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

Lawyers and clients alike often believe that it is easier to enforce a non-solicitation agreement than a non-competition agreement. Sometimes, that’s true. However, that does not mean that companies can do so without demonstrating a legitimate business interest in the enforcement of that non-solicitation agreement. The recent Illinois Appellate Court decision in Gastroenterology Consultants of the North Shore, S.C. v. Meiselman (2013 Il. App. 1st 123672) highlights this point.

In that case, a doctor named Meiselman left Gastroenterology Consultants (referred to here as GC for short) to work for NorthShore University HealthSystem Medical Group. In his new position, Meiselman treated any patient who sought out his services, including patients he treated while working for GC. GC sued, claiming that Meiselman’s conduct violated a restrictive covenant not to solicit any of its patients for a competitor located within 15 miles of GC’s offices for three years after separating employment, except in situations involving a genuine emergency. GC requested that the court issue a preliminary injunction, but the trial court refused after determining that GC had failed to show (among other things) that it had a legitimate business interest in enforcing Meiselman’s agreement.

The appellate court affirmed. The appellate court observed that, before Meiselman helped form GC, he had practiced medicine for approximately 10 years in the same geographic region later serviced by GC and treated thousands of patients there. Additionally, after Meiselman formed GC, he continued treating patients (and accepting referrals from physicians) with whom he had developed relationships prior to affiliating with GC. Furthermore, the appellate court spent a good bit of time in its opinion explaining that Meiselman’s practice at GC operated quite independently from GC itself: GC did not introduce Meiselman to his patients or physician-referral sources; physicians would refer patients to Meiselman individually rather than to GC generally; GC did not advertise, promote, or market Meiselman’s practice; Meiselman maintained his own office with its own telephone number; Meiselman billed for his services and his compensation was dependent on the revenue that he personally generated rather than GC’s revenue; and GC was not materially involved in other aspects of Meiselman’s practice aside from providing administrative support. Under those circumstances, the appellate court agreed with the trial court that GC did not have a legitimate business interest in enforcing the agreement.
 

Addressing an argument frequently encountered in restrictive covenant litigation, an Illinois Appellate Court recently reiterated that only a material breach of a contract containing a restrictive covenant will relieve the other party of its contractual obligation to abide by the restrictive covenant.

In the case InsureOne Indep. Ins. Agency v. Hallberg, the plaintiffs purchased assets of several insurance companies owned or controlled by James Hallberg, and subsequently hired Hallberg to become the company’s new president. Hallberg’s employment agreement – as well as the Asset Purchase Agreement (APA) that governed the original sale of assets – contained noncompetition and nonsolicitation clauses. The APA also contained details for computation and payment of the contingent purchase price, which was a portion of the overall purchase price based on renewal business from Hallberg’s former entities.

Hallberg’s tenure with InsureOne was short-lived, and soon after his departure, he established Hallberg Insurance Agency. Hallberg hired twenty-nine former InsureOne employees and directly competed with his former company. InsureOne subsequently filed suit alleging Hallberg breached his restrictive covenants. Hallberg claimed that InsureOne breached the APA by miscalculating the contingent purchase price and underpaying him. The trial court held that Hallberg breached his restrictive covenants and awarded InsureOne approximately $7.7 million in damages. Additionally, the court determined InsureOne had in fact underpaid the contingent purchase price by approximately $130,000 and awarded this amount to Hallberg.

On appeal, Hallberg argued that InsureOne was barred from recovery because it, too, breached the agreements by failing to pay the full amount of the contingent purchase price. However, the Appellate Court rejected the contention that InsureOne was required to demonstrate proof of such literal or strict performance. Instead, the court noted that “a party suing for breach of contract need only allege and prove that he has substantially complied with all the material terms of the agreement.” Therefore, a “partial breach by one party” will not “justify the other party’s subsequent failure to perform.” Rather, “both parties may be guilty of breaches, each having a right to damages.” Accordingly, the court held that only a “material breach of a contract provision will justify nonperformance by the other party.”

