Non-Compete Agreements

On Monday, attorneys general in eleven states, including New York, New Jersey, Massachusetts, California, and Illinois, revealed that they are investigating several prominent fast food franchisors for their potential use of no-poaching or non-compete agreements restricting the ability of low wage workers to obtain a better-paying job with another franchise. To that end, these attorneys general have propounded document and information requests to these restaurants, returnable August 6, 2018.

In the Illinois AG’s press release, Attorney General Madigan stated that “No-poach agreements trap workers in low-wage jobs and limit their ability to seek promotion into higher-paying positions within the same chain of restaurants.” Madigan claims that at least 58 percent of major franchisors have no-poach provisions in their franchise agreements. This is not the first time that the Illinois AG has taken aim at non-compete agreements. Over two years ago, Madigan’s office sued sandwich chain Jimmy John’s for employing what it deemed “highly restrictive non-compete agreements,” ultimately reaching a $100,000 settlement with the franchisor. Ten months after Illinois passed the Freedom to Work Act, which prohibits private sector employers from requiring non-compete covenants of low-wage employees, defined as the greater of the applicable federal, state, or local minimum wage (currently $7.25 under federal law and $8.25 under Illinois state law) or $13 per hour, Madigan sued a national payday lender for requiring its employees, including workers who earn less than $13 an hour, to sign a non-compete agreement as a condition of employment.

Illinois is not the only state to pursue non-compete reform. Several other states recently have enacted legislation curbing the use of non-competes with respect to certain categories of workers, such as certified nurse practitioners and midwives (New Mexico) and workers in the broadcasting industry earning under a certain salary (Utah). Other states have proposed similar legislation. For example, New Hampshire bill SB 423 would ban non-compete agreements with “low-wage employees.” On the other end of the spectrum, Vermont House Bill 556 and Pennsylvania House Bill 1938 would ban all non-competes other than those formed in connection with the sale of an ownership interest in a business entity or the dissolution of a partnership or limited liability company. Even if these bills ultimately fail, they signal a rising trend of state-level restrictive covenant reform, which will likely gain momentum as state attorneys general step up enforcement in this area.

Many physicians and other health care workers are familiar with restrictive covenants like non-competition and/or non-solicitation agreements, either as employees who have been asked to sign such covenants as a condition of their employment or as business owners seeking to enforce such covenants to protect their medical practices from competition. These covenants are usually designed to prohibit physicians or other practitioners from leaving and setting up a competing practice nearby using patient contacts, information, and/or training that they received during their employment or association with the former employer.

Restrictive covenants generally are regulated by state laws and cases, which can differ markedly from one state to the next. For physicians and some other health care professionals, there can be an additional level of complexity in the analysis of such covenants, because many states, in light of the unique position the medical profession holds in the public interest, apply special rules to covenants that restrict medical practice. Courts considering such covenants may ask whether enforcement will cause a shortage of doctors in a particular area, or within a particular specialty. A paramount consideration usually is the right of patients to obtain treatment from the physician or other health care professional of their choice.

By statute, several states that may allow non-competes generally (provided they are reasonable and protect legitimate business interests) will not enforce them at all against physicians. Massachusetts was an early adopter, in 1977, of a statutory prohibition on physician non-competes. Mass. Gen. Law Ch. 112 § 12X renders void any non-compete provision restricting “the right of a physician to practice medicine in a particular locale and/or for a defined period of time.” In the early 1980s, Delaware and Colorado enacted similar laws. 6 Del. Code Ann. § 2707; Colo. Rev. Stat. § 8-2-113.[1] In 2016, Rhode Island followed suit and enacted a law just like Massachusetts’ statute. R.I. Gen. Laws §5-37-33.

Some other states do not prohibit physician non-competes but apply stricter standards to such agreements than they do to employee non-competes generally. For example, enacted in 2007 and amended several times thereafter, Tennessee’s statute allows physician (including radiologist) non-compete provisions if they: (1) are in writing; (2) last no longer than two years after the physician’s employment is terminated; and (3) either (a) are geographically limited to the greater of the county where the physician is employed or a ten mile radius of the primary practice site; or (b) there is no geographic restriction, but the physician is restricted from practicing at any facility in which the employer provided services during the physician’s time of employment. Tenn. Code Ann. § 63-1-148.

