(Second Edition)

Kenneth L. Port,  Jay Dratler, Jr.,  Faye M. Hammersley, Esq.,  Terence P. McElwee,
Charles R. McManis, and Barbara A. Wrigley

On-Line Problem Supplement
Copyright © 2005   Carolina Academic Press.   For permission, see CMI.

Chapter 4

Problem 4:  Nondisclosure Agreement and Evaluating Alternative Deals

1.  Contair's president calls you with great excitement.  He has received a nibble from GNN, Inc., the world's largest manufacturer of passenger cars and trucks.  GNN is interested in licensing or buying Contair's production technology for high-performance, hand-made, custom automobiles.

He tells you that Contair has a number of unusual techniques, methods, and procedures, developed over decades, for making hand-made car parts interchangeable, and for putting them together in a way that produces a reliable vehicle that is nearly always rattle and noise free.  No patent application has ever been filed for any of these techniques, and many of them are decades old.  Furthermore, there is very little documentation of them; the procedures have been passed down from worker to worker and are frequently and constantly improved.  At the moment, they reside almost exclusively in the minds and experience of six key production workers at Contair, all of whom have been with Contair for at least twenty years.  It is these techniques that GNN is interested in licensing or acquiring.

GNN is not only the world's largest auto manufacturer.  It also is known for its low-cost production.  It has a reputation for "sharp elbows" in business.  Almost weekly, there are reports in the business press of GNN pressing its suppliers for lower prices, to the point that some of them have filed for bankruptcy.  In the last five years, there have also been occasional reports of patent and trade secret litigation against GNN.  A few lawsuits have been brought by individual inventors (former employees or consultants of GNN) claiming that GNN used their inventions without permission and without compensation.

Contair's President tells you that he and the key production workers plan to meet with GNN's North American production managers next Monday to discuss possible deals.  You advise him to put a nondisclosure agreement in place, and he reluctantly agrees.  "But," he says, "please don't over-lawyer this thing.  I don't want to drive GNN away.  Draft the agreement as a letter, and make sure it fits on one page."

You agree.  Just before you hang up, you ask the President whether he will mind if some terms of the agreement have to be negotiated.  "No," he says, "but make it quick.  I had a devil of a time lining up all my key production people and I don't want to postpone Monday's meeting."

Draft a nondisclosure agreement for Contair's President to fax to GNN before the meeting, making it likely that GNN will sign it before the meeting with a minimum of negotiation.

2.  On Sunday night, the night before the big meeting with GNN, Contair's President calls you at home.  "I'm sorry to disturb you on Sunday evening," he says, "but I just had some anxious thoughts."  He explains that the people with whom he is dealing at GNN are known throughout the industry for making deals quickly.  He worries that they may start talking terms at the very same meeting on Monday.  He explains that he has never "done a licensing deal before," and he wants your advice.

Contair's President then asks you to make a list of the four or five most important business terms, and (to the extent different) the four or five most important legal terms, that you can anticipate arising in a license from Contair to GNN with respect to the production techniques under discussion.  He asks you to prepare that list (with bullet points only, not complete sentences), fax it to him, and be prepared to discuss it with him later that night or early Monday morning.

3.  In 1998, Contair engineer Yoshi Kuruma began developing a new security system for the Estrella.  Kuruma decided to base his system on voice recognition technology, using the fact that, when analyzed digitally, no two human voice prints are identical.  He reasoned that the most effective way to protect a car like the Estrella would be to utilize the uniqueness of the car owner's voice to function as a key.

Kuruma began developing a computer chip that rendered the traditional "key system" obsolete by controlling the doors and engine of the car electronically.  He also developed software that analyzed the frequency of sound digitally.  The software would record a given sound through an external microphone, render a visual voice print for it, and then compare it to a stored database of control samples.  If the program successfully matched the sample print, it would send a signal to the chip to perform the relevant function (i.e., unlock the doors or start the engine).

By 2000, Kuruma had installed a working model in an Estrella.  Using his own voice as the control sample, he was able to give the car selected verbal commands, "unlock door" or "start engine" and have the system return a positive result.  Contair called this technology "VRS" (Voice Recognition System).

Contair filed for and received a federal trademark registration for "VRS."  The application identified the goods as "a computer system used in voice recognition as applied in automobiles."  The United States Patent and Trademark Office issued the trademark registration on June 1, 2001.

By 2002, Kuruma had perfected his program by relaxing the conditions necessary for a successful voice print match.  In the first version of the code, the software only identified a hit if the sample print matched an individual control sample to the exclusion of all others.  Kuruma was subsequently able, however, to program the software to calculate the limit on an individual voiceprint and accept minor deviations in the sample so long as the deviations did not exceed the limit.  This allowed any user to verbally direct the system with an essentially undefined set of commands—that is, "start engine" returned the same result as "turn on engine."

While this advancement was not practically beneficial to the security system (the inherent uniqueness of a specific voice ceased to be a necessary condition for activation of the system) it was, however, a landmark discovery in the field of voice recognition technology.  Kuruma knew that if he could figure out how to wire the major systems of the car to his prototype chip, it would be theoretically possible to completely operate the automobile by voice recognition.  He worked for several months to complete the hard wiring but was unsuccessful.

