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.

Jim Flynn, an attorney in Epstein Becker & Green’s Newark, New Jersey office, recently addressed in separate forums the delicate balance that trade secret owners and their counsel must strike when litigating over trade secrets and confidential information. First, Mr. Flynn moderated a panel discussion among trade secret litigators (including one from Beijing) at the American Intellectual Property Law Association (“AIPLA”) Spring Meeting in Seattle, Washington. His May 16th AIPLA session was entitled “A Litigator’s Guide to Protecting Trade Secrets During Litigation,” and program materials included his written paper on the Catch-22 aspects noted above. Additionally, Mr. Flynn published on May 23, 2018 an International Lawyers Network IP Insider article entitled The Catch-22 Of Litigating Your Trade Secrets Case Without Revealing The Secrets Themselves that addressed these topics in further detail.   As he pointed out in that article:

“You mean there’s a catch?”

“Sure there’s a catch,” Doc Daneeka replied. “Catch-22. Anyone who wants to get out of combat duty isn’t really crazy.”

There was only one catch and that was Catch-22, which specified that a concern for one’s own safety in the face of dangers that were real and immediate was the process of a rational mind. Orr was crazy and could be grounded. All he had to do was ask; and as soon as he did, he would no longer be crazy and would have to fly more missions. Orr would be crazy to fly more missions and sane if he didn’t, but if he was sane, he had to fly them. If he flew them, he was crazy and didn’t have to; but if he didn’t want to, he was sane and had to. Yossarian was moved very deeply by the absolute simplicity of this clause of Catch-22 and let out a respectful whistle.

[Heller, Catch-22, at 52 (1999, S &S Classics Edition))]

Trade secret litigators (and especially trade secret trial attorneys) and their clients let out a similar whistle often—Because “trade-secret litigation” is an oxymoron in many ways. The very desire to protect one’s trade secrets, i.e. to keep them secret, requires disclosing them to a certain extent in certain ways to certain people (in other words making them less secret). Thus, the whistle is usually more regretful than respectful, as those forced to litigate to defend their trade secrets face a classic Catch-22 scenario. Rather than whistling a happy tune to overcome the fear of losing one’s trade secret protection, these litigants and litigators are whistling past the graveyard, knowing that all manner of frights, scares, and dangers—real and imagined—lurk in the pleading, discovery, motion and trial phases of such litigation. The goal here is give such litigants and litigators a few hints for making that a safer trip.

Read the full article here.

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.

In managing workforces, particularly when addressing employee turnover, employers often find themselves facing issues regarding how best to safeguard their confidential business information and how to protect their relationships with clients and employees. In recent years, the legal landscape underlying these issues has been evolving, as lawmakers and judges grapple with the tension in these matters between protection and free competition.

In this Take 5, we examine recent developments, both in the courts and legislative bodies, concerning trade secrets and employee mobility:

  1. Antitrust Action Against No-Poaching Agreements: The Trump Administration Continues Obama Policy
  2. Drafting “Garden Leave” Clauses in Employment Agreements
  3. Will Insurance Cover a Company Sued in a Trade Secrets Lawsuit?
  4. Defend Trade Secrets Act Developments in 2017
  5. New and Proposed State Statutes and Federal Legislation Limiting Non-Compete Agreements

Read the full Take 5 online or download the PDF.

In 2017, there were several cases worth noting under the federal Defend Trade Secrets Act (“DTSA”). These cases addressed (i) time periods covered by the DTSA, (ii) pleading requirements under the DTSA, and (iii) standards for obtaining ex parte seizure orders under the DTSA. We will discuss these three issues in turn.

