Non-Compete Agreements

Peter A. Steinmeyer and Lauri F. Rasnick, Members of the Firm in the Employment, Labor & Workforce Management practice, in the firm’s Chicago and New York offices, respectively, co-authored an article in Thomson Reuters Practical Law, titled “Garden Leave Provisions in Employment Agreements.”

Following is an excerpt (see below to download the full article in PDF format):

In recent years, traditional non-compete agreements have come under increasing judicial scrutiny, with courts focusing on issues such as the adequacy of consideration, the propriety of non-competes for lower level employees, and whether the restrictions of a noncompete are justified by a legitimate business interest or are merely a tool used to suppress competition.

Although the Trump Administration’s attitude toward non-compete agreements is unknown, the Obama Administration was disapproving of them. Both the US Department of Treasury and the White House issued reports in 2016 that questioned the widespread use of non-competes and suggested that they hampered labor mobility and ultimately restrained economic growth (see US Department of the Treasury: Non-Compete Contracts: Economic Effects and Policy Considerations (Mar. 2016) and White House Report: Non-Compete Agreements: Analysis of the Usage, Potential Issues, and State Responses (May 2016)). Some states have passed legislation essentially banning non-competes for certain categories of workers, such as low-wage workers in Illinois (820 ILCS 90/1) and technology sector workers in Hawaii (Haw. Rev. Stat. § 480-4(d)). In other states, such as California, almost all post-employment non-competes are unenforceable (Cal. Bus. & Prof. Code § 16600-16602.5).

With this background, employers are seeking alternatives to traditional non-compete agreements to protect their proprietary information and customer relationships. …

Download the full article in PDF format.

The year-end episode of Employment Law This Week  looks back at the biggest employment, workforce, and management issues in 2016.

Our colleague Jonathan Shapiro discusses the impact of the Defend Trade Secrets Act (DTSA)—which opened federal courts to trade secrets claims, regardless of the dollar value—and the White House’s call to action encouraging states to ban non-compete agreements in some circumstances.

Watch the segment below and read Epstein Becker Green’s recent Take 5 newsletter, “Top Five Employment, Labor & Workforce Management Issues of 2016.”

LightsWhether you are a young child missing teeth, or a grown-up taking account of her life, or Santa Claus himself checking up on everyone else’s life, many of us make lists at holiday time.  They can be lists of gifts we want, or those we need to get, or people we wish to see or write to, or things we need or want to do before the end of the year.  Sometimes they are just lists of things that happened this year or that we want to happen next year.  Certainly there are lots of “Top Ten” holiday lists.  This one may be neither an exception nor exceptional, but here is a “Top Ten List of Holiday-Related Trade Secret/Non-Compete Cases”:

  1. “It may be better to be naughty than nice”—In Ivy Mar Co., Inc. v. CR Seasons Ltd., 907 F. Supp. 547 (EDNY 1995), the Court denied plaintiff a preliminary injunction in a non-compete/trade secret case in large part because of plaintiff’s months-long delay in bringing the action. This occurred notwithstanding plaintiff’s claim that it only delayed filing the action so as not to ruin Christmas—“they delayed bringing this motion because they feared defendant Jetmax would not ship goods to its customers during the Christmas season,” or so they claimed.
  2. “Or maybe not.”—In Agero Inc. v. Rubin et al., an appellate court in Massachusetts affirmed dismissal of plaintiff’s claims, holding that Agero failed to establish that two of the defendants, Timothy Schneider and Matthew Capozzi, owed Agero a duty of loyalty.  Though the Court when on at some length as to the reasons it had for affirming the result against Agero, what was perhaps most telling was the Court’s taking the time to express a reason that it was not relying on:
    • We need not comment on the defendants’ suggestion that Agero brought this complaint against them, despite Agero’s size and apparent lack of interest in pursuing ViewPoint, to send a message to other Agero employees who might entertain thoughts of leaving and lawfully competing. That Agero reportedly sued Schneider on Christmas Eve, when Schneider’s oldest child was five years old, might lend credence to the charge. However, we do reiterate that noncompetition agreements would be the better practice to achieve that goal. Based on the record before us, Agero’s claims were properly dismissed.
  3. “Check your list twice”—If you think departing employees had accomplices or other help, don’t just add a bunch of John Does to your complaint without defining and describing who those co-conspirators are.  Otherwise you run the risk of having those claims dismissed and those avenues of discovery shut down in your non-compete or trade secret case just as happens in other types of cases, such as Southwest Materials Handling Co. v. Nissan Motor Co., 2000 U.S. Dist. LEXIS 16275 (N.D. Tex. 2000), where the court said, with respect to civil conspiracy allegations against John Doe defendants, that “[t]his Court is not in the position of channeling or divining potential co-conspirators who are presently as tangible as Santa Claus, the Easter [B]unny or the Tooth Fairy.”  I guess the court did not find the testimony of Frank Church credible.
  4. “What is the secret to making a good snowman?”—Though there is now a patent on for an apparatus for facilitating the construction of a snow man/woman out of snow, making snowman holiday decorations has also spawned litigation like the case of  Gemmy Industries Corporation v. Chrisha Creations Limited, Dist. Court, SD New York 2004. In Gemmy, plaintiff claimed that defendant’s marketing of an inflatable snow man, among other causes of action, violated plaintiff’s trade secrets, especially after defendant hired plaintiff’s former sales representative.  But the court concluded that even plaintiff did not treat the snowman and its marketing as involving trade secrets since plaintiff “did not request and [the sales representative] did not execute any non-disclosure agreement, non-compete agreement or confidentiality agreement prior to acting as a sales representative for [plaintiff].”
  5. “‘It was always said of him, that he knew how to keep Christmas well, if any man alive possessed the knowledge.’”—Dickens’ closing words in A Christmas Carol were a celebration of the Christmas spirit, and sharing but not everyone wants to share the knowledge they have about Christmas traditions.  While some have asked, we think tongue in cheek, whether Christmas may be patented, it does appear that at least some aspects of our Christmas traditions can be protected as trade secrets.  In the case of IPI, INC. v. Monaghan, 2008 Ohio 975 (Court of Appeals, 6th Appellate Dist. 2008), an Ohio Court found that plaintiff had stated a claim for relief, and could proceed to trial, on a claim that plaintiff’s unique methods of “‘event’ photography” such as involved in its “Santa Claus programs” could involve protectable trade secrets under the Ohio Trade Secrets Act, where plaintiff had alleged that “it developed, inter alia, ‘confidential and specialized techniques for event photography, a business marketing plan for its franchisees, a training program, and proprietary and confidential software that it makes available to its franchise systems’” and that “appellees/cross-appellants misappropriated these systems, techniques, etc., that is, its alleged trade secrets. If it is shown that these are truly trade secrets and that appellees/cross-appellants misappropriated the same, IPI would be directly injured by that misappropriation.”
    • Not all courts, however, are willing to give litigants credit for the alleged uniqueness of their holiday-related ideas. This can be seen in Oxenhandler v. Dime Sav. Bank of Brooklyn, 33 Misc. 2d 626 (NY Supreme Court 1962), where plaintiff was denied relief in his trade secret/business information claims against the financial institution to which he had suggested “a ‘Chanukah Savings Plan’ which could be made available to [the bank’s] Jewish depositors in the same manner that a Christmas Club had been available to the general public.”  In fact, the Court concluded that “plaintiff’s idea was neither new, novel, original nor concrete,” and that the Court “cannot perceive how plaintiff on any theory in law can succeed in this action.”  New settings for Christmas Savings Clubs faired no better as alleged trade secrets or protectable ideas either, as seen in Moore v. Ford Motor Co., 43 F. 2d 685 (2nd Cir. 1930). There, plaintiff Moore sought to protect the idea of Christmas Club accounts as a way to save for down payments on automobiles.  The Court concluded that there was nothing secret or unique about such a plan, and that “idea was old in Christmas Savings clubs” for some time.
