On January 9, 2020, the Federal Trade Commission (“FTC”) held a public workshop in Washington, DC to examine whether there is a sufficient legal basis and empirical economic support to promulgate a Commission rule that would restrict the use of non-compete clauses in employment contracts.  At the conclusion of the workshop, the FTC solicited public comments from interested parties on various issues, including business justifications for non-competes, effect of non-competes on labor-market participants and efficacy of state law for addressing harms arising from non-competes.

On March 12, 2020, attorneys general from seventeen states (including California, Illinois, New York and Washington), Puerto Rico and the District of Columbia (the “AGs”) submitted extensive comments to the FTC.  The AGs take the position that non-competes harm workers by suppressing wages and degrading non-wage benefits, and harm consumers by reducing business’ access to skilled and unskilled labor and by reducing innovation. The AGs find the usual justifications for non-competes (to protect trade secrets and investments in training workers) unpersuasive, and note that non-competes–particularly for low wage workers–usually are not freely bargained for.

Declaring their support for “federal rulemaking that is consistent with our ability to pursue enforcement and legislative priorities to the benefit of workers and consumers,” the AGs also ask that the FTC work with AGs to tackle abusive use of non-competes through enforcement actions, further study, issuance of guidelines, and educational initiatives.

In the coming weeks, the FTC will be evaluating the AGs’ comments, as well as comments from many other groups and individuals, as it decides what further actions, if any, it will take with regard to non-competes.  Stay tuned.

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The Illinois legislature is once again setting its sights on covenants not to compete.  In 2016, Illinois enacted the “Illinois Freedom to Work Act,” prohibiting employers from entering into covenants not to compete with “low wage” employees.  In February 2020, Illinois legislators filed four bills targeting covenants not to compete for all Illinois employees.

SB 3021 and HB 4699 are identical in substance, and the most drastic.  These bills seek to prohibit all covenants not to compete in Illinois:  “… no employer shall enter into a covenant not to compete with any employee of the employer.”  [Emphasis added].  These bills define “employee” as “any individual permitted to work by an employer” – not just Illinois-based employees – raising extraterritoriality issues off the bat.  An identical bill prohibiting covenants not to compete for all Illinois employees was defeated in the Illinois House of Representatives in 2019, 62 to 37, with 3 “Present” votes.

HB 5454 purports to require an employer “that elects to enforce a covenant not to compete” to pay “full compensation, including all benefits” to employees during either “(1) the time specified in the covenant not to compete or (2) until the separated employee is employed full-time at a commensurate rate of pay and benefits in a field of work not subject to the covenant not to compete.”  However, this bill would simply add a new section to the Illinois Freedom to Work Act, which defines a “covenant not to compete” as “an agreement between an employer and a low-wage employee,” and declares any such agreement illegal and void.  HB 5454 thus seems fundamentally flawed on its face, because it is limited to covenants not to compete with low-wage employees, which are already illegal and void.  Setting that fixable point aside, this bill follows the lead of Massachusetts’ non-competition agreement statute in requiring garden leave-type compensation during the restricted period.

HB 3430 is the most comprehensive of the February 2020 bills.  This bill:

  • Defines “covenant not to compete” to include agreements that “impose adverse financial consequences on a former employee” for competitive activities;
  • Defines “employee” in accordance with the Illinois Wage Payment and Collection Act, which excludes independent contractors;
  • Codifies the common law requirements that an employee receive adequate consideration, and that the covenant be ancillary to a valid employment relationship;
  • Defines “consideration” as either two years of employment, or “some other fair and reasonable consideration specifically bargained for in exchange for the covenant not to compete” (a clear nod to Fifield v. Premier Dealer Services, 2013 IL App (1st) 12037, 993 N.E.2d 938);
  • Codifies the common law requirements set forth in Reliable Fire v. Arredondo, 2011 IL 111871, 965 N.E.2d 393, that the covenant (i) is not greater than required for the protection of a legitimate business interest, (ii) does not impose undue hardship on the employee, and (iii) is not injurious to the public;
  • Further codifies Reliable Fire by specifying that “whether a legitimate business interest exists is based on the totality of the facts and circumstances of the individual case,” including, but not limited to, “the near-permanence of customer relationships, the employee’s acquisition of confidential information through the employee’s employment, and time and place restrictions”;
  • Imposes notice requirements similar to those of the federal Older Workers Benefit Protection Act such as requiring employers to advise employees in writing to consult with an attorney before signing, and providing a copy of the convent agreement at least 10 business days before employment, or providing the employee 21 days to review the covenant before signing; and
  • Permits employees to recover costs and reasonable attorney’s fees if they prevail in an action initiated by an employer involving a covenant not to compete.