The court subsequently determined that the underpayment of a mere $130,000 on a $16 million deal did not rise to the level required for a breach to be deemed material. According to the court, the test of whether a breach is “material” is whether it is so “substantial and fundamental as to defeat the objects of the parties in making the agreement, or whether the failure to perform renders performance of the rest of the contract different in substance from the original agreement.” The court stated this was not the case, and highlighted Hallberg’s unwillingness to rescind the deal as evidence that he could not have believed the entire deal had been compromised by InsureOne’s breach.

This case illustrates that under basic contract law principles, a party wishing to enforce the terms of a noncompetition or nonsolicitation agreement does not have to prove literal or strict performance of every single term in the agreement. Unless an employer’s breach is material in nature, an employee will remain legally bound to the terms of their employment agreement.
 

We are pleased to announce that an updated version of our guide, “Non-Compete Laws: Illinois,” is now available in PDF format. The updated guide reflects the recent decision of the Illinois Supreme Court in Reliable Fire Equipment Company v. Arredondo, et al., which resolved several years of confusion over the appropriate standard for enforcing non-compete agreements in Illinois. The guide is part of a series of guides written and published by our firm, EpsteinBeckerGreen, and the Practical Law Company.

On December 1, 2011, the Illinois Supreme Court issued its opinion in Reliable Fire Equipment Company v. Arredondo, et al., which resolved several years of confusion over the appropriate standard for enforcing non-compete agreements in Illinois.

The Confusion

For years, Illinois courts consistently explained that they would only enforce a non-compete agreement if: it was no more restrictive than necessary to protect an employer’s legitimate business interests; enforcement would not impose an undue burden on the employee; and enforcement would not injure the public. As a result, substantial case law focused on what would, and what would not, constitute a legitimate business interest sufficient to support the enforcement of a non-compete agreement.

In 2009, however, the Illinois Fourth District Appellate Court issued its opinion Sunbelt Rentals, Inc. v. Ehlers, 394 Ill. App. 3d 421 (2009). In that case, the court dismissed the requirement of a legitimate business interest as “judicial gloss” and explained that a non-compete agreement simply should be enforceable where its time and territory restrictions are reasonable. (According to the court, that analysis included consideration of whether enforcement would create an undue hardship on the employee or hurt the public.) The next year, the Illinois Second District Appellate Court issued its opinion in Steam Sales Corp. v. Summers, 405 Ill. App. 3d 442 (2010). While declining to directly address whether the Fourth District was correct in Sunbelt Rentals, the court nevertheless intimated that a 2006 Illinois Supreme Court case had imposed a standard different than the commonly used legitimate business interest test. Because Illinois courts generally follow the appellate courts in the jurisdiction in which they are located, after Steam Sales, the five appellate districts in Illinois were using at least three different approaches to analyze the enforceability of non-compete agreements.

The Fix

In May 2011, the Illinois Supreme Court agreed to hear an appeal in the case of Reliable Fire Equipment Company v. Arredondo, et al. to resolve this confusion.

On December 1, 2011, the Illinois Supreme Court issued its decision in Reliable Fire. In that decision, the court rejected the analyses of Sunbelt Rentals and Steam Sales Corp. and reaffirmed that a non-compete agreement is enforceable in Illinois only if: it is no greater than required to protect a legitimate business interest; it does not impose undue hardship on the employee; and it does not injure the public. The court also explained that whether or not an employer has a legitimate business interest depends on the totality of the facts and circumstances in each case. Some of the factors to be considered include the near-permanence of customer relationships, the employee’s acquisition of confidential information through employment, and the time and territory restrictions. However, the court also explained that those factors are merely some of the considerations, that they are not meant to be an exhaustive list of considerations, and that none of those factors carries any more weight than any other. Additionally, the court expressly stated that appellate court precedent concerning what will, and what will not, constitute a legitimate business interest remains intact, but that those cases should only be considered non-conclusive guidance.

The Practical Implications

While the Reliable Fire decision puts to rest any confusion caused by Sunbelt Rentals and Steam Sales, it provides little guidance to employers who are trying to craft or enforce non-compete agreements. Accordingly, employers will still need to pay close attention to the responsibilities of each position in crafting appropriate non-compete agreements, and pay close attention to the facts and circumstances of each potential violation to determine whether and how to enforce their non-compete agreements.

