Trade Secret Infringement and Non-Compete: Choice, Boundary, and Set-off under Concurrence Circumstances

Trade secret infringement disputes and non-compete disputes often arise together in employee departure scenarios, yet they belong to two separate tracks in legal construction.  Trade secret infringement is a tort action, governed by Article 10 of the Anti-Unfair Competition Law, requiring the right holder to prove that the information in question possesses secrecy, value, and reasonable confidentiality measures, and that the counterpart obtained, disclosed, or used it through improper means.  Breach of non-compete is a contract action, governed by Articles 23 and 24 of the Labor Contract Law, focusing on whether an employee, after resignation, violates the agreement not to work for a competitor or engage in competitive business on his/her own, and must be preceded by labor arbitration as a prerequisite. The two differ in constitutive elements, burden of proof, damage calculation, and procedural paths.  However, when the same departure conduct triggers both the non-compete agreement and suspected trade secret infringement, the right holder has the option to bring either a contract action or a tort action; the two paths are not mutually exclusive.

I. Path Choice under Concurrence: Choosing Tort Action Avoids Arbitration Prerequisite

The Supreme People's Court (2008) Min San Zhong Zi No. 9, Chen 1 v. Nantong Dongfang Industrial Co., Ltd., Zhou, Chen 2, Li, Dai – Dispute over Jurisdictional Objection in Infringement of Technical and Business Secrets, is a landmark case on this choice.  After Chen 1 left the Ministry of Chemical Industry Nantong Synthetic Materials Factory, he joined Nantong Dongfang Industrial Co., Ltd., established by Zhou.  The Nantong Synthetic Materials Factory and its affiliates directly sued Chen and others in the Jiangsu High Court for infringement of technical and business secrets, with the subject amount of RMB 45 million.  Chen raised a jurisdictional objection, arguing: "The main dispute in this case is a labor dispute and should be arbitrated by the Nantong Labor Arbitration Commission"; "I only signed a labor contract and confidentiality agreement with the Synthetic Factory, so the other two plaintiffs have no standing to sue me"; "My underlying legal relationship with the Synthetic Factory is an employment relationship, and I did not disclose any secrets, so arbitration should come first."

In its ruling, the Supreme People's Court invoked Article 122 of the Contract Law: "Where a party's breach of contract infringes upon the other party's personal or property rights, the injured party has the right to choose, in accordance with this Law, to require the breaching party to assume liability for breach, or to require, in accordance with other laws, that the breaching party assume tort liability," and clearly held:

A. "For disputes arising from non-compete agreements between employees and employers, if the party asserts rights on grounds of breach of contract, it falls under labor disputes and shall be resolved through labor dispute procedures according to law; if the party asserts rights on grounds of trade secret infringement, it falls under unfair competition disputes, and the people's court may directly accept the case according to law."

B. The ruling further pointed out that the cause of action in this case is infringement of technical and business secrets; the plaintiffs' claims are for injunctive relief and damages against the individual defendants and Dongfang Company for infringing their trade secrets.  "The subject matter of this case is the tort legal relationship between the plaintiffs and the defendants, not the labor contract legal relationship between the plaintiffs and the individual defendants.  Therefore, this case is not a labor dispute and, as a tort case, the people's court may directly accept it."

Case Tip: Breach of non-compete follows the "labor arbitration first, then court" route, while trade secret infringement follows the "unfair competition tort litigation (no arbitration prerequisite)" route.  When the two concur, the right holder has the choice; once the trade secret infringement action is selected, the procedure can bypass labor arbitration and file directly in court – this is the most practical pathway provided by the Chen 1 case.

