Armacell LLC manufactured foam insulation products and employed Jeffrey Bostic in its Research and Development Group as a Senior Research Scientist.  Armacell had developed and marketed a foam insulation that was based on ethylene propylene diene methylene (EPDM), which was superior to other pipe insulation in terms of its fire test ratings.  Armacell competed with K-Flex, which did not have an EPDM product prior to this dispute.  

In its complaint, Armacell alleged, among other things, that Bostic and K-Flex had misappropriated Armacell’s trade secrets for the EPDM insulation product.  Armacell alleged that Bostic resigned from Armacell to accept a position as a chemist at K-Flex and in the process, undertook ”a surreptitious campaign of disloyal actions,” copying  onto external hard drives thousands of competitively sensitive and confidential information of Armacell.    Armacell asserted that K-Flex, which did not have an EPDM product, had been struggling to compete with Armacell in the sale of two inch thick pipe insulation.  After Bostic was hired, however, K-Flex quickly had ready for testing a one-inch thick EPDM product, a product for which K-Flex had no commercial need but which could be reproduced to develop a two-inch EPDM sample.  Armacell alleged that this evidence was strong circumstantial evidence of misappropriation.

The North Carolina Business Court agreed with Armacell and issued a preliminary injunction against Bostic, K-Flex and its affiliated company.  On appeal, the Defendants challenged the injunction order, asserting that the Business Court erred in finding that Armacell had proven a likelihood of success on the merits of its trade secrets claim.  The Defendants contended that Armacell brought only “speculative claims” and “while the evidence demonstrated that Bostic took a significant amount of data from [Plaintiff's] computer system, [Plaintiff] did not show that [Defendants] had a specific opportunity to acquire [Armacell's EPDM formulation].”  The Defendants argued that the evidence was simply not sufficient. 

The Court of Appeals rejected the Defendants’ argument.  In affirming the granting of the injunction, the Court correctly observed that North Carolina’s Trade Secrets Protection Act only requires that the plaintiff make out a prima facie showing of misappropriation and the burden then shifts to the defendant to show that it obtained the subject information lawfully. 

Under the Act, a prima facie case is established by “the introduction of substantial evidence that the person against whom relief is sought both:

(1) Knows or should have known of the trade secret; and

(2) Has had a specific opportunity to acquire it for disclosure or use or ahs acquired, disclosed, or used it without the express or implied consent or authority of the owner.”  N.C. Gen. Stat. § 66-155. 

Once the prima facie showing is made, it is up to the defendant to rebut that evidence through the introduction of “substantial evidence that the person against whom relief is sought acquired the information comprising the trade secret by independent development, reverse engineering, or it was obtained from another person with a right to disclose the trade secret.” Id.

Although the defendants challenged the very nature of the burden shifting in the statute, the Court, consistent with precedent, reiterated the view that the statute in fact contemplates a shifting of the burden of proof.  Combs & Associates, Inc. v. Kennedy, 147 N.C. App. 362, 369, 555 S.E.2d 634, 639 (2001); Byrd’s Lawn & Landscaping v. Smith, 142 NC. App at 376, 542 S.E.2d at 693.  The reason for the burden shifting is simple:  the North Carolina statute reflects the practical reality that “[f]ew defendants leave the proverbial ’smoking gun’” when misappropriating a trade secret.  Lawsuits Between Business Competitors: Chapter 75-1.1 and Beyond, Eric D. Welsh, Mecklenburg County Bar Association Business Litigation Forum, February 17, 2006, p. 7.  Moreover, due to the frequent absence of direct evidence, a claim for misappropriation will often depend upon circumstantial evidence.  Medical Staffing Network, Inc. v. Ridgway, 194 N.C. App. 649, 658, 670 S.E.2d 321, 329 (2009); Byrd’s, 142 N.C.App. at 377, 542 S.E.2d at 693; Static Control Components, Inc. v. Darkprint Imaging, Inc., 200 F. Supp. 2d 541, 545 (M.D.N.C. 2002).    

In reviewing the record before it, the Court of Appeals found ample circumstantial evidence to support Armacell’s prima facie case of trade secret misappropriation.  The evidence showed that Bostic, as a Senior Research Scientist, had knowledge of Armacell’s EPDM technology and K-Flex, which had not developed an EPDM product prior to Bostic being hired by it, had, within a year after hiring Bostic, produced an EPDM sample.  Relying on Sunbelt Rentals, Inc. v. Head & Engquist Equip., L.L.C., 174 N.C.App. 49, 620 S.E.2d 222 (2005), the Court of Appeals found that this “before and after” evidence was ”sufficient circumstantial evidence to show Defendants’ opportunity to acquire the trade secrets as well as Defendants’ subsequent use thereof.”  

