Recent Cases Recognize Limits to Employees’ Attempts at Self-Help to Support Retaliation Claims

Two recent cases from opposite coasts confirm that employees do not have an unfettered right to steal their employer’s documents notwithstanding the documents’ potential relevance to a whistleblower retaliation claim.

In West Hills Research and Development Inc. v. Wyles, Cal. Ct. App. 2d Dist. Case No. B255768 (July 17, 2015), when West Hills terminated Wyles, its former in-house counsel, he purloined financial and other company documents. Wyles contended that company officers had engaged in embezzlement, and that he took the documents to support a shareholder derivative suit challenging the wrongdoing. West Hills sued, contending Wyles took the documents to form a competing business and thereby misappropriated its trade secrets. Wyles moved to strike the lawsuit under California’s Anti-SLAPP (Strategic Lawsuit Against Public Policy) statute, contending his actions were protected because he took the documents for his intended lawsuit. The court of appeal held his actions were not protected by the Anti-SLAPP statute. The court noted Wyles took confidential information having nothing to do with his planned shareholder lawsuit, and that the gravamen of the company’s lawsuit was to challenge his taking and use of confidential information to form a competing business.

Perhaps a more dramatic case with a similar anti-theft holding is State v. Saavedra, 2015 N.J. Lexis 641 (2015). Saavedra sued the North Bergen Board of Education for discriminatory and retaliatory termination. During discovery, Saavedra produced hundreds of original and copied documents that she had taken from North Bergen during her employment. The documents included highly confidential student educational and medical records. When North Bergen reported the theft, Saavedra was indicted for official misconduct and theft. Saavedra moved to quash the indictment on the ground her actions were protected because she wanted the documents to support her lawsuit. The New Jersey Supreme Court held her activity was not protected and therefore the indictment was proper. The court reasoned that Saavedra had the right to obtain documents during discovery, and could obtain sanctions to the extent North Bergen failed to produce documents or destroyed them, but she did not have the right to simply take the documents in violation of the law. West Hills and Saavedra affirm the common sense principle that employers need not sit on their hands when employees steal their property, notwithstanding the employees’ claimed status as whistleblowers. At the same time, employers need to tread carefully in this circumstance, given the risk that an action taken against an employee who steals documents could itself give rise to a retaliation claim.

Continued Employment Ruled Adequate Consideration for Non-Compete in Hawaii

After surveying the law across the country, a federal judge has determined that Hawaii would likely follow the majority of states in holding that continued employment is adequate consideration for a non-compete under Hawaii law.  A full analysis of the decision is posted on the Jackson Lewis website: Continued Employment Adequate Consideration for Non-Compete Imposed Mid-Employment, Hawaii Judge Rules

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Eighth Circuit Finds Non-Compete May be Assignable Under Arkansas Law; Reverses Dismissal of Breach of Fiduciary Duty and Conspiracy Claims Where Manager took Subordinates with him.

The Eight Circuit has concluded that the Arkansas Supreme Court would likely adopt the majority rule that a covenant not to compete can be assigned to the purchaser of a business. Stuart C. Irby Company, Inc. v. Tipton, No. 14-1970 and 14-2682 (8th Cir. Aug. 6, 2015) The appellate court reversed an across-the board win for defendants in this Arkansas non-compete dispute, disagreeing with the district court on almost every point.

The case concerned Tipton, a former branch manager for Treadway Electric Company, Inc., and Gilbert and Padgett, two employees who had reported to Tipton. All three signed one year non-competes with Treadway. Treadway then sold its assets to the Stuart C. Irby Company. Tipton, Gilbert and Padgett became employees for Irby and worked for another year or so. Tipton then resigned to work for a competitor, Wholesale Electric. Gilbert and Pagett quit the next day and also joined Wholesale Electric. Irby filed suit, alleging breach of fiduciary duty against Tipton for soliciting its employees to leave while still employed by Irby; civil conspiracy; breach of contract; and tortious interference. The district court granted summary judgment on all claims and awarded defendants in excess of $200,000 in attorneys’ fees.

The Court of Appeals held that Arkansas law would allow an assignment of a non-compete, and that the non-competes could have been assigned by Treadway to Irby, but remanded the matter for further review of the facts. The appellate court also rejected the conclusion of the trial court that the one year restricted period would have been triggered when the three individual defendants stopped being employees of Treadway and began working for Irby. The Court of Appeals found this conclusion “peculiar.” (The 8th Circuit’s rejection of this analysis is itself somewhat unusual as courts in other states have reached a similar conclusion under similar facts, where there is a sale of assets, not stock.)

