2004 Intellectual Property Sample Answer

2004 Intellectual Property Sample Answer
Eric Goldman

OVERVIEW

This was a “good news/bad news” exam. Let’s start with the good news. The vast majority of you demonstrated a solid level of competence about intellectual property, meaning that most of you got the basic principles from class and were able to use them on the exam. The exams were tightly bunched together at a high level of expertise.

The bad news is that the vast majority of you made identical errors. In your rush to complete your checklist on question #1, very few of you actually got the point of the question. I wanted you to think carefully about the exact nature of the characters’ copyrights; instead, the vast majority of answers followed this syllogism: (1) the Shrek films are copyrighted, (2) Legoland has taken something from the film, (3) therefore, copyright infringement, let’s turn to defenses. Similarly, on the trademark and right of publicity questions, I was looking for a careful analysis about the differences between displaying a sculpture and selling branded products in the store.

On question #2, a lot of you treated the question as purely about trade secrets, missing some other extremely critical insights about patents (and perhaps copyrights). Also, in your zeal to protect Epitome, a very small number of you thought about the risks to Epitome from being exposed to Viatone’s trade secrets.

I mention these systematic errors because they lead to two grading observations. First, as I warned all of you in class, this was a hard exam. What did you think I meant by that? All of you had the PowerPoint slides and are capable of cutting ‘n’ pasting from them, so I’m not going to give you an exam that tests cutting ‘n’ pasting skills (I’m confident all of you would ace that exam). I also am not going to give an exam where you can succeed on the exam by rotely following a checklist (that’s an easy exam). Many of you cut ‘n’ paste and clung to your checklist, which often led to your survival (i.e., you got a B) but capped your upside.

Second, as a corollary to the first point, it was very easy to earn an honors grade. So long as your answer was generally competent/lacked significant defects, a single insight discussed above—the overlapping copyrights in the characters, or the differences between trademark use on a product for sale and a depiction of a trademarked character, or the patent statutory bar, or the risks of taint from Viatone’s trade secrets—often put you in the honors grade category. Often, discussing two of those insights put you in the A range.

I know what some of you are thinking: “OK, Goldman, how was I supposed to get these insights? You didn’t teach me that there’s a taint risk when two companies share offices.” True, I didn’t, but this is what makes the exam hard. It’s all about applying the abstract principles of the course to new situations. I think that all of you, based on the principles we discussed in class, are capable of thinking through this problem. However, you need to do some hard thinking about the facts to apply the class principles to see the problem. I still believe that if you spend more time contemplating the fact pattern, thinking “why did Goldman ask this question,” you will pick up more points than just following checklists. If you did spend some extra time thinking about the question (where you put your pen down/took your hands off the keyboard and tried to figure out why I thought these were hard questions) and didn’t reach an honors grade, I’d be interested in your reactions to this sample answer. After reading this, do you say “of course!” or “no way!”?

Third, as a further corollary to the first point, I had to make some very fine distinctions between exams in some cases. I read the exams extremely carefully looking for the beyond-checklist insights, so in some cases a single sentence demonstrating the right insights boosted an exam to an honors grade.

Some administrative details about the exam:

Several exams committed major infractions of the exam rules (i.e., violating all caps admonishments). I reiterate that the sanctions for major exam rule violations are harsh and potentially career-threatening.
On a happier note, 57 of you wrote the exam on computer, leaving me only 5 bluebooks to read! A record 38 of you returned your exams by email.
There were 8 As, 7 ABs, 33 Bs, 6 BCs and 8 grades below BC.

QUESTION 1

(Average words: 1315. Median words: 1404. Maximum words: 1825 [note: this was a rule violation discussed above]. Minimum words: 740)

This summer my family went to Legoland in San Diego. While there, I was struck by the number of Lego implementations of copyrighted works, living people, etc. This indicates one of the curses of being a law professor. While everyone else is enjoying the kiddy rides and the beautiful San Diego weather, I was thinking about how I could write a really tough IP exam question about Legos. At least I can now deduct the trip on my taxes.

(For those of you wondering—yes, Legoland is expensive—$45/person for admissions fees alone.)

This question had two dimensions of complexity. As discussed above, there were some tough conceptual issues. Additionally, for the first time on one of my exams, the word count cap was a real limitation. You needed to invest your words wisely, so cutting ‘n’ pasting and throat-clearing usually took up valuable words that you could have more productively used elsewhere.

