Non-Compete Agreements

In the last couple of years, there have been a number legislative efforts, at both the state and federal level, to limit the use of non-competes in the U.S. economy, particularly with respect to low wage and entry level workers.  Recent bills introduced in the Senate indicate there is a strong opportunity for a bipartisan path to enactment of such a law by the U.S. Congress.

Last month, Marco Rubio, one of Florida’s U.S. Senators and a previous Republican candidate for President, introduced legislation in the Senate – the “Freedom to Compete Act” – which would set limits on employers’ ability to enter into non-competition agreements with certain kinds of employees.  This bill, if enacted, would render void existing non-compete agreements, and outlaw any new non-compete agreements, between employers and employees classified as “non-exempt” under the Fair Labor Standards Act of 1938 (“FLSA”).  Generally, “exempt” workers under the FLSA are bona fide executive, administrative, professional and outside sales employees who are paid salaries and therefore are exempt from the FLSA’s minimum wage and overtime pay requirements.  “Non-exempt” workers generally are employees paid on an hourly basis who must be paid a minimum wage and time-and-a-half for overtime hours worked.

Last year, on April 26, 2018, another bill – the “Workforce Mobility Act” – was introduced in the Senate (along with a companion bill in the House) by Democrat Chris Murphy of Connecticut and co-sponsored by Elizabeth Warren of Massachusetts, a likely Democratic candidate for President in 2020.  The Workforce Mobility Act went a lot farther than the Freedom to Compete Act: it would have prohibited employers from enforcing or threatening to enforce non-compete agreements against any employee (not just “non-exempt” employees), and would have required employers to post prominently a notice that such agreements are illegal.  It also would have granted the Department of Labor powers of investigation and enforcement with respect to employers’ use of non-compete agreements and provided all employees with a private right of action against employers who continued to use non-compete agreements, allowing for compensatory damages, punitive damages and attorneys’ fees.

Of these two legislative bills, the Workforce Mobility Act was clearly the more draconian and far-reaching.  Perhaps because many non-competes, especially for more senior, well-compensated employees, are defensible for legitimate reasons including the protection of trade secrets, confidential information and customer relationships, the Workforce Mobility Act did not gain much traction and was not enacted.  Senator Rubio’s Freedom to Compete Act, however, by focusing on non-exempt workers, is more in line with legislative efforts in the states, and with enforcement actions by state Attorneys General.  As such, it has a better chance of garnering bipartisan support and being enacted.  Stay tuned.

Tuesday, January 29, 2019
12:30 p.m. – 1:45 p.m. ET 

Issues arising from employees and information moving from one employer to another continue to proliferate and provide fertile ground for legislative action and judicial decisions. Many businesses increasingly feel that their trade secrets or client relationships are under attack by competitors—and even, potentially, by their own employees. Individual workers changing jobs may try to leverage their former employer’s proprietary information or relationships to improve their new employment prospects, or may simply be seeking to pursue their livelihood.

How can you put yourself in the best position to succeed in a constantly developing legal landscape?

Whether you are an employer drafting agreements and policies or in litigation seeking to enforce or avoid them, you will want to know about recent developments and what to expect in this area.

Join Epstein Becker Green attorneys David J. Clark, William Cook, and Aime Dempsey for a webinar providing insights into recent developments and expected trends in the evolving legal landscape of trade secret and non-competition law.

During this webinar, the panel will discuss:

  • Legal trends in the enforceability of non-competes
  • Steps employers can take to comply with new laws
  • New and pending state and federal legislation, including the Massachusetts Noncompetition Agreement Act
  • Recent judicial decisions regarding restrictive covenants, including an important California case concerning provisions barring solicitation of employees
  • New cases and statutes regarding protection of trade secrets
  • Continuing governmental scrutiny of “no poach” agreements

Register today for this complimentary webinar!

The Illinois Appellate Court recently declined to adopt a bright line rule regarding the enforceability of five year non-competes or three year non-solicits, and instead directed courts to interpret the reasonableness of any such restrictive covenants on a case-by-case basis.

In Pam’s Acad. of Dance/Forte Arts Ctr. v. Marik, 2018 IL App (3d) 170803, the plaintiff dance company sued a former employee for breaching a non-disclosure agreement and restrictive covenant by allegedly opening a dance studio within 25 miles of plaintiff and soliciting students and teachers by means of an “improperly obtained” customer list. Following a split resolution on a motion to dismiss, the trial court certified two questions for appellate review, including the one pertinent to readers of this blog: whether a post-employment non-compete lasting five years or a post-employment customer/co-worker non-solicit lasting three years is per se unenforceable as a matter of Illinois law?

