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NewsletterThe Dispatch March 1999 In this issue:
A New Paradigm for Software Patents A decision by the U.S. Court of Appeals for the Federal Circuit in State Street Bank & Trust Company v Signature Financial Group, Inc. (1998) continues the march of a series of decisions which have significantly expanded the boundaries for patenting software related inventions. No longer will a patent be refused for a software application which implements a business system or method of doing business. The State Street decision follows the Court's recent practice of sweeping aside complex and sometimes unintelligible judicial exceptions to the plain and unambiguous language of the patent law, 35 U.S.C. sec. 101, defining what kind of inventions can be patented. This means that software innovations in areas as diverse as financial services, business and health care management, third party payment systems, technology controls and measurement, and expert diagnostic systems should now be considered for patenting. This means also that owners of patented software applications can now enjoy exclusive rights against use, copying, or other infringement by competitors. The State Street case began with a licensing dispute between State Street Bank and Signature Financial over a computer software system which performs real-time, mathematical accounting calculations and reporting for use in the mutual fund industry. Signature Financial developed and obtained a patent with broadly stated means plus function claims for software related to mutual fund services operations. State Street was apparently concerned that its software for similar business operations might infringe the patent. After unsuccessful negotiations for a license to use Signature Financial's software, State Street sued, claiming the patent was invalid as an unpatentable mathematical algorithm. The U.S. District Court in Boston agreed and declared the patent invalid. On alternative grounds, the court also declared the patent was invalid because it incorporated an unpatentable business method or business system. State Street Bank & Trust Company v Signature Financial Group, Inc. (1996). The District Court opinion followed older United States Supreme Court decisions which had been widely understood to bar patents for software driven mathematical applications. Where the claimed invention performs calculations and reports a numerical result, the older decisions barred patenting. The rationale was that such an invention depends on an underlying mathematical formula which is an "abstract idea" and cannot itself be patented. Use of that abstract idea to process, calculate, and report data was considered to be nothing more than restatement of the abstract idea - and therefore not patentable. However, a series of decisions has whittled away at this rule. Beginning with Diamond v Diehr (1981), the Supreme Court ruled that merely because software is used to perform calculations as part of a manufacturing process (rubber molding), that does not bar patent coverage for the manufacturing system or process. In its decision, In re Alappat, the Federal Circuit held in 1994 that use of calculations to smooth the appearance of waveforms being displayed on a monitor did not bar patent coverage for a computer system that performed such calculations. In its decision, In re Lowry, the Federal Circuit held also in 1994 that a system of calculations used to store computer data for access by application programs was patentable. Prior to State Street, it was essential to draft software-related patent claims in a manner which presented calculations as supportive of some manner of "physical transformation" to meet judicial standards. In its State Street decision, however, the Federal Circuit has rejected such a constrained reading of the patent act. The Court now recognizes that a mathematical formula is no longer an "abstract idea" once used in a computerized system of calculations to process, calculate, and report information. Where software driven systems produce a novel, "useful, concrete, and tangible result" such as financial accounting and reporting, it is obvious, the Court says, that the abstract idea has been transformed. And provided that the result of this software process is novel, non obvious and useful, the software system is a patentable invention - "even if the useful result is expressed in numbers, such as price, profit percentage, cost, or loss." In its decision, the Federal Circuit has also overruled an alternative basis for rejection of the Signature Financial patent. Under the long-held business method exception, any system or process incorporating business plans or business methods was generally held not patentable (although as long ago as 1983, a computerized financial services package developed by Merrill Lynch was held patentable by the United States District Court in Delaware). The apparent concern here is that a business method patent would broadly exclude competitors from the same area of business. In State Street, however, the Federal Circuit declared that the business method exception is both ill conceived and without statutory basis in the patent act. Thus, business methods are subject to the same rules for patentability as for any other process or method. There is no business exception. The consequences of State Street are far reaching. After 30 years of restrictive grappling with the scope of patent protection for software related inventions, the Federal Circuit has returned the focus to the language of the patent act itself. This affords the same rights to patentability for software as for any other new and useful application of technology and makes it less likely that software-related inventions, including those for business, financial services, and health care, will be rejected on grounds they are not the kind that can be protected by a patent. As usual, however, the rights granted by a patent are defined by its claims, and claims drafting remains critical to a successful patent.
