Trade Secrets & Noncompete Blog

Trade Secrets & Noncompete Blog

News & Updates On Developments in the Law of Restrictive Covenants, Unfair Competition & Trade Secrets

Secret Trade Agreement Includes Agreement On Trade Secrets

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A great amount of attention has been focused in recent days on the just concluded Trans Pacific Partnership (“TPP”) negotiations, and it should not escape notice that the TPP promises to enhance trade secret protections in and across the Pacific Rim.  That is because the twelve TPP countries of Australia, Brunei Darussalam, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, United States, and Vietnam have apparently agreed that each of them will “provide strong enforcement systems, including, for example, civil procedures, provisional measures, border measures, and criminal procedures and penalties for commercial-scale trademark counterfeiting and copyright or related rights piracy. In particular, TPP Parties will provide the legal means to prevent the misappropriation of trade secrets, and establish criminal procedures and penalties for trade secret theft, including by means of cyber-theft…,” according to the statement from Office of the United States Trade Representative (“USTR”).  This could be good news for many businesses operating the Pacific Rim, or competing with those who do, because the future may see better and easier methods of protecting trade secrets and enforcing related agreements such as non-disclosure agreements (NDAs) and post-employment restrictions.

Unfortunately, the exact time table for TPP countries to have these systems in place, and the particular criteria against which compliance will be measured, remain unclear.  That is because the TPP countries, including the United States, signed confidentiality agreements under which each promised to maintain the secrecy of the negotiations and the agreement’s specific terms.  Indeed, as recently as September 25th, just weeks before the partnership terms were finalized, a federal district court issued an opinion, in Intellectual Property Watch v. U.S. Trade Representative, 13 Civ. 8955 (ER), 2015 U.S. Dist. LEXIS 130105 (S.D.N.Y. Sept. 25, 2015), holding that such agreements were enforceable to the extent that they provided a basis to withhold documentation otherwise called for under a Freedom of Information Act request.  The agreement in question stated that “All participants plan to hold these documents in confidence for four years after entry into force of the Trans Pacific Partnership Agreement, or if no agreement enters into force, for four years after the last round of negotiations.”  While the final terms of the TPP itself will undoubtedly be shared with Congress before any vote on approval, it will be interesting to see how claims for underlying drafts, documents and memos are dealt with, not just from the political perspective but from the legal one.  It would certainly be somewhat ironic if the necessity of full debate concerning a pact aimed at, among other things, strengthening confidentiality and trade secret enforcement leads to the parties testing the limits of disclosure of their own confidentiality agreement concerning the pact and its negotiations.

Another Federal Trade Secret Protection Bill Introduced

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In what has become an annual rite, legislators from both sides of the aisle in the U.S. Congress again have proposed a bill seeking to create a private right of action allowing companies to assert civil trade secret misappropriation claims under federal law (which would supplement the existing patchwork of state law remedies).  As we have blogged previously, similar bills were introduced in 2013 and 2014, but despite some progress they were not enacted into law.

Like past legislative efforts, the Defend Trade Secrets Act of 2015 would amend the Economic Espionage Act of 1996 (which allows prosecutors to bring criminal charges relating to trade secret theft) to empower private companies to bring civil suits to protect their trade secrets.

The previous bills were criticized for, among other things, allowing federal courts to issue relatively broad orders for seizure of purported trade secret materials and information.  Mindful of such criticism, this year’s Defend Trade Secrets Act narrows the circumstances in which an ex parte seizure order can be obtained, and in order to prevent hacking of seized devices, the bill bars a seized electronic storage medium from being connected to the internet without the consent of both plaintiff(s) and defendant(s).  It also allows for defendant(s) to make a motion to encrypt any material seized that is stored on an electronic storage medium.

The Defend Trade Secrets Act of 2015 was introduced on July 29, 2015 and supported by Senators Orrin Hatch (R-UT), Chris Coons (D-DE), Jeff Flake (R-AZ), Dick Durbin (D-IL), Thom Tillis (R-NC), Tammy Baldwin (D-WI), and U.S. Representatives Doug Collins (R-GA) and Jerrold Nadler (D-NY).  It is also backed by a varied assortment of trade associations and corporations.