Notwithstanding the facial over-length of these restrictions, the Illinois Appellate Court declined to find that three or five year restrictive covenants were de facto unenforceable. Instead, the Court reiterated the need for the trial court to consider the totality of the circumstances, explaining that “the reasonableness of the restrictive covenant at issue here requires the resolution of a number of facts” – facts to be resolved at the trial court level.

While the court’s ruling suggests that temporal restrictions of three or five years may, in appropriate circumstances, be permissible, practical experience and other Illinois cases indicate the need for employers to narrowly tailor restrictive covenants, including temporal restrictions. To avoid challenges to the overbreadth of a restrictive covenant, employers should adhere to the standards set forth in the Illinois Supreme Court’s seminal decision, Reliable Fire Equipment Co. v. Arrendo, in which the Court held that a restrictive covenant is only enforceable if it: (1) is no greater than required for the protection of a legitimate business interest of the employer-promisee; (2) does not impose undue hardship on the employee-promisor; and (3) is not injurious to the public.

Thomson Reuters Practical Law has released a new edition of “Preparing for Non-Compete Litigation,” a Practice Note co-authored by our colleague Peter A. Steinmeyer of Epstein Becker Green.

Following is an excerpt:

Non-compete litigation is typically fast-paced and expensive. An employer must act quickly when it suspects that an employee or former employee is violating a non-compete agreement (also referred to as a non-competition agreement or non-compete). It is critical to confirm that there is sufficient factual and legal support before initiating legal action. Filing a complaint for monetary damages or a request for an injunction can backfire if an employer is not prepared with sufficient evidence to support its request. This Note discusses the steps an employer can take to best position itself for successful enforcement of a non-compete and the strategic considerations involved with initiating non-compete litigation. In particular, it discusses:

  • Best practices for investigating a suspected violation and gathering relevant evidence.
  • Key steps for evaluating the likelihood a court will enforce a non-compete.
  • Factors to consider before initiating legal action.
  • The options for enforcing a non-compete through legal action and the key decisions relevant to each option.

Click here to download the full Note in PDF format.

States across the country have been using enforcement actions, legislation, and interpretive guidance to limit employers’ ability to enforce restrictive covenants against low wage workers. The recent decision in Butler v. Jimmy John’s Franchise, LLC et. al., 18-cv-0133 (S.D. Ill. 2018) suggests this trend may extend to federal antitrust law.

The Butler case relates to the legality of certain restrictive covenants in Jimmy John’s franchise agreements.[1] The Complaint alleges that Jimmy John’s required franchisees to agree not to hire any job applicants who worked for a different Jimmy John’s franchise in the previous year. Franchisees also agreed not to solicit one another’s employees. The franchise agreements also named all other Jimmy John’s franchisees as third party beneficiaries of the agreement. This meant that if Franchise B hired a Franchise A employee, Franchise A could sue to enforce the agreement between Franchise B and Jimmy John’s Franchise LLC (the franchisor).

In determining claims of antitrust violations, the distinction between “horizontal” and “vertical” agreements is highly significant. Challenges to vertical agreements are analyzed under the “rule of reason” under which plaintiffs must prove market power and that the challenged practices actually harm competition. This generally requires sophisticated economic analysis. Horizontal agreements not to compete, in contrast, are generally deemed “per se” unreasonable and do not require any proof regarding market context.

In Butler, the Court characterized the franchise agreements as horizontal agreements. Such a characterization permitted the plaintiffs to state a claim without alleging that a particular franchisor has sufficient market power to effect the market for employees in an entire geographic region. In other words, the plaintiffs did not have to prove that Jimmy John’s on its own had enough market power to depress the wages of delivery drivers in a particular city.

To keep things in perspective, Butler is an isolated district court decision which may remain an outlier. However, it serves as another example of how subjecting low wage workers to restrictive covenants can impose heightened litigation risk. Butler provides another reason (on top of the joint FTC/DOJ Antitrust Guidance for Human Resources Professionals and DOJ enforcement actions following through on that guidance) for employers to ensure their restrictive covenants are not only enforceable but compliant with antitrust law.

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[1] Jimmy John’s has since agreed to remove the challenged provisions from their franchise agreements.

