United States: Outsourced Manufacturing: Taking A Proactive Approach With Your Intellectual Property


Companies developing new products sometimes opt to outsource the fabrication of prototypes or the pilot-stage manufacture of products for beta testing. Outsourcing may make sense for companies that do not have in-house prototyping capability, or if the manufacture requires special technical expertise. By outsourcing the fabrication of prototypes during product development, however, a company may risk losing valuable intellectual property rights. In light of recent developments in patent and trade secret law, companies should take several precautions to protect their intellectual property rights.

Under the Patent Act, an inventor must file a patent application on any invention within one year after the first public use, disclosure, or commercial offer for sale. See 35 U.S.C. §§ 102(a) and (b). If a patent application is not filed by that time, then a statutory bar prevents the inventor from obtaining a patent on the invention. In some cases, the sale of even a single item (such as a prototype fabricated by a contract manufacturer) could block patentability. To prevent this possibility, companies should consider the following precautions:

File Provisional Applications

One way to prevent loss of patent rights is to file a provisional application describing the invention prior to any public use, disclosure, or attempted sale of a product containing the invention. If an applicant files a provisional application, and then follows up by filing a nonprovisional claiming the same invention within one year of the provisional application filing date, then the later application is treated as having been filed on the provisional application filing date. 35 U.S.C. § 119(e). Provisional applications generally are less costly than nonprovisional applications. They are not published by the Patent Office until the subsequent nonprovisional application is published, so they do not result in the loss of confidentiality. Provisional applications have the added benefit of establishing a filing date for subsequent foreign applications, which is important because most foreign patent systems require an application to be filed prior to any disclosure of the invention. Provisional applications also have some significant limitations. They are ineffective for design patents, which cover the shape or ornamental appearance of a product. In addition, filing a provisional application does not itself result in patent protection. The applicant must file a nonprovisional application claiming the invention within one year to initiate the examination process.

Additionally, a nonprovisional patent application may claim priority to multiple provisional patent applications. A company may file a first provisional application before working with a manufacturer and then file a second provisional application including any minor improvements to the invention made during manufacturing. Then, within one year of the filing date of the first provisional application, the company may file a nonprovisional application claiming priority to one or both provisional applications.

Structure the Work as a Custom Manufacturing Agreement

A company may prevent an outsourcing contract from being interpreted as a commercial product sale by structuring it as a contract for manufacturing services, rather than for the sale of a product of manufacture. In a recent case, the U.S. Court of Appeals for the Federal Circuit ruled that when an inventor contracts with another party to fabricate a product containing an invention, but the title to the product does not change hands and the work is priced and invoiced as custom manufacturing services, a commercial sale of the product does not occur. Thus, the fabrication services did not trigger the one-year period for the inventor to file a patent application. The Medicines Company v. Hospira, Inc., No. 2014-1469 (Fed. Cir. July 11, 2016) (en banc). In order to take advantage of this rule, outsourcing contracts should clearly state that the contract is for custom prototyping or manufacturing services, indicate that the originator retains title to the product and any intellectual property in the product at all times, and provide that the fabricator has no rights in the product and is unable to sell the product to any other person. In addition, the contract should be priced and invoiced for the value of the manufacturing services, rather than the anticipated price of the product.

Keep the Agreement Confidential

The Leahy-Smith America Invents Act implemented important changes to the rules for

identifying prior art for most patent applications filed after March 16, 2013. Although these AIA provisions have not yet been interpreted by the courts, the Patent Office has interpreted the AIA to require any use or attempted sale to be publicly available in order to become prior art that could defeat patentability. As a result, nonpublic transactions, including those subject to confidentiality or nondisclosure controls, or taking place only within a corporate entity, generally are not prior art and cannot bar patentability. Thus, contracts for outsourced prototyping or manufacturing should contain detailed nondisclosure provisions. Agreements should require the fabricator to keep confidential the design, composition, functionality of the product, as well as the financial terms of the agreement. In addition, any specifications or other technical information provided to the contractor should be marked as "Highly Confidential," and should be returned or destroyed after the work is complete.

For innovations that are not likely to be patentable, companies should consider trade secret protection. In Michigan, as in most states, trade secrets are governed by the Uniform Trade Secrets Act. In order to be protected as a trade secret, proprietary information must have economic value, not be generally known in the industry or readily ascertainable, and must be subject to reasonable policies and procedures to protect secrecy. One recent development in trade secret law is the enactment of the federal Defend Trade Secrets Act of 2016. The DTSA permits companies that are victims of trade secret misappropriation to sue in federal court and provides new remedies in some cases, including multiple damages and ex parte seizure orders.

In order to preserve the ability to seek relief under the DTSA, however, companies must provide written notice to employees, consultants, and contractors entering into agreements containing nondisclosure or confidentiality provisions that the DTSA provides immunity from liability in certain limited situations. For example, a person may disclose a trade secret in confidence to a government official or an attorney solely to report or investigate a violation of the law, and also may disclose a trade secret to an attorney or in court proceedings in connection with a lawsuit alleging retaliation by an employer for reporting a suspected violation of the law. If a company does not provide notice of these DTSA immunities, then it cannot recover exemplary damages (up to two times actual damages), or attorney fees under the Act. In order to provide notice, companies should ensure that outsourcing contracts contain a sufficient DTSA notice, or contain a reference to a posted company policy explaining the

DTSA immunities.

Protection of intellectual property rights may prove critical to the success of a new product or technology. By taking simple precautions, including carefully structuring agreements to outsource prototyping or manufacturing, companies may reduce the risk of losing those valuable rights.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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