Contair Corporation decided to register the VRS software with the Copyright Office, while keeping the really innovative computer code as a trade secret.  Contair attached only the first twenty-five and the last twenty-five pages of the source code to the registration.  See Circular 61, Copyright Registration for Computer Programs, Copyright Office, December 15, 1995.

In early 1997, a new start-up company was formed to create cars that could be driven with the aid of a computer by handicapped people.  The company's name was Assist, Inc.  Many different features were considered by Assist, but the one that was most promising was voice recognition.  The Assist design team invented a computer chip that could be the "brain" of an automobile.  The chip connected all of an automobile's systems to a central processor.  When given a verbal command from a defined set, the computer could open windows, accelerate, turn corners, and do everything necessary to operate a vehicle.  Assist has filed, and still has pending, a United States patent application for the computer and its unique processor.

Assist was not able, however, to create a voice recognition software package that could be used by multiple drivers without first pre-recording every specific word needed to operate the vehicle.  Assist employees know they have a very valuable product that would make the new company an overnight sensation on Wall Street, if only they could come up with robust voice recognition software.  Last June, Assist employees attended a "Tech Show" in Milwaukee, Wisconsin, where they saw Mr. Kuruma of Contair Corporation demonstrating VRS.

At the same time, GNN found that there was sufficient market demand for a voice operated vehicle.  GNN decided that, rather than invent an entire system from scratch, it could get a product on the market faster by either buying or licensing one or more existing technologies.  GNN representatives also saw Mr. Kuruma's demonstration at the Milwaukee Tech Show and were equally impressed.

Representatives from both Assist and GNN have approached you and asked to license the VRS trademark and software. GNN has a long standing policy that it does not license in critical technologies unless the license is worldwide and exclusive. For such a license, GNN has offered 5% royalties on net sales of the VRS option.  Assist also wants an exclusive license. Assist offered 25% of the company's publicly traded stock as a lump sum, up front royalty payment.  In the alternative, Assist has proposed that Contair and Assist form a joint venture, each contributing its intellectual property exclusively to the venture and sharing the profits equally.

Make a list of the initial bargaining positions of each party, Contair, Assist, and GNN.  Be sure to include all important business, financial, and legal terms, insofar as known.

Reading "between the lines" of the parties' positions and the foregoing narrative (and using also your past knowledge of Contair and its present status and position), list the parties' respective interests in the proposed transactions.  For each party, list the top four or five interests relevant to each proposed deal (Contair-Assist or Contair-GNN: Contair may have somewhat different interests in the two deals). Then prioritize the interests in order of their importance to that party.

For each of the two prospective deals (Contair-Assist and Contair-GNN), make lists of the deal's major apparent benefits to each party, the deal's major apparent risks to each party, and the major apparent unknowns.

Considering the information you have collected above, draft a memo to the President of Contair Corporation that recommends which offer, if any, Contair should pursue.  Keep in mind that Contair may choose to license VRS non-exclusively to every automobile manufacturer in the world or offer it exclusively on its own vehicles.

4. As counsel for Contair, you are preparing for preliminary negotiations with both GNN and Assist. You have successfully negotiated a nondisclosure agreement with GNN but it covers only "production technology for high-performance, hand-made, custom automobiles."  The President has asked you to make certain that the prior nondisclosure agreement covers the present negotiations.  He has also asked you to make certain that you can use the GNN nondisclosure agreement as a template for a nondisclosure agreement with Assist.  Advise the President on any issues this raises.

5.  You are still uncertain which offer is more advantageous to Contair.  Contair's president, who worked his way up to the president's suite from the factory floor, believes that the only good deal is one that takes maximum advantage of the other party.  He wants you to bargain hard and aggressively and walk away from any deal that doesn't result in a huge infusion of cash for financially-strapped Contair.  In particular, he directs you to insist on the following nonnegotiable terms:
    a) An annual minimum royalty of $25 million against 20% of the licensee's net profits from the technology and a $20 million up-front licensing fee;
    b) Termination of the license if the technology is not commercialized within three years;
    c) Retention of all rights to license the technology on the Asian subcontinent.
In responding to the president's insistence on the nonnegotiable terms, comment on:  (1) the results you think those instructions would achieve if followed literally, (2) proposed modifications or alternatives that you think might work better, and (3) a recommended course of action (which might, for example, include following the original instructions with one or more "fall-back" positions).

Both companies have expressed concerns about substantial risks in the deal.  Several technological hurdles remain to be overcome.  Government regulatory approval could be delayed for years or refused outright.  GNN could probably meet your president's terms, but you know it wants Contair to share the risks by deferring royalties until after the product comes on the market and then pay royalties only on net sales.  Assist, on the other hand, lacks the financial resources to meet those terms.

You suspect both companies will leave the bargaining table for good and go back to trying to develop the software on their own (or join forces against Contair).  How would you approach the negotiations with each company?  How might you prioritize the issues and why?  What argument would you make to the president that a licensing deal is not a typical contract negotiation?  What argument would you make that Assist has to be treated differently than GNN?

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