  6. Beware the office Christmas party.”—Normally this is a phrase you see in HR guides, but it can also hold true in the non-compete area of the law as seen in Plastic Surgery Associates Of Kingsport Inc. v. Pastrick, a 2015 decision of the Tennessee Court Of Appeals 2015. In this case, the court held that the defendant was indeed an employee and an owner of the plaintiff medical practice, and subject to the express terms of his employment agreement (including its non-compete provisions) and liable as an owner for a portion of the practice’s debts.  The court rested its conclusions of ownership on three key facts, one of which was that defendant “hosted a Christmas party at his home that was billed to the company.”  Unless that party was epic, it probably would have been cheaper to pay for the punch and appetizers out of his own pocket.  It would have eliminated that troublesome fact and helped him avoid the necessity of disgorging $246,633.00.
  7. Christmas cards, why bother?”—In Vizant Technologies, LLC v. Whitchurch, 97 F. Supp. 3d 618 (ED Pa. 2015), plaintiff brought a ten-count complaint against defendant alleging misappropriation of trade secrets in violation of the Delaware Uniform Trade Secrets Act (“DUTSA”) as well as two violations of the Racketeer Influenced and Corrupt Organizations Act (“RICO”), breach of contract, defamation, tortious interference with existing and prospective relationships, abuse of process, conversion, fraud, and civil conspiracy. Finding that defendant was using confidential information and otherwise acting tortiously in contacting plaintiff’s (i.e. her former employer’s) employees, officers, and directors, and with their family members, and in interfering with plaintiff’s business with customers.  This resulted in Whitchurch’s being enjoined from carrying through on her stated “intention to send a ‘Christmas card direct mail piece’” out further criticizing Vizant and its principals to that same audience.
  8. New Year’s resolutions should be thought out.”—Many times, employees will decide to leave for new employment after the upcoming holidays pass.  So it was in Alexander & Alexander v. Wohlman, 578 P. 2d 530 (Wash: Court of Appeals, 1st Div. 1978), where “[b]etween Christmas 1975 and New Year’s Day 1976, the defendants decided to leave the employment of A&A.”   The problem was not their resolve to leave, but the things that they did before they left:
    • On Friday afternoon, January 16, 1976, after Mr. Maier, the manager of the Seattle office, had left for the weekend, they submitted their letters of resignation and took with them personal possessions and certain schedule books for use as forms in the conduct of their business. Between January 12 and 16, 1976, each of the defendants personally contacted clients of theirs to inform them of their decision to leave A&A and the formation of the new firm, Wohlman & Sargent, Inc. On January 17 and 19 defendants sent letters to clients requesting broker-of-record letters.
    • The appeals court found that such conduct did violate their legal obligations to A&A, and found them liable for damages.
  9. Sometimes you get coal in your stocking.”—Courts often work through the holidays, despite the general impression to the contrary. For instance, in Direx Israel, Ltd. v. Breakthrough Medical Corp., 952 F. 2d 802 (4th Cir. 1991), plaintiff obtained a preliminary injunction from the District Court against the defendant who, when he was discharged, illegally appropriated and exploited the plaintiffs’ trade secrets, and were using such trade secrets to manufacture, with intent to market, a machine competitive with the plaintiffs’ product.  The 4th Circuit reversed the grant of the preliminary injunction, but did so “without prejudice to the right of the plaintiffs to renew such motion on the basis of any new or additional facts that may have occurred since the grant under review.”  The appellate court’s decision issued on December 24th.  Likewise, in Viad Corp. v. Cordial, 299 F. Supp. 2d 466 (WD Pa. 2003), the Court issued a Christmas Eve denial of a preliminary injunction request in case in which Defendants Cordial and Hellberg were alleged to have violated their employment contracts, which prohibited them from competing with plaintiff directly or indirectly, or aiding its competitors, for a period of one year following the termination of their employment, though in the holiday spirit the Court pointed out that plaintiff and defendants had been “represented by counsel who tried the matter skillfully and efficiently.”
  10. Sometimes, though, you get what you asked for.”—In Devos Ltd. v. Record, Dist. Court, ED New York 2015, on the other hand, the court issued on Christmas Eve a wide ranging injunction against defendants in a trade secret misappropriation and unfair competition case even though the plaintiff had been indicted and had been placed on a federal exclusion list that meant that no federal agency can do business with plaintiff and that any pharmaceutical distributor who receives federal funding, including Medicare and Medicaid (which includes almost every distributor of pharmaceuticals), also cannot do business with plaintiff. Concluding that an indictment was just an accusation of being naughty rather than a finding of same, the court issued the injunction.  There was no mention of where Santa had come out when double checking Devos’ placement on his list.