Protecting Intellectual Property through Confidentiality Agreements In a recent federal appeals case, Celeritas Tech- nologies, Inc. ("Celeritas") won $57 million from Rockwell Information Corporation ("Rockwell") for breach of a nondisclosure agreement ("NDA") even though Celeritas' patent, which was the subject of the NDA, was ruled invalid on the basis of prior art. (Celeritas Technologies Ltd. v Rockwell International Corp., 1998 WL 401500 (9th Cir. 1998)). After executing the NDA, Celeritas shared its patented de-emphasis technology for modem chip sets with Rockwell. Rather than license the technology from Celeritas, however, Rockwell proceeded to develop its own version of the technology. Celeritas then sued for violation of the NDA. Understandably, Rockwell may have felt comfortable in its litigation position. The NDA contained a standard clause excepting information already in the public domain. Rockwell argued that if Celeritas' invalid patent was anticipated by prior art, then the information Rockwell was accused of misappropriating was already in the public domain. In addition, Rockwell argued that Celeritas' de-emphasis technology was in the public domain because another company, AT&T Paradyne, had already sold modems which incorporated the technology and "any competent engineer could have reverse engineered the modem." Nevertheless, the Court of Appeals seemed to embrace Celeritas' position that "for a trade secret to enter the public domain in California, it must be ascertained by proper means and not merely ascertainable." In upholding the jury verdict for damages for breach of contract, the court found also that Celeritas had "disclosed implementation details and techniques that went beyond the public domain information available to Rockwell." Celeritas was blessed with good fortune or outright luck in this case. It had, or thought it had, perfectly good patent protection for its product. At the trial court level it received alternative judgments for its patent infringement claim and for its breach of contract claim for breach of the NDA. Celeritas' lawyers could easily have decided that the patent was sufficient protection. After invalidation of the patent, the award was saved by a belt-and-suspenders approach which upheld the claim for breach of the NDA. The general lesson here is that good things happen when confidentiality agreements are used consistently to protect confidential information. When a company demonstrates a history of handling confidential information carefully, using nondisclosure agreements and labeling important documents as confidential, courts seem to give a lot more weight to the company's claims that its confidentiality has been breached than when a company has handled information more carelessly over the years. Some of the benefits of the careful use of confidentiality agreements may be unanticipated. In PepsiCo, Inc. v Redmond, 54 3.2d 1262 (7th Cir. 1995), Pepsi managed to leverage a confidentiality agreement into a non-compete obligation arguing that a marketing executive who wanted to leave Pepsi to work for Quaker Oats' Gatorade division would "inevitably disclose" Pepsi's trade secrets. As general manager of Pepsi's California business unit, William Redmond had signed a confidentiality agreement but no non-compete agreement. Quaker Oats hired him away to be Vice President of Field Operations for Gatorade at a time when Pepsi was entering the "new-age drink" market with "All Sport." In response to Pepsi's request, the court not only permanently enjoined Redmond from using Pepsi's trade secrets and confidential information, but enjoined him for a period of six months from even assuming his position with Quaker Oats. To date this method of leveraging confidentiality agreements into non-compete obligations has not been recognized in Massachusetts. See Campbell Soup Company v Giles, 47 F.3d 467 (1st Cir. 1995), refusing to enjoin an employee of Campbell's from taking a job with the manufacturer of Progresso soups on the basis of a confidentiality agreement, although the court noted that the Campbell's employee held a "mid-level sales position . . . in sharp contrast to that of the senior executive in PepsiCo, Inc. v Redmond." Confidentiality agreements may profitably be used in a wide range of circumstances: with employees, investors, customers, corporate allies (such as suppliers, vendors and licensees), and competitors (for joint venture discussions or merger and acquisition negotiations). Sometimes a confidentiality agreement signed with one person (a customer) may require entering into confidentiality agreements with others (employees and subcontractors). Most business people stand ready to sign confidentiality agreements, although there may be some legitimate debate over the terms of the agreement. An issue which crops up fairly frequently is the definition of what information should count as confidential. People want to know the nature and limits of their obligations. They do not want trouble for revealing information assumed to be mundane, and they do not want to be obligated to treat "water-cooler" anecdotes as confidential. As a result, it may be appropriate to limit the definition of confidential information to that information which is labeled confidential at the time of disclosure. Although this is reasonable enough, such a limitation makes it hard to protect confidential oral communication or information which has not been defined at the outset in