Will this year’s break the pattern established by past bills of failing to advance out of Congressional committees?  As in the past, there seems to be enough concern in the business community, coupled with periodic news stories about trade secret theft, to support introduction of the bill.  Absent a defining trade secret theft event, however, that breaks through into broader public consciousness and crystallizes public opinion toward the necessity of creating a federal trade secret theft private right of action, the Defend Trade Secrets Act of 2015 may suffer a fate similar to the earlier bills.  Stay tuned.

Is Fifield’s holding holding?

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A couple years ago, the Illinois First District Appellate Court decided the case of Fifield v. Premier Dealer Services, 2013 IL App. 120327.  There, the Court held that, absent other consideration, two years of employment are required to constitute adequate consideration for a restrictive covenant, regardless of whether the covenant was signed at the outset of employment or after, and regardless of whether the employee quit or was fired.  Since then, some Judges in the United States District Court for the Northern District of Illinois have applied Fifield, and others have declined to do so.

Earlier this week, the United States Court of Appeals for the Seventh Circuit issued its first opinion reviewing a decision in which the District Court applied, or refused to apply, FifieldInstant Technology LLC v. DeFazio, (Case Nos. 14-2132 & 14-2243).  In the District Court, Judge Holderman applied Fifield.  In its opinion, however, the Seventh Circuit simply reviewed the District Court’s factual determinations, determined that they were not clearly erroneous, and did not discuss Fifield or its application by the District Court at all.  The Court did, though, spend some time discussing an anti-raiding clause that was also at issue.  The Seventh Circuit explained that, because Instant Technology had such high workforce turnover (77% of the people who worked there two years before the trial left in the interim), it could not argue that its interest in maintaining the stability of its workforce was a legitimate business interest sufficient to support an anti-raiding clause that prohibited former employees from soliciting Instant Technology employees to join competing companies.

Florida Restrictive Covenant Statute Remains “Truly Obnoxious” In New York Courts

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If you are an employer with employees in New York (or elsewhere) who have signed an agreement containing a Florida choice of law clause and non-compete and/or non-solicit restrictive covenants, it may be time to revise your agreement.

We blogged last year regarding a decision of the New York Appellate Division, Fourth Department in Brown & Brown, Inc. v. Johnson, holding that a Florida choice of law provision in an employment agreement among a Florida corporation, its New York subsidiary, and a New York based and resident employee containing restrictive covenants is unenforceable because certain elements of the Florida restrictive covenant statute are contrary to New York public policy.

Last month, upon the appeal of that decision, the New York Court of Appeals agreed and held that “applying Florida law on restrictive covenants related to the non-solicitation of customers by a former employee would violate the public policy of [New York].”  New York courts are generally favorable to enforcing choice of law clauses, unless the chosen law violates a fundamental public policy of the state.  Here, the relevant public policy of New York is that restrictive covenants will only be enforced if they are (1) no greater than required for the protection of the legitimate interest of the employer, (2) not unduly hard on the employee, and (3) not injurious to the public.  In contrast, the Florida restrictive covenant statute explicitly prohibits courts from considering the harm or hardship to the former employee, after the employer has demonstrated the covenant protects its business interests.  The Florida statute also — unlike New York — requires courts to construe restrictive covenants in favor of protecting the employer’s interests and bars narrow interpretations of such covenants.

The Court of Appeals thus held that the employment agreement’s choice of law provision was unenforceable in relation to the non-solicit provision, and proceeded to apply New York law in its examination of that provision and the relevant facts.

With New York’s highest court having now spoken, New York employers with employees who have Florida choice of law provisions in their employment agreements should undertake a review of such agreements to confirm that any restrictive covenants comply with New York law.  Employers in other states which like New York disfavor restrictive covenants and look to protect or at least balance the interests of the employee should also re-examine their covenants if they have chosen Florida law to govern.  Revisions may be necessary to improve the chances of enforcing the restrictive covenants going forward.

A Dash of Certainty – Alabama’s New Restrictive Covenant Statute

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Alabama has a new restrictive covenant statute.  A few weeks ago, Alabama Governor Bentley signed new legislation which will repeal the 1975 version of Alabama Code Section 8-1-1 titled “Contracts restraining business void; exceptions” and replace it with a new version effective January 1, 2016.

