Recent Scrutiny of Non-Competes

Larry Del Rossi published an article for Today’s General Counsel titled, “Recent Scrutiny of Non-Competes.” Larry provides an overview of non-compete agreements (also known as restrictive covenants) and discusses a recent uptick in government activity that may regulate or challenge private businesses’ use and enforcement of non-competes.

Larry says “one major challenge for national companies is that enforcement of non-competes varies from state to state, so that there is no uniform standard.” In May 2016 the White House issued “Non-Compete Agreements: Analysis of the Usage, Potential Issues, and State Responses,” a document intended to identify areas where implementation and enforcement of non-competes may present issues, put forward a set of best practices, and serve as a call to action for state reform.

Larry advises companies to consider whether all employees within the company should have non-competes, evaluate the scope and structure of their agreements, and document the business rationale for requiring employees (including at-will employees) to sign any non-compete.

Read “The Recent Scrutiny of Non-Competes.”

Read Larry’s previous post, “What Employers Need to Know about the Government’s Recent Scrutiny of Non-Competes.”

What Employers Need to Know about the Government’s Recent Scrutiny of Non-Competes

By Lawrence J. Del Rossi

For more than 400 years, private businesses have used non-compete agreements in one form or another to protect their legitimate business interests, such as long-standing customer relationships, investment in specialized training, or development of trade secrets. They are commonplace in many employment contracts in a variety of industries ranging from retail, insurance, healthcare, financial services, technology, engineering, and life sciences.  Some state legislatures and courts have curtailed their use in certain industries or professions.  California, for example, prohibits them unless limited exceptions apply.  Cal. Bus. Code §16600.  Most states prohibit them for legal professionals.  Many courts can modify or “blue pencil” them if the restrictions are found to be broader than necessary to protect an employer’s legitimate business interests.

Historically, federal and state agencies have generally stayed out of the mix in terms of regulating or challenging private businesses’ use and enforcement of non-competes.  However, a recent uptick in government enforcement activity suggests a new wave of challenges is on the horizon for employers.

The U.S. Government Takes Aim at Non-Competes

In March 2016, the Office of Economic Policy of the U.S. Department of the Treasury issued a report titled, “Non-Compete Contracts: Economic Effects and Policy Implications.”  According to the report, an estimated 18% of all workers, or nearly 30 million people, have non-compete agreements.  The report discusses the effects of non-competes on worker mobility and economic growth, and recommends greater transparency and communication with employees.

Two months later in May 2016, the White House released a report titled, “Non-Compete Agreements: Analysis of the Usage, Potential Issues, and State Responses.”  The report’s preamble explains that, “the President has directed executive departments and agencies to propose new ways of promoting competition and providing consumers and workers with information they need to make informed choices, in an effort to improve competitive markets and empower consumers’ and workers’ voices across the country.”  It outlines States’ efforts to curtail the use of non-competes, and announces that “[i]n the coming months, as part of the [Obama] Administration’s efforts to support competition in consumer product and labor markets, the White House, Treasury, and the Department of Labor will convene a group of experts in labor law, economics, government and business to facilitate discussion on non-compete agreements and their consequence.”  The goal of this initiative is to identify “key areas where implementation and enforcement of non-competes may present issues,” examine “promising practices in states,” and put “forward a set of best practices and call to action for state reform.”

State Agencies File Lawsuits to Limit Use of Non-Competes

Apparently hearing the White House’s “call to action for state reform,” some states appear to have stepped up their enforcement efforts.  For example, on August 4, 2016, the New York Attorney General’s Office issued a press release announcing that a nationwide medical information services provider agreed to stop using non-competes for most of its employees in New York.  The non-competes had prohibited all employees, including “rank-and-file workers,” from working for competitors after their employment ended, regardless of whether they had access to trade secrets or other sensitive information.

In June 2016, the Illinois Attorney General’s Office filed a lawsuit against Jimmy John’s franchises “for imposing highly restrictive non-compete agreements on its employees, including low-wage sandwich shop employees and delivery drivers whose primary job tasks are to take food orders and make and deliver sandwiches.”  [Press Release] The Complaint alleges that Jimmy John’s has engaged in unfair conduct in violation of the Illinois Consumer Fraud and Deceptive Business Practices Act, seeks a declaration invalidating the non-competes and $50,000 per violation.  Jimmy John’s previously had reached a deal with the New York Attorney General’s Office, agreeing to not use non-compete agreements for most of its workers in New York.