Substantively, a few introductory comments. This is a question about characters. Characters raise many tough IP issues, and the law of characters deserves its own course. I didn’t expect you to be experts in character law. However, we did specifically discuss characters in three cases—Nichols, Anderson and Mattel. I had thought that most/all of you would use these three precedents for their respective holdings. To my surprise, many of you never mentioned any of these cases or used them to your advantage. You could have gotten an honors grade without doing so—citations were not a litmus test—but I think working through these cases would have improved scores for many of you.

I think a solid answer had the following components: copyright ownership; copyright infringement; copyright fair use; trademark validity/priority; trademark infringement; trademark dilution (including defenses); and right of publicity. Skipping one or more of these components (such as the copyright fair use discussion, which probably half-a-dozen of you skipped) was usually detrimental to your score. In contrast, extremely efficient treatment of a core component wasn’t always detrimental if the other sections made up for it.

Ownership of a Valid Copyright

The key to doing a proper copyright analysis is to recognize that there are 2 distinct copyrights at issue here. First, there’s the copyright in the characters as part of a story, much like the Rocky character at issue in the Anderson case. I’ll call this the “storyline.” The storyline is a literary work (and, as depicted in the movies, an AV work). Second, there’s the copyright in the visual depiction of the characters. I’ll call this the “visual depiction.” The visual depiction is, at minimum, a pictorial/graphic/sculptural work.

In the movies, these two copyrights combine into the overall film experience. In our case, however, these copyrights are implicated differently.

We can assume some of the requisite components of a valid copyright. Both copyrights were fixed in the film (and the storyline was fixed in the screenplay and the underlying book, and the visual depiction has been fixed in many other places). (A grammar point: the proper term is “fixed,” not “fixated”). We don’t know who owns these copyrights (I think it’s Dreamworks) but we’ll assumesomeone other than Legoland does.

I also think there’s no question that both copyrights have the minimum degree of creativity to be original works of authorship. The Donkey looks like an ordinary donkey, but there’s enough unique details that the specific implementation of Donkey should clear the minimum threshold easily.

Infringement

Legoland expressly intended to replicate Shrek and Donkey, so we can assume that they will admit copying-in-fact. Let’s turn to wrongful copying.

With regard to the storyline, Legoland does not take any of the existing Shrek story. Instead, Legoland is putting Shrek and Donkey in a new story (the Jack and the Beanstalk story). This is like the infringing derivative work created by Anderson (where Anderson interwove stories from prior Rocky movies into the next stage of Rocky’s life) but it is also qualitatively different—would riders believe that the Lego scenes extend the Shrek story? In this sense, the ride scenes are not really “based on” the Shrek story. Considered that way, there’s no wrongful copying of the storyline, and I won’t discuss this copyright further.

The visual depictions are more problematic. Assuming the films contain the precedent depiction (there probably are other copyrighted depictions, such as a Shrek stuffed doll), then Legoland will be creating 3D versions, in the Lego medium, of 2D copyrighted images. This could be a 106 reproduction, or more likely it would be considered a derivative work. Once put on display, the Lego sculptures will be infringing the public display right. Assuming Legoland tries to do accurate renditions of Shrek and Donkey, then by any wrongful copying test, the Lego sculptures will be infringing (even in Donkey’s case, where the copyright might be thinner).

Fair Use

Nature of the Use. Legoland is a commercial enterprise and the Lego sculptures will be a part of that enterprise, so on the educational/commercial spectrum, this use is commercial. However, something about this doesn’t feel quite right. If Legoland doesn’t charge a separate entrance fee for the ride, and if the depictions aren’t a centerpiece attraction that pulls people into the park, the usage seems weakly commercial.

We should also consider if this use is transformative. Parodies can be transformative, and under the generous parody standards of Campbell and Mattel, this might very well qualify—if we squint, we could argue that the ride makes fun of Shrek’s meanness and Donkey’s silliness. On the other hand, this is not a parody because the usage wasn’t intended to critique the precedent work, but instead was intended to make a different story (Jack and the Beanstalk) more interesting.