Texas law allows physician non-competes provided that the covenant must: not deny the physician access to a list of the patients seen or treated within one year of termination of employment; provide access to medical records of the physician’s patients upon proper authorization; provide for a buyout of the covenant by the physician at a reasonable price; and allow the physician to provide continuing care and treatment to a specific patient or patients during the course of an acute illness. Tex. Bus. & Com. Code Ann. § 15.50.

A New Mexico statute first enacted in 2015 prohibits provisions in agreements which restrict the right of healthcare practitioners (including physicians, osteopathic physicians, dentists, podiatrists and certified registered nurse anesthetists) to provide clinical healthcare services.[2]  (That limitation does not apply to agreements between shareholders, owners, partners or directors of the practice.) The law, however, does allow non-disclosure provisions relating to confidential information; non-solicitation provisions of no more than one (1) year; and imposes reasonable liquidated damages provisions if the practitioner does provide clinical healthcare services of a competitive nature after termination of the agreement.  In addition, healthcare practitioners employed by the practice for less than three (3) years may be required, upon termination, to pay back certain expenses to the practice, including loans; relocation expenses; signing bonuses or other incentives related to recruitment; and education/training expenses.  N.M. Stat. § 24-1l-1 et seq.

And a Connecticut law enacted in 2016, rather than prohibiting physician non-competes, limits the allowable duration (to one year) and geographical scope (up to 15 miles from the “primary site where such physician practices”) of any new, amended or renewed physician agreement.  The law also renders physician non-competes unenforceable if the physician’s employment or contractual relationship is terminated without cause.  Conn. Gen. Stat. §20-14p(b)(2).

Other states may have, or may be considering enacting, statutes restricting non-competes and related agreements for healthcare providers. The trend is certainly toward limitations on such agreements. Accordingly, consultation with local legal counsel regarding these issues is highly recommended for any person or entity practicing in the healthcare industry.

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[1] Under Delaware and Colorado’s non-compete statutes, physicians can be required to pay damages “reasonably related to the injury suffered” by a breach of any such agreement. The Colorado statute was amended in 2018 to clarify that physicians may disclose their continuing practice and provide new contact information to any of their patients who have a “rare disorder,” and not be subject to claims for damages.

[2] This prohibition was expanded in 2018 to include certified nurse practitioners and mid-wives, and to prohibit the use of choice of forum and choice of law agreements to prevent circumvention of the prohibition.

On May 10, 2018, the New Jersey Assembly Labor Committee advanced Assembly Bill A1769, a bill that seeks to provide stricter requirements for the enforcement of restrictive covenants.

If enacted, the legislation would permit employers to enter into non-competes with employees as a condition of employment or within a severance agreement, but such non-competes would only be enforceable if they meet all of the requirements set forth in the legislation. Thus, if enacted, employers will have to comply with the following requirements in order for a New Jersey non-competition agreement to be enforceable:

  1. If the non-compete is entered into in connection with commencement of employment, the employer must disclose the terms in writing to the prospective employee by the earlier of a formal offer of employment, or 30 business days before the commencement of the employee’s employment;
  2. If the non-compete is entered into after commencement of employment, the employer must provide the agreement to the employee at least 30 business days before the agreement is to be effective;
  3. The non-compete agreement must be signed by both the employer and the employee and expressly state that the employee has a right to consult with counsel;
  4. The non-compete shall not be broader than necessary to protect the legitimate business interests of the employer, including the employer’s trade secrets or other confidential information, such as sales information, business plans, and customer or pricing information;
  5. The time period of the non-compete must not exceed 1 year following the date of termination of employment;
  6. The non-compete must be reasonable in geographic scope, meaning that it must be limited to the geographic area in which the employee provided services or had a material presence during the two years preceding the date of termination, and the non-compete may not restrict the employee from seeking employment in other states;
  7. The non-compete shall be reasonable in the scope of the proscribed activities and limited to only the specific types of services provided by the employee at any time during the employee’s last two years of employment;
  8. The agreement must state that the employee will not be penalized for challenging the enforceability of the non-compete;
  9. The agreement should not contain a choice of law provision that would have the effect of avoiding the requirements of the legislation;
  10. The agreement shall not waive the employee’s substantive, procedural, or remedial rights provided under the legislation or any other law, or under the common law;
  11. The non-compete shall not restrict the employee from providing a service to a customer of the employer if the employee does not initiate or solicit the customer; and
  12. The agreement shall not be unduly burdensome on the employee, injurious to the public, or inconsistent with public policy.