In Sunbelt, a case involving the theft of trade secrets and unfair competition resulting from a corporate raid, the North Carolina Business Court found as persuasive evidence of misappropriation the fact that the Defendants were able to quickly compete against Sunbelt even though they had not invested time to develop independently the requisite resources to do so.  As the Business Court stated:

In this instance it may be more important to look at what was not done and the business results.  There is no evidence of a unified pricing structure for Hi-Lift.  Many salespeople testified that they did not have prices when they began calling on customers.  There were no restrictions placed on the sales people concerning use of BPS information.  The sales people began calling on the same customers within days of leaving BPS and in some cases went after business that was based on special pricing arrangements.  Credit decisions had to be based upon knowledge obtained at BPS, as there is no evidence of the independent development of credit information for the customers called upon at the outset.  Indeed, there is little evidence of the independent development of information by Hi-Lift that one would expect in a normal greenfield operation. As previously noted, there was an advantage to Hi-Lift to get the new Hi-Lift branches open in the BPS markets before Sunbelt could close its transaction. The rapidity with which the old BPS customers were identified, called upon and converted to Hi-Lift, despite the lack of business information and guidance from Hi-Lift management, provides strong circumstantial evidence that at least some of BPS confidential information was used to solicit customers.  Sunbelt Rentals, Inc. v. Head & Engquist Equip., LLC, 2003 NCBC 4, 2003 WL 21017456 (N.C. Super. May 2, 2003). 

As in Sunbelt, the Defendants in Armacell obtained  a head start advantage as a result of Bostic’s alleged misappropriation and that advantage, from the Court’s perspective, was sufficient proof of misappropriation.   

The Defendants in Armacell attempted to rebut this prima facie showing, arguing that Armacell’s proof showed only that Bostic stole some of Armacell’s information but not the information related to the EPDM product.  Defendants’ curious argument, however, failed because they were unable to come forward with ample evidence to explain how it was that they had developed the EPDM product so quickly if not through Bostic’s efforts.  Here, it would appear that Armacell caught Bostic with his hand in the “trade secret cookie jar” — perhaps 7000 times — which was more than enough for the Court to conclude, at this stage, that Bostic not only had access to the information but, in light of the absence of a product before and then sudden introduction of a product after his hiring, had misappropriated that information. 

__________

*  Parker Poe represented Sunbelt Rentals, Inc. in the Head & Engquist Equipment litigation and Eric Welsh was a member of the trial team.

In White, the defendant, Andrew Thompson, was a partner with plaintiffs Charles White and Earl Ellis in an entity known as Ace Fabrication and Welding (”ACE”). Ace was formed primarily for the purpose of performing specialty construction and fabrication work at a plant owned by Smithfield Packing Company, Inc. At trial, the evidence suggested that ACE enjoyed initial success. Subsequently, infighting and disagreements overtook the partnership. Eventually, Defendant Thompson decided to leave the partnership and start his own business, PAL. While it is unclear from the opinions when he actually advised his partners of his intentions, defendant Thompson at some point advised White and Ellis of this decision but then a dispute arose between the partners regarding the distribution of partnership assets. While still a partner of ACE, defendant Thompson obtained work from the Smithfield Packing facility for PAL. Eventually, White and Ellis sued Thompson for, among other things, breach of fiduciary duty and unfair and deceptive trade practices.

After a trial, the jury found that Thompson had in fact breached his fiduciary duty to his partners and the damages were trebled under the Act. Defendant Thompson appealed the judgment. On appeal, the North Carolina Court of Appeals, in a split decision, reversed the unfair and deceptive trade practices trebling of damages, finding the Act inapplicable to the dispute because it did not meet the “in or affecting commerce” requirement of the Act.  White v. Thompson, 676 S.E.2d 104 (N.C. App. 2009).  According to the Court of Appeals, “it must be shown that the alleged unfair or deceptive acts had an impact in the marketplace” but “[t]he allegations against Defendant Andrew Thompson do not amount to practices impacting the marketplace.” And while Thompson had been found to have breached his fiduciary duty in usurping partnership opportunities for himself, that did not impact the marketplace. Plaintiffs appealed the decision to the North Carolina Supreme Court.