Timing

The DTSA became effective May 11, 2016, which raised the questions of if, when, and how it might apply to pre-May 11, 2016, conduct. Simply stated, defendants may have a “timing defense” when the alleged misappropriation occurred before the DTSA’s enactment (May 11, 2016). See Cave Consulting Grp., Inc. v. Truven Health Analytics Inc., 2017 U.S. Dist. LEXIS 62109 (N.D. Cal. Apr. 24, 2017). As the Cave Consulting court noted,

[W]ithout facts about when post-enactment use occurred and whether the information disclosed was new or somehow different from the prior misappropriation, plaintiff has failed to state a claim under the DTSA.[1]

The court, however, gave the plaintiff the opportunity to amend, while pointing out that “[t]he Act’s text contemplates three theories of liability: (1) acquisition, (2) disclosure, or (3) use . . .” and that “[n]othing suggests that the DTSA forecloses a use-based theory simply because the trade secret being used was misappropriated before DTSA’s enactment.”[2] Thus, there is no “timing” defense when the plaintiff can show that misappropriation has continued to (or likely will) occur on a date after the statute’s May 11, 2016, effective date. Brand Energy & Infrastructure Sev. v. Irex Contracting Grp., 2017 U.S. Dist. LEXIS 43497 (E.D. Pa. March 23, 2017) (a plaintiff is allowed to pursue a DTSA claim because the amended complaint alleged multiple uses of trade secrets that occurred after the DTSA was enacted). Courts’ focusing on the timing of alleged misappropriations continues into 2018. Indeed, in Ultradent Prods. v. Spectrum Sols., LLC, 2018 U.S. Dist. LEXIS 3858 (D.Utah Jan. 8, 2018), the court dismissed the complaint precisely because “[n]one of the allegations against Spectrum indicate[d] when the alleged misappropriation occurred,” leaving one to speculate as to whether the misappropriations were alleged to have occurred after the effective date of the statute.

Pleading

Under the now well-known Twombly/Iqbal standard, applicable on motions to dismiss under Federal Rules of Civil Procedure 12(b)(6), DTSA plaintiffs must adequately allege, among other requirements, that they took reasonable steps to maintain the secrecy of protected information. In Aggreko, LLC v. Barreto, 2017 U.S. Dist. LEXIS 35573 (D. N. Dak. Mar. 13, 2017), the plaintiff alleged that it required employees to sign a confidentiality agreement and that information was not disseminated outside the workplace. That was deemed sufficient to withstand a motion to dismiss under Rule 12(b)(6). But in Raben Tire Co. v. Dennis McFarland, 2017 U.S. Dist. LEXIS 26051 (W.D. Ky. Feb. 24, 2017), the plaintiff failed to allege that employees were required to sign confidentiality agreements or to allege any other indicia of reasonable steps to maintain secrecy. This led to a dismissal with prejudice.

Likewise, to avoid dismissal, a plaintiff must adequately allege improper acquisition and/or improper disclosure or use and must do so through more than conclusory allegations or labels. See Prominence Advisors, Inc. v. Dalton, 2017 U.S. Dist. LEXIS 207617 (N.D. Ill. Dec. 18, 2017) (dismissing the DTSA count).

Ex Parte Seizures

Finally, and perhaps most importantly, courts have limited the applicability of the DTSA seizure mechanism. That puts a damper on some of the initial enthusiasm that trade secret holders held for the possibility of expanded enforcement rights under the DTSA. For example, courts in California and Indiana each held that statutory seizure orders are only available in extreme circumstances and only when traditional injunctions or temporary restraining orders (“TROs”) sought under Rule 65 of the Federal Rules of Civil Procedure would be inadequate. See OOO Brunswick Rail Mgmt. V. Sultanov, 2017 U.S. Dist. LEXIS 2343 (N.D. Cal. Jan. 6, 2017) (“A court may issue a seizure order only if, among other requirements, an order under Fed. R. Civ. P. 65 or another form of equitable relief would be inadequate.”), and Magnesita Refractories Co. v. Mishra, 2017 U.S. Dist. LEXIS 10204 (N.D. Ind. Jan. 25, 2017) (traditional Rule 65 TROs are still the preferred means of ordering a seizure of property in DTSA cases; “[o]bviously, in this case, Rule 65 did the trick.”). Rather than making seizures easier and more likely, these cases suggest that the standards for a DTSA seizure order are more strenuous than those under Rule 65.