The Eighth Circuit also concluded that there were issues of disputed fact as to whether Tipton breached his fiduciary duty under Arkansas law by soliciting employees before he quit. Because it reversed dismissal of fiduciary duty claim, it also reversed dismissal of a civil conspiracy claim. Because it reversed dismissal of the breach of contract claim, it also reversed dismissal of a tortious interference with contract claim against Wholesale Electric. Finally, because defendants were no longer the prevailing party, it reversed the award of attorneys’ fees.

The text of the non-compete agreements was not made part of the decision, so it is not clear if the contracts addressed the topic of assignability. In some states, non-competes are not assignable without the consent of the employee. In Treadway, the court seemed to focus only on whether the seller, Treadway, had actually assigned the contracts to the buyer, Irby. It was also not clear if the award of attorneys’ fees was based on the contract.

The decision offers several takeaways. First, assignability of restrictive covenants is often a source of confusion, and best addressed explicitly at the drafting stage, even if no merger or acquisition is on the horizon. Second, litigators in this area should not overlook potential common law claims for breach of duty of loyalty or fiduciary duty. Usually such claims involve pre-resignation solicitation of customers, but at least under Arkansas law, solicitation of subordinate employees may also trigger liability. Third, how a particular judge or appellate panel will rule on unfair competition claims is very unpredictable. In this case, defendants went from a run-the-table victory, and $200,000 in fees, to a seat either at the negotiating table or in the courtroom.

Some Clarity to What is Sufficient Consideration for Non-Competes in Illinois

Since the much-discussed Fifield case from the Illinois appellate court two years ago, all that could be said with confidence was that, unless someone was employed for at least two years after signing a restrictive covenant agreement, its enforceability was highly questionable. Practitioners in Illinois have been recommending that employers provide consideration in addition to employment, such as a “sign on” bonus tied to the restrictions or any other consideration that would not be given but for the individual’s agreement to the restrictions. In the next breath, practitioners have been telling their clients that even the additional consideration might not be enough to bind employees employed for less than two years. Uncertainty is everyone’s enemy in this area, and there has been great uncertainty for the past two years. But that uncertainty recently has been reduced by the same appellate court’s ruling in McInnis v. OAG Motorcycle Ventures, Inc. decided June 25, 2015 by the Illinois Appellate Court for the First District, albeit by a 3-judge panel different from the panel that decided Fifield.

In simplified form, the salient facts are as follows: Following his resignation from OAG, McInnis filed an action for a declaration that his agreement not to compete with OAG and not to solicit its customers was unenforceable under Fifield because he had remained employed “only” 18 months after his execution of the noncompete agreement. OAG counterclaimed to enforce the restrictions against McInnis, who had begun work at a competitor.

The trial court held that there was inadequate consideration for the noncompete agreement because (1) McInnis had not been given any additional consideration for the agreement (i.e., something beyond his hire and subsequent employment for only 18 months) and, therefore, (2) Fifield’s two-years-of-continued-employment rule controlled.

On appeal, the appellate court discussed Fifield and related cases at some length, concluding that Fifield does not mean that two years’ subsequent employment was the only consideration that would bind an employee to a restrictive covenant agreement. The court made clear its view, which it claimed also is the view of other Illinois appellate courts, that the Fifield rule comes in to play when there otherwise is no additional consideration given to the individual for agreeing to the post-employment restrictions. And in McInnis, the appellate court held that the trial court properly concluded that no additional consideration existed. Thus, it affirmed the denial of enforcement of the agreement.

The dissent attacked the majority’s acceptance of Fifield in the first place. The dissent would reject Fifield’s holding as it applies to new hires, and instead believes a totality of the circumstances test should be applied to the question of the adequacy of consideration. Alas, unless and until the Illinois Supreme Court addresses this issue, however, Fifield remains a significant obstacle to enforcement of noncompete agreements, at least where the employer has not provided distinct additional consideration beyond mere employment.

McInnis provides authority to argue that providing consideration separate and distinct from employment (and the salary and benefits that everyone in that position receives) — that is, consideration that the employee would not have been given had he refused to sign the non-compete agreement— makes Fifield inapplicable to any enforcement action.