The NLRB Strikes Down Private Employer’s Non-Competes

In addition to the uptick in state enforcement activities, the NLRB has weighed in.  On July 29, 2016, a three-member panel of the National Labor Relations Board found that steel product company, Minteq International, Inc., violated federal labor law by requiring new employees to sign non-compete and confidentiality agreements as a condition of their employment without giving Local 150 of the International Union of Operating Engineers the opportunity to bargain on this issue. Minteq Int’l, Inc. & Specialty Minerals Inc. v. Int’l Union of Operating Engineers, 13-CA-139974, 364 NLRB No. 63 (7/29/2016).  Local 150 filed an unfair labor charge after Minteq sent letters to a former employee reminding him of his 18-month post-termination non-compete obligations.  The Board found the non-compete was a mandatory term of employment, and as such, the Union should have been notified and given the opportunity to bargain prior to its implementation.  It concluded that Minteq’s unilateral imposition of the non-compete as a condition of employment violated Section 8(a) of the National Labor Relations Act.

Key Takeaways

Most often a “one size fits all” approach to non-competes is not necessary to protect an employers’ legitimate business interests.  In light of the government’s recent focus on and scrutiny of non-competes, employers should evaluate the scope and structure of their non-competes.  Agencies appear focused on companies that require all employees, regardless of whether they have access to trade secrets or other sensitive information, to sign post-termination non-competes.  Consider whether such across-the-board agreements are necessary to protect their legitimate business interests.  Selective use of non-competes may go a long way to staving off challenges to an employer’s use of non-competes.

How Safe Are Your Company’s Trade Secrets?

In a world where employee mobility is a business reality, companies should be taking proactive measures to guard trade secrets, retain competitive advantage and be ready for court if it comes to that. Click below to launch a video and hear from Labor & Employment partners Mark Terman and David Woolf on what they, and our other Labor & Employment group lawyers, are doing every day to protect companies.

 

Trade Secrets & Restrictive Covenants

UWOA Exception Does Not Apply to Noncompete Agreements in Pennsylvania

By: DeMaris E. Trapp

The Pennsylvania Superior Court recently reaffirmed Pennsylvania’s longstanding position that employers must provide valuable consideration to employees who enter into noncompete agreements. In a case of first impression, the court held that a statement in a noncompete agreement with an existing employee that the parties “intend to be legally bound,” as set forth in the Uniform Written Obligations Act (“UWOA”), does not constitute adequate consideration.

In Socko v. Mid-Atlantic Systems of CPA, Inc., the employer argued that its noncompete agreement with a former employee was enforceable because the agreement expressly stated that the parties “intend to be legally bound.” The former employee entered into the agreement after he began working for Mid-Atlantic Systems of CPA, and he did not receive any benefit or change in job status in exchange for signing the noncompete. The employer argued that the language itself sufficed to enforce the agreement because Section 6 of Pennsylvania’s UWOA prevents the avoidance of a written agreement for lack of consideration if the agreement contains an express statement that the signer intends to be legally bound.

The court rejected the employer’s argument, pointing to Pennsylvania’s established view of restrictive covenants as a disfavored restraint of trade and significant hardship on bound employees. Accordingly, Pennsylvania courts have long held that noncompete agreements must be supported by valuable consideration, even though other types of contracts may be upheld by continuation of at-will employment, contracts under seal, or nominal consideration.

Employers seeking to enforce noncompete agreements in Pennsylvania are now on notice that language stating that “the parties intend to be legally bound” will not relieve them of the requirement to provide actual and valuable consideration to employees in exchange for execution of the agreement. If an employee signs the agreement at the start of employment, then the consideration is the job itself. When the employment relationship already exists, however, employers must provide consideration in the form of benefits—such as raises or bonuses—or a change in job status, i.e., a promotion.

What Happens at Work Stays at Work – The California Employer’s Approach To A National Program for Restrictive Covenants and Trade Secret Protection

Kate Gold, Mark Terman and Adam Thurston, partners in the firm’s Los Angeles office, recently presented to the Southern California Chapter of the Association of Corporate Counsel a program titled “What Happens at Work Stays at Work – The California Employer’s Approach To A National Program for Restrictive Covenants and Trade Secret Protection”.

The presentation, which was broadcast to in-house counsel viewing in three separate locations spread out around southern California, first looked at the California landscape, giving a refresher and update on non-competition agreements, customer and employee non-solicitation, identifying and pleading trade secrets and misappropriation.

The presentation then looked at considerations for a multi-jurisdictional approach to trade secret protection, including best practices for effective corporate policies and confidentiality and property protection agreements.

The presentation concluded by addressing social media in a trade secret protection program, including Twitter, LinkedIn, and BYOD, and making the most of choice of law and forum selection clauses in restrictive covenants.

A copy of the presentation can be downloaded here.