SB 3430 leaves some key questions unanswered – two questions that immediately come to mind are:  Does a “covenant not to compete” include client solicitation restrictions; and what qualifies as “some other fair and reasonable consideration”?  However, SB 3430 is the most thorough recent legislative attempt to govern covenants not to compete in Illinois.

We will keep tabs on these bills and apprise you of their progress.

A New London Connecticut Superior Court jury awarded an $839,423 verdict in November 2019, involving theft of trade secrets for a $70 million U.S. Navy underwater drone project. This case, LBI, Inc. v. Sparks, et al., KNL-cv12-6018984-S, is a classic example of the blatant theft of an employer’s confidential and proprietary information that is so easily traceable to electronic files – and the costly consequences for the defendant employer’s complicity in that trade secret misappropriation.

Plaintiff LBI, Inc., a small Groton-based research and design development company, was to design, build and test the Navy’s underwater drones, and LBI partnered with Defendant Charles River Analytics, Inc. to do the computer analytics. During the project, Defendant hired two of the Plaintiff’s employees who were subject to Plaintiff’s non-compete and non-disclosure agreements.

Plaintiff LBI proved that one of its former employees who was hired by the Defendant CRA had uploaded thousands of Plaintiff’s files to his personal Dropbox cloud-based file storage account while he worked for LBI. Soon after joining the Defendant CRA, he shared the uploaded materials with CRA, including accounting and engineering files, photographs and related designs and renderings used to fabricate and manufacture the unmanned vehicle buoys for the Navy underwater drone project.

The jury agreed with the Plaintiff LBI’s argument that the Defendant CRA began as a partner in the project, but became a competitor and committed tortious interference with the non-compete and confidentiality restrictive covenants between the Plaintiff LBI and its employees; and also, that the Defendant violated the Connecticut Unfair Trade Practices Act.

Confidential and proprietary trade secret information misappropriated by employees to their personal electronic devices and files is easily traced. Before and after hiring employees from a competitor, the hiring employer must scrutinize the source of what may be confidential and proprietary materials that the hired employee has misappropriated and is wrongfully misusing. Otherwise, the costly consequences for the malfeasant competitor-employer and former employee who steal those trade secrets are well justified.

Thomson Reuters Practical Law has released the 2019 update to “Non-Compete Laws: Connecticut,” a Practice Note co-authored with David S. Poppick and Carol J. Faherty.

See below to download it in PDF format—following is an excerpt:

OVERVIEW OF STATE NON-COMPETE LAW

1. If non-competes in your jurisdiction are governed by statute(s) or regulation(s), identify the state statute(s) or regulation(s) governing:

  • Non-competes in employment generally.
  • Non-competes in employment in specific industries or professions.

GENERAL STATUTE AND REGULATION

Connecticut has no statute or regulation that governs non-competes generally. Most non-compete agreements in Connecticut are governed by case law.

INDUSTRY- OR PROFESSION-SPECIFIC STATUTE OR REGULATION
Security Guards: Conn. Gen. Stat. Ann. § 31-50a
In the security industry, Conn. Gen. Stat. Ann. § 31-50a governs non-compete agreements.

Click here to download the PDF “Non-Compete Laws Connecticut.”

A recent decision in Edward D. Jones & Co., LP v. John Kerr (S.D.In. 19-cv-03810 Nov. 14, 2019), illustrates the unique challenges that broker-dealers may face when enforcing post-employment covenants that prohibit former registered representatives (“RRs”) from soliciting clients. Edward Jones sued Kerr, a former RR, to enforce an employment contract that required him to return confidential information upon termination and prohibited him from “directly or indirectly” soliciting any Edward Jones’ client for a period of one year.  Although Kerr did not challenge the validity of the confidentiality and non-solicitation provisions, the court denied Edward Jones’ request for a temporary restraining order (“TRO”) because it found that RRs who change firms have a duty to notify clients of material changes to their accounts, which includes changes of employment.  The Kerr opinion provides a useful primer for financial firms seeking to enforce post-employment restrictive covenants.

