Roy’s Analysis of Quirky Question # 188, Enforcing Non-Solicitation Agreements
Quirky Question # 188:
Like many companies, we are in a highly competitive industry. We spend a lot of time training our sales employees to perform their jobs, at a considerable expense to our company. Consequently, we have all of our sales personnel execute a non-compete/non-solicitation agreement at the commencement of their employment.
Several of our employees have joined a company that we recognize is not competitive with ours. But, it sure seems like they are recruiting our other sales people to join them. A number of employees who have been friends for some time have jointly moved to this other company.
Do we have a legitimate claim based on the restrictions contained in the non-solicitation agreement? We have to stop the bleeding. This is especially true right now because our own company has been struggling (layoffs, declining stock price, etc.), so it probably isn’t too difficult to convince our employees that they might have a better future elsewhere. Anything we can do?
Roy’s Analysis:
Maybe. Maybe not. Sorry for the equivocal response but I’d need more facts to provide you clear guidance. Let’s review a few basics of restrictive covenant law, which I hope will provide you some insights to assist you in analyzing this issue.
First, as you likely know, the law of post-employment restrictive covenants, such as a non-compete or a non-solicit, is dependent on state law. The enforceability of your employment agreements will be heavily influenced by the governing state law. Some states (e.g., California and North Dakota) repudiate restrictive covenants except in extremely limited circumstances. Other states enforce the agreements made by the employer and employee, despite the employees’ lack of bargaining power when the agreement is executed. Some states (approximately 17) have statutes that regulate this area. So, the first task is to determine what state’s law applies.
Second, as a corollary to the preceding point, the governing state law may be determined by the contract, assuming there is a choice-of-law provision in the agreement. But, even when there is a choice-of-law provision, some courts may not elect to enforce it. For example, if the employee lives and works in a state different from the “governing law” state specified in the contract, and if the court concludes that the public policies of the state where the employee works are inconsistent with the state identified in the choice-of-law provision, the court may choose not to enforce the contract provision. Of course, in the absence of any choice-of-law contractual provision, and in a context where the competing states have divergent legal standards, the determination of which state’s law will govern the contract’s interpretation will turn on a number of variables, including, for example: predictability of results; maintenance of interstate order; simplification of the judicial task, advancement of the forum state’s governmental interest; and application of the better rule of law.
Third, equally, if not more important than the determination of which state’s law governs the contract interpretation, is the language of the contract itself. You have pointed out your company requires your sales employees to execute a “non-solicitation agreement.” But, you have not described the language of that agreement. Whether your company has any chance of enforcing the agreement will depend heavily on its language. This can be broken down further into a few Goldilocks-like subparts.
Language Too Narrow: Some “non-solicitation” agreements are limited only to what the name of the restriction implies – soliciting. At times, companies will use a few synonyms for soliciting, such as prohibitions on “inducing,” “convincing,” or “persuading” the ex-employees’ former colleagues to resign their employment, or to join the ex-employees’ new employer. When this type of language is used, courts may elect to enforce the language literally, concluding that the employer chose to use language prohibiting only specific affirmative actions by the outgoing employee. Thus, if the former employee did not initiate the contact (i.e., did not affirmatively reach out to his/her former colleagues), the ensuing interaction between the parties was not proscribed by the employment agreement.
Language Too Broad: In contrast to the prior example, some “non-solicitation” agreements use language that is overbroad, sometimes ridiculously so. For example, some non-solicits list every imaginable type of interaction between the ex-employee and his/her former colleagues, regardless of whether proscription is linked to a legitimate interest of the employer. In these situations, the employer seemingly is prohibiting any interaction, even social interaction between two individuals who may have been friends for a protracted period. This type of language will provide the former employee with some persuasive arguments to challenge the validity of the agreement.
Another example of overbroad non-solicit language is when the employer includes broad prohibitions on activities “related” to soliciting, often prefaced by a “directly or indirectly” descriptor. Here, an employer might use language stating that a departed employee may not “assist in hiring” anyone who is a current employee. What does that mean? If the departed employee advised a former colleague to check out his new employer’s website, has he/she “assisted”? If the former employee advised a former colleague to get a resume in quickly, has he/she assisted? If the ex-employee provided a former colleague with some background insights into the new company, has he/she assisted? If the former employee provided the former colleague with insights into the individuals likely to conduct the interview of the applicant, has he/she assisted? In each of these hypothetical contexts, the so-called non-solicit seemingly encompasses conduct that is utterly innocuous and that an employer would have difficulty linking to a legitimate corporate interest.