the NDA. One solution is to allow a party to protect information by follow-up letters or designations confirming confidentiality. For this to work, the NDA must clearly and simply define the procedure for designation of confidential information. Finally, the NDA should carefully define the extent to which confidential information must be protected. At one level, the agreement can simply require a party to use the same level of care to protect the confidential information as that party would use to protect his or her own confidential information. At another level, the NDA may include a detailed regimen for what a party can and cannot do with confidential information. Non disclosure agreements can be drafted readily and flexibly to protect confidential information. Even in those cases where businesses have other protections, including patents, trademarks, and copyrights, non disclosure agreements offer important protection.
Ted MacVeagh concentrates his practice on corporate and transactional work, including technology transfer.
Incorporating Close Corporations: A Business Planning Opportunity The state law under which a small, closely held corporation is organized may have far reaching implications for shareholders and, in particular, for the fiduciary obligations of shareholders. Partnership-like obligations are imposed on the shareholders of closely held corporations organized under Massachusetts law. This means shareholders are obligated to act with the utmost good faith and loyalty towards one another, including dealings with minority shareholders. By contrast, a more general obligation of good faith is all that is required of shareholders of a closely held corporation organized under the laws of the state of Delaware. The difference is significant. In a recent trial court decision, Olsen v Seifert (August 1998), Justice Martha Sosman ruled that the fiduciary obligations of shareholders of a Massachusetts based company were governed by Delaware law, the state of incorporation. In Olsen, the company was held not to have breached a fiduciary duty by firing a minority shareholder and depriving him of the full value of stock which had not vested. The high level fiduciary duty owed to shareholders in closely held Massachusetts corporations is grounded in Donahue v Rodd Electrotype Company of New England Inc., a 1975 decision by the Supreme Judicial Court. The Court ruled that shareholders in closely held Massachusetts corporations owe one another the same fiduciary duty as that owed by one partner to another in a partnership. "Just as in a partnership, the relationship among the stockholders must be one of trust, confidence and absolute loyalty if the enterprise is to succeed," the Court declared. According to Donahue, a closely held or "close" corporation is one that has a small number of shareholders and substantial majority of shareholder participation in the management, direction, and operation of the corporation. Frequently, a close corporation may also lack a ready market for its stock. The Supreme Judicial Court has confirmed the Donahue rule in Demoulas v Demoulas Super Markets, Inc. (1997). In the Olsen case, plaintiff was looking to impose the Donahue standard on his former employer, a company he and two other investors had organized to develop and market multimedia communications technology. While incorporated in Delaware, the corporation operated from offices in Burlington, Massachusetts. At termination of plaintiff's employment, his stock which had yet to vest was surrendered under the terms of a shareholder agreement. Shortly thereafter, the corporation entered into a lucrative merger. Of course, plaintiff lost out on the increased value of the stock. He sued to recover more than $600,000 as the lost opportunity value of the surrendered stock. The trial court rejected his claims for breach of fiduciary obligation against the corporation and its shareholders. According to the trial court, the law of Delaware governs because that is the state of incorporation - notwithstanding the company's operations in Massachusetts. Under the governing law, the trial court found the plaintiff had not been treated unfairly - even though his termination closed off the opportunity to benefit from stock which had not yet vested. The court noted also that the plaintiff had received more than $2,000,000 at termination for his vested stock, an extraordinary return for his initial investment of $10,000. The Olsen decision underscores the need for care in choosing the state of incorporation for small, closely held companies. For some founders, the lower level of fiduciary duty owed to minority shareholders derived from incorporation in Delaware may be perceived as a benefit. For those founders seeking partnership-like fiduciary obligations of utmost good faith and fair dealing, Massachusetts law offers a sound choice for incorporation. It is important to note, however, that the state of incorporation may not, by itself, assure that its fiduciary laws will govern. In the Demoulas decision, the Supreme Judicial Court stated that other factors, including the actual location of the operating business may influence the choice of governing law. It may be prudent then for corporate organization papers and shareholder agreements to expressly declare the state law which will govern shareholder fiduciary obligations in a corporation which is incorporated in Delaware but which operates primarily in Massachusetts or another state.