Reminder From the 7th Circuit: Don’t Put the Cart Before the Horse (Establish your Legitimate Interest in Need of Protection Before you Complain About the Breach of a Non-Compete)

Seventh cirIn the rush to the courthouse after an executive leaves, takes people with her, and opens a competing business, the spurned employer often relies on the promise that executive made—the noncompete agreement—and the undisputed breach of that promise and believes the court will provide a remedy. “Not so fast,” is the takeaway from the 7th Circuit Court of Appeals decision in Instant Technology LLC v. DeFazio, et al., in which it applied Illinois law.

Instant Technology recruits and then seeks to place I.T. workers at companies in need for such workers. DeFazio was a V.P. of Sales and Operations at Instant Technology. She was terminated, opened a competing business, and solicited away several of her former colleagues from Instant Technology. They began seeking to place candidates at companies with which they had done business at Instant Technology; and some of the candidates they were trying to place were candidates who were in Instant Technology’s database. All of the defendants had signed restrictive covenant agreements at Instant Technology in which they had promised not to recruit Instant Technology employees to leave Instant Technology, not to solicit business from Instant Technology’s clients, and not to disclose Instant Technology’s confidential information. Instant Technology sued the defendants for breach of each of these contractual promises.

DeFazio admitted she poached the other defendants away from Instant Technology; and all defendants admitted to pitching candidates to clients who also did business with Instant Technology—but they denied that the restrictions were enforceable. They also denied using Instant Technology’s information, claiming that they obtained the names of the candidates from public sources, such as LinkedIn.

Following a bench trial, the trial court concluded that the defendants were not liable, because (1) there was no evidence that the defendants took information from Instant Technology or that they did not obtain it themselves from public sources or from cold calls, and (2) the no-solicitation of employees and client restrictions were unenforceable. The 7th Circuit affirmed. The ruling as to the unenforceability of the no-solicitation restrictions is what makes this case instructive.

The trial and appellate courts agreed that Instant Technology had not established a legitimate interest that was supported by the no-solicitation restrictions. The courts reminded Instant Technology that, before discussing the reasonableness of the restrictions themselves, it must first establish that the restrictions supported a legitimate business interest—without which the restrictions are naked (and unenforceable) restraints of trade.

Instant Technology argued that, in fact, it had proposed three legitimate business interests which the no-solicitation restrictions were designed to protect: confidential information; client relationships; and workforce stability. But it was not enough to simply identify the legitimate interests; Instant Technology was required to prove they existed. The courts ruled it had not done so.

First, the court reiterated that there was no confidential information at issue, as the defendants appeared to have obtained the information on candidates from public sources and cold calls. So this purported interest did not exist.

Second, the asserted interest in protecting client relationships was not valid because Instant Technology’s client were not loyal to it. The evidence demonstrated that the larger clients requested candidates from 5 to 10 staffing agencies at once. Moreover, Instant Technology placed only about 10% of the candidates it pitched to the clients. Thus, there were no protectable client relationships to support the no-solicitation-of-clients restriction.

Third, the asserted interest in workforce stability also was belied by the evidence. Of the employee complement that existed two years prior to trial, 77% had left Instant Technology by the time of trial. Thus, there was not a stable workforce that could be protected by the no-solicitation-of-employees restriction.

The takeaway here is that it is not enough merely to proclaim the existence of legitimate business interests that underpin restrictive covenants. You must be able to prove them. And before filing that complaint based on undisputed breaches of a noncompete agreement, it is prudent to take a moment and evaluate the evidence that will be used to support the claimed legitimate business interests that the restrictions are designed to protect.

Hawaii Bans Non-Compete and Non-Solicit Clauses in High-Tech Employment

hawaiiJackson Lewis Hawaii attorneys Andrew L. Pepper and Wayne S. Yoshigai have a post on the Jackson Lewis website about a new development in Hawaii non-compete law.  They write as follows:

Departing from the state’s normally pro-employer laws and judicial attitudes regarding non-compete covenants, a new law bars high-tech companies in Hawaii from requiring their employees to enter into “non-compete” and “non-solicit” agreements as a condition of employment. The new law, Act 158, went into effect on July 1, 2015.

Act 158 not only allows high-tech workers in Hawaii to switch allegiance and jump to employment with competitors of their current employer, but also to openly solicit their co-workers to do the same. Limitations on solicitation of clients are not addressed in the new law and, thus, employers may continue to include such in a client non-solicitation clause.

