Non-Disclosure Agreement (NDA) Explained, With Pros and Cons

What Is a Non-Disclosure Agreement (NDA)?

A non-disclosure agreement (NDA) is a legally binding contract that establishes a confidential relationship between two parties: one that holds sensitive information and the other that will receive that sensitive information. The latter agrees that the sensitive information they receive will not be made available to others. An NDA may also be referred to as a confidentiality agreement.

Non-disclosure agreements are common for businesses entering into negotiations with other businesses. They allow the parties to share sensitive information without fear that it will end up in the hands of competitors. In this case, it may be called a mutual non-disclosure agreement.

Understanding Non-Disclosure Agreements (NDAs)

The NDA serves a purpose in a variety of situations. NDAs are generally required when two companies enter into discussions about doing business together but want to protect their own interests and the details of any potential deal. In this case, the language of the NDA forbids all involved from releasing information regarding any business processes or plans of the other party or parties.

Some companies also require that new employees sign an NDA if the employees have access to sensitive information about the company. For some companies, all employees will be required to sign the agreement; for others, only select departments or types of employees will be subject to the agreement.

NDAs may also be used before discussions between a company seeking funding and potential investors. In such cases, the NDA is meant to prevent competitors from obtaining their trade secrets or business plans.

However, many investors will be reluctant to sign NDAs. Not only will this potentially prevent them from sourcing future deals with different companies, but the agreement may be very difficult to enforce and prove wrongdoing. Instead of being burdened by a legal contract even after declining an investment opportunity, most investors will simply not sign the agreement.

In all of the above, the information that is being protected may include a marketing strategy and sales plan, potential customers, a manufacturing process, or proprietary software. If an NDA is breached by one party, the other party may seek court action to prevent any further disclosures and may sue the offending party for monetary damages.

Types of NDAs

The Mutual Agreement

Consider situations where two businesses are discussing the possibility of partnering together. As part of strategic discussions, each company may disclose information about its operations to better inform the other side of its capabilities. In such arrangements, both parties often agree to not disclose information as each side often receives sensitive information.

The Non-Mutual Agreement

This type of agreement usually applies to new employees if they have access to sensitive information about the company. In such cases, the employee is the only party signing the agreement that is prevented from sharing confidential information. Also called a unilateral NDA, only one party is bound to confidentiality as they are the only party receiving sensitive information.

The Disclosure Agreement

Increasingly, individuals are asked to sign the opposite of a non-disclosure agreement. For example, a doctor may require a patient to sign an agreement that the patient's medical details may be shared with an insurer. This provides one party with the authority to share personal information and to prevent them from being sued for doing so.

Requirements for an NDA

NDAs may be customized for any situation. In general, there are usually six major elements that are considered essential to any non-disclosure agreement:

Participants to the Agreement

Every non-disclosure agreement must specifically designate who every party involved entails. The individual receiving the sensitive information may be a specific person, all employees of another specific company, or any representative of the company.

On the other hand, it's very important for a company to appropriately define itself in an NDA. For example, consider companies with complex legal structures. The company must appropriately determine which legal entity has ownership of the information; in many cases, a company may simply list any legal entity under a broad ownership umbrella.

Definition of Confidential Information

Often among the most difficult pieces to appropriately define, an NDA must state what information is considered to be confidential. A company can not simply assume that proprietary information will be understood by all, and it is the company's responsibility to identify what information must not be shared.

The difficulty of defining confidential information is the process of not disclosing such information itself within the NDA. For this reason, companies may broadly assign confidentiality to a large group. For example, the company may assess that any information disclosed from or regarding its research and development department may be confidential.

Exclusions of Confidentiality

In some situations, it may just be easiest to define what is not confidential. In these types of agreements, a company states that all information shared with an external party is to be confidential except for specific items determined by that company. These types of agreements intend to allow a company to catch any exceptions that would have otherwise slipped by.

Appropriate Uses of Information

Sometimes, a company may state that no information is confidential. However, it may simply limit how the external party may use the information that has been given to them. For example, a company may be fine disclosing operating processes to another party. However, that party cannot use the information to share with a competitor or replicate it for personal financial benefit.