In another split decision, the North Carolina Supreme Court affirmed the Court of Appeals decision.  As with the Court of Appeals, the Supreme Court correctly noted that the Act requires that the unfair or deceptive act or practice be “in or affecting commerce.”  The Supreme Court also correctly noted that the Act defines “commerce” as “business activities” which the Court had previously defined as connoting “the manner in which businesses conduct their regular, day-to-day activities, or affairs, such as the purchase and sale of goods, or whatever other activities the business regularly engages in and for which it is organized.”  As the Court noted, the General Assembly intended the Act to “achieve fairness in dealings between individual market participants” in two type of business settings: (1) interactions between businesses and (2) interactions between businesses and consumers.”

Viewing the case from this perspective, the Supreme Court found the claim against Thompson to have involved purely the “internal operations of a single market participant.” The parties were partners in “a single market participant” and Thompson breached his fiduciary duty as a partner in “a single market participant.” The Act, according to the Supreme Court, was not intended to “intrude into the internal operations of a single market participant.”

The Supreme Court’s opinion in White, while perhaps adding some more definition to the Act’s reach, raises at least one important question which the majority opinion fails to answer.  In discussing Thompson’s conduct as being purely “internal” to ACE, the Court cites to and discusses briefly its prior decision in Sara Lee Corp. v. Carter, 351 N.C. 27, 519 S.E.2d 308 (1999).  In that case, the defendant there, while employed by Sara Lee, had engaged in self-dealing by creating companies which then supplied to Sara Lee at inflated prices.  Sara Lee sued this employee under 75-1.1 and the Court found that the “in or affecting commerce” requirement was met there by the buyer-seller relationship forming the basis of the employee’s self-dealing.  591 S.E.2d at 312.  But the Supreme Court, in the White opinion, fails to explain how the usurping of the partnership’s opportunities to himself and PAL is appreciably different from the self-dealing in Sara Lee. 

This noticeable absence of explanation was not lost on the dissent in the White case.  Justice Hudson, in her lengthy dissenting opinion, argued that Thompson’s conduct, like that of the defendant in Sara Lee, involved other businesses and was covered by the Act.  According to the dissent, Thompson’s conduct was not constrained to the internal operations of ACE but involved his competing company, PAL “through which he obtained specialty fabrication work at Smithfield Packing and funneled jobs that had been originally awarded to ACE” and began these activities before he advised Plaintiffs of his intention to withdraw from ACE.  Justice Hudson found these facts to put the White case within the parameters of Sara Lee (“This conduct affected commerce in much the same way as the conduct at issue in Sara Lee”).  Later, she again noted: 

“Rather than supporting the majority’s view, this Court’s decision in Sara Lee strongly indicates that the type of self-dealing found by the jury here is exactly the type of conduct that is covered by the Act.”  . . . Indeed, in its discussion of the very definition of “‘commerce,’” this court noted that the Act is subject to a “reasonably broad interpretation” and that “‘we have not limited [the Act's] applicability . . . to cases involving consumers only.  After all, unfair trade practices involving only businesses affect the consumer as well.’”  White, p. 21 (citations omitted). 

While the majority in White does not clearly, or at least convincingly, distinguish these facts from Sara Lee, the majority has made it clear that in the context of a dispute involving the internal operations of a partnership, Chapter 75’s trebling provision will not be available.  While not stated, perhaps the Court distinguished Sara Lee on the basis that, in that case, the employee engaged in his self dealing over a considerable period of time and did not disclose this conduct during his employment tenure.  Here, although there was some dispute as to exactly when Thompson advised of his intention to withdraw, he clearly had notified his partners of his intention during the time that he had engaged in this conduct.  Perhaps the majority was focused on a lack of impact on Smithfield’s business posed by Thompson’s conduct.  Finally, the majority may simply have believed that Thompson’s conduct was simply too far removed from “buyer-seller relations” to give rise to a claim under the Act.  Whatever the reason, the tug-of-war continues on the reach of Section 75-1.1.

In Combs v. City Electric Supply Co., No. COA09-108 (March 16, 2010), the North Carolina Court of Appeals found that a whistle blower’s unfair trade practices claim failed even though it was based on allegations that the defendant had engaged in illegal and fraudulent conduct. In that case, Combs, a former employee of City Electric Supply Company, was terminated from his position after he had objected to certain business practices of City Electric, which Combs alleged were illegal or fraudulent. Combs filed his complaint alleging wrongful discharge, tortious interference with his contractual rights and unfair and deceptive trade practices under Chapter 75-1.1. Combs alleged “that his employment was terminated in retaliation for reporting ‘that Defendant [w]as stealing from its customers’ accounts’.” Following a trial, the trial court directed a verdict in favor of the defendants on all counts. Combs appealed the decision.

