June 20, 2018

When employees steal trade secrets: A few important legal lessons from a recent case

Posted in Cybersecurity, Employment Law by Gene Killian |

The evil that men do lives after them; The good is oft interred with their bones,” wrote Shakespeare in “Julius Caesar” (and, also, Iron Maiden in “The Evil that Men Do”). 

Sergey Aleynikov did some evil, business-wise.  Aleynikov was an IT employee for Goldman Sachs, with the title of “Vice President.” In 2009, he was responsible for managing a group of 25 programmers, and he was pulling a $400,000 salary, making him the highest-paid paid member of the group, which ran Goldman’s high frequency trading (HFT) program.  But in April 2009, he accepted an offer, at over $1 million a year, to become an Executive Vice President  at Teza Technologies LLC, a Chicago-based startup that was looking to develop its own HFT system. Teza's founder emailed Aleynikov in late May 2009, conveying his expectation that Teza would develop a functional trading system within six months. It usually takes years for a team of programmers to develop an HFT system from scratch.  (Pressure.)

On June 5, 2009, Goldman threw a going-away party for Aleynikov.  Just before the going-away party started, Aleynikov encrypted and uploaded to a server in Germany more than 500,000 lines of source code for Goldman's HFT system, including code for a substantial part of the infrastructure, and some of the algorithms and market data connectivity programs. (Some gratitude!) After uploading the source code, Aleynikov deleted the encryption program as well as the history of his computer commands. When he returned to his home in New Jersey, Aleynikov downloaded the source code from the server in Germany to his home computer, and copied some of the files to other computer devices he owned.

On July 2, 2009, Aleynikov flew from New Jersey to Chicago to attend meetings at Teza. He brought with him a flash drive and a laptop containing portions of the Goldman source code. When Aleynikov flew back the following day, he was arrested by the FBI at Newark Airport.  (Oops.) And so, without intending to do so, Aleynikov had created a miniature full employment act for lawyers, with criminal and civil litigation in three states (New York, New Jersey, and Delaware).

(Aleynikov’s saga helped inspire “Flash Boys," Michael Lewis’s book about high-frequency trading.)

As I write this, Aleynikov’s odyssey may finally be over.  (I hope his lawyers got large retainers…)  New York’s top court has upheld his conviction for stealing the bank’s computer code.  The ruling, based in part on violations of a 1967 New York law that bans the theft of "secret scientific material," follows a series of convictions, reversals and acquittals in federal and state courts, as prosecutors pursued the case to set an example for programmers in the financial industry.  You can read the latest New York decision here

The New York court held that a person who uploads proprietary source code to a computer server is guilty of making unlawful use of secret scientific material. Aleynikov’s lawyer had unsuccessfully argued that the statute was "outmoded" and that it couldn’t apply to electronic copies.

The New York Court wrote:  “Ideas begin in the mind. By its very nature, an idea, be it a symphony or computer source code, begins as intangible property,” the Court wrote. “However, the medium upon which an idea is stored is generally physical, whether it is represented on a computer hard drive, vinyl record or compact disc.”

The Court also held that a lower court had incorrectly concluded that Aleynikov hadn’t made a "tangible" copy of the source code because it didn’t exist on a medium such as paper where it could be "touched" (which is the basic reason why the United States Court of Appeals for the Second Circuit concluded that Aleynikov could not be liable under the federal National Stolen Property Act, 18 U.S.C. 2314, or the Economic Espionage Act of 1996, 18 U.S.C. 1832). The New York panel said the law was enacted to ensure that someone who makes a copy of secret scientific material can still be subject to criminal prosecution even though the original hadn’t been physically taken.

The simple lesson here for employees is…don’t steal your employer’s trade secrets, or you could be subject to serious liability, including criminal liability. The ruling upholding the concept that even computer code is tangible may embolden prosecutors to go after more employees who steal computer code.

Meanwhile, the case raised an issue about employee indemnification. The Goldman bylaws provided for the advancement and indemnification of legal fees for “officers” involved in legal proceedings arising from their employment with the company. So Aleynikov said, “Hey, I’m an officer of the company.  Indemnify me.”  I had to laugh about this because I remember when my wife was working on Wall Street back in the 80’s and it seemed like every other person with the firm was a “Vice President,” including her.  That and a token (back then) would get you on the subway.

In any event, Aleynikov’s argument actually succeeded with a federal court in New Jersey, but was overturned by the Third Circuit Court of Appeals, on the ground that…well, every other person employed by Goldman was a “Vice President,” and Aleynikov was not a significant enough “officer” of the company to invoke the indemnification provision. In a later related action in Delaware, the Delaware court essentially stated that the Third Circuit was wrong, but that the Delaware Court was bound by the doctrine of res judicata from re-deciding the issue. (If you’re a nonlawyer, “res judicata” is a doctrine essentially stating that a matter that has been adjudicated cannot be relitigated by the same parties.) Therefore, Aleynikov  was not an “officer” entitled to his legal fees.  A later decision from the federal court sitting in New Jersey also followed the Third Circuit’s ruling in disallowing fees to Aleynikov. You can read that decision here.

A few takeaways from the Aleynikov legal fees tussle:

First, people and companies often go to the legal system for “justice.” But here, you have a Delaware Court saying that a federal court’s interpretation of Delaware law was wrong…and that the Delaware Court is powerless to undo it. Keep that in mind the next time you’re tempted to rush headlong into litigation.  The only justice in the halls of justice is usually in the halls.

Second, indemnity agreements (and really, all contracts) need to be as clear and specific as possible, and to narrowly and specifically define the parties’ obligations. Otherwise, you could wind up with liability where you least expected it.  So review all your standard contracts now, and ask:  Is this too vague about who’s supposed to do what?

Third, cases are sometimes decided, not necessarily based on law, but based on a “smell test.” My guess is that, given what Aleynikov did, the Third Circuit justices thought it was crazy to force the company to reimburse his legal fees.