The new law applies to Hawaii employers in the technology businesses “that derive[] a majority of [their] gross sales from the sale or license of products or services resulting from its software development or information technology development, or both.” Such employers cannot require employees to execute employment agreements that:

prohibit an employee from working in a specific geographic area for a specific period of time after leaving employment; or

prohibit an employee from soliciting co-workers after leaving employment.

Act 158 does not change existing state and federal laws that allow companies to prohibit their workers from departing from a job with trade secrets that they use to compete against their former employers. Such “trade secret” prohibitions can extend for a reasonable period of time to protect the employer without imposing undue hardship on the employee.

A “grandfathering” clause protects existing employment agreements of technology companies with “non-compete” and “non-solicit” clauses. However, if the agreements are amended, revised, or extended, it is unclear whether such clauses will be void.

Hawaii courts traditionally have been zealous enforcers of non-compete agreements and the state Supreme Court has held that a three-year ban is not unreasonably long. Therefore, Act 158 is a significant departure for the state.

Alabama Amends Non-Compete Statute

alabama blueThe Alabama legislature recently passed changes to Section 8-1-1 of the Code of Alabama, the provision which contains the state’s non-compete statute. Governor Bentley signed the new version of the statute and it will become effective January 1, 2016. While the new version does not drastically change the landscape of non-competes, there are several changes which employers should be aware of.

Like the prior version, the revised statute retains language that places a general ban on all agreements that restrict one from engaging in “a lawful profession, trade, or business of any kind.” Nevertheless, the revised version provides six exceptions to the general ban, as follows: (1) agreements between an employee and employer prohibiting post-employment solicitation of the employer’s personnel; (2) agreements which prohibit a former employee’s solicitation of an employer’s current customers; (3) promises of an employee not to engage in a similar business within a geographic area; (4) agreements which limit competition in regards to the sale of a business; (5) agreements between persons or businesses which limit the commercial dealings between the parties; and (6) agreements which limit competition among business partners upon and in anticipation of the dissolution of a business. This guidance is intended to provide clarity on coverage of the non-compete statute.

A significant revision is the establishment or acceptance of “reasonable” time periods for certain types of agreements. Specifically, the new statute provides time periods that state a presumption of reasonableness. For instance, an agreement where an employee promises not to engage in a similar business of an employer within a geographic area is presumptively reasonable if the limitation is less than two (2) years. Also, non-solicitation agreements are presumed reasonable provided the duration is no longer than the greater of eighteen (18) months or the time period during which post-separation consideration is paid. The revised statue continues to allow for “blue penciling,” a judicial tool which allows the court to enforce reasonable portions of a non-compete agreement that is otherwise unreasonable.

Another new feature of the provision is an explanation of “protectable interest,” to include, but is not limited to, trade secrets; confidential information such as business strategies and techniques; employer’s commercial relationships with specific existing and prospective clients; and specialized training provided to an employee by an employer which involves substantial business expenditure. However, the statute specifically provides that “[j]ob skills, in and of themselves, without more, are not protectable interests.” Thus, in the context of skills, a “protectable interest” is only available when the employee receives specialized knowledge as a result of an employer’s use of substantial resources in training the employee.

Finally, a modification of significance in the revised version changes the burden of proof as to undue hardship. Previously, the plaintiff had the burden of proving the lack of undue hardship. Under the revised version, the party that opposes enforcement of the agreement is required to establish that such enforcement would cause them undue hardship.

Even though Alabama’s revised non-compete statute does not contain many substantive changes, the new provision provides clarity to this area of law. Moving forward, companies and attorneys can use the statute to protect the interests of employers. Outstanding issues will likely continue to be determined by the courts.

Thanks to Jay Malone, Law Clerk, for assistance with this post.

Minnesota Court Applies Texas Law, Proceeds to Blue Pencil Restriction

map 2 regionsThe District of Minnesota issued an interesting decision on June 9, 2015 in the case of BMC Software, Inc. v. Mahoney, No. 15-CV-2583 (PAM/TNL).  Mahoney was a Sales Manager for BMC and responsible for the Midwest Region. Around the time he was promoted into that role, he signed a non-compete agreement governed by Texas law, with a one-year restriction covering the United States.  He subsequently left BMC to join a direct competitor to lead its global information technology operations management business.  The new role would be national (or even global) with a sales component.  BMC sought a Temporary Restraining Order which, after extensive briefing, the Court treated as a motion for a Preliminary Injunction.

