So, you have a great business idea. Now what? Depending on how fleshed out your idea is, you may need to look for partners who can help bring your vision to life. Unfortunately, approaching others with your business idea can be scary. There is always the risk that they may try to take your idea and do it on their own or give it to another party. One tool that may help you protect your idea is a non-disclosure agreement (NDA).
What is an NDA?
An NDA is an agreement where one party (the disclosing party) will provide information about a product, service, idea, or other business-related item to another party (the receiving party). In exchange for the information provided, the receiving party will agree to keep it confidential and not disclose it to third parties. The receiving party often agrees to an NDA because they are interested in doing business with the disclosing party. Sometimes the NDA is unilateral, meaning only one party is disclosing information that will be protected. Other NDAs will be mutual because both parties will be disclosing confidential information.
Example
Let’s say Jake has a new laser potato peeler prototype. It would be impractical and expensive for Jake to build every potato peeler by hand, so he must find partners to manufacture the product. Jake is worried about someone stealing his idea and manufacturing it on their own, so he drafts an NDA and asks prospective manufacturers to sign it before giving them more information about the product.
When Do You Need an NDA?
An NDA is often used when you do not want another party to use the information provided for their own gain. This is usually because the information is extremely valuable to the disclosing party, and its disclosure could negatively affect their business. Some examples of valuable information that may need an NDA include:
- Business ideas or plans
- Trade secrets
- Information about manufacturing processes
- Diagrams and descriptions of new products
- Information about customers or potential customers
- Financial information about the company
- Marketing plans and materials
- Other sensitive information the company does not want to disclose
In short, you can use an NDA for any information about your company or product you want to keep confidential. NDAs are often used when one business is looking to work with another business on a product or a project, but they can also be used in an employment context.
Going back to our example, if Jake wanted to hire an engineer to work with him on his peeler, he might ask the engineer to sign an NDA so he doesn’t create a competing product on his own.
How Does an NDA Work?
Okay, an NDA protects your confidential information, but how? When a party violates an NDA, the other party may have a breach of contract claim. This means that the injured party can file a lawsuit and recover damages for the harm caused by the breach. They might also be able to pursue an injunction, essentially a court order forbidding the other party from using the disclosed information.
In our potato peeler example, let’s say that Jake reaches out to a manufacturer to produce the peeler. The manufacturer leaks the details of the peeler to another party that starts to make its own laser peeler. Jake may be able to sue the manufacturer for the profits he lost from the leak. He would also seek an injunction to keep the manufacturer from leaking the information to other parties.
Non-Circumvention
The restriction on disclosure is not the only way an NDA offers protection. Some NDAs also have non-circumvention language to protect the disclosing party. A non-circumvention clause prevents the receiving party from bypassing the disclosing party and going straight to its customers, suppliers, or other parties. It keeps the receiving party from cutting out the disclosing party in a deal. Non-circumvention clauses usually come into play when the disclosing party is a middleman or a supplier in a larger project.
Limitations of an NDA
NDAs can be a valuable tool, but they are not magic. The NDA is only as effective as your willingness to enforce it. If a party does not think you will enforce the NDA, they will more likely disclose your confidential information. Some companies are unwilling to spend the money to enforce an NDA if they don’t think it will be cost-effective. I’ve seen this happen a few times in my career.
Another issue is convincing the other party to sign an NDA. If the receiving party feels like the language in an NDA is too restrictive, they will push back on signing an NDA. This is especially true if the agreement has non-compete language, which would limit their ability to work with companies that offer the same or similar products or services. Most companies will be unwilling to sacrifice dozens of potential customers to hear one idea. Contract negotiation should be a constructive process, not overwhelmingly favoring one party.
The information itself may also limit an NDA. If the disclosed information is common knowledge, then good luck enforcing it in an NDA. The more broad an NDA is, the less likely it is to be enforced. Further, if another party independently came up with a similar idea before signing the NDA, it is unlikely to be enforced.
So if Jake presents his peeler to a company that has started developing a similar product, he probably can’t enforce the NDA unless he can show they took elements of his product.
Finally, even if an NDA is enforceable, a party may still be able to disclose the information in certain circumstances. Most NDAs have language allowing the receiving party to disclose the information when required by a court, law enforcement, or administrative agency. That said, there will usually be language that requires them to notify the other party before they make the disclosure.
Startups Love NDAs
When do you need an NDA? If you are like many startups, you could use one when looking into manufacturing, distribution, and other partners. An NDA is a valuable tool for protecting your business idea, but it’s still just a tool. Given the limitations on enforcing an NDA, it’s a good idea to carefully vet your potential partners. The NDA is an excellent backup, but it won’t guarantee the safety of your business idea. Finally, you need to talk to a lawyer before drafting an NDA. An improperly worded NDA will only give you false confidence and could cause more harm than good.
This article is for informational purposes only and does NOT constitute legal advice. If you want to draft an NDA, please talk to an attorney.