Employment Leave rights in Massachusetts Under the federal Family and Medical Leave Act, 29 U.S.C. secs. 2611- 2617, (the "FMLA") all employers of 50 or more employees are required to provide up to 12 weeks annual, unpaid leave. Leave may be taken for birth, adoption or foster care; for care of a family member because of a serious health condition; or for care of the employee because of a serious health condition. The employer may request written certification of the situation requiring leave and may also require the employee to substitute and use any accrued paid leave. Under the new Massachusetts Small Necessities Act, G.L.c.149, sec. 52D, employers of 50 or more employees are required also to provide up to an additional 24 hours in annual, unpaid incremental leave for "small necessities." Leave may be taken to participate in a child's school activities such as parent-teacher conferences, to accompany a child or elderly relative to medical appointments, or to attend professional appointments related to the elder's care. If notice is practicable, employees must provide seven days notice of the leave; otherwise, the employee must provide notice as soon as practicable. As with the Family and Medical Leave Act, the employer may require written certification of the situation requiring leave and may also require the employee to substitute and use any accrued paid leave. Small Necessities leave is provided in addition to leave available under the FMLA and may be taken intermittently or on a reduced leave schedule. For example, an eligible employee may be entitled to take leave for three consecutive 8 hour days or one hour delayed starts on several days. Finally, under the Massachusetts Maternity Leave Act, G.L.c.149, sec. 105D, employers of six or more employees are required to provide female employees with up to 8 weeks annual, unpaid leave. Maternity leave may be taken for birth or adoption. While there is some confusion about the precise relationship between the Maternity Leave Act and the Family and Medical Leave Act, the consensus view is that the Massachusetts Maternity Leave Act does not provide an additional maternity benefit above that of the FMLA. The eight week provision of the Massachusetts law is concurrent with the first eight weeks of the federal law. Thereafter, the federal law provides an additional four weeks leave, a total annual leave of 12 weeks maternity leave. In the case of employers of less than 50 employees, of course, the federal law does not apply; only the Massachusetts law governs. Employers are required to post notice of all employment leave laws and to post the names, addresses, and telephone numbers of the federal and state regulatory agencies charged with enforcement. Because of the confusion which may well be created by separate postings of each law, a better practice is to post a notice of employee leave rights which incorporates the requirements of the FMLA, Small Necessities, and Maternity Leave acts in a single statement. An employee who takes leave under these laws cannot be discriminated against and cannot be dismissed or demoted for that reason. At the same time and in all other respects, employees who take leave are subject to the same performance, compensation, benefits, and job availability standards as for other employees. Compliance with these laws is essential. Penalties for non-compliance may include multiple damages, including emotional distress damages which are a form of punitive damages; award of attorney fees; and loss of government contracts for government contractors.