Time Period

Especially relating to research and development, many proprietary bits of information simply expire or become less valuable over time. Consider the early days of Apple iOS; many components of the operating service were unknown, and the technology was widely unknown by the market.

Today, much of that information is replicated by other companies or adapted into newer technologies. For this reason, what was once sensitive information may have lost its luster, and companies often define when the information is no longer confidential.

Other/Miscellaneous Provisions

As mentioned earlier, NDAs may be customized to serve any need. Different industries may have different requirements, and government agencies may have more stringent requirements for keeping sensitive information private.

In this area, an NDA may also detail applicable state law or laws that apply to the agreement and which party pays attorney fees in the case of a dispute. This may also define the course of action if the agreeing party should fail to comply with the terms.

Information Protected With an NDA

There are endless opportunities for companies to protect themselves with an NDA. In general, NDAs are used to protect information including but not limited to:

• Customer information. This includes major customers, major customer contact information, and customer preferences. This may also include any direct communications with customers.
• Financial information. This includes specific financial information relating to any customer or any financial information not required to be publicly disclosed. This type of information is often more related to cost accounting information as opposed to financial accounting information.
• Intellectual property. This includes patents, copyrights, trade secrets, technologies, and anything a company uses as a competitive advantage.
• Marketing information. This includes processes, billing policies, pricing strategies, and advertising techniques.
• Operating information. This includes employee data, supplier information, any information related to payroll, or any aspect of internal costs required to operate the company not required to be publicly disclosed.

Exclusions to NDAs

NDAs can't contain specific pieces of information if the information is common knowledge or already in the public domain. This includes any information that may be widely known or considered public knowledge, though there may be a discrepancy around how this is defined. This also includes information that becomes publicly known at no fault to the recipient of the NDA.

Information that the receiver of the NDA already knows before receiving the agreement can not be included in the agreement. In addition, information that can be determined via independent research or rightfully obtained from a third party can not be defined as confidential as well.

Advantages and Disadvantages of Having an NDA

The primary benefit of an NDA is that sensitive information regarding your company is kept secret. This can be anything from research and development (R&D), to possible future patents, finances, negotiations, and more. Signing an NDA is a way to protect private information from becoming public.

NDA agreements are also clear. They specify what and what cannot be disclosed to avoid any confusion. NDAs can also be created at a low cost as they are just a signed piece of paper. This is one of the most cost-effective ways to maintain private information.

NDAs also outline the consequences of disclosing prohibited information, which should prevent any leaks. Furthermore, NDAs are a good way to maintain comfort and trust in a relationship.

One of the primary disadvantages of an NDA agreement is that it starts a relationship off on the idea of mistrust. This can set the tone of the relationship and may not always result in a positive one. Employee NDAs can also prevent top-tier talent from joining your firm, knowing they'd be limited in discussing their job in the future.

Similarly, asking current employees to sign NDAs when working on special projects may sour their experience of working for the company as they will feel less trusted. NDAs can also result in potential lawsuits if breached, becoming a headache for everyone involved.

Example of an NDA

Apple is one of the most private companies in the world. The company keeps its technology and future products closely guarded until the company is ready to release them. It does this to deter competitors from stealing trade secrets and copying its products, as it has been a pioneer in technology for most of its life, and also to generate buzz as a marketing ploy.

In an article from CNBC from January 2021, carmaker Hyundai confirmed in a statement that it was in talks with Apple regarding cars. This, of course, raised suspicion that Apple is possibly entering the car market or creating a product related to automobiles. Hyundai then released a follow-up statement that removed any mention of Apple

Apple insists on secrecy in all of its relationships and makes any partner sign NDAs. Apple tells its partners that they cannot mention the name "Apple" in any manner, and Apple has threatened partners that have leaked information with monetarily hefty lawsuits.

The Bottom Line

Non-disclosure agreements are low-cost, easy-to-create legally binding documents between two or more parties that keep private information confidential. They are used by organizations and individuals to protect their businesses or personal information and allow businesses to work together without the fear of private information entering the hands of competitors.

When drafting an NDA, it is important to be as detailed as possible, so all parties know what can and cannot be shared as well as the consequences of leaking information.