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Trade Secret vs. Patent Protection for Software Startups

In light of recent changes in the law concerning software patents, software startups should more heavily consider trade secret protection to protect their technological and operational advantages.

In light of recent changes in the law concerning software patents, software startups should more heavily consider trade secret protection to protect their technological and operational advantages.

So you’ve launched a software startup. You know that if you are to have any hope of becoming the next Google, Facebook, or Twitter success story, you need to take steps to protect your technology and your brand. Making the choice to invest some resources into obtaining intellectual property protection can be a great decision, but the specifics of how to carry out such a plan might be a little elusive. The question is what kind of protection do you actually need, and how do you go about getting it.

Two types of IP protection that most startups will want to consider are patents and trade secrets. What works best will vary from startup to startup depending on each ones own unique circumstances. However, there are several factors that all startups will want to consider when implanting an intellectual property protection strategy. First, let’s consider the basic types of IP protection that the patents and trade secrets provide, and then we can better understand factors that might encourage you to choose one or the other.

Patents

One type of IP protection that most people have heard of but few people fully understand is patent protection. There are several categories of patents, including utility patents, design patents, and plant patents. Plant patents and design patents give inventors rights in specific areas as defined by statute. However, the most common type of patent is the utility patent.

Utility patents grant the holder an exclusive monopoly on inventions of “new and useful process, machine, manufacture, or composition of matter, or a new and useful improvement thereof.” For example, someone could obtain a patent on a new and improved hair trimmer as long as it was different than and not obvious in light of previous hair trimmers. Last year, over 500,000 utility patent applications were filed at the U.S. Patent & Trademark Office.

Patents, utility patents in particular, enjoy popularity for several reasons. First, they grant the rights holders a very strong form of protection. This protection – the right to prevent others from making, using, selling, offering for sale, or importing the patent holder’s invention – is given in exchange for a publication that explains how to make and use the invention. After twenty years anyone is allowed to make and use the invention. When considering whether or not to apply for a patent, a software startup should evaluate whether or not the exclusive protection is worth having in exchange for giving up their invention after twenty years. In many instances, this will be a good tradeoff to make given the rapidly evolving world of software and technology.

Another benefit of utility patents is that the patent holders will not lose their rights due to the actions of third parties, assuming that they justly received the patent in the first place. This may not necessarily be true with trade secret protection. For example, a person who has trade secret protection in a manufacturing process can not prevent a third party from independently discovering and using such a manufacturing process. But if the original inventor of that manufacturing process acquired a patent, the third party could not use the process even if they independently discovered it (assuming that the patent holder had a valid patent that was not acquired through fraud).

While there are some significant upsides to obtaining a patent, there are costs as well. One downside that was already mentioned is the limited duration of patents. Another potential downside is the cost and difficulty of obtaining a patent. As discussed in our recent post, in recent years, it has become more and more difficult for inventors to obtain patents on software, and the scope of granted software patents may be more limited. Getting a patent can also be quite expensive. Depending on how many jurisdictions (i.e., countries) your startup is applying for patents in, the price tag can reach into the hundreds of thousands of dollars. See our prior post outlining the costs of obtaining patent protection.

Trade Secrets

Unlike patents, trade secrets are creatures of state law rather than federal law. This means that specific trade secret regimes will vary some from state to state; however, there are generally accepted principles regarding how trade secret law should work. One attempt to compile some of these generally accepted principles is the Uniform Trade Secrets Act. This document defines trade secrets as follows: “’Trade secret’ means information, including a formula, pattern, compilation, program, device, method, technique, or process, that: (i) derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and (ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.” In short, a trade secret is information that is valuable because it is kept secret. State laws prevent the “misappropriation” of trade secrets. This basically means that people aren’t allowed to steal your secret sauce. They can, however, independently create or reverse engineer it. This is one of the main disadvantages to trade secrets.

There are several benefits to weigh this disadvantage against when considering whether or not to rely upon trade secrets as your chosen form of IP protection. One benefit is that trade secrets can be relatively cheap compared to patents. There are no government filing fees for trade secrets, and the main costs result from taking measures to make sure your secret information remains secret. Trade secrets also can last forever assuming the information remains secret. This can be advantageous if you believe your invention will have commercial value for a long time to come.

Choosing Trade Secrets or Patents

One form of protection or the other will not be right for every startup. The following are some factors to consider when choosing between the two: (1) Will the invention be useful beyond 20 years? (2) Is it possible for companies to reverse engineer the invention? (3) Is the invention likely to be discovered independently in the near future? (4) Can you afford more expensive patent protection given your goals? (5) What is the risk that competitors design around a patent? (6) Are you interested in licensing/cross-licensing with competitors? (7) Would you be able to detect if someone was infringing your patent?

Let’s look at a couple of examples in order to understand how these factors can play out.

Example 1:

A software startup has developed a technology that has never been seen before, but as soon as you sell it, everyone will understand how to make it. They believe that this technology will be relevant for 5-10 years, but are not sure beyond that. Finally, the startup thinks there a lot of potential competitors who will likely be interested using this technology.

In this example, the startup would likely want to obtain a patent because all the factors lean in that direction. It will be easy for other competitors to develop similar products once they see the startup’s new technology; this will greatly reduce if not eliminate the value of any trade secret protection. The indefinite duration of trade secrets wouldn’t really be that valuable even if competitors couldn’t reverse engineer the product. The technology will only be relevant for 5-10 years, well less than the time frame protected by patents. Finally, because there are a lot of potential competitors that might be interested in using the technology, the startup could potentially operate on licensing business model to obtain revenue or cross-licenses.

Example 2:

A software startup has made a discovery that they believe is so foundational in nature that they believe it will revolutionize the industry for many years to come. They’re a little low on cash right now, but they expect that to turn around in the next year or two. Finally, the discovery should improve the ease with which current products are made, but the final products themselves won’t necessarily be changed.

In this example, the startup will likely choose to rely on trade secret protection. Given the foundational nature of the discovery (think F=MA2 rather than a bulldozer applying the principal of F=MA2), it is not even clear that the discovery would be patentable.  Further, the startup does not have a lot of money to try and convince the USPTO that the discovery is in fact patentable. Finally, it looks like the manufacturing processes for widgets will change, but this will not be detectable in the final widgets themselves. Thus, it might be very difficult to tell if a competitor was infringing a patent. Relying on trade secret protection will mitigate these concerns and allow the startup to profit for the discovery for many years to come.

It is important to note however, that deciding between a patent and trade secret does not necessarily have to be an either or proposition. It might be possible to go the trade secret route at first, and then obtain a patent further down the road. However, this is a one way street. Once you obtain a patent, you can never go back and rely on trade secret protection. Also, you can split up various aspects of your business. Certain aspects of the business might be appropriately covered by patents while other aspects would be great candidates for trade secret protection.

Conclusion

Startups creating an IP protection strategy should make decisions in light of their business model and technology. If it is not a clear decision to go one way or the other, the startup will need to make a calculated decision as to what factors are more important to them. Finally, when appropriate, startups should consider using patents and trade secrets in a hybrid form of protection.

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