Alternatively, we could argue that this usage adds something new with a further purpose or different character. The new stuff is the implementation in the Lego medium and the surrounding context of the Jack and the Beanstalk story. While the visual depiction is still virtually verbatim, so was the first line and the riff in the Campbell case. However, the implementation in rap and the addition of stupid lyrics was transformative, so maybe Legos and a different story would be transformative as well.

Nature of the Work. The visual depictions are fictional, not factual, weighing against fair use. Note that many of you erroneously suggested that publication of works weighed against fair use as well. As Harper & Row indicated, publication of unpublished works weighs against fair use.

Amount/Substantiality of Portion Taken. In one sense, 100% of the visual depiction is taken. In another sense, there’s a lot of different visual depictions, and this is just another one.

Market Effect. As many of you noted, a Lego sculpture isn’t likely to affect the movies, stuffed dolls, etc. However, it could have an effect on the market for visual depictions depending on how those are conceptualized. If we think of the Lego sculpture as a parody, then under Campbell, the appropriate market to consider is the market for non-parodic Lego sculptures, or perhaps the market for non-parodic sculptures or non-parodic amusement park depictions generally. It’s hard to assess market impact for those market with the facts we have. A more circular approach is to conceptualize the market as the general market for licensing the Shrek/Donkey characters, an obviously well-developed market that, by circular definition, is negatively impacted by unlicensed activities. The most likely answer is based on a case we didn’t discuss in class, the Castle Rock case, which gives the copyright owners the right not to exploit a market at all, and I think would give the Shrek/Donkey owners the right to withdraw the characters from a market they don’t like.

Advice on Copyright

Proceeding without a license is a high-risk decision. Building a Lego sculpture isn’t like burning a CD—it’s a labor-intensive and expensive project that may have to be junked if the copyright owners win, with possible damages layered on top of that. The more prudent course of action would be to proceed only with a license.

Trademark

Valid TM?

We need to be precise about the trademark at issue here. No question that the word “Shrek” is a valid TM. It’s fanciful and used to market goods (such as the movie). The word “Donkey,” on the other hand, is generic, and can never be a trademark (a number of you argued that the word Donkey had derived secondary meaning but that’s irrelevant for generic words).

However, the facts don’t suggest that Legoland intends to use the word marks at all, and this unintentionally led many of you astray—many of you did a solid trademark analysis about irrelevant word marks. Instead, Legoland wants to build Shrek and Donkey sculptures, so we have to identify if the visual depictions of the characters are trademarks on their own (separate and apart from the word marks). In other words, have the visual depictions of Shrek and Donkey been used to identify and distinguish the source of goods in the marketplace? I think there’s a good argument that these images have been—at minimum, we could argue that the images were used to market the film, but they have also been used to hawk goods aplenty. However, this type of trademark usage would need to be established.

Priority

The facts state that Legoland is trying to depict Shrek and Donkey, so priority is easy to establish.

Trademark Infringement

Trademark Use in Commerce. I think there’s a real problem with deeming Lego sculptures a trademark use in commerce. Assuming that Legoland merely adds the sculptures to the ride, and does nothing more, then Legoland is not making a trademark use of the sculptures. In other words, Legoland is not using the visual depictions to identify and distinguish the source of goods. While we might still have dilution issues, if Legoland is not making a trademark use of the trademarks, then there’s no infringement.

Perhaps this is easier to understand with an analogy. Assume that a newspaper includes a picture of Shrek and Donkey as part of an article. It will need a copyright license to include the picture, but has the newspaper committed trademark infringement? No, the newspaper would not be making a trademark use of the characters—the newspaper is not trying to identify and distinguish the source of its goods by showing the characters. This isn’t nominative use or non-commercial use—this is no use of the trademark as a trademark.

Note, however, that the facts change if Legoland tried to do more with the visual depictions. For example, if Legoland included a picture of the sculpture in its marketing collateral, this might qualify as a trademark use because Legoland might be characterizing the origins of its services (the amusement park) based on consumer perceptions about the source of the characters. Also, if Legoland tried to sell miniature keychain versions of its Lego Shrek/Donkey sculptures in the gift shop, we would have a trademark use in connection with the keychains.

