Drafting Non-Disclosure Agreements : A Legal Critique

The Non-Disclosure Agreement, or the NDA as it is more commonly known, is one of the most frequent and fundamental contracts used by any business concern prior to, during and even after the tenure of the contract is over. The objective is simple – protection of the data that is shared between the Parties. However, the scope is vast. A NDA has to be cautiously drafted to ensure the protection of something as ambiguous, fluid, and intangible as information.

Technically speaking, an NDA intends to capture a restrictive covenant prohibiting the receiving party from disclosing any information provided by the disclosing party. This non-disclosure obligation is contractually tied to a very strict liability for violation including high monetary compensation, specific performance and injunctive relief. Therefore, in broad terms, the non-disclosure obligation read with the liability to be borne by the violating Party is designed as a safety valve for disclosing parties to preserve the confidentiality of information exchanged in the course of a transaction. While one relatively shorter route is to include a "confidentiality" clause in an agreement that details the non-disclosure obligation, the other route is to enter into a separate NDA exclusively for the protection of data. A mix of NDA and confidentiality clause can also be adopted in cases which require such complex articulation.

Key clauses of an NDA

The non-disclosure clause and the liability clause as explained above are practically the most important clauses in a NDA. However, their enforcement is dependent on multiple other key clauses. These clauses need to be drafted with extreme precision to ensure that the non-disclosure and liability clause come to the rescue of the disclosing Party in any adverse scenario.

1. Definition of Purpose: The first and foremost step before drafting a NDA is to understand and articulate the purpose for which the information is being exchanged. The purpose is unique to each and every NDA and it could be anything requiring transfer of data such as with an IT services vendor, with a compliance management service provider, with a client for a prospective merger and acquisition deal, etc. The entire NDA including the information exchanged is limited to the commercial purpose behind the transaction. Therefore, the first step is to define the purpose in a comprehensive and elaborate manner.
2. Definition of confidential information: Once the purpose is set, the next step is to visualise what information would be exchanged, the significance of such information and the consequences should the information come in the public domain. The answers to the preceding points cannot be generalized. They will vary on the kind of transaction. Illustratively, if it is an IT services vendor, the definition of confidential information should be drafted in a way to cover all the source codes, programming data, etc. that will be the core information exchanged. In a contract of employment, however, the scope of definition of confidential information will be wider since a prospective employee is likely to learn a lot more about the employer than an IT vendor who is providing a selective service. It is with this thought process that the definition of confidential information should be looked at. The definition should ideally be as broad as possible so as to ensure that there is no scope of any information that is left out.
3. Exclusions to confidential information: Briefly put, any information that is public knowledge and has not become such public knowledge through a breach of the NDA is excluded from the scope of confidential information. Another exception is the extent of disclosures required to be made by law to government authorities. This exception is usually tied to an obligation to inform the disclosing party and to cooperate with the disclosing party in mitigating any adverse consequences of such disclosure.
4. Other points for consideration: The duration for which the obligation of confidentiality applies is also extremely important. Ideally, it should survive the termination of the agreement and should be linked to a right of the disclosing party to seek destruction and return of all the data in possession of the receiving party. The NDA should also expressly confer on the disclosing party the right to any product that is derived by the receiving party, including any attendant intellectual property rights, from the information being shared.

Indian Jurisprudence on the Scope of NDA

Section 27 of the Indian Contract Act, 1872 (hereinafter "the Act") invalidates an agreement in restraint of trade to that extent that is defined as one in which "anyone is restrained from exercising a lawful profession, trade or business of any kind." The provision has been the focal point of a catena of judicial precedents which have delved into non-disclosure agreements or clauses to decide its legal validity.

Courts have scrutinised whether non-disclosure agreements violate Section 27 of the Act for being in restraint of trade. Therefore, parties must also be mindful of the legal position in the course of drafting an NDA such that the restriction imposed on contracting parties is reasonable in its ambit. Otherwise, courts may be inclined to render the contract void. Judicial precedents in India have clarified the scope of the NDA in India.

