Trade Secrets and Noncompete Blog : Non-Compete Lawyer & Attorney : Epstein Becker Green Law Firm : Trade Secrets & Confidentiality Agreements

Restrictive covenants such as non-compete and non-solicitation agreements are frequently used in connection with acquisitions to protect the underlying value of the transaction. After all, an acquiring company typically values the target company based in part on the revenue it generates from its stable of customers. Therefore, the acquiring company often requires the target company’s employees to execute restrictive covenants that limit their ability to “jump ship” after the acquisition closes and erode the value of the transaction by luring away customers. Recently, the United States Court of Appeals for the First Circuit issued a decision which underscores the importance of carefully examining and understanding any restrictive covenant that may be acquired through a transaction.

In OfficeMax, Inc. v. Levesque, et al., Case No. 10-2423 (1st Cir. 2011), a company called LS&H had required employees to execute restrictive covenants in 1996 just before it was acquired by Boise Cascade. The agreements provided that the restrictive covenants would continue for “12 months after termination of…employment with LS&H.” Under the agreements, the employees also agreed that they would sign restrictive covenants in “substantially the same form” if requested by Boise Cascade after the acquisition. After the transaction closed, Boise Cascade did in fact request that the employees execute restrictive covenants in “substantially the same form,” but they refused. When OfficeMax later acquired Boise Cascade, OfficeMax too requested that the employees execute new restrictive covenants, but again they refused. In 2009 and 2010, two employees who had executed the restrictive covenants with LS&H terminated their employment with OfficeMax. OfficeMax sued them and obtained a preliminary injunction based on those agreements from the trial court. On appeal, however, the First Circuit vacated that injunction. The Court observed that the plain language of the agreements did not state that they ran for “12 months after termination of…employment with LS&H or any of its successors or assigns.” Furthermore, the Court explained that there would be no reason for the agreements to require that the employees sign substantially similar agreements with the successor if the restrictive covenants were already designed to run from 12 months after the employees separated employment with that successor. As a result, the Court concluded that the restrictive covenant period ended 12 months after Boise Cascade’s acquisition of LS&H in 1996, and had already expired by the time the employees left OfficeMax in 2009 and 2010.

The opinion thus serves as a cautionary tale for companies to make sure that they review the language and structure of restrictive covenants that they may be purchasing as part of an acquisition.
 

When drafting no-competes, questions about the required level of detail always arise; more detail is generally better than less, but not always. The required level of detail in a no-compete was among the questions addressed by the Ohio Court of Appeals last week in Osei-Tutu Owusu, M.D. v. Hope Cancer Of Northwest Ohio, Inc., a no-compete case involving a physician, Dr. Owusu.

During negotiations over the terms of his no-compete, Dr. Owusu rejected a proposal that he be restricted from practicing within a specific 35-mile radius. Nevertheless, he ultimately signed a no-compete which defined his post-employment restricted area as “the primary service area of Lima, Ohio and the primary service area of Van Wert, Ohio.”

At trial, “Dr. Owusu acknowledged that he was aware that the Agreement he signed contained a Non-Compete Clause referring to the ‘primary service area,’ but claimed he did not understand what that meant and argued that it was vague and unenforceable.” His former employer, in contrast, argued that the term “‘primary service area’ was a term commonly used in the healthcare industry, and that it could easily be ascertained by using patient zip codes to statistically determine what was the geographic area from which a hospital or practice drew the majority of its patients.”

The trial court sided with Dr. Owusu, holding that “the language of ‘primary service area’ was too indefinite and uncertain to be enforceable,” based partly on testimony that the signers of the agreement “did not know specifically what geographical area that terminology encompassed at the time they signed the Agreement.”

The Ohio Court of Appeals, however, disagreed, holding that the “[l]ack of a specific definition for this phrase did not make the contract void or indefinite but merely required the trial court to use rules of construction to determine what would be a reasonable meaning for the terminology.” It further explained that “[t]here are numerous examples of cases where a contract contained an industry ‘term-of-art’ that may not have been defined in the agreement, but could easily be construed based upon industry standards and common usages.” Thus, rather than invalidating a key portion of the no-compete, “[t]he trial court should have determined the meaning and the extent of the primary service area . . .”

While this case does not set down any universal guideposts on the required degree of detail in a no-compete, it certainly highlights the issue and the accompanying risks for all parties.
 

Illinois’ appellate courts are divided into five districts. Illinois’ lower (or trial) courts typically follow the decisions of the appellate district in which they are located. Unfortunately for employees and employers alike, those districts currently disagree about the appropriate standard for enforcing non-compete agreements. As a result, the enforceability of non-compete agreements in Illinois currently depends in part on where a lawsuit is filed.

The most recent appellate case that added to this confusion was the Illinois Court of Appeals for the Second District’s December 2010 opinion in Reliable Fire Equipment Company v. Arredondo, which we blogged about here. However, earlier this year, the Illinois Supreme Court granted leave to appeal in that case so that it could resolve the disagreement in the various appellate districts. Oral argument in that case has now been set for September 22, 2011. As a result, we may be one step closer to resolving the current confusion in Illinois non-compete law. Stay tuned.
 

Restrictive covenant agreements often contain “tolling” provisions which extend the duration of the covenants by the time of any violation. Sometimes, employers do not include tolling provisions in their restrictive covenant agreements, but nevertheless subsequently request that a court use its discretion to extend the duration of those covenants by the time of a violation anyways. A recent opinion from the United States Court of Appeals for the First Circuit highlights the danger in not including a tolling provision in a restrictive covenant agreement.

In EMC Corporation v. Arturi, __ F.3d __ (1st Cir. Aug. 26, 2011), EMC requested a preliminary injunction prohibiting its former employee from using its confidential information, from competing with EMC, and from soliciting EMC customers. The trial court issued a preliminary injunction prohibiting the disclosure of confidential information. However, the trial court refused to issue an injunction prohibiting the former employee from competing or soliciting EMC’s customers because the one-year time periods in those restrictive covenants had already elapsed and there was no tolling provision to extend them. On appeal, the First Circuit affirmed the trial court’s refusal to extend the non-compete and non-solicit provisions absent a tolling provision. The court explained that under the governing Massachusetts law, “when the period of restraint has expired, even when the delay was substantially caused by the time consumed in legal appeals, specific relief is inappropriate and the injured party is left to his damages remedy.” The First Circuit also specifically pointed out that “EMC could have contracted…for tolling the term of the restriction during litigation, or for a period of restriction to commence upon preliminary finding of breach. But it did not.”

Thus, EMC serves as a cautionary reminder to employers to include tolling provisions in their restrictive covenant agreements if they want to increase the likelihood that a court will subsequently extend the duration of those restrictive covenants by the period of any violation.