Happy holidays.

Political winds disfavoring non-compete agreements for low wage and rank-and-file workers continue to blow, and appear to be picking up speed.

On October 25, 2016, the White House took the unusual step of issuing a “Call to Action” to states regarding non-compete agreements, as part of the President’s initiative to stoke competition across the economy.  Calling non-competes an “institutional factor that has the potential to hold back wages and entrepreneurship,” the Call to Action seeks to reduce the misuse of non-compete agreements nationwide.

President Obama called on state policymakers to join in pursuing best-practice policy objectives, including:

  1. Banning non-compete clauses for categories of workers (such as low wage workers or workers laid off or terminated without cause);
  2. Improving transparency and fairness of non-compete agreements; and
  3. Incentivizing employers to write enforceable contracts (i.e., discouraging overreaching provisions) by, for example, promoting the “red pencil doctrine” which renders contracts with unenforceable provisions void in their entirety.

Immediately answering the White House’s Call to Action, New York Attorney General Eric T. Schneiderman announced on October 25, 2016 that he would introduce legislation in New York’s state legislature in 2017 “to curb the rampant misuse of non-compete agreements, which depress wages and limit economic mobility.”

Among other things, the proposed New York bill would prohibit the use of non-competes for any employee below the salary threshold set by Labor Law Section 190(7) (currently $900 per week); would require non-competes to be provided to individuals before a job offer is extended; and would require employers to pay employees additional consideration if they sign non-competes.

Employers thus should review their non-competes to ensure that they are narrowly drafted and should re-evaluate the categories of employees asked to sign them, so as to confirm that only those who truly pose a competitive threat are asked to sign a non-compete.

Also, the Call to Action falls in line with Guidelines recently issued by the Department of Justice and Federal Trade Commission, which outline an aggressive policy to investigate and punish employers and individual human resources employees who enter into unlawful agreements concerning employee recruitment or retention.

Illinois Capitol BuildingIllinois recently became one of the first states to ban non-compete agreements for low wage workers when it passed the Illinois Freedom to Work Act. The law, which takes effect on January 1, 2017 and applies to agreements signed after that date, bars non-compete agreements for workers who earn the greater of 1) the Federal, State, or local minimum wage or 2) $13.00 an hour.  At present, because the State minimum wage is below $13.00 per hour, $13.00 an hour is the operative figure in Illinois.

While Illinois is one of the first states to enact this type of blanket ban on non-competes based on the employee’s salary status, in other states, including New Jersey and Maryland, legislation based on eligibility for unemployment compensation has been proposed. Moreover, as we have previously blogged, the New York Attorney General has sought to prohibit companies from agreeing to non-competes with low wage workers.  The White House has also weighed in on the issue of non-compete agreements for low wage workers, questioning whether they protect  legitimate business interests or instead merely hamper labor mobility.

In sum, the political winds are clearly blowing against non-compete agreements for low-wage workers. Employers should be wary of attempting to secure stability in their low wage workforce through non-compete agreements and employers in Illinois should review and, if necessary, revise their employment agreements in light of this new law.

This summer, New York Attorney General Eric T. Schneiderman has reached agreements with a number of companies curtailing their use of non-competition agreements with respect to non-executive and low-wage employees in New York. The issue appears to have caught the attention of Mr. Schneiderman, who stated recently that “restricting rank-and-file workers from being able to find other jobs is unjust and inappropriate” and “workers should be able to change jobs without fear of being sued.”

For example, on August 4, 2016, Examination Management Services, Inc. (“EMSI”), a medical information services provider headquartered in Texas, agreed to stop using non-compete agreements for most of its employees in New York. Prior to the agreement, EMSI’s mandatory non-compete agreements prohibited employees for nine months after leaving the company from working for competitors within fifty miles of any locations they worked for EMSI.

As another example, on June 15, 2016, the legal news website Law360 reached a similar agreement with Mr. Schneiderman’s office. Prior to that, Law360 required a majority of employees, including all editorial employees, to sign an employment contract with a non-compete provision that prohibited them for one year after leaving the company from working for any media outlet that provides legal news.

The Attorney General’s actions on this issue may be part of a larger trend. A March 2016 report by the U.S. Treasury Department found that non-compete agreements cause various harms to “worker welfare, job mobility, business dynamics, and economic growth more generally.” A May 2016 report published by the White House reached similar conclusions. Employers thus should make sure that their non-compete agreements with employees protect legitimate business interests such as safeguarding trade secrets and/or customer relationships.

