What happens if you obtain a judgment for misappropriation of trade secrets, and the defendant files for bankruptcy? A recent case from the E.D. Va. bankruptcy court could offer some assistance, as it held that judgments for willful and malicious misappropriation are not dischargeable in bankruptcy.

In re: Erika Brooke Harton, 2013 WL 5461832 (Bankr. E.D. Va. Oct. 1. 2013) (linked below) has a particularly egregious story of trade-secret misappropriation. While still working at the plaintiff’s med-spa/salon, the defendant/debtor opened her own competing salon. After the plaintiff’s salon had closed for the day, the debtor entered the salon, accessed the plaintiff’s computer, and printed out the plaintiff’s client’s appointment schedule for the next three months. The debtor also looked up and copied all of the plaintiff’s clients’ contact information.

The debtor then mailed over 2,000 postcards to the plaintiff’s clients that said “We’ve moved—same faces—new location,” and directed them to the debtor’s business. Many of the clients changed their appointments to the debtor’s salon.

Not surprisingly, the plaintiff sued in Virginia state court and obtained a judgment for misappropriation of trade secrets under the Virginia Trade Secrets Act. The court concluded that the defendant’s misappropriation was willful and malicious. After that, the debtor filed for Chapter 13 bankruptcy relief.

In the bankruptcy court, the plaintiff filed an adversary proceeding claiming that the judgment was nondischargeable under 11 U.S.C. 523(a)(4). This statute provides that debts based on, among other things, embezzlement or larceny are not dischargeable.

The bankruptcy court first determined that the debtor was collaterally estopped from relitigating the state court’s finding that her misappropriation was willful and malicious. The bankruptcy court then found that willful and malicious misappropriation falls under Section 523(a)(4), noting that it involves taking another’s property for one’s benefit.

Takeaway: There is always a risk that a judgment debtor will file for bankruptcy protection. In a trade-secrets action seeking damages, try to argue and establish (when possible) that the defendant’s misappropriation was willful and malicious. Armed with such a finding, a judgment creditor can argue that its judgment cannot be discharged in bankruptcy.

In re Erika Brooke Harton, Memorandum Opinion

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