Several attorneys from the national law firm of EpsteinBeckerGreen contributed to the December 2011 issue of the Practical Law Company’s “Labor and Employment.” In that periodical’s “State Q&A” section, addressing the reasonable duration and geographic scope of non-compete agreements in various states, Peter A. Steinmeyer and David J. Clark authored the section regarding Illinois and George B. Breen, Frank C. Morris, Jr., and Casey M. Cosentino authored the section regarding Virginia.

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.
 

Readers of this blog know that, in October 2009, in Sunbelt Rentals, Inc. v. Ehlers, 333 Ill.Dec. 791, 915 N.E.2d 862 (Ill. App. Ct. 2009), an Illinois appellate court reexamined and rejected over thirty years of well-established precedent regarding the enforceability of restrictive covenants. Specifically, it rejected the “legitimate business interest” test long applied as a threshold issue by Illinois courts when deciding the enforceability of a restrictive covenant (i.e., before an Illinois court will address the reasonableness of a restrictive covenant, the employer must first establish that it is supported by a “legitimate business interest” – a tall order given how that term is defined in Illinois).

Since then, we have been closely following Illinois state and federal no-compete cases to monitor the impact of Sunbelt Rentals. To date, its holding remains limited to Illinois’ Fourth District Court of Appeals (i.e., central Illinois, but not Chicago or any of its suburbs) as no court in Illinois has followed its reasoning in a published decision. (One federal district court in Indiana did apply Sunbelt Rentals, in CDW LLC et al. v. Netech Corporation, 2010 WL 2710626 at * 7 (S.D.Ind. July 7, 2010), but it did so without acknowledging or analyzing the split of authority on the issue.)

Last week, in Steam Sales Corporation v. Brian Summers, the first Illinois Appellate District other than the Fourth District re-visited the issue of whether the “legitimate business interest” still applied. While the Court in Steam Sales noted that Sunbelt Rentals’ “rejection of [the “legitimate business interest”] test does merit some consideration,” the Court did not rule on the issue because even under the “legitimate business interest” test, the restrictive covenant at issue was enforceable.

Notwithstanding its failure to address the crux of Sunbelt Rentals, certain aspects of Steam Sales may signal a thawing of judicial attitudes in Illinois toward no-competes.

First, the Court held that the reason why the employer had a legitimate business interest sufficient to support the no-compete was because it has “near permanent customer relationships.” Showing that an employer has “near permanent customer relationships” is one of the two established means in Illinois of establishing a legitimate business interest, but it “is generally absent from businesses engaged in sales.” Lawrence and Allen, Inc. v. Cambridge Human Resource Group, Inc., 292 Ill.App.3d 131, 142 (Ill. App. Ct. 1997). Rather, “near permanent customer relationships” are more typically found in professional services businesses. The employer in Steam Sales sold and maintained boilers. Because boilers are a long-term investment and because long-standing relationships are required to service the equipment and sell new equipment, the Court held that even though the employer was engaged in sales, it had “near permanent customer relationships” and therefore had a legitimate business interest sufficient to support the no-compete at issue.

Second, in Steam Sales, the Court upheld a two-year no-compete. While there is precedent to support a no-compete of such length, many employers today shy away from two-year restrictions out of concern that a Court will find them too long.

Finally, while Illinois courts have sometimes been seen as somewhat hostile to no-competes in employment contracts, the Steam Sales opinion is notably unsympathetic to the employee. Indeed, the Court stated that “[r]egardless of which party initiated the agreement, [the employee] had the option of either not signing it or asking [the employer] to modify the terms of the restrictive covenant. . . . As in Sunbelt Rentals, [the employee] risked the enforcement of the restrictive covenant after he chose to sign it.”

Hence, while Steam Sales did not follow the holding of Sunbelt Rentals with respect to the continuing validity of the “legitimate business interest test,” it nevertheless may signal a thaw in judicial attitudes toward no-competes in Illinois.

As for the long-term impact of Sunbelt Rentals . . . stay tuned.
 

* Co-Authored by Christie O. Tate.

When drafting employee confidentiality agreements, there is a tendency to think that no restriction can be too tight. However, a recent decision by the Illinois Appellate Court, The Town of Cicero v. Wayne A. Johnson, held that a confidentiality provision in a separation agreement was so onerous that the entire provision was unenforceable.