David J. Clark
David J. Clark

The Massachusetts legislature ended its 2015-2106 session on July 31, 2016, and lawmakers did not pass new legislation regarding non-compete agreements before doing so.

For the last few years, numerous efforts have been made in the Commonwealth to limit the use of non-compete agreements, resulting in several bills introduced in the Statehouse.  The latest bills, introduced in the House in June and the Senate in mid-July, would have set clear boundaries on the use of non-compete agreements by employers, including by establishing requirements that such non-compete provisions be signed and in writing, not exceed 12 months in duration, and be limited to geographic areas where the employee actually provided services. Another notable feature of the proposed bills was the incorporation of the concept of “garden leave” into non-compete provisions, in which an employer would be required to pay its former employee at least 50% of his or her pay, on a pro rata basis, during the non-compete period. The bills also would have prohibited judicial modification of non-competes and enforcement of non-competes against certain types of workers like students, interns, or fired employees.

As the legislative session drew to a close, however, legislators were unable to reach compromises upon issues such as whether and in what form garden leave might be allowed, and whether an employer and employee could agree upon a payment to support a non-compete entered at the termination of employment.

In this presidential election year, the Massachusetts legislature is adjourned until the start of a new session in January 2017. Renewed efforts to pass a non-compete bill in Massachusetts can be expected then.

The 8th Circuit’s recent decision in Symphony Diagnostic Servs. No. 1 v. Greenbaum, No. 15-2294, __ F.3d __ (8th Cir. July 6, 2016), upheld the enforceability of non-compete and confidentiality agreements assigned by Ozark Mobile Imaging to Mobilex as part of Mobilex’s purchase of Ozark’s assets.  Although the 8th Circuit is careful to ground its analysis in that case’s specific factual and legal framework, this decision is helpful in providing some guidance to those dealing with the assignability of rights under non-compete and confidentiality agreements.

The non-compete and confidentiality agreements at issue were (1) “free standing” and (2) assignment did not “materially change the obligations of the employee” nor (3) were the agreements dependent upon “qualities specific to the employer.” Symphony Diagnostic Servs. It is also notable that the agreements contained no language regarding assignability, i.e. they did not expressly restrict or permit assignment. Symphony Diagnostic Servs. No. 1 v. Greenbaum, 97 F. Supp. 3d 1126 (W.D. Mo. March 16, 2015).  Under those factual circumstances, the 8th Circuit, applying Missouri law, concluded that a Missouri court would find the agreements assignable and enforceable.

There are lessons for both those seeking to enforce or to avoid enforcement of non-compete and confidentiality agreements following the acquisition of a business via an asset purchase.