Likelihood of Consumer Confusion. If we don’t have a trademark use, then we don’t reach the multi-factor test. However, I’ll assume for a moment that the mere display of the Shrek/Donkey Lego sculptures meets the trademark use requirement. If so, we consider the multi-factor test:

Mark strength. The Shrek depiction is fanciful and strong. The Donkey depiction is weaker because of its close resemblance to actual donkeys.
Mark similarity. Identical.
Proximity of goods. You could analyze this different ways. Movies and theme parks are both in the entertainment business and both cater to the same youthful audience. Alternatively, you could distinguish between media products and in-the-field activities.
Actual confusion. None yet because the sculptures haven’t been built. Note that surveys can show actual confusion, but courts also consider anecdotal evidence of specific situations where people were confused.
Purchaser care. This factor shows the absence of a trademark use. Legoland attendees aren’t buying the Shrek/Donkey sculptures; they are buying admission to a theme park where that is one of many attractions. On that front, I will note that purchasers of theme parks are usually extremely careful because going to a theme park, especially with a 2 year old, can be a major (and expensive!) excursion requiring significant planning and coordination.
Intent. Legoland intends to replicate the depictions but, arguably, isn’t looking to transact goods or services based on the goodwill.
Marketing Channels. Once again, this factor is silly if Legoland isn’t marketing the depictions. In any case, both the movies and the theme park are mass-market consumer services, so they are marketed using similar channels (TV, mass-market print, word-of-mouth, etc.).
Likelihood of Product Line Expansion. There’s a good chance that if the sculptures prove popular, Legoland would try to merchandise them. On the other side, Shrek/Donkey have been merchandised in a seemingly-infinite number of products, so the likelihood of expansion is high (if they haven’t exploited every possible market already).

On balance, this test tends to point towards infringement, but a robotic application of an inapplicable test can do such things. An alternative analysis would be sponsorship confusion, which points towards infringement given the extensive merchandising that has already taken place.

Infringement Defenses

There aren’t too many good defenses. Legoland could try to argue that Donkey is generic or that the trademark owners have engaged in unsupervised licensing. Without better facts, these both sound lame. Legoland could also argue nominative use, but the third factor—no implied sponsorship/endorsement—is problematic given the discussion about sponsorship confusion.

Dilution

Even if Legoland isn’t using the visual depictions as a trademark, they could still be on the hook for trademark dilution. We’ll explore this more below in the discussion about commercial use in commerce/non-commercial use. Let’s look at the requirements for dilution:

Famous? The visual depictions are probably famous despite their relative youth. I’m confident that everyone would recognize a picture of Shrek even if there was no further identification. The same probably goes for Donkey.
Distinctive? To the extent this is a required factor, Shrek as a fanciful mark should qualify, and the visual depiction of Donkey probably does too.
Commercial Use in Commerce? I’ve already taken the position that the sculptures, without more, are not a trademark use, so this may be a problematic factor. Notice how this fact pattern differs from the Mattel case. In that case, the word “Barbie” was being used to sell records. Here, the display of the sculptures isn’t being used to sell anything. So there’s less here to support a commercial use in commerce than was found in the Mattel case.
Use Began After Marks Became Famous. This is assumed from the facts.
Actual Dilution.
- Blurring? On the one hand, Legoland would argue that it is not creating a new definition for Shrek/Donkey; like a nominative use, the sculptures refer to the existing Shrek/Donkey. On the other hand, we could imagine a blurring of sorts. For example, it’s possible that people who experience the ride might be confused about future depictions of Shrek: is it Shrek from the Shrek storyline, or is it Shrek from the Jack and the Beanstalk story?
- Tarnishment? This depends on the actual implementation. I could imagine an implementation that would forever taint our perceptions of Shrek and Donkey, such as depicting Shrek in the middle of snacking on a little boy’s innards with little Lego droplets of blood trickling down, or depicting Donkey in mid-push with an egg emerging from his posterior regions. However, given that Legoland caters to the kiddie crowd, it’s unlikely they would make such offensive implementations.
- Actual harm. The Victoria Secret case requires that the trademark owner show actual dilution, not the likelihood of dilution. We don’t know how trademark owners make this showing, so it may be possible that the trademark owners here can’t meet the heightened standards.

Dilution Defenses

Even if the trademark owners establish a prima facie case of dilution, Legoland might still be able to argue non-commercial use under the Mattel case. A number of you incorrectly dismissed this because you’d already established a commercial use in commerce—did you forget our discussion about the Mattel case? The Mattel court said that even if there was a commercial use in commerce, a use was non-commercial if it does not propose a commercial transaction. Here, Legoland’s implementation does not propose a commercial transaction, so under Mattel it should drop out as a non-commercial use (assuming it was even a commercial use in commerce in the first place).