From 1998 – 2019, Kerr was employed by Edward Jones.  Kerr’s employment ended during an August 1, 2019 meeting at which Kerr “was permitted to resign.”  Shortly before the August 1, 2019 meeting, Kerr printed confidential client reports.  Kerr claimed he printed the reports to prepare for the meeting and destroyed them after the meeting, but Edward Jones contended that Kerr printed the reports because he knew he was about to be terminated and used the documents to solicit clients.  On August 2, 2019, Kerr began working at another firm and notified clients by telephone that he had changed firms.  Kerr admitted that he mailed informational packets concerning his new firm to clients who requested additional information.  Edward Jones also contacted clients by telephone and letter to advise them that Kerr left Edward Jones and their accounts were being reassigned.  Edward Jones alleged that Kerr asked unidentified clients to transfer their accounts to his new firm.  In contrast, Kerr claimed that he did not ask any clients to transfer assets to his new firm, and submitted affidavits from eight clients who corroborated his version of events.

As noted above, Kerr did not challenge any provision of his employment contract. Instead, he claimed that both FINRA Rule 2273 and his fiduciary duty as a certified financial planner required him to notify clients that he had changed firms. He also claimed that he did not use any Edward Jones’ documents to contact the clients. Rule 2273 does not require firms or RRs to alert clients of a change in employment, but rather requires disclosures at the time of the  first post-change communication.  Nonetheless, the court accepted Kerr’s arguments and refused to issue a TRO.  The court’s analysis turned largely on its analysis of what constitutes an impermissible ‘indirect solicitation.’

The court rejected Edward Jones’ argument that an indirect solicitation includes “any initiated, target contact” with clients and, instead, defined an indirect solicitation as contacting a customer “to maintain and establish further goodwill as a basis for future benefits.”  Kerr recognized that courts are divided over whether an announcement of a change of employment – without more – constitutes an indirect solicitation.  Some courts have found that a personal communication announcing a change of employment constitutes an indirect solicitation because the customer would assume “the broker wishes him to transfer his account.”  Other courts have refused to find such announcements are solicitations because it would be unreasonable for broker-dealers to prohibit RRs from advising clients that they have changed firms.  Kerr found that whether an announcement amounts to a solicitation “is highly contextual,” and turns on “the defendant-employee’s intent when contacting former clients.”

The court identified a series of facts and circumstances that are relevant to determining whether an announcement constitutes a solicitation.  The court emphasized that Kerr had not used misappropriated information to contact clients and that he only “inform[ed] his former clients of his new employment.”  In addition, Kerr’s announcement was consistent with Edward Jones’ guidelines for newly hired RR’s communications with clients, and thus, the court concluded that announcements are standard practice in the financial service industry. The court also noted that many of the clients were Kerr’s “family and friends before they were ever Edward Jones’ clients.”  Finally, the court credited Kerr’s claim that he contacted his former clients only to satisfy his “fiduciary duty” to inform clients concerning “material changes to their accounts, which includes a change of financial advisor.”   The court therefore concluded that the announcement was not a solicitation.

The court then concluded that Edward Jones would not suffer irreparable harm without an injunction, and observed it was not necessary to address the balancing of harms before denying injunctive relief.  Nonetheless, the court observed that there is “judicial reluctance to restrict financial communications with their clients” because of the relationship of personal trust between clients and their financial advisors.  Although the court recognized that contractual non-solicitation provisions are enforceable against former RRs, it suggested that courts are reluctant to enjoin communications that merely advise clients that RRs have changed firms.

