NDAs: Why Properly Defining the Purpose is Important

Photo by Gabrielle Henderson on Unsplash

Author: Ty Leitow

Last Updated: January 14, 2024

What is an NDA?

Non-Disclosure Agreements (“NDAs”) are legally enforceable agreements between two or more parties that help ensure certain information shared between the parties will remain confidential for a given period of time. NDAs allow people and companies to safely share confidential information with each other by protecting against the risks of the other party using it for their own benefit or disclosing it to third parties.  In the business world, NDAs are usually entered into when two companies want to explore a business relationship or to continue or grow an existing business relationship. NDAs go by many names, and you may see these agreements referred to as Proprietary Information Agreements (“PIA”), Confidentiality Agreements (“CA”), Confidential Disclosure Agreements (“CDA”) along with many variations of the foregoing. Regardless of the name, they all have the same general purpose, which is to legally protect a disclosing party’s information from unauthorized use or disclosure.

The Parties.

NDAs may be between two or more parties. The most common type of NDA is a “mutual” NDA, where both parties’ information is protected as confidential.[1] Under a mutual (also referred to as a two-way) NDA, either Party may be a “disclosing party”. As you may have guessed, the party who discloses its confidential information is the disclosing party. A “receiving party” is the party who receives the disclosing party’s confidential information. NDAs may also have more than two parties, and “three-way” NDAs that involve three parties are also common.

Why is an NDA’s Purpose Important?

A key part of an NDA is its Purpose (this may also be referred to as the NDA’s Scope, but in this article, the term Purpose will be used). When reviewing an NDA, you’ll want to make sure the stated Purpose covers the information you intend to disclose to the other party.[2] Many NDAs only provide confidentiality protection for information that is covered by or related to the Purpose. This is especially true in business-to-business NDAs, where many standard/template NDAs limit confidentiality protection to only information related to the NDA’s stated Purpose.

• Purpose with Broad Coverage. Many standard or template NDAs will include a generic definition of Purpose. For example, a common description of a broad Purpose looks something like this: “Purpose: to explore a potential mutually beneficial business relationship between the parties.” Describing the Purpose like this makes the confidentiality protection broad, encompassing any information that could reasonably be related to exploring a mutually beneficial business relationship. NDAs with broad purposes are commonly used between an employer and employee, at the beginning of due diligence for finance and investing purposes, mergers and acquisitions, and between sellers and buyers when quoting and evaluating products and services.

• Purpose with Narrow Coverage. On the other hand, an NDA’s Purpose can also be very specific or narrow. For these NDAs, the Purpose will often refer to a specific project, quote, RFQ, or particular engagement. NDAs with narrow Purposes are more common in research and development situations, in cases where special intellectual property is expected to be shared or created, and when large companies are involved. In these cases, the parties must be cautious and vigilant on what information is shared. Information disclosed that does not properly relate to the stated Purpose would fall outside of the NDA’s scope, and the receiving party would not be contractually obligated to maintain confidentiality under the NDA. For example, if an NDA’s Purpose is defined as “Only information related to RFQ 1”, then only information related to RFQ1 falls under the scope of the NDA. Said differently, information that is not related to RFQ 1 would not be protected under the NDA. This not only means the receiving party could share the disclosing party’s unrelated confidential information with third parties, it could also use that information for its sole benefit.

In most business-to-business engagements, NDAs with a broad Purpose are preferable. It’s often simply in each party’s best interest to have board two-way confidentiality protection for each other’s information. There are of course, exceptions to the rule. Large companies and companies with an aggressive approach to obtaining data, information and intellectual property will often prefer NDAs with a narrowly defined Purpose. Here, it’s important to remember that the underlying point of an NDA is to allow each party to share valuable information with the other party, where much of that value is usually based on the fact that it is not publicly known. When a disclosing party shares information that is confidential and valuable, but not related to the Purpose, there is significant risk that the receiving party could use that confidential information for its own benefit or disclose it to others without violating the terms of the NDA.

Broad Best Practices.

NDAs are an essential part of business. Companies large and small process and administrate NDAs daily. While most NDAs have similar language, every NDA is unique, and regardless of how important (or unimportant) an NDA appears to be, it’s critical to have someone with legal training review each NDA before it is signed. Processing NDAs can be mundane, standardized and somewhat tedious, but proper legal review is nonetheless important. Nobody wants to be responsible for disclosing strategic information like trade secrets, intellectual property, pricing lists, financial data, or the like, without having its confidentiality be contractually protected.

The key takeaway is this, if a disclosing party shares information that is not within the scope of the Purpose, it technically may not be protected by the NDA, and therefore, the receiving party could use that information without contractual restriction. Generally, because of this, it’s a best practice to always try and use a broadly defined Purpose, unless you have a compelling reason not to. This rule is particularly true if you’re entering into an NDA without legal review.

[1] There are also one-way NDAs, where only one party’s confidential information is protected.

[2] In some cases, an NDA may not state a purpose. Usually, these NDAs will have a generic clause that generally states something like “Any and all information disclosed by a party to the other party is protected under this NDA”.