California Court of Appeal holds that trade secrets claim against company not severable from arbitrated claim against employee and must be stayed

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In Mattson Technology, Inc. v. Applied Materials, Inc., a California Court of Appeal ruled that the trial court erred by not staying Applied Materials’ (“Applied) trade secret misappropriation claims against rival Mattson Technology (“Mattson”) while Applied pursued arbitration against its ex-employee who allegedly absconded with confidential information and provided it to Mattson.

What happened?

Lai, an engineer employed by Applied, had access to Applied’s trade secrets and participated in highly confidential meetings. Mattson, Applied’s direct competitor, recruited 17 Applied employees, including Lai who accepted a job with Mattson. Before his last day at Applied, Lai accessed proprietary information from Applied’s cloud-based storage system and sent e-mails attaching highly confidential Applied documents—many clearly marked as such—to his personal email accounts. Prior to terminating his employment, Lai signed a separation agreement stating he had not retained any Applied information which he further confirmed in two exit interviews. After starting his new job, Lai logged into his personal email accounts on his Mattson computer. Lai claims he never disclosed any Applied information to Mattson. Mattson denies any knowledge of Lai’s actions.

The lawsuit and arbitration

Applied sued Mattson and Lai, citing the Uniform Trade Secrets Act (Civ. Code § 3426) and breach of Lai’s employment agreement. In response to the complaint, Mattson and Lai moved to compel arbitration based on a provision in the Applied-Lai employment contract. The trial court granted the motion to compel arbitration of Applied’s claims against Lai, but denied the motion as to Mattson since it was not a signatory to the Applied-Lai employment contract. In addition, the trial court denied Mattson’s motion to stay the litigation against it while Applied’s claims against the ex-employee continued in arbitration. Mattson appealed.

The Court of Appeals ruling

The court of appeals agreed with the trial court’s ruling that Mattson could not compel Applied’s claims against it to arbitration as Mattson was not a party to the Applied-Lai employment contract. However, the court of appeals found the trial court erred by not staying those claims until the arbitration against Lai was resolved.

In holding that Applied’s claims against Mattson should be stayed, the court of appeal relied on section 1281.4 of the Code of Civil Procedure which requires a court to stay an action or proceeding where the court “has ordered arbitration of a controversy which is an issue involved in an action or proceeding” unless the controversy is “severable.” The appeals court disagreed with the trial court’s determination that Applied’s claim against Mattson was independent of and therefore “severable” from Applied’s claim.

As a result of the court of appeal’s ruling, Applied’s claims against Lai will proceed in arbitration while Applied’s claims against Mattson are stayed.

Impact of new legislation

The key impact of the Mattson decision is the trial court’s denial of Mattson’s motion to stay Applied’s claims against it while Applied pursues its claims against Lai in arbitration. Again, the key statute is section 1281.4 which applies to actions in which there are multiple claims, some subject to arbitration and others that are not. Section 1281.4 requires a stay of the non-arbitrable claims so long as they are not severable.

But, as the result of new legislation effective January 1, 2024, the outcome may have been different if the case involved only Applied’s claims against Lai. If, for example, the trial court denied Lai’s motion to compel arbitration of Applied’s claims against him and Lai appealed, the trial court would have been required to stay the litigation pending the outcome of the appeal pursuant to section 1294 of the California Code of Civil Procedure. The automatic stay in section 1294 is similar to the automatic stay in section 1281.4. However, in 2023 California enacted SB 365 which amends section 1294.

Before the enactment of SB 365, trial courts were required to stay litigation pending the outcome of the appeal of a ruling denying a motion to compel arbitration. However, SB 365 amended section 1294 to eliminate the automatic stay. Rather, amended section 1294(a) now provides that the filing of an appeal from an order denying a motion to compel arbitration “shall not automatically stay any proceedings in the trial court during the pendency of the appeal.” As a result, the trial court now has discretion to stay the action which could result in the absurdity (and expense) of forcing parties to continue litigation in the court only to have the court of appeal reverse the underlying order thus resulting in arbitration of those claims.

Businesses with arbitration provisions in their employment contracts should be prepared to continue litigation in the court while its appeal on a motion to compel arbitration is pending.