The bill broadly defines “[r]estrictive covenant” as any agreement between an employer and an employee under which the employee “agrees not to engage in certain specified activities competitive with the employee’s employer after the employment relationship has ended.” It is unclear whether the bill intends to apply only to traditional non-compete agreements or whether it is also intended to apply to other forms of restrictive covenants, such as non-solicit and/or anti-raiding provisions. It appears, however, that the bill is intended to apply only to non-competes as the proposed legislation contains a provision stating that a restrictive covenant may be presumed necessary where the legitimate business interest cannot be adequately protected through an alternative agreement, such as “an agreement not to solicit or hire employees of the employer; an agreement not to solicit or transact business with customers, clients, referral sources, or vendors of the employer; or a nondisclosure or confidentiality agreement.”

Moreover, the bill provides that any non-compete shall be unenforceable against all non-exempt employees, as well as other types of short-term or low-wage employees.

An employer who seeks to enforce the non-compete would be required to notify the employee in writing within 10 days after the termination of the employment relationship of the employer’s intent to enforce the non-compete. Failure to provide such notice shall void the agreement; however, notice need not be given in the event the employee was terminated due to misconduct.

Unless the employee was terminated for misconduct, the bill would also require employers who enforce a non-compete to pay the employee during the restricted period 100 percent of the pay that the employee would have been entitled and make whatever benefit contributions would be required in order to maintain the fringe benefits to which the employee would have been entitled.

If enacted, the legislation would allow employees to bring a cause of action against any employer or person alleged to have violated the act. In addition to injunctive relief, employees would be permitted to recover liquidated damages, compensatory damages, and reasonable attorneys’ fees and costs.

As with many other New Jersey employment laws, the bill would require employers to post a copy of the act or summary in a prominent place in the work area.

While the act would go into effect immediately upon enactment, it would not apply to any agreement in effect on or before the date of enactment.

If enacted, Assembly Bill A1769 would severely curb the use of non-competes in New Jersey. Employers should be aware of the multitude of requirements they would have to establish in order to enforce a non-compete, including the requirement to pay employees 100 percent of their salary during the time the non-compete is in effect. Thus, in the event the bill is signed into law, employers should now begin to consider implementing other types of agreements aimed at protecting their legitimate business interests, such as confidentiality agreements and non-solicit agreements in lieu of non-competition agreements.

Legislative efforts to limit or ban the use of non-compete provisions in employment agreements have proliferated in the early months of 2018.

Perhaps most eye-catching was legislation (titled the “Workforce Mobility Act”) introduced in the U.S. Senate in late April 2018 that would prohibit employers from enforcing or threatening to enforce non-compete agreements with employees and require employers to post prominently a notice that such agreements are illegal.  Co-sponsored by Democratic Senators Chris Murphy (CT), Elizabeth Warren (MA) and Ron Wyden (OR), the bill envisions the Department of Labor enforcing the non-compete ban by levying fines on employers of $5,000 for each week that a violation of the Act occurs.  The bill also provides for a private right of action for workers to pursue damages in federal court.  A companion bill was introduced in the House of Representatives.  If enacted into law, the Workforce Mobility Act would have sweeping effects in the workforce.

Efforts by state legislatures to curb non-competes have continued apace, but such bills generally are drafted with more limited scope than the Workforce Mobility Act bill.  For example, on May 10, 2018, the New Jersey Assembly Labor Committee advanced Assembly Bill A1769, which would bar the use of non-compete agreements with respect to certain types of workers (mostly low-wage workers), and set a one year limit on employee non-compete agreements with respect to employees who are terminated by a company.