The Kerr decision does not address a firm’s ability to seek monetary damages and clearly reflects the facts of the case.  However, its conclusion — that RRs are obligated to inform clients of a change of employment – indicates that firms must prove actual solicitations or other misconduct as a prerequisite to obtaining injunctive relief.  In light of the upcoming June 2020 effective date of Regulation BI, which, as reported here, obligates firms and RRs to ‘act in the best interest of customers,’ courts may find Kerr persuasive when evaluating requests to enforce non-solicitation agreements.

Thomson Reuters Practical Law has released the 2019 update to “Preparing for Non-Compete Litigation,” a Practice Note I co-authored with Zachary Jackson.

See below to download the full Note – 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 PDF: “Preparing for Non-Compete Litigation.”

Rhode Island is the latest state to jump on the bandwagon of limiting the application of non-compete agreements, with its Rhode Island Noncompetition Agreement Act (the “Act”).  See these links for our prior posts explaining the previous six non-compete statues enacted in 2019:  Maine; Maryland; New Hampshire; Oregon; Utah; and Washington.  Rhode Island’s Act becomes effective on January 15, 2020.

Ban on Non-Competes For “Low-Wage Earners”; “Nonexempt” Employees; Minors; and “Undergraduate or Graduate” Student Workers

The Act follows the trend of banning the use of non-compete restrictions for categories of workers who generally do not pose a competitive threat.  Non-compete restrictions “shall not be enforceable against the following types of workers”:

  • “Employees age eighteen (18) or younger”
  • “Undergraduate or graduate students” who participate in an internship or otherwise work—“whether paid or unpaid”—while  enrolled in an “educational institution”
  • “An employee who is classified as nonexempt under the Fair Labor Standards Act”; and
  • “A low-wage employee.”

The Act defines a low-wage employee as an employee whose annual “earnings” are not more than 250% of the federal poverty level for individuals as established by the United States Department of Health and Human Services federal poverty guidelines.”  The Act defines “earnings” to mean “wages or compensation paid to an employee during the first forty (40) hours of work in a given week, not inclusive of hours paid at an overtime, Sunday, or holiday rate.”  The 2019 HHS Poverty Guideline for a household of one person is $12,490.  Accordingly, for purposes of the Act a “low-wage worker” is currently an employee earning up to $600.48 per week ($31,225 / 52), excluding overtime.

The prohibition of non-competes for “nonexempt” employees may have the unintended consequence of prohibiting non-compete restrictions for key sales employees who are nonexempt but nevertheless possess a particular ability to inflict competitive harm.  However, the Act expressly carves out “covenants not to solicit or transact business with customers, clients, or vendors of the employer” as well as “nondisclosure or confidentiality agreements.”

Application to All Non-Compete Restrictions as of January 15, 20120 Regardless Of Date Signed

The Act does not grandfather in non-compete restrictions entered into before a certain date.  The Act simply provides non-competition agreements as defined “shall not be enforceable.”  However, the Act specifically provides that it “does not render void” other permissible restrictions, such as client solicitation restrictions.  The Act also specifically provides that it does not preclude a judicially imposed noncompetition restriction “whether through preliminary or permanent injunctive relief or otherwise, as a remedy for a breach of another agreement or of a statutory or common law duty.”  Accordingly, for example, the Act would not prohibit a court from imposing an injunction for violating Rhode Island’s trade secrets statute prohibiting a former employee from working for a competitor for a period of time.

Carve-Outs for Various Types of Competition Restrictions

The Act does not govern client and vendor solicitation restrictions or confidentiality or non-disclosure agreements, as explained above.  The Act similarly excludes numerous other types of agreements and restrictions from the definition of “non-competition agreement”:

  • Covenants not to solicit or hire employees;
  • Noncompetition agreements made in connection with the sale of a business entity, “or all or substantially all of the operating assets of a business entity, or partnership,” or “otherwise disposing of an ownership interest … 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” (emphasis added);
  • Noncompetition agreements originating outside of an employment relationship;
  • “Forfeiture agreements,” which the Act defines 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 engaged in competitive activities, following cessation of the employment relationship”;
  • Invention assignment agreements; and, interestingly,
  • “Noncompetition agreements made in connection with the cessation of or separation from employment if the employee is expressly granted seven (7) business days to rescind acceptance” and “Agreements by which an employee agrees not to reapply for employment to the same employer after termination of the employee.”