On September 19, 2018, the New York Attorney General (“NYAG”) released a Frequently Asked Questions document (“FAQ”) regarding non-compete agreements in New York. The FAQ posits and answers the following basic questions about non-competes:

  • What is a non-compete agreement?
  • Are non-competes legal?
  • Do I have to sign a non-compete?
  • How could a non-compete affect me?
  • How do employers enforce non-competes?

In addition, the FAQ advises employees on specific steps to take before signing a non-compete, as well as actions employees can take if they signed a non-compete and are contemplating leaving their job. The FAQ concludes by emphasizing the NYAG’s efforts to end overly broad non-competes for rank-and-file employees who do not have access to trade secrets or confidential information, noting several recent settlements in this space and legislation introduced by the NYAG that would prohibit non-competes for workers earning below $75,000 per year (which is still pending).

The publication of the FAQ is not only a useful resource to employers and employees alike, but also another notable development in the close scrutiny that state attorneys general, nationwide, are applying to non-compete agreements.

On April 13, 2015 we blogged about the decision of the Ninth Circuit in Golden v. California Emergency Physicians Medical Group, 782 F.3d 1083 (9th Cir. 2015). There, the Ninth Circuit considered whether, under California law, an employee could be ordered to sign a settlement agreement that included language that restricted him, inter alia, from future employment with his former employer.

Dr. Golden is an emergency-room doctor who sued California Emergency Physicians Medical Group (“CEP”), among others, regarding his loss of staff membership at a medical facility.  His lawsuit was based on various state and federal causes of action, including racial discrimination.  The parties orally agreed in open court to settle the case and the settlement terms included “a substantial monetary amount,”  dismissal of the action, a release of CEP and a waiver of any and all rights to employment with CEP or at any facility that CEP may own or with which it may contract in the future (the “no-employment provision”).  Dr. Golden refused to sign the written agreement and attempted to have it set aside.  His attorney moved the court to withdraw as counsel, moved the court to intervene and further moved the court to enforce the settlement agreement so he could collect his contingency fee. In further proceedings, a magistrate judge recommended that Dr. Golden be ordered to sign an amended agreement, and that recommendation was adopted by the district court judge who concluded the settlement agreement was not within the ambit of Business and Professions Code § 16600, which makes unlawful in California (with limited exceptions) any contract to the extent it restrains someone from engaging in a lawful trade, business or profession.  Dr. Golden refused to sign the agreement and filed a notice of appeal.

On appeal, the Ninth Circuit Court of Appeals reversed the district court’s enforcement of the settlement agreement and remanded the case to the district court to determine whether a no employment provision in the agreement is a “restraint of substantial character” to the Plaintiff’s medical practice.

On remand, the district court again ordered Dr. Golden to sign the settlement agreement, concluding that the no-employment provision was not a restraint of substantial character. Dr. Golden again appealed.

In its July 24, 2018 decision, the Ninth Circuit surveyed California law and noted first that a contractual provision imposes a restraint of substantial character if it significantly or materially impedes a person’s lawful profession, trade, or business.  The Ninth Circuit noted that a provision need not completely prohibit the business or professional activity at issue, nor need it be sufficient to dissuade a reasonable person from engaging in that activity.  Rather, the “restraining effect must be significant enough that its enforcement would implicate the policies of open competition and employee mobility that animate Section 16600.”  The Court noted that it “will be the rare contractual restraint whose effect is so insubstantial that it escapes scrutiny under Section 16600.”

Looking to the provision in the settlement agreement at issue, the Ninth Circuit noted that it impeded Dr. Golden’s ability to practice medicine in three ways.

First, the settlement agreement prohibited Dr. Golden from working or being reinstated at any facility owned or managed by CEP.

Second, the settlement agreement prohibited Dr. Golden from working at any CEP-contracted facility.

Third, the settlement agreement provided that if CEP contracts to provide services to, or acquires rights in a facility where Dr. Golden is currently working as an emergency room physician or hospitalist, CEP has the right to terminate his employment with no liability.

The Ninth Circuit held that the first provision, which barred Dr. Golden from future employment at facilities owned or managed by CEP did not impose a substantial restraint on his medical practice. The Ninth Circuit further held, however that the second and third provisions did substantially restrain Dr. Golden’s practice of medicine and were therefore barred by Section 16600.  These two provisions limited employment with third parties based merely on whether CEP contracted with them. As a result, if Dr. Golden was employed by a hospital that later contracted with CEP to provide, for example, anesthesiology services, Dr. Golden would be ineligible for employment with the hospital.

Given the size of CEP’s business in California—it staffs 160 facilities in the state and handles between 25% and 30% of the state’s emergency room admissions, these provisions were a substantial restraint on Dr. Golden’s trade.