The Minnesota Court applied Texas law to its analysis of the contract, noting that, “Minnesota Courts traditionally honor choice-of-law provisions.” Under Texas law, it held, the contract was likely to be enforceable. Because Mahoney signed the agreement after he received his offer, applying Minnesota law might have resulted in a different outcome.

Because Mahoney’s previous duties only involved customers in the Midwest, however, the Court declined to impose a national injunction, noting that, under Texas law, “a reasonable area for purposes of a covenant not to compete is considered to be the territory in which the employee worked[.]”  At BMC, the court explained, “Mahoney was in charge of accounts in four to six Midwestern states.” At his new employer, he was “poised to lead the company’s business efforts globally.” The Court therefore got out its blue pencil and held that it would “modify the non-compete covenant to reach only his former accounts.” The final order stated that, “Mahoney is enjoined from working at [the new company] in any sales or marketing capacity related to BMC’s Midwestern customer accounts for which he was responsible until May 15, 2016.”

The situation of a company seeking to hire a sales employee from a competitor to move him or her from a regional job to a national position comes up surprisingly often. In this case, and other similar situations, the question that results from the Court’s order is whether the defendant will be able to assume the national position while carving out or removing himself from any sales activities in the Midwest, or for sales to customers based in Midwest. Constructing such an arrangement certainly would certainly appear to be challenging.

Wisconsin Non-Compete Waters Just Got Muddier

Wisconsin WatersOn April 30, 2015, the Wisconsin Supreme Court issued its long-awaited decision in Runzheimer Int’l, Ltd. v. Friedlen, settling a dispute in Wisconsin over whether continued employment alone was sufficient to bind an employee to a non-compete agreement. The case involved an important, if nuanced, distinction between (a) whether there is a legal “agreement” in the first place and (b) whether that legal agreement is enforceable. If there is no legal agreement, then there is nothing to enforce. If there is a legal agreement, the question becomes whether the restrictions themselves are enforceable (based on their reasonableness, etc.). The former question was addressed in Runzheimer.

Wisconsin always has found the initial agreement to hire an employee as sufficient consideration to create legal agreements; but Runzheimer answered the question of whether an existing employee could be required to sign a non-compete agreement without being given any additional consideration. (Runzheimer did not involve whether the agreement’s restrictions were themselves enforceable.)

The Court held that no additional consideration is required. The fact that an employer foregoes its right to terminate an at-will employee immediately is, in and of itself, the only consideration necessary to create a contract containing post-employment restrictions. The Court was unconcerned by the possibility that unscrupulous employers might force an employee to sign a non-compete and then fire the employee the next day and seek to enforce the non-compete. In the view of the Court, in such a circumstance the employee would have other means of contesting enforcement, such as claiming that he was fraudulently induced to sign the agreement, or that the employer acted in bad faith. If the decision had ended here, its effect would have been fairly clear. But it did not end here.

One member of the Court, in a concurring opinion, stated that the Court’s decision could be understood only if the employer’s promise not to immediately fire the employee constituted an implied promise not to fire the employee without cause for some (undetermined) period of time. This concurrence surely will create additional litigation down the road.

Wisconsin non-compete law has always been an outlier of sorts, and after Runzheimer it will continue to be so. In the first instance, employers now need to make sure they instruct incumbent employees whom they want to sign a non-compete that they will be fired immediately unless they agree to the newly imposed non-compete (and, presumably, must then actually fire them if they refuse to agree).  And the concurring opinion might create litigation over “wrongful discharge” of any employee who (1) was required to sign a non-compete after employment had commenced and then (2) was fired “without cause” relatively soon thereafter (how long before they lose the “cause” protection is anybody’s guess).

New Arkansas Law Permits Blue-Penciling of Employment Non-Compete Agreements

Arkansas has a new non-compete law.  James H. Stock, a shareholder in our Memphis office, has written an article on the Jackson Lewis website about these developments.  As he notes, the legislation signed by Arkansas Governor Asa Hutchinson will allow “a court to enforce the reasonable parts of a non-competition agreement, while deleting the overbroad, unenforceable provisions, rather than striking down the entire agreement.” The new law is scheduled to take effect on August 6, 2015.