Advice on Trademarks

The theoretically-minded law professor says that, under textbook applications of trademark law, a Lego sculpture of Shrek and Donkey does not constitute trademark infringement or dilution and does not require a trademark license. However, the practical reality is that many judges would suspend “normal” trademark law to protect cherished cultural icons like Shrek. Because we’ve already concluded that Legoland should get copyright permission, it would be natural to get a trademark license at the same time. However, if we had concluded that we didn’t need a copyright license, then I would not seek trademark permission independently.

Right of Publicity

Use of Likeness for Commercial Purposes?

Notice how this fact pattern differs from the cases in the book. In Midler and White, the personality rights were used in advertisements to hawk third party wares. In Comedy III, Saderup created prints that he sold to customers that contained the images. Here, Legoland is neither using Arnold’s image in ads nor selling widgets-o-Arnold. As a result, we have less commercial usage than in our case precedents. Indeed, the only commercial usage is that the bust would be one of many in one attraction of many at a park that charges admission. Like the previous discussion on trademark use, I think the gap between the bust and the reason people pay money is pretty big.

A number of you relied heavily on the White and Midler cases—but recall, these were focused on ads, where there is commercial impact from the celebrities’ implied endorsement. Because we’re not dealing with ads, I think those cases aren’t that helpful.

If the bust is deemed to be for commercial purposes, Legoland would argue that it’s protected by the First Amendment because it’s transformative (as described in the Comedy III case). There, we discussed two ends of a spectrum between Arnold being the “sum and substance” of the bust and Arnold being the raw materials of Legoland’s own expression. (The idea of Arnold being raw materials sounds pretty good to me!) If the bust looks like the Lincoln bust, I think it would be hard to argue that Arnold isn’t the sum and substance of the bust.

Some of you argued that there was a rule that “historical figures” were immune from right of publicity protection. I really wasn’t impressed with this made-up rule. I think it’s actually false; even political figures have right of publicity protection, although the First Amendment defense might be stretched further in their cases. However, I believe you may have imagined this rule based on a different rule that actually exists. In many jurisdictions where the right of publicity is recognized, the right of publicity ends on the person’s death; so “historical figures” would drop out of the right of publicity because they are dead. However, in other jurisdictions, such as California and Indiana (who are having a little war to see who can be more solicitous to dead celebrities’ estates), the right of publicity can survive for decades after the person’s death. I do caution you that I was tempted to impose some pretty significant penalties for making up new bogus legal rules without acknowledging that you are making them up. This is exactly what bad IP lawyers do (make up rules that track their belief of what the law should be, rather than what the law is), and it’s a recipe for malpractice. As for grading on future exams, future fantasizers be forewarned!

Advice

I don’t think an Arnold bust displayed in the Legoland Walk of Fame, without more, is a publicity rights violation. As a result, I don’t think we need to ask Arnold’s permission. However, asking permission would potentially allow Legoland to do more with the bust, such as feature it in ads or sell miniature keychains in the gift shop. Further, a conservative lawyer would recommend asking permission no matter what, although I don’t think an unnecessary permission request is cost-free—recall from the Campbell case that the denied permission may have constrained their defense.

QUESTION 2

(Average words: 1102. Median words: 1115. Maximum words: 1500. Minimum words: 148)

As some of you may have inferred, this was a real situation I faced at Epinions. In the heady dot com boom (and before I started), the company leased a full floor of posh office space at a high lease rate. In the dot com bust of 2001, we were using less than 1/3 of the space and needed cash desperately. The single biggest thing we could do to improve cash flow was to rent the unused space. However, we could not invest a lot of money into being a landlord, such as by building new walls or constructing a new server room, because these cash outlays would need to be made in advance and we needed every penny we had for operations (like payroll). Thus, the office co-habitation idea was borne.

I warned you that this would be an especially tough question for at least 3 reasons. First, this was not a real estate question, although it was couched in real estate terms. Second, this was not a question you could answer by checklist (although some of you tried anyway). Third, to understand this question, you needed to do some very thoughtful issue-spotting. I don’t know if my warning was helpful or not; I wasn’t trying to torture you or to scare you into doing more exam preparation, but I did want to avoid the paralysis that seemed inevitable when you faced a very opaque question. I figured that knowing everyone else would consider it a tough question would be comforting.