Massachusetts legislators have long tried (unsuccessfully so far) to enact legislation restricting non-competes, and they are at it again.  On April 17, 2018, Massachusetts House Bill 4419 was introduced, and it seeks, among other things, to prohibit enforcement of non-competes against certain low-wage employees, to limit the geographic and temporal scope of non-competes, and to require employers to provide advance notice to prospective employees if entering into a non-compete is a condition of employment.

Earlier this year, Utah and Idaho passed or amended their statutes dealing with post-employment restrictions on competition.  Colorado passed new limitations on non-competes involving physicians.

Employers should stay aware of these legislative efforts regarding non-competes, as they could, if enacted, invalidate some or all of the employers’ non-competition provisions with their employees.  In evaluating that possibility, employers should consider whether they are adequately protecting their legitimate business interests in their trade secrets and client relationships through other means as well, such as confidentiality/non-disclosure, non-solicitation agreements, and/or “garden leave” provisions.  As Ben Franklin said, “By failing to prepare, you are preparing to fail.”

A recent decision from an Arkansas appellate court raises two important issues of enforceability of non-competition agreements: (1) the enforceability of a non-compete after expiration of the contractual non-compete period and (2) the applicable standard for determining whether a valid protectable interest exists.

In Bud Anderson Heating & Cooling, Inc. v. Neil, the plaintiff Bud Anderson Heating and Cooling, Inc. (“BAHC”), a HVAC vendor and service provider, appealed a lower court’s denial of BAHC’s petition for a one-year prospective injunction seeking to enforce an expired non-compete agreement with defendant Neil, which was allegedly violated when Neil joined a competitor located within BAHC’s territory and subsequently successfully solicited a BAHC customer.  Before addressing the merits of BAHC’s complaint, the appellate court considered—and ultimately rejected—Neil’s argument that BAHC’s appeal was moot since the injunction sought extended beyond the contract’s one-year-from-date-of-termination period.  In so holding, the court relied on (1) caselaw from other jurisdictions finding that extension of a noncompetition period is within a court’s broad equitable powers and (2) application of the “capable-of-repetition-yet-evading-review exception to the mootness doctrine,” previously unapplied in this context.

Turning to the merits of the appeal, the appellate court found that the trial court should have applied an “able to use,” not an “actual use” standard in determining whether to grant BAHC’s injunction. Under an “able to use standard,” a petitioner need only demonstrate the ability of a former employee to use the former employer’s proprietary information to obtain an unfair competitive advantage; proof that the employee actually used such information is not required.

The Bud Anderson decision is noteworthy in two respects.  First, Arkansas employers may be able to enforce non-competes after expiration of the non-compete period, thereby achieving longer non-compete periods that would ordinarily be deemed by courts unreasonable and invalid.  Second, Arkansas employers seeking to enforce non-competes can take advantage of an “able to use” standard, which is easier to meet than an “actual use” standard.  However, given that the Bud Anderson decision presents not one but two issues of first impression, it would not be surprising if the case were to ultimately end up before the Arkansas Supreme Court.

Notwithstanding these developments in Arkansas, employers should note that other courts have reached different conclusions on both of these issues. As always, it is critical to know the state-specific law in the applicable jurisdiction.

We non-compete lawyers often rely on an old rule of thumb when analyzing the enforceability of a non-compete: if the restriction is so broad that it would even prohibit an employee from working as a janitor for a competitor, then it is very unlikely to be enforced by a judge. And so when a federal judge expressly endorses such a rule of thumb, the urge to blog about it is simply irresistible.

In Medix Staffing Solutions Inc. v. Daniel Dumrauf, Judge Ellis of the Northern District of Illinois addressed the enforceability of a restrictive covenant which prohibited employment in any capacity at another company in the industry.  The defendant argued that this restriction was so broad that it “would bar him from even working as a janitor at another company.”  While Judge Ellis described that example as “a bit far-fetched,” she nonetheless found “no language in the Covenant that makes it an inaccurate statement of [the Covenant’s] prohibitions.”  Accordingly, she held that the restriction was unenforceable on its face and that “[t]here is no factual scenario under which it would be reasonable.”  Accordingly, she held that “[t]his is an ‘extreme case’ where dismissal at the motion to dismiss stage is permissible and appropriate.”

