the examination will mainly focus on whether there is faulty behavior in fact, which should be supported by full evidences and strong illustration. Among them, the key judging factor lies in “products and services of the same category”. Generally, it is judged based on the business range laid down in the company’s Articles of Association. Furthermore, if company’s actual business is different from the written business range, it should submit relevant evidences to prove that the business content between the company and the employee’s current employer are competitive and of substitutability.

 

Comparing non-compete obligation subject to the statutory requirements with that subject to agreement, there are some differences. First, different applicable objects. Competition prohibition in Corporation Law focuses on director and senior executives, which only refers to, according to Article 216 of Corporation Law, “the manager, vice managers, chief financial officers, the secretary of the board of directors of a listed company, or any other persons provided in the bylaw”. While, the applicable objects in Labor Contract Law focus on the “senior managers, senior technicians and other people who are under the confidentiality obligation to the employer”. Besides, how to define “people who are under the confidentiality obligation to the employer” is also a confusing matter in practice. Second, different binding period. Corporation Law restricts executives’ conduct during employment, while Labor Contract Law prohibits the conduct after executives’ departure and focus on company’s interest protection in future. In labor relationship, restriction during employment mostly lies in the principle of good faith and honest. Third, different default liabilities. According to Corporation Law, company may claim the senior executive’s income acquired due to his violation of non-compete obligation; while based on Labor Contract Law and non-compete agreement, company may claim for more detailed compensation for default liability. Finally, the Labor Contract Law stipulates company’s obligations to pay non-compete compensation.

 

In practice, companies often add non-compete clauses and non- conflict-of interest- provisions in labor contract and employee’s handbook to regulate employee’s conduct. For senior executives, loyalty and diligence are also the principles the should observe. For the leaving senior executives, companies tend to sign non-compete agreement at departure specifically to seek for preventive protection and to avoid employee’s utilization of original resources and advantages.

 

2.Infringement of Trade Secret

Inserting non-compete clause is one way to protect company’s secret information. However, for senior executives who hold lots of company’s secret information, if they disclose the information or utilize them in similar business after leaving company, the default compensation for violating non-compete obligation is usually incomparable with company’s suffering losses. Therefore, in company’s disputes with senior executive, claiming tort compensation on violating trade secret is an important way of remedy. However, in practice, either in Tencent case with Liu or in other similar cases, plaintiffs of trade secret cases seldom won in the recent years. According to the relevant data, among the civil cases on trade secret from 2012 to 2017, the plaintiff’s winning rate is only 40%, which is in close relationship with plaintiff’s difficulties of proof.

 

Article 9 of Anti-Unfair Competition Law of the People's Republic of China stipulates that "trade secret" means “technology or business information unknown to the public and of a commercial value for which the right holder has taken corresponding confidentiality measures”. Based on the relevant rules, “information about technologies and business operations” includes designs, procedures, formula of products, manufacturing techniques and methods, management secrets, name list of customers, information about resources, production and sales strategies, bottom price of a bid, contents of a bidding document, etc. Also, Article 22 of Labor Law entitles parties of the labor contract to achieve agreement on protecting employer’s trade secret in labor contract.

 

Actually, in practice, plaintiff’s burden of proof is mainly to prove that the infringed information falls in the above-mentioned range of the trade secret and the defendant did implement the conduct of infringement. With regard to the former fact, plaintiff must prove that the infringed information is trade secret which is never disclosed officially to the public, because confidentiality is the most important feature to distinguish trade secret from other information. Second, plaintiff shall prove that the defendant has the access or possibility to receive or approach the information. Finally, the difficulties of proof mostly lies in proving the defendant’s infringement conduct, including the defendant’s utilization for business and earning profits and the direct relationship between the infringement and company’s losses. However, due to trade secret’s features, such as invisibility and non-proprietary, company has heavy burden of proof in practice. What is more, since the trade secret has been disclosed, the impact on and losses of company are irreparable. So, it only constitutes a way of post remedy and relief.

 

3.Remedies 

Under the circumstance that senior executive’s departure of company, companies generally consider two ways of remedy: breach of non-compete clause and tort claim for trade secret infringement. These two ways do not contradict with each other and company may choose both simultaneously.

 

Taking Baidu vs. Wang case for example, Baidu Company concluded Wang’s misconduct from the following aspects:

(1)There are clear provisions on non-competition, solicit prohibition and confidentiality in Wang’s labor contract. After Wang’s left, the company has been paying compensation for non-competition, but Wang refused to hand over devices which contain company’s trade secret of high value.

(2)Wang planned and established Jingchi Company during his employment with Baidu, which is in direct competition relationship with Baidu in the sector of autonomous vehicles.

(3)During the employment, Wang solicited many technicians to leave Baidu, which violates the senior executive’s obligation of loyalty and non-compete obligation. After leaving Baidu, Wang violated the non-compete clause, solicits and recruits the technicians in the autonomous vehicle sector, and utilized technical skills and business secret to operate his own business on autonomous vehicles, which further violated the non-compete clause.

 

From my point of view, first, if the non-compete obligation is laid down in labor contract and the company has performed its obligation paying the non-compete compensation, and, sufficient evidences are provided to prove the two companies’ competition relationship, the breach of non-compete agreement is likely to be supported. The company may claim for the executive’s default liability and cessation of infringement according to the signed non-compete agreement. From the perspective of infringement of trade secret, the difficulties of proof still lie in company’s losses and the direct relationship between infringement and losses. When lacking sufficient evidences, company may be in passive position in the case.

 

Moreover, it is suggested that when signing confidentiality agreement or non-compete agreement, company could make it clear on the confidential measures according to the secret information’s features, the degree of recognition or how easy it can be obtained through proper methods, definition and scope of the secret information, so that company may protect its interests reasonably, reduce losses and control risks.

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