Everyone realized the trade secret issue here at some level, but some of you merely assessed the risk of Viatone stealing ideas from Epitome. I treated this as a competent answer, but if this is all you did, I capped your score. Real upside on this question required you to dig deeper and apply the course principles in a more nuanced way.

One other preliminary observation. Some of you strayed from the call of the question and talked about Epitome’s general IP issues. I pretty much ignored this discussion in your answers (usually didn’t hurt, but it took valuable time and words away from the things I was looking for). Please remember to focus on the question that I ask!

What Intellectual Property Issues Are Implicated by This Transaction?

Loss of Trade Secret Protection

An owner must use reasonable efforts to maintain the secrecy of information that it would like to characterize as a trade secret. Here, Epitome faces the risk that a court would say that it did not use reasonable efforts to maintain secrecy. This would have two consequences. First, should Viatone take Epitome’s trade secrets, Epitome would not be able to stop them. Second, and a point that a lot of you missed, Epitome couldn’t stop anyone else either—if Epitome has not made reasonable efforts to maintain secrecy, then trade secret protection is permanently lost across the board.

To assess whether Epitome is making reasonable efforts, we had two precedent cases (MI and Rockwell). MI tried to protect its furnace by hiding it from general employee view, putting up restricted access signs, and requiring furnace visitors to sign NDAs. Rockwell protected its piece part designs by storing them in a central vault, requiring NDAs from employees and subcontracting manufacturers, and labeling them confidential. But also recall that MI was at risk because it disclosed its furnace design to several parties (contractors and manufacturing licensees) without NDAs, and Rockwell was at risk because tens of thousands of copies existed outside the vault and customers had received some copies. Here, Epitome faces the risk that a third party (Viatone) has unfettered access to its trade secrets. Without more, this unfettered access could be fatal to Epitome’s trade secrets.

Taint from Viatone’s Trade Secrets

The risk of information leakage flows both ways, so Epitome has the risk of being exposed to Viatone’s confidential information. A different way to think about this is that Epitome is both a producer and consumer of intellectual property, and as a consumer, it may consume tainted IP. While Viatone will have the same problems as Epitome of showing that it used reasonable efforts to maintain secrecy, there remains a non-trivial risk that Epitome will be exposed to Viatone’s trade secrets.

Patents

Epitome faces two risks on the patent front. First, Epitome faces the risk that it will be deemed to have disclosed (to Viatone or its guests) a patentable invention before applying for a patent, which may start the one-year clock on the statutory bar. Second, the collaboration in the server room could mean that Viatone is a joint inventor of patentable inventions (which may have unintended consequences) or could lead to Viatone patenting blocking improvements.

Some of you who discussed patents indicated that Epitome would run into problems with the statutory bar only if Viatone disseminated the information widely. This is not correct; the mere exposure of the invention to Viatone without a confidential relationship starts the clock ticking.

Copyrights

Similar to the joint inventor risk, the server room collaboration could lead to joint authorship of copyrighted works (which may have unintended consequences). In addition, in any copyright infringement action, Epitome will be deemed to have “access” to all Viatone copyrighted works for purposes of copying-in-fact.

A few of you suggested that Epitome as landlord may be secondarily liable for copyright infringement by Viatone as tenant. This is not accurate. Although the Fonovisa case found liability on the part of swap meet owners for stall occupants’ infringing activities, most cases say that landlords have less supervisory power over tenants (i.e., because a lease is a property interest, a landlord cannot simply kick a tenant out the way that a swap meet operator can kick a stall occupant out).

Terms for the Epitome-Viatone Lease and Feasibility Analysis

Confidentiality Clause/NDA with Viatone

The lease agreement will need an NDA between Epitome and Viatone. The NDA has several legal benefits. First, it will defer the statutory bar for patenting. Second, it will create the possibility for any disclosed/overheard/observed information to remain a trade secret.

A one-way NDA (protect Epitome’s information but no protection for Viatone’s information) is not realistic. However, a mutual NDA is very realistic; in fact, both parties should want it. Assuming an expansive definition of confidential information, Epitome will not have to worry about formalities in making disclosures. On the other hand, Epitome will have to worry about the taint of incoming confidential information, and this does pose some risk to Epitome of committing an inadvertent trade secret misappropriation.