Wayne A. Johnson served as the Inspector General and Superintendent of Police for the Town of Cicero, Illinois from February 2003 to April 2005. On April 12, 2005, Johnson and Cicero entered into a “Confidential Severance Agreement and General Release,” which was drafted by a Cicero attorney. Under the confidentiality provision of that agreement, Johnson agreed that, in addition to keeping the terms of the agreement confidential, “neither he nor his agents will disclose anything relating to his employment” to Cicero’s “remaining employees, former or prospective employees, people doing business with [Cicero], and to the media” (emphasis added).

After Johnson later made public statements to the media regarding his employment with Cicero, Cicero sued him for breaching the confidentiality provision of the agreement. Johnson defended himself by asserting that the agreement was so overbroad as to be unenforceable.

The court sided with Johnson, holding that while Cicero was free to enjoin Johnson from disclosing the terms of the agreement, Cicero could not prevent Johnson from disclosing “anything relating to his employment.” According to the court, such a broad prohibition was harmful to the public, which is entitled to hear from a public official who was charged with investigating allegations of corruption within Cicero’s police community during his tenure with Cicero. But even if Johnson was not a public official, the court found that the provision would cause him undue hardship during his future job-seeking efforts since he would have to be sure none of his conversations about his former position with Cicero included any former Cicero employees, prospective Cicero employees, “people doing business with” Cicero, or any members of the media.

Moreover, the court also found that Cicero had imposed a greater-than-necessary restriction to protect its legitimate interests. It would have been sufficient to require Johnson to keep the terms of the agreement confidential.

Thus, Cicero’s failure to narrowly tailor the confidentiality clause was fatal, as the court found it was overbroad and therefore unenforceable in all respects.
 

As we noted in a blog post in October 2009, in Sunbelt Rentals, Inc. v. Ehlers, 333 Ill.Dec. 791, 915 N.E.2d 862 (Ill. App. Ct. 2009), an Illinois appellate court reexamined and rejected over thirty years of well-established precedent regarding the enforceability of restrictive covenants. Specifically, it rejected the “legitimate business interest” test long applied as a threshold issue by Illinois courts when deciding the enforceability of a restrictive covenant. At the time, we noted that the court either isolated itself from every other Illinois appellate court or took the first step in decreasing the traditional hostility with which Illinois courts treat restrictive covenants.

As of early December 2009, only one other court had cited to the Sunbelt decision. In that decision (which we discussed in an earlier blog post), federal district court judge Robert Gettleman declined to follow Sunbelt, noting that “[t]he Illinois Supreme Court, the United States Court of Appeals for the Seventh Circuit, and this court, however, have not rejected the applications of the legitimate business interest test.”

Since that time, there has been only one other published decision citing Sunbelt. In Rayco Management, Inc. v. Lancaster, No. 09 CH 18611, 2009 WL 6521389 (Cir. Ct. Cook Ct. Dec. 9, 2009), a trial judge in the Circuit Court of Cook County similarly declined to follow Sunbelt, concluding that he was bound by the precedent of the First District Appellate Court which still applies the “legitimate business interest” test.

Approximately nine months after Sunbelt was decided, no appellate court has issued a published decision addressing the holding of that decision and both lower courts that have been presented with a Sunbelt argument have declined to follow that decision absent direction from the appropriate appellate or higher level court. We will continue to monitor this issue, as it has significant ramifications on the enforceability of restrictive covenants in Illinois.
 

Peter A. Steinmeyer and Jake Schmidt recently published an updated and expanded guide to drafting enforceable non-competition agreements in Illinois. The article, which was first published by the Illinois State Bar Association's publication "The Corporate Lawyer," can be downloaded by clicking here. As updated, it addresses the Illinois Appellate Court's Sunbelt Rentals decision and the proposed "Illinois Covenants Not to Compete Act."

States vary widely in their willingness to enforce noncompetition agreements. Some states, such as California, are openly hostile and will not enforce them, while others will do so so, subject to varying degrees of judicial scrutiny.

My home state of Illinois, for example, will enforce a noncompetition agreement, but only after fairly rigorous judicial scrutiny. Notwithstanding such scrutiny, Illinois employers can draft enforceable noncompetition agreements. The attached article that I published in the April 2009 Illinois Bar Journal offers practical guidance on how to do so.