Under the latter exception, noncompetition agreements are permissible in severance agreements so long as, just like the Older Workers Benefit Protection Act requires for terminated employees 40 years of age or older, the employee is provided seven days to revoke acceptance.  The “no reapplication” exception appears targeted to settlements of discrimination charges or claims, which generally impose that requirement on the former employee.  And the terms “substantially” and “significant” in the sale-of-business exception seem fertile ground for litigation over the precise meanings of those terms.

“Forfeiture Agreements” Distinguished From “Forfeiture for Competition Agreements”

The Act’s definition of “forfeiture agreement” appears to refer to agreements under which employees promise to return advance payments, such as moving expenses, which employers commonly pay for under the condition that the employee must repay the amount if they terminate employment within a certain time period.  The Act excludes such agreements from coverage.  However, the Act expressly defines “forfeiture for competition agreements” as an agreement that imposes adverse financial consequences on an employee if the employee engages in competitive activities.  “Forfeiture for competition agreements” are expressly included in the definition of “noncompetition agreements” that the Act now prohibits.

Conclusion

For a small and relatively sparsely populated state, Rhode Island’s Noncompetition Agreement Act has adopted many different aspects of the state laws governing noncompetition that have preceded it, particularly those enacted in 2019.  We expect states that are considering similar statutes to look to Rhode Island for guidance.

A recently passed Florida law, Florida Statutes 542.336 seeks to prevent medical providers from using restrictive covenants to monopolize medical specialties in rural counties.  The law bars the enforcement of “restrictive covenants” against physicians who practice “a medical specialty in a county wherein one entity employs or contracts with, either directly or through related or affiliated entities, all physicians who practice such specialty in that county.”  Once a second provider enters the market for a particular specialty in a county, restrictive covenants remain unenforceable in that county for a period of three years.

Although the purpose of the law is relatively straightforward, the statute leaves the meaning of the terms “restrictive covenant” and “medical specialty” ambiguous.  While non-competes will almost certainly fall within the definition of “restrictive covenant” it remains to be seen whether Florida courts will decline to enforce less extreme restrictions such as employee non-solicitation agreements.  Likewise, the failure to define the term “medical specialty” leaves ambiguity concerning whether restrictive covenants are enforceable against practitioners of sub-specialties.  For example, suppose a county had five cardiology practices but only one pediatric cardiology specialist.  Would the law bar enforcement of restrictive covenants against a pediatric cardiologist attempting to enter the market?

While the courts work to resolve these ambiguities, Florida medical providers should make sure to keep this law in mind when making business decisions related to rural medical practices.

A federal judge in Chicago recently held that an individual can be convicted of attempting to steal a trade secret, even if the information at issue did not actually constitute a trade secret, so long as the individual believed that the information was a trade secret.

In United States of America v. Robert O’Rourke Opinion, Judge Andrea R. Wood denied a post-conviction motion for a new trial in a case involving attempted and actual trade secret theft.  The decision involved a metallurgical engineer and salesperson, Robert O’Rourke, who resigned his employment to take a position as vice president of research and development for a China-based competitor.  Shortly before his last day, he entered his employer’s facility and downloaded over 1900 documents from its network onto a personal hard drive.  His employer discovered this and alerted law enforcement, and O’Rourke was stopped by Customs and Border Patrol officials while attempting to board a flight to China with the hard drive containing the downloaded documents.  At trial, he was convicted of actual and attempted trade secret theft.

In a post-conviction motion for a new trial, O’Rourke argued, among other things, that he could only be convicted of attempted trade secret theft if the information at issue actually constituted a trade secret.  Judge Wood rejected this claim, analogizing the situation to one involving attempted distribution of illegal drugs, explaining that “a would-be cocaine buyer cannot avoid criminal responsibility even if the only substances he managed to purchase were fakes planted by police officers.”  Judge Wood further explained that “one who intends to steal trade secrets with the goal of harming a company and enhancing a competitor does not receive a ‘get out of jail free card’ just because he incorrectly believed something to be a trade secret when it turns out that the information was not valuable or confidential enough to be a trade secret.”

In other words, when it comes to attempted criminal trade secret theft, intent is what matters.