The new law stakes out the permissible scope and purpose of restrictive covenants such as non-compete and non-solicitation agreements.  Unlike some other states with restrictive covenant statutes, Alabama’s new law codifies a middle-of-the-road approach to restrictive covenants.  Essentially, it allows non-compete and non-solicitation clauses for many employees provided they contain reasonable restrictions.  In explaining what may constitute reasonable restrictions, the new law provides a dash of certainty in an especially uncertain area of law.  First, it explains that restrictive covenants must be limited to the geographic area where the company operates a similar business.  Second, it also provides certainty about the appropriate temporal limitations.  It says that a temporal restriction of 2 years or less in a run-of-the-mill employee/employer non-compete is presumptively reasonable.  It also says that a temporal restriction of 18 months or less (or for as long as post-separation consideration is paid for that agreement; whichever is longer) in a non-solicitation of customers clause is presumptively reasonable.  Finally, the statute also codifies the concept of equitable modification (sometimes loosely described as blue-penciling) and permits a court to modify restrictions that are over broad or unreasonably long to preserve the protectable interest at issue.

In light of this new law, employers should consider whether any changes are necessary to their restrictive covenants.  However, because the enforceability of restrictive covenants necessarily depends on the circumstances, employers seeking to modify or implement restrictive covenants should consult with an experienced restrictive covenant attorney to determine how best to craft reasonable restrictions under the circumstances.

If You Can’t Touch It, You Must Acquit

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As a follow up to our prior post on the trials and tribulations of former Goldman Sachs programmer Sergey Aleynikov, once again he obtained a judicial ruling that overturned a conviction following a jury trial.  In a 72-page opinion the trial court, Justice Daniel Conviser, concluded that there was insufficient evidence to support the jury’s conclusion that Mr. Aleynikov had violated New York’s unlawful use of secret scientific material statute.  N.Y. Penal Law § 165.07.

Much like the Second Circuit found in 2012 when it reversed his federal conviction under the National Stolen Property Act and the Economic Espionage Act of 1996, the New York State Justice determined that the prosecutors had not submitted any evidence that the source code downloaded by Mr. Aleynikov “could be touched” or had “physical form” which would be necessary to meet the nearly 50-year old statute’s requirement that the reproduction be in “physical form” and that he had made a “tangible reproduction or representation” of the secret scientific material he downloaded.  The Court also found that the prosecution did not demonstrate that he had the “intent to appropriate . . . the use of secret scientific material.”

As Congress subsequently amended the Economic Espionage Act of 1996, to address the value of the trade secret issues and enacted the Theft of Trade Secrets Clarification Act of 2012, so must the New York Legislature act to modernize the Penal Law to encompass the downloading of electronic data to address the “tangible” reproduction and intent issues.  The New York Senate acted two weeks ago in that regard, now it is up to the Assembly and the Governor to act on it.

Another Illinois Appellate Decision Applies Fifield, But A Dissent Suggests That The Issue Of What Constitutes Adequate Consideration For A Restrictive Covenant In Illinois Remains Open For Judicial Discussion

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Readers of this blog know that long settled understandings regarding what constitutes adequate consideration for a restrictive covenant in Illinois were turned upside down when the First District Appellate Court in Illinois held in Fifield v. Premier Dealer Services, 2013 IL App. (1st) 120327  that, absent other consideration, two years of employment are required for a restrictive covenant to be supported by adequate consideration, regardless of whether the covenant was signed at the outset of employment or after, and regardless of whether the employee quit or was fired.

The Illinois Supreme Court declined to hear Fifield, and three federal judges in Illinois have declined to apply it.  However, the only other Illinois appellate court decision to address Fifield applied it without dissent.

Last week, the First District Appellate Court issued another decision applying Fifield, holding in McInnis v. Oag Motorcycle Ventures, Inc., 2015 IL (1st) 13097 that, in the absence of other consideration, 18 months of employment was not sufficient consideration for a restrictive covenant.  By itself, this ruling was not particularly noteworthy, except to the extent that the court confirmed that other consideration, combined with employment of less than 24 months, can constitute adequate consideration for a restrictive covenant.