On appeal, the Court found sufficient evidence of City Electric’s obtaining money by false pretenses from its customers and therefore found sufficient grounds for the wrongful discharge and tortious interference claims to go to a jury. The Court reversed and remanded those claims for a new trial.

The Court, however, was not so inclined when it came to the Chapter 75-1.1 claim. As to that claim, the Court affirmed the directed verdict for the defendants. Noting that a plaintiff must prove not only an “unfair or deceptive act or practice” under Chapter 75-1.1, but also that that act or practice was “in or affecting commerce” and “proximately caused injury to the plaintiff,” citing Dalton v. Camp, 353 N.C. 647, 656, 548 S.E.2d 704, 711 (2001), the Court found that Combs’ complaint “involved a simple employment dispute” and did not involve acts “in or affecting commerce.” Relying on precedent which establishes that the Act does not apply to general employer-employee relationships, the Court concluded that Combs’ claim did not affect commerce and did not fall within Chapter 75-1.1, regardless of the “whistle blowing” allegations.

Combs attempted to distinguish his claim from those found in ordinary employer-employee relationships, citing to Sarah Lee Corp. v. Carter, 351 N.C. 27, 519 S.E.2d 308 (1999) and Walker v. Sloan, 137 N.C. App. 387, 529 S.E.2d 236 (N.C. App. 2000), cases involving employer-employee relationships with Chapter 75-1.1 claims. The Court found Combs’ argument unconvincing, distinguishing both Sarah Lee and Walker from Combs’ situation.

“In both Sarah Lee Corp. and Walker, the Court focused upon conduct that constituted activity ‘affecting commerce’ that occurred between the employer and employee and held that N.C. Gen. Stat. 75-1.1 was applicable to those cases. . . . In the instant case, there was no evidence presented before the trial court of any conduct that would constitute activity ‘affecting commerce’ between plaintiff and City Electric. Plaintiff only asserts that he was fired in retaliation for ‘blowing the whistle’ on City Electric’s practice of not sending out negative balance statements at the end of each month.”

Based on this reasoning, the appellate court found Combs’ Chapter 75-1.1 claim to lack merit.

The City Electric case is interesting in several respects. First, an observation can be made that just because an act or practice is deceptive or unfair does not by itself mean that a claim under Chapter 75-1.1 can be brought. A proper nexus must be found with “commerce” for a claim to exist. Here, although the underlying alleged act of fraud gave rise to an alleged “whistle blowing,” because the crux of the claim involved a “simple employment dispute,” a Chapter 75-1.1 claim was not found.

A second, converse observation can be made: just because the underlying facts involve an employer-employee relationship does not necessarily mean that a Chapter 75-1.1 claim cannot be brought. Indeed, the Court noted both the Sara Lee and Walker cases as examples where a Chapter 75-1.1 claim existed even in the context of an employer-employee dispute. Another example, although not cited by the Court in City Electric, is Sunbelt Rentals, Inc. v. Head & Engquist Equipment LLC, 620 S.E.2d 222 (N.C. App. 2005).

In that case, Sunbelt alleged that the defendants had engaged in unfair and deceptive trade practices under Section 75-1.1 when they raided Sunbelt’s business for its employees and confidential, trade secret information. Following a trial, Sunbelt obtained a judgment in its favor on the unfair and deceptive trade practices act, even though the claims involved to some extent the employment relationships between Sunbelt and certain of its former employees. The Business Court found the claim valid due to the fact that the case involved claims of trade secret misappropriation and tortious interference with Sunbelt’s business relations and therefore a proper nexus was found between the deceptive acts and practices and commerce. Sunbelt’s judgment was affirmed on appeal.

So what do we take away from this discussion? Perhaps, that while a “whistle blower” may not have facts sufficient to make out a claim under the Act, the fact that a claim is in the context of an employer-employee relationship is not necessarily fatal to bringing an unfair and deceptive trade practices claim under Chapter 75-1.1. As in any legal matter, the facts matter.

Parker Poe represented Sunbelt Rentals in Sunbelt Rentals, Inc. v. Head & Engquist Equipment LLC, and Eric Welsh was part of the trial team.