A version of this article originally appeared in the Take 5 newsletter Keeping Pace in the Fast-Moving World of Trade Secrets and Employee Mobility.”

Before the Defend Trade Secrets Act (“DTSA”) became federal law in the spring of 2016, Supreme Court watchers would likely care little about prospective justices’ approach to trade secrets matters.  Such matters were the province of state law, and the phrase “trade secret” might be avoided, even in passing, in the opinions of the Supreme Court for entire terms or more.  But with DTSA cases being reported with increasing regularity, differences in interpretation are beginning to emerge.  Supreme Court attention may follow.

Because DTSA says that “misappropriation of a trade secret” can involve unlawful acquisition of a trade secret, or improper disclosure of a trade secret, or unauthorized use of a trade secret, the impact of the statute’s May 11, 2016 “effective date” has been the subject of some debate.  For instance, should the act apply to a trade secret unlawfully acquired on May 10, 2016 but improperly used or disclosed on May 12, 2016 or thereafter?  Likewise, what if a trade secret unlawfully acquired and used before May 10, 2016 is used again after May 11, 2016?  These issues have come up in cases in March and January 2017 in the Northern District of California, in March 2017 in the Eastern District of Pennsylvania, and earlier in the Middle District of Florida.  The answers and analysis found in these opinions is not always entirely consistent, which suggests that this issue under DTSA  as well as others will continue to be litigated.

Should differences arise between circuits, the Supreme Court might be called upon to interpret the reach of DTSA. In that vein, one might wish to look at the Court’s newest member, Neil Gorsuch, and his opinions while a 10th Circuit judge in Storagecraft Technology Corp. v. Kirby, 744 F. 3d 1183 (10th Circuit 2014), and in Russo v. Ballard Medical Products, 550 F. 3d 1004 (10th Circuit 2008). Each reveal interesting elements of Judge — now Justice — Gorsuch’s approach to trade secrets matters.

Storagecraft proves interesting opinion on several levels.  That case involved the Utah trade secrets act in a case coming to the 10th Circuit after being brought in the federal district court as a matter of diversity jurisdiction.  In addressing one of the appealing defendant’s arguments, the Gorsuch opinion rejected the notion that one need show that a defendant facilitated another’s commercial gain to recover under the statute:

Continue Reading Court’s Newest Member Has Trade Secret Protecting Track Record

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.

James P. Flynn
James P. Flynn

In the recent case of United States v. Nosal, the United States Court of Appeals for the Ninth Circuit confirmed the applicability of both the Computer Fraud and Abuse Act and the Economic Espionage Act as safeguards against theft of trade secrets by departed former employees.  Importantly, Nosal applied such laws to convict a former employee in a case involving domestic businesses and personnel without any alleged overseas connections.  Because of civil enforcement provisions in the CFAA itself and the recently enacted Defend Trade Secrets Act, Nosal represents a possible guide to employers seeking to protect their trade secrets through civil or criminal mechanisms, or both.

In assessing the implication of Nosal, one may consider three framing questions:

  1. How does this case take the trend of criminalization and federalization of trade secret law a step further?

The Nosal case is a great example of three trends coming together to give corporate employer and trade secret owners access to new avenues for relief.

First, Nosal pushes forward the trend that began in 2013 when the Department of Justice announced that trade secret prosecutions would become an area of emphasis.  Since then, DOJ has been much more receptive to business crime claims.

Second, it is the next step in the law’s evolution—the majority decision construed both the Consumer Fraud & Abuse Act and Economic Espionage Act in a complementary manner consistent with their plain language and applied them to common sense circumstances that seemed like theft. The CFAA is written in language beyond that of  a technical anti-hacking statute, and it is important that a federal appeals court has recognized that scope.

Third, and most importantly, Nosal is a step in the right direction on protecting trade secrets whether or not there are later criminal prosecutions on similar theories.  That is because the CFAA and now, since April, the Defend Trade Secrets Act also allow for civil remedies. Nosal’s common sense result was that one is acting without authorization when one uses another’s password because the actor’s password  has been revoked—that holding is not only a tool for prosecutors, but is one that civil litigants could use as well.