While necessary, an NDA is not a complete solution. First, recall that in the Rockwell case, disclosing the piece part drawings to lots of vendors under NDA did not resolve the inquiry into reasonable efforts. Second, it may be difficult for Epitome to recognize that Viatone has committed a misappropriation, so Epitome may not be able to enforce the NDA even if it has the legal right to do so.

There was a little confusion about NDAs and how they work. First, Epitome will satisfy its legal needs through an NDA with Viatone. It does not need individual NDAs with each Viatone employee. The individual NDAs would give Epitome contractual privity to sue the individuals should they misappropriate, but the Epitome-Viatone contract can support trade secret misappropriation claims against individual Viatone employees. Second, some of you thought that NDAs can be done only in an employment context. This is not correct—NDAs are regularly done in commercial settings as well.

Cross-License of IPs

Another possibility is to grant each party a license to the other party’s IP. To be clear, an NDA/confidentiality clause is a trade secret license, so this is really just adding additional terms to the NDA’s license terms. The cross-license has the advantage of reducing the risk of protracted IP litigation between the parties, but it means that the parties must invest upfront in negotiating the boundaries of what each party can do with the other party’s IP.

Assignment of IP Rights in Certain Circumstances

To address the collaboration risk, the contract could assign all IP rights in certain technologies to one party. For example, Epitome could require Viatone to assign all interest in any enhancements or improvements made by Viatone to Epitome’s equipment configuration. This has the advantage of prospectively creating a clean chain of title to core assets. On the other hand, negotiating this in advance is extremely difficult because Viatone would not be able to prospectively size up how much they are giving away.

Termination Out for IP Violations

The parties may want a clause creating a termination right if the other party violates their IP rights (such as by disclosing the other party’s trade secrets). This has the advantage of creating an opportunity to divorce an untrustworthy partner. On the other hand, given the disruption of moving, this may be viewed as overkill for minor violations, and thus might be tough to negotiate.

Non-Solicitation Clause

The parties will get to know each other’s employees pretty well, so there may be value to a non-solicitation clause.

Non-Compete Clause

Coming from California, I have a pretty negative attitude towards non-compete clauses, and we wouldn’t insert a non-compete in this agreement in California because it would be void. However, non-competes do serve a purpose, and they might serve one here. If the companies started to compete with each other, the already-too-close physical proximity might prove untenable. On the other hand, non-competes can be a Big Deal, especially for technology companies still working out their business models, where a non-compete could mean the difference between profit and death. While non-competes can have dubious enforceability, I think this situation would support enforcement of a non-compete in a lot of states (other than CA), because it would be reasonable to protect the risk of trade secret leakage.

As a practical matter, many landlords to specify the types of businesses tenants can be in (this is particularly true in retail leases as a way of managing competition within a mall or to promote complementary shopping traffic), so there may be a way to create a “backdoor” non-compete by narrowly specifying the purposes of the lease.

Codify the “Rules of Engagement”

There would be some value to codifying some rules about respecting physical boundaries into the lease. For example, it would make sense to contractually specify that the emergency fire door may be used only in emergencies. This would support the physical arrangement as being reasonable efforts to maintain secrecy and would create termination and damages remedies for violations. Because a mutual clause would benefit both parties, these terms should be easy to sell.

Operational Changes and Feasibility Analysis

Physical Changes

Don’t sit employees near the partition. This is a simple change, but notice that it has an implicit cost because Epitome can use less of its space. Some of you also suggested white noise generators (like the one Dean Kearney has in the main hall?).
Lock doors during company meetings in the lounge. This is a simple change, although it does require communication/coordination so that Viatone employees know to get their lunches out of the refrigerator early.
Shred the trash. Although dumpster diving can occur even without co-habitation, dumpster diving is trivially easy in this environment. It’s relatively cheap to get a shredder and not unduly burdensome for employees to use it. (I had a personal shredder right at my Epinions workstation and used it every day).
Escort Viatone employees and guests to/from the conference room. This could be coupled with other changes, like reconfiguring furniture to face away from the pathway, installing monitor filters that make it difficult to read screens from the sides, and instructing employees to clean up/hush up when guests are going back and forth to the conference room. I would also recommend that all Viatone guests be required to sign a simple NDA (which is easy to do if all guests are escorted by an Epitome employee). These solutions do have some time/cost implications, but they are all realistic.