The first lesson is “pay attention to state law.” While the 8th Circuit applying the Missouri framework is helpful, it may vary significantly by state.  For example, in Ohio, courts generally construe non-compete clauses against the employer, and do not view non-competes as per se assignable. Fitness Experience, Inc. v. TFC Fitness Equip., Inc., 355 F. Supp. 2d 877 (N.D. Ohio Dec. 17, 2004) (looking to factors such as contract language, protection of the employer’s goodwill, and additional employee burden to determine assignability).  In fact, the Ohio Court of Appeals stated that “the employment relationship is a personal matter between an employee and the company who hired him and for whom he chose to work. Unless an employee explicitly agreed to an assignability provision, an employer may not treat him as some chattel to be conveyed, like a filing cabinet, to a successor firm.” Cary Corp. v. Linder, No. 80589, 2002-Ohio-6483, 19 I.E.R. Cas. (BNA) 1170 (Ohio Ct. App. Nov. 27, 2002); see also Reynolds & Reynolds v. Hardee, 932 F. Supp. 149 (E.D. Va. July 11, 1996) (employment agreement is based on mutual trust and confidence; non-compete is not assignable).  Pennsylvania also takes a dim view of the assignability of such agreements in the asset purchase context. See Hess v. Gebhard & Co. Inc., 570 Pa. 148, 808 A.2d 912 (Pa. Oct. 16, 2002)(“We hold that a restrictive covenant not to compete, contained in an employment agreement, is not assignable to the purchasing entity, in the absence of a specific assignability provision, where the covenant is included in a sale of assets”). Non-compete restrictions are generally not enforceable and void in California, subject to certain exceptions including acquisition of a business that includes purchase of goodwill or sale of an of an ownership interest in a business, with such restrictions limited to similar businesses to the acquired business and a specific geographic area.  Cal. Bus. & Prof. Code §16601.  Non-compete restrictions are generally not enforceable and void in Colorado. Colo. Rev. Stat. §8-2-113(2).  New York has also emphasized the need to determine whether the contract containing such a covenant is a personal services contract, and therefore not assignable. Seligman & Latz, Inc. v. Noonan, 201 Misc. 96, 104 N.Y.S.2d 35 (N.Y. Sup. Ct. April 23, 1951). On the other hand, Kentucky law takes a more assignment friendly approach and generally views non-competes as assignable. Managed Health Care Assocs. v. Kethan, 209 F.3d 923 (6th Cir. (Ky.) March 10, 2000) (where “the only thing that changed was the entity now entitled to enforce” the agreement, and the contractual rights and duties of an employee remain, non-competes are assignable).   New Jersey takes a similar approach, noting that “[u]pon the sale of a business a restrictive covenant …is assignable without express words to that effect and passes as an incident of the business sold even though not specifically assigned” and should “be assignable as an incident of the business even if not made so by express words.” JH Renerde, Inc. v. Sims, 312 N.J. Super. 195, 711 A.2d 410 (N.J. App. Div. Feb. 19, 1998).

Based on the 8th Circuit’s decision, another lesson for employers is that they may want to consider stand-alone non-compete or confidentiality agreements, taking care, of course, to assure that there remains valid supporting consideration under applicable law.  Having the non-compete or confidentiality agreement stand alone and apart from any employment contract at issue was critical for the 8th Circuit in distinguishing assignable agreements from personal service contracts that may not be assigned. Likewise, such employers may want to negotiate agreements that include language specifically allowing assignment to an acquirer of the business without consent of the other party, typically found in a successors and assigns clause.  Use of language that precludes working in a particular field or a narrow subset within that field may make assigned rights easier to enforce than more generic references to prohibiting competition with any aspect of the employer’s business, which, post sale, may have expanded greatly.

For those seeking to avoid assignability of rights under non-compete or confidentiality agreements, the lessons are inverse, save the common direction to make sure that the law of the applicable state is considered first and foremost. Challengers should review agreements to see whether they include language that prohibits assignability, or whether assignability language is absent. They may wish to argue that where non-compete or confidentiality provisions are integrated into broader employment agreements, a personal services contract exists, which may impact on assignability under state law. Finally, they should look to whether the terms of the non-compete or confidentiality agreement are linked to the specific practice of the former employer or to the employee’s particular duties, customers and territories, or are of broader scope, preventing competition against the employer’s business generally.  In the latter case, it is more likely that assignment could result in a material change to the restrictions and obligations placed upon the employee where the acquiring employer’s overall business varies significantly from that of the original assigning employer.  Though such rights may be assignable, they are less likely to be enforceable. As noted above, any such assessments are also made in light of each state’s approach to assignability of non-competes – which varies across the country.

Would-be purchasers of another employer’s assets can also take such lessons into account. If any of the aids to enforceability are absent from the contracts to be assigned, a purchaser or its counsel may seek to leverage such facts in negotiating price or in adjusting escrow or indemnification obligations.  Conversely, a purchaser could suggest, or a seller could decide, that existing and possibly deficient agreements be amended pre-sale.  Of course, in such circumstances, the amending employer must again resort to state law analysis of such terms.