II. First Adjudicating Non-Compete, Then Suing for Trade Secret Infringement Does Not Constitute Duplicate Litigation

The Hangzhou Intermediate People's Court (2014) Zhe Hang Min Zhong Zi No. 62, Hangzhou Hengsheng Network Technology Co., Ltd. v. Wang – Dispute over Trade Secret Infringement and Non-Compete (Second Instance), clearly explained whether the two suits are the same.  After Wang left Hengsheng Network, he jointly established Tianjiao Wenyun Software (Tianjin) Co., Ltd. with Tianjin Culture and Art Exchange and served as its manager.  Hengsheng Network pursued two tracks simultaneously: first, it filed a trade secret infringement suit against Wang in Xihu District Court ((2011) Hang Xi Zhi Chu No. 935), which found that "Wang obtained the two plaintiffs' trade secrets by improper means and provided them to defendant Tianjiao Wenyun for use, thereby infringing the plaintiffs' trade secrets," and awarded RMB 200,000 in damages.  Second, it filed a non-compete breach suit against Wang in Binjiang District Court (the present case).  In the non-compete case, Wang argued that the Xihu District Court had already found his "establishment of Tianjiao Wenyun and employment therein" to constitute infringement and awarded damages, and that suing again for breach based on "the same facts" constituted duplicate litigation and should be dismissed.

The Hangzhou Intermediate People's Court rejected this defense in its second-instance ruling, stating:

A. "Non-compete agreements are aimed at employees with confidentiality obligations, prohibiting them from working for competing entities or starting their own business in the same or similar business within a certain period after the employment relationship ends; they restrict the scope of the employee's work field after departure.  To determine whether an employee has breached the non-compete agreement, it is only necessary to examine whether the employee's post-departure employer and work nature compete with the former employer's business; it does not require a finding that the employee has infringed the former employer's trade secrets."

B. "The legal facts underlying the claims in the two cases are not the same, and there is no concurrence of claims.  Wang's breach of the non-compete agreement subjects him to liability for breach, irrespective of whether he separately infringed Hengsheng Electronics' and Hengsheng Network's trade secrets."
Case Tip: If a company discovers that an employee has joined a competitor and is suspected of taking trade secrets, but initially only has solid evidence of "joining the competitor," it may first pursue non-compete arbitration for rapid damage control; later, upon unearthing evidence of trade secret misappropriation, it may still file a separate trade secret infringement action.

III. Set-off Rules When Both Tracks Run in Parallel: Non-Compete Liquidated Damages May Be Deducted from Infringement Compensation

The Changzhou Intermediate People's Court (2016) Su 04 Min Chu No. 22, Changzhou Jingshi Sign Manufacturing Co., Ltd. v. Changzhou Yida Sign System Co., Ltd., Zhu, Ju – Dispute over Trade Secret Infringement (First Instance), provides the most complete sample of set-off rules.  Eight employees, including Zhu and Ju, left Jingshi (formerly Aolangtong) to join competitor Yida, and used the former employer's customer list to conduct ongoing transactions with nine of those customers.  Jingshi pursued two tracks:

A. Non-compete track: Jingshi sued the eight departing employees for breach of non-compete; the effective judgments, including (2011) Chang Min Zhong Zi No. 964, awarded each liquidated damages of RMB 200,000, totaling RMB 1.6 million for the eight, which were settled through enforcement at RMB 1.2 million actually paid.

B. Trade secret track: Jingshi separately sued Yida, Zhu, and Ju for infringement of business secrets (customer list).  The first instance determined that Yida's infringing profits from using the nine customers up to February 7, 2013, plus reasonable expenses, totaled RMB 403,982.91.

When both cases reached the damages stage, the Changzhou Intermediate People's Court specifically addressed whether set-off should apply, stating:

1. "Trade secret infringement disputes and non-compete disputes are neither concurrent nor entirely independent.  Under the statutory design of non-compete restrictions, unless the parties have separately agreed on liquidated damages for the two situations, or unless the damages for the second situation can be clearly determined, the two situations should be assessed together under the same dimension of liquidated damages."

2. "In the prior non-compete case, the plaintiff was entitled to receive a total of RMB 1.6 million in liquidated damages from the eight departing employees, including Zhu and Ju, under effective judgments...  Therefore, the liquidated damages amount determined in the prior non-compete case shall be deducted from the amount determined in this case."

Case Tip: When non-compete liquidated damages and trade secret infringement compensation point to the same injury, courts may adopt "set-off" rather than "cumulation" in practice.  The lesson from Jingshi is direct: the RMB 1.6 million in liquidated damages for the eight persons were set off, reducing the RMB 400,000 infringement compensation in this case to zero.  Thus, when running both tracks in parallel, the amount claimed must reserve room for set-off; otherwise, "winning the case but losing money" is not an empty saying.  In addition, one may consider separately stipulating in the contract the non-compete liquidated damages and trade secret infringement compensation to avoid the court applying set-off.