Some of you had some great but completely impractical suggestions. My favorite was to shift Viatone’s hours so that there was no overlap between employees. “We’re delighted to extend you an employment offer as an account payables clerk at Viatone. Your hours will be between 9 pm to 6 am, Monday night through Saturday morning.”

Employee Education

Require employees to keep a clean desk (i.e., if a document is not in use, do not leave it on your desk) and store sensitive documents in a central safe inaccessible to marauders who enter through the emergency door at night. These solutions sound good in practice but they are fairly unrealistic and may have negative consequences. As we saw in the Rockwell case, it was difficult to keep all copies of sensitive documents in a central repository, and the Texaco case suggested that any operational process that adds steps to an employee’s job will often be ignored. To the extent that these policies make employees less efficient (for example, I’m a piler, so forcing me to move documents off my desk would degrade my job performance), they may cause the company to do a poorer job reaching its overall corporate objectives.
Instruct employees not to leave sensitive documents or discuss company matters in shared areas. This is good general business advice, and Epitome may train employees about this regardless of the Viatone transaction. However, it tends to be fairly unrealistic. People forget rules like this, especially when discussions take place in the company’s [shared] facilities. Some of you took this suggestion to an extreme, suggesting that Epitome should require employees to have sensitive conversations in off-site facilities. Not only does this not necessarily solve the problem (are the off-site facilities more secure?), but literally following this policy would significantly degrade company efficiency.
Instruct employees not to listen to Viatone’s discussions or use their documents. Remember that Epitome is a consumer of IP, so it is equally important to instruct employees not to internalize Viatone trade secrets. This rule is also fairly unrealistic; once exposed to a good idea, it’s hard to forget it.
Instruct the server room engineers to limit their collaboration with Viatone engineers. This is realistic only if the message is constantly reiterated; otherwise, the engineers will forget.

Note that employee instructions have another significant downside. The more rules imposed on employees, the less fun the work environment will be. At some point, company culture will suffer from hyper-emphasis on trade secret concerns.

Rely More on Patent Protection

I was hoping that more of you would suggest this solution. If Epitome is concerned about preserving information as trade secrets, an alternative is to rely on patents instead. This way, even if the information loses its secrecy, Epitome is still covered.

The patent solution has its own downsides. First, in technology companies, technology often moves more quickly than patent protection. For example, with the equipment configuration, Epitome may be tinkering with it constantly as new equipment is added and equipment is upgraded. A patent on 2 year old designs may be worthless.

Second, applying for patents may expose the technology for the world to see, and if Epitome doesn’t get the patent, then Epitome has no protection (patent or trade secret).

Third, patents require upfront out-of-pocket expenditures, while trade secret protection does not. For a cash-strapped company, the upfront expenses of patent prosecution may be cost-prohibitive.

Summary on Consequences

This question shows that nothing comes free in life. In this case, Epitome must choose between taking Viatone’s cash now, investing cash in more facilities to limit resource sharing, or giving up Viatone’s cash because of IP concerns. In other words, in the race to take cash today, Epitome may be mortgaging its future by limiting its IP assets and exposing itself to IP taint. To me, this situation clearly demonstrates that IP has an opportunity cost to companies.

For what it’s worth, I enthusiastically endorsed Epinions’ co-habitation deal. We needed the cash and couldn’t afford to invest in better infrastructure to protect the possible long-term upside from better IP protection. I believe that the cash flow from the co-habitation deal made the difference in Epinions’ survival through the darkest days, allowing Epinions to reach a time when it could once again be more careful. Although Epinions took a big risk with its IP during the dark days, survival is the first priority.

This question also illustrates the lack of power that lawyers have to manage risk. Lawyers can draft pretty contracts and promulgate rock-solid legal policies to protect assets, but people are still going to follow a path of least resistance unless they are bombarded with reminders and threats (for which they will resent the lawyers and probably ignore them anyways). On the flip side, lawyer-driven rules do have an opportunity cost; if people actually behaved in accordance with “best legal practices,” employees would spend lots of time and money on matters that do not make the company money. In the end, best legal practices may not always be smart business, and companies need to make smart and informed cost/benefit tradeoffs.