In In re Island Indus., Inc., No. 23-5200, 2024 WL 869858 (6th Cir. Feb. 29, 2024), the Sixth Circuit recently affirmed a district court’s judgment dismissing a plaintiff’s claims under the Defend Trade Secrets Act (“DTSA”) and state law with prejudice because the plaintiff failed to allege that it took reasonable steps to protect its trade secrets and did not seek leave to amend its complaint in the district court, thereby forfeiting the opportunity to add readily available allegations regarding restrictions the plaintiff had placed on its proprietary information by virtue of its employee handbook.

Case Background

The plaintiff-appellant was a company that produces welded pipe outlets and other products.  Defendant-appellees were the plaintiff’s direct competitor and that competitor’s president and CEO. The plaintiff alleged that the defendants obtained the plaintiff’s trade secrets, including its confidential supplier list, after they requested such information from a former employee of the plaintiff. The defendants then allegedly used those trade secrets to successfully pursue a qui tam action against the plaintiff under the False Claims Act.

When the plaintiff’s competitor filed for Chapter 11 bankruptcy, the plaintiff initiated an adversary proceeding against the defendants in the bankruptcy court alleging trade secret misappropriation under the DTSA and state law and seeking to recover for competitive harms as well as the judgment in the qui tam action. The adversary proceeding was eventually transferred to the United States District Court for the Western District of Tennessee, and the district court dismissed the plaintiff’s trade secret claims with prejudice under Rule 12(b)(6). According to the district court, the plaintiff failed to “point to a single measure it took to protect its allegedly secret supplier list in its Complaint,” which warranted dismissal despite that the question of reasonable protection is typically “fact-intensive, often rendering dismissal inappropriate.” The district court further noted that the plaintiff’s request for damages stemming from the qui tam action constituted impermissible indemnification under the False Claims Act. The plaintiff then timely appealed to the Sixth Circuit.

The Sixth Circuit’s Decision

The plaintiff argued on appeal that the district court erred in dismissing its trade secret claims because the plaintiff adequately alleged that it took reasonable steps to protect its proprietary information. According to the plaintiff, the complaint included sufficient allegations with respect to the plaintiff’s policy of restricting its trade secrets on a “need-to-know” basis because: (1) the plaintiff alleged that the disclosing employee owed a fiduciary duty to maintain the confidentiality of the plaintiff’s information; (2) the plaintiff alleged that the disclosing employee was not authorized to disclose the plaintiff’s trade secrets to the defendants; and (3) the plaintiff alleged that the disclosing employee did not have access to all of the plaintiff’s trade secrets, which, according to the plaintiff, was the “functional equivalent” to an allegation that the disclosing employee was provided information on a “need-to-know” basis.

The Sixth Circuit rejected each argument, finding that although allegations of restrictions on a “need-to-know” basis may be sufficient in some cases, the plaintiff failed to adequately plead the existence of its “need-to-know policy” in the complaint. 

First, the court rejected the plaintiff’s argument based upon the disclosing employee’s common law fiduciary duty not to reveal his employer’s trade secrets. According to the court, the duty imposed upon the disclosing employee under the common law did not eliminate the plaintiff’s statutory requirement under the DTSA that the trade secret holder itself must impose protective measures to maintain the secrecy of its information. The court further noted that there were no allegations to indicate that the plaintiff ever explained the employee’s common law duty to the employee, which further negated a finding that the fiduciary duty could constitute a “reasonable step” of protection under applicable law.

Second, the Sixth Circuit held that the plaintiff’s allegations that its employee was “not authorized” to disclose its trade secrets failed to raise a reasonable inference that the “express terms” of his employment barred him from disclosing that information. Again, with respect to these allegations, the court found it significant that they did not include any indication that the plaintiff communicated any prohibition or lack of authorization to the employee himself.

Third, the court rejected the plaintiff’s allegations based upon the disclosing employee’s deposition testimony that he did not have access to some of the plaintiff’s trade secrets and, therefore, its information was properly restricted. According to the court, “this statement provide[d] no insight into whether [the plaintiff] restricted access to the alleged trade secrets and business information that [the disclosing employee] did have access to.” (emphasis in original).  Moreover, the court found the plaintiff’s allegations of “partial restriction” to be vague and lacking details as to the “basis for that restriction, whether it was enforced, and who was given access.”

Beyond the substantive issues raised in the plaintiff’s appeal, the plaintiff also took issue with the district court’s dismissal of its trade secret claims with prejudice. In its briefing on appeal, the plaintiff asked the court to remand the case to the district court to allow the plaintiff to amend its complaint in the event the court was poised to affirm the dismissal of the trade secret claims. The plaintiff explained that it would add allegations related to its employee handbook and the fact that the handbook specifically informed its employees of their duty to maintain confidentiality even after their employment ended. However, the Sixth Circuit refused to remand to permit the plaintiff to amend, noting that the plaintiff “wholly failed to request leave to amend in the district court,” thereby forfeiting its opportunity to do so.  

Because the Sixth Circuit affirmed the district court’s dismissal based upon the plaintiff’s failure to allege reasonable steps taken to protect its trade secrets, the court did not address the portion of the plaintiff’s appeal related to indemnification under the False Claims Act.

Takeaways

The Sixth Circuit’s decision in In re Island Indus., Inc. exhibits the importance of including specific allegations demonstrating the reasonable steps a plaintiff has taken to protect its trade secrets under the DTSA. Based upon the Sixth Circuit’s opinion, such allegations may include the nature of the restriction, the basis for the restriction, how the restriction was communicated and enforced, and who was given access to the proprietary information subject to such restrictions. A plaintiff cannot merely rely on allegations that the disclosing party was “not authorized” to disclose certain information or did not have access to “all” of the company’s proprietary information in order to state a claim. 

Otherwise, the Sixth Circuit’s opinion highlights that when a party’s claim is challenged via a motion to dismiss under Rule 12(b)(6), that party should consider amending its pleading in the district court to cure any purported pleading deficiencies, particularly when such curable allegations are readily available and known to that party. In In re Island Indus., Inc., for example, the plaintiff waited until the claims were dismissed with prejudice and on appeal to request the opportunity to amend based upon restrictions placed on its proprietary information in its employee handbook from January 2009 – allegations presumably at the plaintiff’s disposal from the outset of the litigation. Had the plaintiff timely moved to amend its complaint in the district court to add these allegations and cure the alleged deficiencies raised in the defendants’ motions to dismiss, the plaintiff’s litigation could have taken a much different course.