What is noteworthy about this ruling, however, is the dissenting opinion by Justice Ellis, in which he wrote as follows:

I do not believe that a per se rule exists in Illinois, requiring that an at-will employee remain employed for at least two years – not one day less – after signing a restrictive covenant before sufficient consideration is found to exist.  Nor do I believe that a bright-line, two-year rule is warranted.  I also believe that the circumstances under which plaintiff left employment – whether he left voluntarily or was fired – are relevant to the determination.  Cases like these are inherently fact-specific, and I do not believe that this area of the law is the place for bright-line rules that remove relevant facts from consideration.

While a dissent carries no weight by itself, it may foretell a continued judicial discussion on this issue, particularly given that three different federal judges in Illinois have declined to follow Fifield based on their prediction that the Illinois Supreme Court would likely disagree with it.

Given that state supreme courts in Wisconsin and Kentucky both recently weighed in on whether mere continued employment is sufficient consideration for a non-compete (“yes” in Wisconsin, “no” in Kentucky) and given that the Pennsylvania Supreme Court recently heard oral argument on this issue, the question of what is adequate consideration for a restrictive covenant is one of the hottest topics in non-compete law.   Employers should continue to monitor this issue.

California Court Of Appeal Holds That Party Seeking To Enforce Forum Selection Clause As To Unwaivable Statutory Rights Has Burden To Show Enforcement Would Not Diminish Rights

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California Business & Professions Code § 16600 contains a strong public policy against non-competition agreements.  To address this prohibition, some employers have included choice of forum provisions in their employment contracts to give them the option of initiating an action in a more non-compete friendly jurisdiction and obtain leverage in the litigation.  Some federal district courts have enforced those forum selection clauses.  Marcelo v. Ivy Ventures, LLC, No. C 10-04609, 2010 U.S. Dist. LEXIS 134333 (N.D. Cal. Dec. 9, 2010); Google, Inc. v. Microsoft Corp., 415 F. Supp. 2d 1018 (N.D. Cal. 2005); Hartstein v. Rembrandt IP Solutions, 2012 U.S. Dist. LEXIS 105984 (N.D. Cal. July 30, 2012); see also Hegwer v. American Hearing and Assocs., 2012 U.S. Dist. LEXIS 24313 (N.D. Cal. Feb. 27, 2012); Swenson v. T-Mobile USA, Inc., 415 F. Supp. 2d 1101 (S.D. Cal. 2006) (in case filed by employee in California after former employer had commenced enforcement action in Washington, California court dismissed and held that “[e]nforcement of the [Washington] forum selection clause itself here does not contravene a strong public policy of California).

The California court of appeals holding in Verdugo v. Alliantgroup, L.P., (Cal. Ct. App., 4th App. Dist. 2015) may undermine that strategy.

Ordinarily, the party opposing the enforcement of a forum selection clause has the burden to show the enforcement of the clause would be unreasonable or unfair.  In Verdugo, the court held that the burden is reversed when the underlying claims are based on statutory rights that the California Legislature has deemed unwaivable.

In Verdugo, the plaintiff employee Rachel Verdugo sued her employer, Alliantgroup, in a class action asserting eight causes of action: (1) unpaid overtime wages under Cal. Labor Code § 1194; (2) failure to provide accurate itemized wage statements under Cal. Labor Code § 226; (3) failure to provide meal breaks under Cal. Labor Code § 226.7; (4) failure to pay all wages due at time of termination under Cal. Labor Code § 203; (5) failure to pay commissions under Cal. Labor Code §§ 200 to 204; (6) failure to pay vacation pay under Cal. Labor Code § 227.3; (7) unfair and unlawful business practices under Cal. Bus. & Prof. Code § 17200, et seq. and (8) civil penalties under the Cal. Labor Code Private Attorneys General Action of 2004.  Alliantgroup moved to stay or dismiss the action based on a forum section clause in an Employment Agreement signed by Verdugo.

