Federal Preemption Has Its Limits: State law Governs Theft of Trade Secrets Even When a Patent is Involved

By Joel Leeman.

February 2009 IP Update

When someone steals your trade secrets, then obtains a patent on a product that embodies them, you may very well want to cite the offender’s patent – in your lawsuit for misappropriation – as a badge of wrongdoing. A recent Tenth Circuit opinion reinforces the prevailing rule that state law claims of misappropriation of trade secrets are not preempted by federal patent law just because patents figure into the evidence.

Russo v. Ballard Medical Products involves a consultant, Ronald Russo, who developed a product improvement that Ballard had been vainly pursuing for years. Ballard’s flagship product was a catheter that removed debris from ventilator tubes without needing to disconnect patients from the ventilator. The product was FDA-approved for only a 24-hour period, and Ballard had long tried to extend the product’s useful life span.

The federal jury in Utah heard some seamy facts. Mr. Russo dutifully created drawings and a prototype of an innovative valve-and-seal apparatus which stood to delay the buildup of infectious bacteria in the Ballard catheter and thereby triple the product’s life span. The parties signed a confidentiality agreement before Russo turned over his materials for Ballard to study and comprehend.

Even while purporting to negotiate license terms with Mr. Russo, Ballard brazenly applied for patents in its own name that incorporated Russo’s essential innovations. Negotiations failed, but Ballard eventually secured patents on the product that Russo innovated. Ballard soon introduced an improved catheter based on Russo’s designs, which went on to success in the marketplace.

The duly outraged Russo sought unjust-enrichment damages under Utah law, a common measure of damages for misappropriation of trade secrets. Russo introduced Ballard’s patents as evidence of how Ballard misappropriated his secret, and he showed the incremental value that his idea conferred on Ballard through extending the useful life span of its catheter.

The jury awarded Russo $20 million, the bulk of which was a hefty percentage of Ballard’s expected “enrichment” (net profits) from its ill-gotten new catheter, and a smaller portion of which was damages for Ballard’s breach of its confidentiality agreement with Russo.

On appeal to the Tenth Circuit Court of Appeals, Ballard contended that the trial judge should never have allowed Mr. Russo to try his state-law claim for misappropriation. The company reasoned that federal patent law preempted the state claim because Russo’s case hinged on establishing the true inventor of the subject matter of Ballard’s patents.

The appellate court rejected this characterization, saying that Russo introduced the patents simply as evidence of Ballard’s misappropriation. Russo did not thereby raise any question of patent law or seek the rights of an inventor, claims that might have invoked federal preemption.

If Ballard’s argument were to prevail, said the court, double-crossing defendants could insulate themselves from a misappropriation claim simply by patenting the stolen idea. Previous case law supported the notion that a claimant could recover incremental profits that were attributable to the defendant’s wrongfully obtaining a patent based on the claimant’s proprietary idea.

For enthusiasts of federal preemption doctrine, the Russo opinion is a treat. The Tenth Circuit explained and applied the teachings of two key Supreme Court precedents on this topic. In Kewanee Oil Co. v. Bicron Corp., the high court held in 1974 that “conflict preemption” comes into play under the Constitution’s Supremacy Clause when state law conflicts with the “accomplishment and execution of the full purposes and objectives of Congress.”

In Kewanee Oil, the Supreme Court stressed that state trade-secret law and federal patent law complement, rather than conflict with, each other. Both offer incentives for invention, but trade secret law protects ideas held in secret (including many that might not satisfy the novelty, utility and non-obviousness requirements for a patent), while patent law protects only inventions that are disclosed to the public.

Kewanee Oil gives inventors a choice, observes the Tenth Circuit in Russo. They may keep their ideas secret as long as possible with the aid of state law but risk fair-and-square independent discovery by others. “Or they may disclose their ideas and enjoy the ensuing legal monopoly afforded by federal patent law.”

The Supreme Court bolstered this viewpoint in 1989 with Bonito Boats, Inc. v. Thunder Craft Boats, Inc., a case in which federal patent law was found to preempt state law. There, the court addressed a Florida law that gave to vessel-hull designers who had already publicized their designs certain protections that were different from, and more extensive than, federal patent law. In that case, where the state and federal laws covered essentially the same rights, preemption invalidated the state statute.

Although Bonito Boats did not explicitly deal with trade secrets, the court reaffirmed the ruling in Kewanee Oil that, as long as an idea is kept secret, state trade-secret law protects it. Once the “veil of secrecy” is lifted, an inventor must choose between patent protection or dedicating his idea to the public domain.

This Supreme Court jurisprudence guided the Tenth Circuit to its conclusion that Russo’s trade secret claim did not conflict with – hence was not preempted by – federal patent law. Because Russo claimed a trade secret, and did not seek rights associated with inventorship of a patent, state law properly governed his claim.

Federal law rightly preempts state law where the plaintiff’s claim to relief “necessarily depends on resolution of a substantial question of federal patent law.” Introducing patents as evidence to support a trade secret claim, the Russo court said, does not raise any, much less a “substantial,” question of federal law.