In those same circumstances, one must also consider whether the amended agreement is supported by adequate consideration. Such consideration requirement can vary, depending on the state.  For instance, mere continued at-will employment is sufficient consideration to support a new non-competition agreement in New Jersey under various cases. See Martindale v. Sandvik, Inc., 173 N.J. 76, 800 A.2d 872 (N.J. Supreme Court July 17, 2002); see also Quigley v. KPMG Peat Marwick, LLP, 330 N.J. Super. 252, 749 A.2d 405 (N.J. App. Div. 2000), certif. denied, 165 N.J. 527, 760 A.2d 781 (N.J. Sep. 7, 2000) (stating that employment can be deemed consideration for employee’s submission to employer’s demands, including arbitration); Hogan v. Bergen Brunswig Corp., 153 N.J. Super. 37, 378 A.2d 1164 (N.J. App. Div. Sep. 29, 1977) (holding that continuation of plaintiff’s employment after plaintiff signed letter acknowledging restrictive covenant against post-employment competition constituted sufficient consideration to enforce agreement). But, in a state like Illinois, the continued employment must meet a certain threshold minimum time period. See Fifield v. Premier Dealer Services, Inc., 2013 IL App (1st) 120327, 993 N.E.2d 938 (Ill. 1st Dist. June 24, 2013) (noting that Illinois courts have “repeatedly held that two years of continued employment is adequate consideration to support a restrictive covenant”).  Further, in other jurisdictions like Texas and Pennsylvania, there is a requirement that non-competition agreements be supported by independent consideration beyond continued employment. See, e.g., Alex Sheshunoff Management Serv. v. Johnson, 209 S.W.3d 644, 50 Tex. Sup. J. 44, 25 I.E.R. Cas. (BNA) 481 (Tex. Sup. Ct. Oct. 20, 2006) (training or disclosure of confidential information could provide additional necessary consideration); Socko v. Mid-Atlantic Systems of CPA, Inc., 126 A.3d 1266, 40 I.E.R. Cas. (BNA) 1568  (Pa. Sup. Ct. Nov. 18, 2015) (“In the context of requiring an employee to agree to a restrictive covenant mid-employment, however, such a restraint on trade will be enforceable only if new and valuable consideration, beyond mere continued employment, is provided and is sufficient to support the restrictive clause.”)  These factors thus also become issues that one must consider in valuing the agreements assigned or to be assigned.

Of course, it is also important for transactional attorneys to specify expressly in the transactional documents themselves that such employment agreements are among the assets being transferred. This was highlighted in a district court case in Washington DC decided only two days after Symphony Diagnostic Servs. See Hedgeye Risk Mgmt., LLC v. Heldman, __ F. Supp. 3d. __ (DDC July 8, 2016) (denying enforcement of covenant, holding that “[t]he text and structure of the APA answer that question [i.e. whether the agreement were conveyed], and they belie any claim that PRG’s employment contracts were among the ‘assets’ conveyed in the APA).  The court rejected plaintiff’s argument that the overall purpose of the asset purchase agreement precluded the need for an express reference to the agreements as assigned assets:

Hedgeye’s only remaining argument—and, in truth, its primary argument—is that “the entire point of the sale between PR[G] and Hedgeye was that Hedgeye was desirous of obtaining PRG’s talent.” Dkt. 3-1 at 8. That is, Hedgeye argues that its goal in acquiring PRG (and thus in executing the APA) was to acquire the services of PRG’s employees, and particularly Heldman. See id. (arguing that the APA provision requiring Hedgeye to pay Heldman’s bonus “evidenc[es] Heldman’s clear value to the transaction”). It is not hard for the Court to believe that Hedgeye desired to hire PRG’s employees, nor that it wanted to hire Heldman in particular. But it is hard to read the APA to achieve that result itself—not in light of the APA’s express statement that Hedgeye may “offer employment” to all PRG employees. See Dkt. 1-2 at 15 (APA at 14) (emphasis added).

Thus, the Hedgeye Court offered a lesson at the asset sale stage that care be taken to be clear, just as Symphony Diagnostic Servs. provided lessons on considerations for drafting the post-employment restrictions originally.

Whether seeking to support or challenge assigned agreements or just trying to determine the value of restrictive covenant agreements to be assigned, cases like Symphony Diagnostic Servs. merit continued attention, especially as they emerge in additional jurisdictions.  The ability to determine what rights may exist for an acquired business to protect from direct competition by its former employees may be vitally important in determining the value to be paid for the assets of the business, whether to proceed with the acquisition at all, and the options that are presented in its aftermath.

A version of this article appeared in Bloomberg BNA Daily Labor Report (PDF). 