And while noting that courts have the power to modify overbroad restrictive covenants, Judge Ellis refused to do so here, holding that Medix must instead “live with [its] decision” not “to draft an appropriate restrictive covenant.”

So, employers, the moral of the story is this: if your non-compete really would block an employee from working as a janitor for a competitor, it is time to update your non-compete, paying due heed, of course, to issues of adequacy of consideration for any such modification and other case law and statutory developments.

Two western states, Utah and Idaho, have recently passed or amended their statutes dealing with post-employment restrictions on competition.  This continues a national trend in which new state law in this area is increasingly the product of legislative action rather than judicial interpretation.  Thus, even if an employer has no current presence in these states, it is worth one’s time to understand these changes because they could soon be coming your way.

In Utah, the legislature amended the two-year old Post-Employment Restrictions Act (which we had written about before) to limit the enforcement of non-compete agreements against employees in the broadcasting industry.  The statute (HB 241) imposes a compensation test that precludes non-competes for broadcast industry employees making less than $47,476 annually, limits broadcast company employment contracts to four years or less, and nullifies any restriction that would limit competition beyond the original contract expiration date (meaning that an employee with a one year restriction who leaves a broadcast employer three months before contract expiration would have a three-month non-compete rather than a one-year non-compete).  The amendment also allows enforcement only if the employee is either terminated “for cause,” or the employee breaches the employment contract “in a manner that results in” his or her separation, curious language that seems to leave unaddressed whether a non-compete can be enforced where a non-breaching employee simply resigns.  While this amendment is certainly part of the trend of states (Arizona, Connecticut, the District of Columbia, Illinois, Maine, Massachusetts, and New York) having statutes specific to non-compete agreements in the broadcasting industry, it also fits in the broader trend of industry-specific limitations targeting an expanding list of industries and the even broader attack on non-compete agreements more generally.

The Idaho legislature also took action recently by amending its non-compete statute to remove an important pro-employer presumption applicable to non-compete agreements for “key” employees.  The Idaho statute, Idaho Code §44-2701 et seq., had since 2016 included a provision (§44-2704(6)) providing that an employer would be entitled to a rebuttable presumption of irreparable harm when a key employee found that employer likely to succeed on its claim that the employee had violated the covenant.  The legislature, in S 1287a, repealed that provision, restoring Idaho law to its pre-2016 status, as Idaho’s governor noted in his statement concerning the bill.  The governor did not sign the bill, but simply allowed it to become law without his signature.  He stated that he refrained from signing the bill because there was “no consensus” in the business community or the tech sector on such agreements, and went on to note that the next session of the legislature should re-adopt a modified version of the presumption provision just jettisoned.  As in Utah, this legislative back-and-forth illustrates the continued attention states are paying to non-compete issues in political, rather than judicial, forums.

Earlier this month, Colorado amended its law governing physician non-compete agreements (C.R.S. § 8-2-113(3)).  Since its enactment in 1982, that statute generally has prohibited agreements restricting the rights of physicians to practice medicine, but has allowed contractual provisions requiring a physician to pay damages arising from his or her competition if the damages are reasonably related to the injury suffered by the employer or other contracting party.  Under the amended statute, “a physician may disclose his or her continuing practice of medicine and new professional contact information to any patient with a rare disorder…to whom the physician was providing treatment.”   The goal of the amendment is to avoid interruptions to the continued care of individuals with rare disorders.  The statute looks to the National Organization for Rare Disorders, Inc. to maintain a database of diseases considered “rare disorders.”

Colorado physician practices should review and, if necessary, update any restrictive covenants in their physician agreements to ensure they are enforceable under the amended statute, bearing in mind that physicians now have the right to communicate personal contact information to patients suffering from rare disorders. Going forward, to avoid future disputes, physicians and their employers or practices may even wish to agree upon the language departing physicians can use to communicate information regarding their new practice to persons with rare disorders.