Lisa Fleming's practice concentrates on employment, benefits, and health law issues. Medicare + Choice, Another Shot Into the Dark? Since introduction of the Medicare program in 1965, this grand experiment has served ever more Americans but with ever more costly health care and health care technology. Beginning with federal price controls in the early 1970's, Congress has fashioned one program after another to constrain health care costs. Apart from utilization review and anti-fraud programs, however, few have lasted. The reason is simple: cost savings initiatives have ignored the inevitable cost escalation which is a demographic fact of an ageing population and the inevitable cost associated with accelerating advances in diagnostic, clinical, surgical, and pharmaceutical medicine. With the Medicare + Choice program, Congress is, once again, attempting to restrain Medicare costs. Hundreds of pages of legislation in the Balance Budget Act of 1997, P.L. 105-33, and more than 300 pages of regulations, 42 C.F.R. parts 400, 403, 411, 417, 422, attempt to explain and implement this latest effort. The program is so complex that the Health Care Financing Administration ("HCFA") is implementing it incrementally - so as not to overwhelm 39 million Medicare consumers or health care plans and providers. Medicare + Choice is designed to offer a range of Medicare and Medicare supplemental health care options to elders. In addition to conventional Medicare arrangements, consumers may have a bewildering choice of health maintenance, preferred provider, provider sponsored, medical savings, and fee for service plans, 42 U.S.C. secs. 1395w-21 - 1395w-28. While choice is laudable, health care savings are unlikely to be the result. Like the experiments before it, Medicare + Choice does not address the underlying causes of cost acceleration. More important, the Medicare + Choice program seems to be moving towards implementation without benefit of what has been learned from the most recent experiment in cost restraint, the Medicare Risk program. Until mid-1998, Congress and HCFA promoted the Medicare Risk program under which health maintenance programs provide both Medicare and Medicare supplemental health care benefits. Medicare Risk programs offer comprehensive, managed health care at capitated rates averaging $5,800.00 annually for each Medicare member. Membership is voluntary. The premise for the program is that managed health care will restrain cost escalation and, perhaps, earn a surplus or profit for health care providers and health care plans. In fact, the programs have worked up to a point. Those Medicare Risk programs which are well organized and have been able to recruit relatively younger, healthier members can indeed restrain cost - modestly. However, there is also a disheartening lesson from the Medicare Risk program experience. Medicare Risk covers only six million Americans. 33 million others, the majority of whom are older and relatively less healthy, continue in the conventional Medicare program. They use more and more expensive services. In the aggregate, the cost of the entire Medicare program has kept to its historic growth pattern and now exceeds $190 billion annually. Faced with the reality of aggregate cost growth, HCFA has moved to "balance the books" by reducing capitation payments to Medicare Risk plans and providers. Of course, this is a direct penalty to successful managed care programs - with predictable results. Since September 1998, Medicare Risk programs have dropped more than 400,000 Medicare patients. In Massachusetts, most Medicare Risk programs continue; but, expansion has been trimmed. And after a federal court battle, each is cutting prescription drug benefits to reduce program costs. See Massachusetts Association of Health Maintenance Organizations v Commissioner of Insurance (Civ. No. 98-11933-RGS). By year end 1999, more Risk programs may terminate coverage because of further capitation payment cuts announced in January by HCFA. None of this suggests promise for the Medicare + Choice program, and it suggests crisis in a decade. At the present rate of growth, Medicare funding will be exhausted by 2010. At the same time, the Medicare population will grow rapidly, doubling within 15 years. Clearly, the Medicare program cannot be sustained at the current cost rate. Just as clearly, however, costs cannot be moderated if HCFA continues to balance the books in the short term by penalizing managed care initiatives under the Medicare Risk program and those which might otherwise be developed under the Medicare + Choice program.
Ed Dailey's practice concentrates on strategic business issues and litigation. The Dispatch is not legal advice. For legal assistance or further information, please call the lawyer with whom you regularly deal at our firm or the authors of these articles. |