The Ninth Circuit’s ruling may leave open whether a provision in a settlement agreement that permits an employer to terminate the employment of an employee where it acquires the employee’s new employer will pass muster under Section 16600.  The provisions at issue in Golden were extremely broad: Plaintiff was prohibited from employment with entities with which CEP contracts to provide services to, or “acquires rights” in.  A different, more limited provision that prohibited employment at entities as to which the employer acquires outright may be held not to impose a substantial restraint on trade.  Further, the Ninth Circuit relied in part on CEP’s broad reach in the state of California.  This leaves open that smaller employers may be able to impose restrictions that larger employers with more market share may not.

Effective as of October 1, 2018, Massachusetts will become the 49th state to adopt a version of the Uniform Trade Secrets Act (leaving New York as the only holdout). Massachusetts did so as part of a large budget bill recently signed into law, which also resulted in the adoption of the Massachusetts Noncompetition Agreement Act. (The text of the Massachusetts version of the Uniform Trade Secrets Act is set out on pages 47-52 of the bill, H. 4868, while the effective date is set out on page 117. Here is a link to the entire budget bill.)

While there are differences from existing Massachusetts law regarding trade secrets, the new law is similar in most respects to the federal Defend Trade Secrets Act (“DTSA”). Nevertheless, the remedy provisions of the two laws are not identical, and there will be situations where greater relief is available under one statute than the other. For example, ex parte seizure orders are only available under DTSA, and attorney’s fees and exemplary damages are only available under DTSA if certain required disclosures about whistleblower immunity were made in agreements containing confidentiality provisions. The new Massachusetts law allows attorneys’ fees in circumstances of willful and malicious misappropriation and/or where claims or defenses are pursued in bad faith.

Additionally, employers should be aware that the Massachusetts statute does not apply to “misappropriation occurring prior to” October 1, 2018 or to “continuing misappropriation that began prior to” that date but continued after it.

On August 10, 2018, the Governor of Massachusetts signed “An Act relative to the judicial enforcement of noncompetition agreements,” otherwise known as The Massachusetts Noncompetition Agreement Act, §24L of Chapter 149 of the Massachusetts General Laws. (That bill was part of a large budget bill, H. 4868, available here; the text of the provisions relevant here at pages 56-62 of the bill as linked). The Act limited non-competition provisions in most employment contexts to one-year and required employers wishing to enforce such a one-year period to pay their ex-employees for the time that such employees are sidelined. The Act also precluded enforcing such provisions against employees laid-off or terminated without cause or against employees classified as non-exempt under the Fair Labor Standards Act. These and the other requirements noted below become effective and apply to employee noncompetition agreements entered into on or after October 1, 2018, and the Act curiously contains some significant exceptions as well. Below we will highlight material aspects of the new law, which was recently featured on Employment Law This Week.

Requirements for Enforcement Start Early

In connection with a non-compete agreement provided to an employee at the start of employment, an employer must provide it to the employee at the time of the offer of employment or ten business days prior to starting employment, whichever is earlier. Act, lines 1282-1291, at page 58-59. (The Act defines such agreements as “an agreement between an employer and employee, or otherwise arising out of an existing or anticipated employment relationship, under which the employee or expected employee agrees that he or she will not engage in certain specified activities competitive with his or her employer after the employment relationship has ended.” Act, lines 1264-1267, at page 57-58)

For a non-competition agreement presented to an employee during employment, the employer must provide it to the employee ten business days before it takes effect and such an agreement must be supported by “fair and reasonable consideration independent from the continuation of employment.” Act, lines 1287-1297, at page 58-59.

The Act also requires that a non-competition agreement “expressly state that the employee has the right to consult with counsel prior to signing.” Act, lines 1289, at page 59.

Further, the Act applies to all employees and independent contractors working in Massachusetts regardless of whether the agreement has a choice-of-law provision specifying the law of some other jurisdiction applies. Act, lines 1249-51, at page 57. (How it will apply to sales personnel with multi-jurisdiction territories remains to be seen, and its provision purporting to apply its requirements to those who are a “resident of” Massachusetts as opposed to those working there certainly appears one likely to be litigated as well. Act, lines 1346-1349, at page 61.)

The Death of Reasonable Pro-Employer Restrictions In Massachusetts?

The Act certainly requires employers to pay attention. But it preserves many tools for employers to use with employees, so it seems that reports of the death of such restrictions is greatly exaggerated. When employers understand a core of four concepts about the new law, they will be able to structure their approach accordingly.