Also, any such review of physician agreements should consider the recent Colorado Supreme Court decision limiting the damages physicians’ practices can recover against physicians in breach of their non-compete agreements.

A little-noticed decision from earlier this year rendered by the Supreme Court of New York, Westchester County, demonstrates how enforcement of post-employment restrictive covenants will often boil down to a single question: does the restriction protect a legitimate business interest of the employer?

In Cindy Hoffman, D.O., P.C. v. Raftopol, plaintiff applied for a preliminary injunction against its former employee, a physician’s assistant, who began working for a competitor in technical violation of her past employment non-compete restriction which barred her for two years from working for competitors located within fifteen miles of any of the plaintiff-employer’s several offices.  Plaintiff asked the court to apply relaxed scrutiny to the covenant, arguing that the physician’s assistant position could be considered to be a “learned profession” in which her services performed were unique and extraordinary.  The court declined to apply such deference where the defendant was not in fact a physician.  Examining the two year restriction under New York’s traditional reasonableness standard, the court still was reluctant to enforce it as written.  Instead, Justice Terry Jane Ruderman blue-penciled the agreement and granted the preliminary injunction only to the extent of preventing the defendant from affirmatively soliciting clients of the plaintiff’s practice for a period of two years.

Safeguarding the plaintiff’s client relationships was the true legitimate business interest worthy of protection, and the court was willing to go no further than that in granting its injunctive relief.

The Colorado Court of Appeals, in Crocker v. Greater Colorado Anesthesia, P.C., recently examined several unique enforceability considerations with respect to a physician non-compete agreement.  Of particular interest was the Court’s treatment of a liquidated damages provision in the agreement.  Pursuant to a Colorado statute (8-2-113(3), C.R.S. 2017), the Court held that the provision was unenforceable because the liquidated damages were not reasonably related to the injury actually suffered.

Michael Crocker, a former physician-shareholder at Greater Colorado Anesthesia (Old GCA), signed an employment agreement with Old GCA that contained a non-compete provision that prohibited Crocker from practicing anesthesiology within 15 miles of a hospital serviced by Old GCA, for two years following termination of the agreement. The employment agreement also included a liquidated damages clause that required a former employee who violated the non-compete agreement to pay “(1) the three-year annual average of the gross revenues produced by the doctor’s practice; (2) minus the three-year annual average of the direct cost of [Old GCA] employee; (3) multiplied by two, to reflect two years of competition; and (4) plus $30,000 to cover the estimated internal and external administrative costs to terminate and replace the competing doctor.”

In January of 2015, Old GCA’s shareholders voted to approve a merger. Crocker dissented. Crocker severed his employment relationship with Old GCA and later began working for another anesthesiology group within the non-compete area outlined in his employment agreement. After the merger, New GCA sought damages for Crocker’s breach of his non-compete. The district court determined that the non-compete was unenforceable. The Court of Appeals affirmed the district court’s decision on several grounds, including hardship on Crocker and Crocker’s rights as a dissenting shareholder with respect to the merger.

The court also independently rejected New GCA’s request for liquidated damages, determining that the company suffered no damages, and that the liquidated damages clause was unenforceable because it was not reasonably related to “any injury [New GCA] actually suffered due to Crocker’s departure.” Citing the Colorado statute governing liquidated damages clauses in physician non-compete agreements, the court explained that “a damages term in a non-compete provision such as here is enforceable only if the amount . . . is reasonably related to ‘the injury suffered’ in the past tense. Under this plain language, the reasonableness of the relationship between the two amounts must be demonstrated, and it cannot be analyzed prospectively; by definition, it can only be determined upon the termination of employment.”

This case underscores the need for employers seeking to enter into restrictive covenants with their employees to consult with counsel when drafting such covenants. In the circumstances of this case, there was a state statute specifically bearing upon the liquidated damages provision in the physician non-compete agreement, which effectively prevented that provision from being enforced against the employee. The world of restrictive covenants can be tricky and compliance with state laws (statutes and case law) is crucial when the time comes to enforce them.