The Bombay High Court in V. F. S. Global Services Private vs. Suprit Roy has upheld the validity of an extremely widely drafted confidentiality covenant in an employment contract.^[1] The scope of confidential information was not specified clearly in the agreement. Despite the limitation, it was held that such a clause is not contrary to Section 27 of the Act. From a drafting perspective, such an interpretation offers leverage for the incorporation of sweeping non-disclosure clauses to safeguard the interests of the disclosing parties. The recipient of non-confidential information, including its affiliates, may be absolutely barred in disclosing any confidential information obtained in the course of a transaction.

The sanctity of the non-disclosure obligation has been recognized by the Calcutta High Court in Fairfest Media Ltd vs. ITE Group PLC & Ors. while specifically restraining the defaulting party from disclosing confidential information in context of a joint venture transaction. The Calcutta High Court recognized the obligation of confidentiality as an equitable claim and restrained the sharing of such information concerning marketing strategies and customer base. The judgement observed that "the essence of this branch of law whatever the origin it may be, is that a person who has obtained information in confidence is not allowed to use it as a spring board for activities detrimental to the person who made the confidential communication."

In Hi-Tech Systems & Services Ltd v. Suprabhat Ray & Others, the Calcutta High Court restricted the defaulting party from acting as selling agents of the clients of the disclosing party through unauthorised use of confidential information in the context of an employment agreement. The court held that the object of enquiry for a court is to determine whether confidential information such as the market strategies or a customer list of the erstwhile employer was being used as a 'springboard' to facilitate the business of the respondents.

In Diljeet Titus v. Mr Alfred A. Adebare and Others, even in the absence of a NDA and relying only on the contract of service, the Delhi High Court imposed the confidentiality obligation and restrained the defendants from utilizing or disseminating commercially sensitive data or commercially exploiting such data for their benefit. In this case, although there was no NDA, the High Court observed that it was implied in the contract of service between the defendants (lawyers who once worked with the plaintiff law firm) and the firm that information received would not be used to the detriment of the client or the advocate carrying on practice. However, the lack of a NDA led the court to observe that "the parties would be expected to define their relationship and scope of responsibilities clearly."

Judgements in foreign jurisdictions also offer valuable lessons in streamlining the draft of an NDA. While it is beyond the scope of this article to vividly explain the legal position of NDAs in specific jurisdictions, an attempt has been made to exemplify the importance of ensuring properly drafted NDAs. Foreign courts have had to undertake an interpretive investigation in various cases due to hasty drafting. One such case is where the Delaware Supreme Court in Martin Mareitta Materials Inc. v. Vulcan Materials Company had to determine if the non-disclosure obligations entered into for the purposes of a merger could be extended to apply to the hostile takeover by the receiving party. Yet another example of hasty drafting is the case of APR Energy Limited v. Greenhill & Co., where the NDA was incorporated by reference in the engagement letter but the two documents specified different jurisdictions for dispute resolution without focussing on the precedence clause.

After the foregoing discussion, it is clear that an NDA must be drafted with precision as it bears immense potential to safeguard a vulnerable disclosing party. The nature of sensitive information being disclosed and the context has to be explored diligently by the drafter.

Judicial precedents demonstrate that clarity in drafting NDA provisions is essential to avoid costs in protracted litigation as a consequence of dispute. The NDA must clearly address the liability exposure after taking into consideration and carefully assessing the direct and indirect risks of unauthorized disclosures. Drafters must bear in mind what kind of sensitive information competitors may want to procure and ensure that the ambit of the NDA is restrictive enough to prevent parties from divulging such commercially sensitive data. The leeway afforded by the exclusions clause should also be restrictive and tied to an obligation of notice, disclosure and cooperation with the disclosing party.

Views are personal.

The Authors are Advocates.