Confidentiality Clauses In Contracts - A Brief Note

CONFIDENTIALITY CLAUSES IN CONTRACTS - A BRIEF NOTE

PREPARED BY: SHAILESH MADIYAL SALVUS PARTNERS, NEW DELHI [email protected] www.salvuspartners.com

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THE CONTENTS OF THIS ARTICLE ARE NOT INTENDED TO CONSTITUTE ANY LEGAL ADVICE OR OPINION.

INTRODUCTION An aspect of contracts which is of extreme importance [especially in certain types of Agreements such as Technology related license agreements, certain types of employment agreements, etc] which are often ignored [especially in most parts of Asia] are the Confidentiality Clauses. It is often only when disputes arise that the terms of the Confidentiality Clause are studied and dissected and this often reveals that the way that confidentiality clause has been drafted leaves much to be desired, both in terms of clarity and in terms of specifying the nature of confidential information. This article attempts a brief discussion on the importance of the Confidentiality Clause as also the specifics required to be taken care of while drafting a Confidentiality Clause.

TRENDS IN THE INTERPRETATION OF CONFIDENTIALITY CLAUSES Confidentiality Clauses of different natures form an integral part of various types of agreements – Employment Agreements, Joint Venture Agreements, Technology License Agreements, Non-Disclosure Agreements, etc. A badly drafted ‘Confidentiality Clause’ can not only give rise to mammoth disputes between the parties concerned, but also cause huge losses to the parties to the contract.

A relatively recent [and rather worrying] development pertaining to the interpretation of Confidentiality Clauses in Agreements is an Australian Court’s judgment interpreting Confidentiality Clause on terms similar to Non-Compete Clauses and therefore judging them on the touchstones of ‘restraint of trade’. In the case of Magburry Pte. Ltd. Vs. Hafele Australia Pty. Ltd.1 the parties entered into a preliminary agreement containing a confidentiality clause, even as the parties negotiated the business arrangement by which a design and product created by Magburry would be marketed by Hafele. In terms of the confidentiality clause, Hafele agreed to hold in confidence all ‘information’ provided by Magburry in relation to the ‘Product’ and not use the same ‘for any purpose other than to fairly and properly assess proposals canvassed with [Magburry] in relation to the Purpose’. 1

[2001] HCA 70

‘Information’ was defined as ‘each

and every record of information whatsoever disclosed, shown or provided to [Hafele] by [Magburry] in relation to the Product’.2 On an alleged violation of this clause by Hafele after the negotiations between the parties failed, the Australian High Court was called upon to decide the question of whether a mandatory injunction could be granted against Hafele making use of the information it had derived from Magburry during the negotiations. The majority view of the Court was based on the doctrine of ‘restraint of trade’ which was normally used to interpret ‘non-compete’ clauses in Agreements. The Court held that the confidentiality agreement restricted Hafele’s liberty to ‘conduct their operations and dealings with third parties in such manner as they think fit’. The Court was therefore of the view that the ‘doctrine of restraint of trade’ would apply. The Court then refused to issue a perpetual injunction against Hafele on the grounds that Magburry had failed to discharge its burden of showing that the restraints of trade were justifiable in the interests of the public and the parties.

This judgment brought to the fore the dangers of drafting ‘Confidentiality Clauses’ which are so wide as to lead courts to consider the restriction unreasonable. Even in the United States, several courts have, in the past, judged ‘Confidentiality Clauses’ from the same touchstone as they would have judged ‘NonCompete Agreements’.3

Notwithstanding that the entire attempt to equate ‘Non-Compete’ and

‘Confidentiality’ Clauses appears misplaced4, the lessons for a lawyer drafting such a clause are not however hard to find – ‘Confidentiality Clauses’ must be reasonable and specific so as to not run the risk of being completely rejected by a court which is called upon to interpret such a clause.

Very often, ‘Confidentiality Clauses’ are extremely general in nature, often not being specific as to what constitutes ‘Confidential Information’, and often not specifying the treatment to be given to it. In the case of Centaur Mining and Exploration Ltd. [Recs & Mgrs Apptd.] [Administrators Apptd.] Vs.Anaconda

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Information on the case is sourced from Joy Goodman, ‘Australian High Court Holds Confidentiality Agreement in Restraint of Trade’, 37. Can.Bus.LJ, 119, 2002 3

In the case of Disher Vs. Fulgoni, 464, N.E.2d 639 [III App. 3d 1984], the Court held that Confidentiality Clauses, like Non-Compete Clauses, must have reasonable time and geographical limitations. 4

Linda K.Stevens in her article ‘When Should A Confidentiality Agreement Contain A Time Limit’, 19, Franchise LJ 3 1999-2000, makes a compelling argument that both imposing a territorial restriction on a confidentiality clause is most likely to render such a clause illusory, especially with instant communication as exists today. Similarly, she says that predicting, at the onset of a contractual relationship, as to how long a particular information should be kept confidential is hardly workable.

Nickel Ltd.5, the parties concerned had entered into a preliminary agreement to facilitate the negotiation of a joint venture agreement6. As is often the case with preliminary agreements, the confidentiality clause was brief and wholly inadequate, merely stating that the subject matter of the preliminary agreement and the studies [in terms of the preliminary agreement] were to be kept confidential. Although the Court finally refused to override the wide terms of the confidentiality clause, a more detailed and better drafter clause could have saved a cumbersome litigation.

HOW SHOULD A CONFIDENTIALITY CLAUSE BE DRAFTED Ideally [although not always possible], parties negotiating a contract must clearly identify the information or the types of information that is likely to be disclosed. In most cases, during the negotiations or during the conduct of business operations, business efficacy might require the oral revelation of information that could be classified as ‘Confidential’. Therefore the ‘Confidentiality Clause’ must contain sufficient safeguards to protect unwritten information or information that is not classified as ‘Confidential’ in writing. The Agreement must also specify as to how a party can classify an oral information as being ‘Confidential’7.

The Confidentiality Clause must also specifically indicate the permissible exceptions to the confidentiality obligations. Some of these exceptions are:

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Prior knowledge of the information with the party to whom the disclosure is made.

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Disclosures made if mandatorily required in terms of law.

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The information becoming publicly available.

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Disclosure to officers of the entity receiving such information, etc.

[2001] VSC 224. 29 June 2001

The question that arose was as to whether prospective purchaser of one of the parties would be entitled to be provided with the ‘Confidential Information’ especially on the ground that they were prospective assigns in terms of the preliminary agreement that had been entered into between the parties. 7

One way to do this is to provide for a written intimation within a specified period of time of the revelation of the information.

Each one of these exceptions must be adequately detailed so as to set out exactly what is permitted and what is not. For example, while ‘Prior Knowledge’ appears to be a straightforward exception, it must be set out as to how ‘prior knowledge’ is to be established. Similarly, in the case of ‘Public Knowledge’ it is always open to debate as to what constitutes ‘Public Knowledge’.

Further, if the party receiving the confidential information is permitted to disclose the information to its sub-contractors, assigns or any other business associates, the confidentiality clause should specifically mention this and should also specify the safeguards prior to such disclosure to third parties.

It is of course important to understand that the exceptions to be incorporated into each agreement and each transaction are to be examined and parties must avoid using standard formatted versions of the terms and conditions of Confidentiality Clauses in agreements.