Matthew Savage Aibel
Matthew Savage Aibel

On May 6, the White House released a report entitled: “Non-Compete Agreements: Analysis of the Usage, Potential Issues, and State Responses” (the “White House Report”).  This report comes on the heels of the United States Department of Treasury’s Office of Economic Policy releasing a similar report about non-competes in March 2016 (the “Treasury Report”).  While the U.S. economy has recovered since the last recession, the Obama Administration has identified a decline in competition for workers as a structural problem worth tackling in its final months.  The Administration believes that non-competes restrict workers’ ability to move between jobs.  Both reports rely heavily on a study performed by three economics professors and draw on popular news stories to show the potential downsides of non-competes.  While the reports take a largely dim view of non-competes, they do provide some ideas employers should consider when drafting and implementing non-compete agreements and also highlight some of the benefits of non-competes.

Both reports consider protection of trade secrets a “beneficial” use of non-competes, but believe there are very few alternative justifications for non-competes.  This view establishes non-competes as a “problem” in the economy because “[o]nly 24 percent of workers report that they possess trade Secrets.” (White House Report at 4).  The characterization of non-competes, however, may be one instance where a lack of understanding of real world conditions informs the Administration’s view on the subject.  The White House Report does not consider client lists or relationships in its discussion of noncompetes and instead relies only on trade secrets as a legitimate business interest worth protecting; the Treasury Report acknowledges them, but does not afford them any weight.  “For instance, a trade secret involving intellectual property may be the product of expensive investments. If the investment had not been made, none of the benefits of the property would have been realized. By contrast, the client, and their need for a good or service, presumably exist independently of any investment made by the employer.” (Treasury Report at 7n.5).

The problem with this view is that it fails to acknowledge that businesses invest time and money into client relationships.  Those investments deserve a degree of protection, especially from a potentially disloyal employee who might attempt to leave a company and take valuable client relationships with him.  Thus, most non-competes, often in the form of non-solicitation provisions, recognize that for some period of time after the employment ceases the former employee cannot  solicit or service clients of a company.  Courts in many states routinely enforce these types of agreements, while carving out any pre-existing client relationships as falling outside the scope of the employee’s non-compete.  There are incentives for employers to hire individuals if the companies know that workers who they hire and enable to establish client relationships will not be able to steal such clients when they leave.  Thus, non-competes help align incentives between the employer and employee.  Both reports recognize this fact as they acknowledge the strong correlation that non-competes have with increased worker training.  Where an employer is less worried about employees leaving, the employer is incentivized to provide on the job training for employees.

The White House Report identifies other problems with the way non-competes are implemented and employers should consider these factors in their hiring process:  1) workers often do not understand they have signed a non-compete, 2) workers are asked to sign a non-compete only after accepting the job offer, and 3) many firms ask workers to sign unenforceable non-competes. (White House Report 7).  All of these issues are problematic from a legal perspective.  Basic issues of contract law, consideration, modification or a meeting of the minds, could be grounds for an employee to use the legal system to disregard non-compete obligations.  Thus, employers should be cognizant of when and how the issue of non-competes is presented to new employees, and must also consider the jurisdiction in which the company operates when crafting the provision.  Courts in many jurisdictions will not enforce overbroad restrictive covenants.

The White House Report pointed to a turning tide against non-competes, especially for low-wage workers.  Many states have recently passed some sort of prohibition or limits on them, including Hawaii, New Mexico, Oregon and Utah. (White House Report at 7).  Recent news stories have also highlighted when use of a non-compete by an employer seems burdensome and unfair to workers.  As the Obama Administration moves into its final months, the Report mentions that it plans to “convene a group of experts in labor law, economics, government and business to facilitate discussion on non-compete agreements and their consequences.” (White House Report at 3).  In light of this push, companies should evaluate whether their use of non-competes complies with best practices, focusing on the necessity of the clauses in protecting a legitimate business interest.

Peter Steinmeyer, co-editor of this blog, is featured in the top story on Employment Law This Week.

As the story explains, the U.S. Court of Appeals for the Sixth Circuit has upheld a ruling that a group of workers at a fastener company used confidential drawings from the company to design, manufacture, and sell competing parts for their new business venture. On appeal, the former workers argued that they were “filling a gap” for customers, not competing with the original company. But the Sixth Circuit found that this argument ignored undisputed evidence in the case.

Mr. Steinmeyer discusses steps that employers should take to protect their trade secrets.

View the episode, below.