Verdugo began her employment with Alliantgroup in 2007 in its Irvine, California office as an “Associate Director”.  Alliantgroup is headquartered in Texas, with offices in 11 states, including California.  Verdugo’s Employment Agreement included a combined forum selection and choice of law clause:

Choice of Law/Jurisdiction/Venue: This Agreement shall be governed in all respects, including, but not limited to, validity, interpretation, effect and performance by the laws of the State of Texas. The parties agree that proper subject matter and personal jurisdiction shall be had solely in [the] State of Texas. The sole venue for disputes arising hereunder shall be in Harris County, Texas.” (Italics, underscoring, and bold typeface omitted.)

The trial court granted Alliantgroup’s motion.  Verdugo appealed.

The Verdugo court began its analysis by noting the general standard that California favors enforcement of forum selection clauses, provided they are entered into freely and voluntarily, and provided their enforcement would not be unreasonable.  A mandatory forum selection clause—one that requires that a matter be litigated in a particular forum as opposed to merely permitting it—is given effect unless the enforcement would be unreasonable or unfair.  The Verdugo court pointed out that, despite this, California courts will refuse to defer to the selected forum if to do so would substantially diminish the rights of California residents in a way that violates California public policy.

Alliantgroup argued that it was Verdugo’s burden to demonstrate that the forum selection clause should not be enforced.  The Verdugo court disagreed.  Citing Wimsatt v. Beverly Hills Weight etc. Internat., Inc., 32 Cal.App.4th 1511 (1995)(dealing with claims under California’s Franchise Investment Law) and America Online, Inc. v. Superior Court, 90 Cal.App.4th 1 (2001)(dealing with claims under California’s Consumer Legal Remedies Act), the Verdugo court held that where the claims at issue in the litigation are based on unwaivable statutory rights, the burden  shifts to the party seeking to enforce the forum selection clause to show that the forum selected will not diminish in any way the substantive rights afforded under California law.

Alliantgroup attempted to distinguish Wimsatt and America Online, arguing that, in each case, the statute at issue specifically stated that attempts to waive the protections of the law are void.  The Verdugo court dismissed this argument, noting that California Labor Code §§ 219 and 1194 include non-waiver language and further noting that case law recognized the protections of the Labor Code at issue were unwaivable.  Alliantgroup then tried to argue that Verdugo had not waived her rights, but merely agreed to litigate her claims in Texas.  The Verdugo court also dismissed this argument, holding that the forum selection clause had the potential to operate as a waiver, and it was Alliantgroup’s burden to show it would not.

Having held that Alliantgroup bore the burden of establishing that the selection of Texas as a forum would not diminish in any way the substantive rights afforded under California law to Verdugo, the Verdugo court proceeded to address whether Alliantgroup had met that burden.  The court first addressed whether it was necessary to conduct a comparative analysis of each state’s law to determine whether they offered materially different protections.  Citing America Online, the Verdugo court noted that there the court had found such an analysis unnecessary—enforcing the clause would deny a California resident the specific protections the California Legislature enacted and made unwaivable.  Nonetheless, noting that the America Online court had proceeded to conduct just such an analysis, the Verdugo court held such an analysis was necessary to determine whether enforcement of the forum selection and choice of law clauses would violate California’s public policy.  The Verdugo court held that the defendant could meet its burden only by showing that the foreign forum provides the same or greater rights than California, or that the foreign forum will apply California law.

Alliantgroup contended that a Texas court would, under Texas choice of law, most likely apply California law.  The Verdugo court found this unpersuasive, noting that Alliantgroup could have omitted any uncertainty by stipulating to the application of California law.  Instead, Alliantgroup “carefully preserved its ability to argue to a Texas court that it should apply Texas law. . . .”  Holding that Alliantgroup had failed to identify or compare Texas and California law on any of the relevant statutory claims, the Verdugo court held Alliantgroup had not met its burden.

Alliantgroup argued against a full reversal of the lower court’s ruling, arguing that the stay should be left in place on forum non conveniens grounds, with the right to resume litigation if the Texas court refused to apply California law and was thus, “unsuitable.”  The Verdugo court held that a California trial court lacked the power to simply stay the action on forum non conveniens grounds.  The Verdugo court held that the issue was not whether Texas was suitable for purposes of forum non conveniens—an analysis limited to whether the court lacks jurisdiction or the action is barred on statute of limitations grounds.  A Texas court’s decision to apply Texas law would not make Texas an unsuitable forum.  And the California trial court would not necessarily have a basis to resume proceedings.