First and foremost, the Act requires that most non-compete periods be limited to one-year during which the employee receives garden-leave pay or some “other mutually agreed-upon consideration.” Act, lines 1318-1330, at page 60. The Act defines garden-leave pay as payment of at least half of the employee’s highest base salary during the two years preceding the restricted period but it does not define in any way the phrase “other mutually agreed-upon consideration.” Id. The Act also allows the one-year period to be extended to two years and the obligation to pay compensation to vanish where the employee has breached fiduciary duties or has taken property belonging to the employer. Act, lines 1305-1313, at page 59-60. In the end, the Act states that such provisions “must be no broader than necessary to protect one or more . . . legitimate business interests of the employer” but also that “[a] noncompetition agreement may be presumed necessary where the legitimate business interest cannot be adequately protected through an alternative restrictive covenant, including but not limited to a non-solicitation agreement or a non-disclosure or confidentiality agreement.” Act, lines 1298-1304, at page 59.   But the Act also notes that courts may “reform or otherwise revise” such agreements to be consistent with the Act and Massachusetts public policy. Act, lines 1331, at page 60 and Act, lines 1343-1345, at page 61.

Second, the Act precludes enforcement of non-competition agreements against certain classes of employees. An employer may not enforce non-competes against employees who are (i) nonexempt under the Fair Labor Standards Act, (ii) undergraduate or graduate students who are in an internship program or other short-term employment relationship with an employer (whether paid or unpaid) while enrolled in a full-time or part-time undergraduate or graduate educational institution, (iii) under age 18, or (iv) terminated without cause, though “cause” and “without cause” are undefined. Act, lines 1332-1342, at page 61. Still, the Act expressly states that a number of traditional restrictions fall outside its requirements, and may continue to be used by Massachusetts’ employers, including the following as agreements unaffected by the Act:

  • those “not to solicit or hire employees of the employer”
  • those “not to solicit or transact business with customers, clients, or vendors of the employer”
  • those “made in connection with the sale of a business entity or substantially all of the operating assets of a business entity or partnership, or otherwise disposing of the ownership interest of a business entity or partnership, or division or subsidiary thereof, when the party restricted by the noncompetition agreement is a significant owner of, or member or partner in, the business entity who will receive significant consideration or benefit from the sale or disposal”
  • those “outside of an employment relationship”
  • “forfeiture agreements,” which are defined as “an agreement that imposes adverse financial consequences on a former employee as a result of the termination of an employment relationship, regardless of whether the employee engages in competitive activities following cessation of the employment”
  • nondisclosure or confidentiality agreements
  • invention assignment agreements.

[Act, lines 1268-1281, at page 58.]

Perhaps of greatest interest, employers may still extract longer non-competes “made in connection with the cessation of or separation from employment if the employee is expressly given seven business days to rescind,” which means that noncompetition agreement may be part of a severance agreement. Id. How that will play out where one enters into a severance agreement with one who would otherwise be terminated without cause will prove interesting.

Third, the Act also limits both geographic scope and precludable competitive activities. It does so by limiting scope to those geographic areas employee actually worked in and those services the employee actually provided—during employee’s last two years of employment. This is seen in the statutory language that says “[a] geographic reach that is limited to only the geographic areas in which the employee, during any time within the last two years of employment, provided services or had a material presence or influence is presumptively reasonable” and that “[a] restriction on activities that protects a legitimate business interest and is limited to only the specific types of services provided by the employee at any time during the last two years of employment is presumptively reasonable.” Act, lines 1310-1317, at page 60.

Fourth, the Act also seems to limit venue to certain specific courts. The Act states that “[a]ll civil actions relating to employee noncompetition agreements subject to this section shall be brought in the county where the employee resides or, if mutually agreed upon by the employer and employee, in Suffolk county; provided that, in any such action brought in Suffolk county, the superior court or the business litigation session of the superior court shall have exclusive jurisdiction.” Act, lines 1350-1354, at page 60-61. The notion of “exclusive jurisdiction” will also likely be the subject of contested claims brought in federal court under the Act.

All Things Considered, I’d Rather Be In ….

As noted at the outset, the Massachusetts Act is a set of significant, material changes for employers. But they are manageable when one understands the full panoply of options that remain open to employers in Massachusetts and takes the time to plan with counsel for the October 1st transition to a new non-compete regime that in fact will continue to include much of what is already in use for sophisticated employers. So, Massachusetts will remain manageable.