Ten Considerations in Drafting Executive Employment Agreements

By: David J. Woolf

Perhaps your company has just acquired a new business and wants to put that entity’s employees under a more structured employment arrangement.  Or maybe you are just looking to roll out new executive-level agreements within your own company.  Whatever the motivation and circumstances, here are ten things to think about in drafting employment agreements that often go overlooked: 

  1. Severance – The most common question is the easiest: Are you going to provide severance and, if so, how much?  Other details merit consideration though.  For example, is death or disability a severance trigger?  As part of the package, do you want to provide things like medical benefit continuation, prorated bonus, equity vesting acceleration, extension of the option exercise period, or other benefits?  Whatever you do, the employer will want to make sure that the executive has to execute a release to receive the severance benefits, other than vested benefits and accrued compensation.
  2. Fixed Term (or Not) – Traditionally, a term contract was like a baseball contract – the executive had a term and, except where the employer had good cause for an early termination, it had to pay the executive out through the end of the term no matter what.  That concept seems to have largely disappeared, in that (a) employers don’t want to be saddled with paying out the full term if they elect to make a change earlier and (b) executives want severance even when the agreement expires naturally and is not renewed by the company.  As a result, except where the employer can secure a true no obligation walk away at the end of the term, or at least establish some difference between an in-term and end-term separation, an employer would be wise to go with an at-will arrangement with no set term.
  3. Restrictive Covenants (or Not) – Restrictive covenants, including covenants not to compete, require clearer, more definitive consideration than most contract terms.  And aside from new employment, there is no better consideration than new or enhanced compensation and benefits memorialized in a formal employment agreement.  So, if you think non-competition, customer non-solicitation, or other restrictive covenants are worthwhile (and you usually should at the executive level), the employment agreement (or a separate, contemporaneously-executed and cross-referenced restrictive covenant agreement) is the place to do it.
  4. Cause – “Cause” means different things to different people.  From an executive’s point of view, Cause is often engaging in particularly serious conduct that is not rectified after notice and an opportunity to cure.  Employers, however, should seek to include things like the executive’s failure to perform his or her duties; violation of material company policies (such as anti-discrimination and harassment policies); commission of a felony or other serious crime; breach of his or her restrictive covenants, fiduciary duty, or other misconduct; and material misrepresentation of experience or education, among other things.
  5. Good Reason Provision (or Not) – A “Good Reason” separation provision allows an executive to resign for certain preapproved reasons – typically the employer’s material breach of the employment agreement, a required relocation, or a material diminution of the executive’s duties, often after the employer has failed to cure – and collect severance as if he or she was fired without Cause.  Most savvy executives have come to expect such a provision, and providing it to the executive can be a relatively easy give if the Good Reason provision is drafted correctly.
  6. Award Equity (or Not) – Many executives, particularly when accepting a role in a new or newly-acquired company, understand that the cash compensation may be limited initially.  What they really want is equity or options so that, if they succeed in developing the company, they can share in that success.  Employers and equity firms often find this arrangement beneficial too in that it limits cash outlays and aligns incentives.   
  7. State Law and Venue Selection – Almost all employment agreements include a choice of law provision, and many, if not most, employers instinctively select the state in which the company operates and the executive will work.  But that may not be the best law for the employer and other options may be available.  For example, most courts will apply another state’s law if there is a nexus to that state, such as it being the employer’s state of incorporation.  Venue is equally important, as requiring an employee to litigate in a certain forum can give the employer litigation location certainly and potentially avoid the executive running to another state where the law (for example, concerning non-competes) is more favorable.
  8.  Assignment – Often forgotten, the assignment provision is critical in that, without it, many states’ laws will not permit assignment, even upon a sale of the employer’s assets.  To avoid this, the employment agreement should state that, although the executive may not assign the agreement, the employer may do so, at least to an affiliate or as part of a transaction.
  9. 409A – When possible, severance, other payments and the agreement generally should be structured so as not to trigger coverage under Section 409A of the Internal Revenue Code.  If the agreement is subject to Section 409A, it should be written to comply with it.  Failure to do so can expose the executive, among other things, to a 20 percent additional tax and the employer to an angry executive.
  10. Miscellaneous – There are of course numerous other things of value that an employer can do.  For example:

●  The salary section can allow for the reduction of the executive’s salary when executive salaries are being cut across the board. 

●  The employer may want to make any bonuses contingent on the executive working through the end of the year.

●  In most states, an employer can provide that accrued, unused vacation and PTO will not be paid out upon termination of employment.

●  Arbitration, subject to a carve out for injunction actions, has its positives and negatives and should be considered.

●  Address what is to happen upon a sale of the employer or other change of control.

●  New executives should represent and warrant that they are not bound by any restrictive covenants that would limit their ability to work for the employer and that they will not use any confidential information from their former employer.

●  Although largely standard now, employers should take care to ensure that the agreement provides that it can be revised only by written document. 

●  Make sure the agreement works with other documents and that the integration clause doesn’t unintentionally overwrite other agreements.

There are always more issues of course, particularly those specific to the particular company and the executive.  But the ten-plus areas above arise frequently and thus typically merit consideration.