Out of state employers seeking to enforce forum and choice of law clauses against California employees should be mindful that the clauses cannot be used to undercut the unwaivable protections of the California labor code.  An out of state employer that wishes to enforce a forum selection clause should be prepared to stipulate to application of California law as to the unwaivable protections of the California Labor Code on claims at issue if it wishes to have its choice of forum outside California enforced by a California court.

It remains to be seen to what extent this ruling may be used by employees to escape the effect of forum selection clauses in cases involving non-competition agreements.  Although Cal. Business & Professions § 16600 does not specifically use the term “waive,” it states that:  “every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.”  Case law does not permit employers to use choice of law provisions to avoid the impact of Cal. Business & Professions § 16600 (Application Group, Inc. v. Hunter Group, Inc., 61 Cal.App.4th 881, 901-905 (1998)), but employers have used choice of forum clauses to enforce non-competition agreements.  Employers may anticipate that employees with non-competition agreements facing forum selection clauses that may result in enforcement of the terms will argue that the provisions of §16600 are not waivable and, pursuant to Verdugo, may not be litigated in foreign forums that would enforce them.

Recent Source Code Trade Secret Theft Conviction

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The Manhattan District Attorney’s office last week prevailed over Sergey Aleynikov, the former Goldman Sachs high frequency trading programmer accused of stealing computer source code from the bank, on just one count of the three of which he was charged.  It is somewhat hard to imagine how one might be found guilty of “unlawful use of secret scientific material” (N.Y. Penal Law § 165.07 as defined in § 155.00(6)), yet not get convicted for “unlawful duplication of computer related material” (N.Y. Penal Law § 156.30).

With Mr. Aleynikov previously avoiding federal charges of theft of trade secrets under the Economic Espionage Act and National Stolen Property Act, state prosecutors tried their hand on somewhat equivalent state statutes concerning computer crimes.  Whether the split decision will withstand review by the trial court judge and ultimately on appeal remains to be seen.

The underlying facts were not challenged at trial.  Mr. Aleynikov essentially admitted that he downloaded Goldman source code and attempted to cover his tracks by deleting the history of commands on his computer.  The focus of his defense was that he did not acquire a “major portion” of the economic value of the source code as required by the New York Penal Code Section at issue.  Also, he argued that he did not make a “tangible” reproduction of the files, another element required for proving unlawful use of secret scientific material.

That the jury took nearly a week to deliberate and required the jury instructions to be re-read and eventually provided in writing is indicative of how difficult it can be to try and prove any case involving the theft or unauthorized use of computer source code.  Given the ease with which such crimes can be accomplished, we are sure to see more developments of the law in this area in the immediate future.

Wisconsin Supreme Court Holds That Continued Employment Is Sufficient Consideration For A Non-Compete Signed By A Current At-Will Employee, Provided That The Employee Is Not Fired Shortly After Signing

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Over the past 24 months, one of the hottest issues in non-compete law has been whether continued at-will employment, by itself, is sufficient consideration for a non-compete.

Last week, in Runzheimer International v. Friedlen and Corporate Reimbursement Services, Inc., the Wisconsin Supreme weighed in on this issue, holding that continued employment is sufficient consideration for a non-compete signed by a current at-will employee.  However, the Court expressly qualified this holding by explaining that if an at-will employee is fired “shortly after signing” a non-compete, the non-compete would “likely” be voidable and subject to rescission. The Court further qualified its holding by stating that “an employer acting in such a deceitful manner may be breaching the doctrine of good faith and fair dealing.”

What the Court did not say, however, is how long an at-will employee must be employed after signing the non-compete.  There is verbiage in the majority opinion which suggests that so long as the employer does not fire the employee “moments after the employee signs the covenant,” the agreement will be enforceable.  Nevertheless, a concurring opinion states that the Court’s decision “in effect transforms the parties’ at-will employment contract into an employment contract for a reasonable duration.”  This issue will no doubt be fodder for future litigation.

In the meantime, the Pennsylvania Supreme Court is also in the process of deciding whether mere continued at-will employment is sufficient consideration for a non-compete, and the state and federal Courts in Illinois continue to wrestle with the length of at- will employment required to support a non-compete.

Stay tuned!