2. Why have there been more criminal convictions in trade secrets cases in the past few years?

Changes in in policy, changes in politics, and changes in perceptions.

First, the Obama administration formally issued a written policy in February 2013 announcing ADMINISTRATION STRATEGY ON MITIGATING THE THEFT OF U.S. TRADE SECRETS.  So one is seeing more prosecutions, and convictions, in some sense because DOJ has pursued that policy.

Second, there is a growing sense that these crimes not only hurt individual companies economically, but hurt the United States and its citizens more generally. That is why so many of the higher profile trade secret prosecutions have involved defendants who were foreign nationals or were assisting foreign companies.  Public and political support for pursuing such cases cannot be underestimated.

Finally, in light of the announced policy and the evolving political reality, companies are simply more likely to report such crimes. In the past, victimized companies hesitated to draw attention to their own losses or injuries and thought doing so also required them to give up control of recovery efforts to prosecutors.  Those perceptions have changed, and Nosal and cases like it are examples of such changes.

3. What were the key takeaways from the dissent in Nosal that might gain traction as other circuits address these issues?

The dissent had three main criticisms of the majority opinion.

The first criticism was that, in the dissent’s view, the 9th Circuit improperly expanded the CFAA beyond its anti-hacking roots to apply it to what the dissent described as mere password sharing.

Second, the dissenting judge contended that the decision effectively turns employers’ computer use policies into non-public criminal codes of which defendants have inadequate notice.

Third, and what likely in some ways probably motivates the dissent’s first two points, the dissent observed that this decision potentially empowers corporate employers to have undue influence in criminal prosecutions.

These statutes and the criminal prosecution of trade secret theft continue to be areas of interest that trade secret owners and their counsel should follow, and should consider in enforcing their own rights in these matters.

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). 

James P. Flynn
James P. Flynn

The State of Utah recently enacted Utah Code Annotated 34-51-101 et seq., the so-called Post-Employment Restrictions Amendments, which limit restrictive covenants entered into on or after May 10, 2016 to a one-year time period from termination. Although this could curtail certain employers’ plans, the amendments enacted provide some important exceptions and are in fact much more favorable to employers than those first proposed, which would have precluded virtually all post-employment restrictions in Utah. The statute and the exceptions and limitations are discussed below.

The statute as written declares a non-conforming “post-employment restrictive covenant” is “void.” Because Utah courts have not specifically adopted the “blue-pencil approach,” and any approach to reformation is unclear from case law or unresolved, the implications of the statute are unclear. Will voiding the “post-employment restrictive covenant” void the entire agreement of which it is a part, or just the post employment restrictions? Such questions remain to be answered.

The new law does have several important exceptions. It does not apply to (1) a “reasonable severance agreement,” (2) any restrictive covenants stemming from the sale of a business, (3) non-solicitation agreements, (4) nondisclosure agreements, and (5) confidentiality agreements. Perhaps most importantly, it is not retroactive. Of course, whether or not the statute will apply to an amendment to a pre-existing non-compete with a restricted period greater than one year remains to be seen.

Additionally, the statute’s exceptions must themselves be examined and applied with care. For example with respect to severance agreements, the statute will only allow enforceable post-employment restrictions “mutually and freely agreed upon in good faith at or after the time of termination.” Thus, employees may argue that the very use of a form restriction weighs against enforceability. Utah employers will need to carefully consider how to approach these issues, and to make any updates or changes to existing agreements before May 10, 2016.

Finally, and perhaps of most practical importance, Section 34-51-301 of the statute allows employees to recover attorneys’ fees where a post-employment restriction is found unenforceable:

If an employer seeks to enforce a post-employment restrictive covenant through arbitration or by filing a civil action and it is determined that the post-employment restrictive covenant is unenforceable, the employer is liable for the employee’s:
(1) costs associated with arbitration;
(2) attorney fees and court costs; and
(3) actual damages.

This provision could have a practical impact on the risk calculus associated with pursuing enforcement of restrictive covenants. Just another consideration among the many that are occasioned by this new statute.