Moreover, the problem is complicated when the ex-employee is in a managerial role in the new company, especially a senior role. Is that individual precluded from interviewing a former colleague? From offering an opinion on the applicant’s skill sets? From expressing enthusiasm about the applicant’s personal integrity or other characteristics? What if the applicant considers it important to meet with the individual who is likely to be his/her boss; in other words, interview the interviewer to determine whether this is a company he/she would like to join? Is this type of interaction prohibited?
When the language of the non-solicit is overbroad, for the reasons above or other reasons, another state-law- dependent issue comes into play. Some states do not permit equitable modification of the restrictive covenant. Other states allow courts limited flexibility to modify the contract language (the blue-pencil doctrine), but only if the modification can be achieved by striking offending verbiage without adding or creating other contract language. Still other states simply prohibit any judicial modification of inartfully crafted restrictive covenants, whether non-solicits or non-competes.
Language Just Right: It is possible to draft a non-solicit that passes legal muster (in states where restrictive covenants are not proscribed). In my view, however, there is not a one-size-fits-all approach. The language used must be linked to a legitimate corporate interest that can be easily articulated. This will depend on a host of factors, including the nature of the business, the position occupied by the restricted employee, the time and expense associated with training the employee (and/or his/her replacement), the employee’s access to confidential and proprietary data, and other considerations. Moreover, once appropriate language is drafted, the non-solicit still has to withstand the scrutiny to which any other restrictive covenant is subjected (adequacy of consideration, reasonable in terms of substantive restriction, geographic restriction and temporal restriction).
To summarize some of the key issues for you to explore:
- What state’s law governs?
- Does your contract contain a choice of law provision?
- Is there a conflict between the law of the state where the employee lives and works and the law specified in the contract?
- What is the specific contract language — what conduct is prohibited?
- Is the prohibited language linked to a legitimate interest of your company?
- If the language suffers from being overbroad, what flexibility do the courts in your state have to modify employment agreements?
In addition to these backdrop considerations, there are a few other issues worthy of consideration. One important factor you’ve identified is that your company has been struggling; you referenced the fact that your firm has experienced layoffs, and that the company’s stock price has declined. This raises the question of whether your ex-employees whom you suspect of soliciting your current employees resigned voluntarily or were laid off. While this may not be a dispositive factor in terms of how a court might interpret the non-solicit, it does bear upon the general equities and provide the atmospherics for the court’s analysis. Moreover, this issue highlights another aspect of the contract language. Some restrictive covenants specify that they apply regardless of the reason for the employee’s separation. Other restrictive covenants only apply when the employee resigns voluntarily.
Similarly, are the employees being solicited in jeopardy of losing their positions? Are they on a lay-off list? Might their departments be eliminated? Are any of them on performance improvement plans? Here, too, these background inquiries create atmospherics that could affect a court’s analysis.
Regardless of whether the employees you suspect of soliciting your employees left voluntarily or involuntarily, as you realize, it makes it much easier to persuade someone to leave your employ when a company is struggling. When employees are insecure about their future, when their friends are being laid off, when the opportunities for promotion appear bleak, when wages are flat or declining, the likelihood that employees might depart increases dramatically. When the alternative appears attractive, either by itself, or in comparison to the problems at your own company, the incentives for departure are increased.
Another observation you made in your question is that the employees who first left your company are friends with those who were recruited away. In some ways, this variable has the potential to complicate the argument that some inappropriate or wrongful conduct has occurred, simply because the individuals may have been interacting regularly. Courts recognize that co-workers, especially those with personal friendships, talk to each other. Invariably, topics of conversation include job satisfaction, future employment opportunities, compensation levels, and a host of other job-related subjects. Defining what is a permissible or impermissible subject of discussion in this context is difficult.
Finally, you note that your company and the organization your ex-employees have joined are not competitive. As a result, your non-compete restriction does not come into play. Many courts are loath to convert a “non-solicit” into a de facto “non-compete,” another problem you will have to overcome.
The bottom line is that non-solicitation agreements can be useful post-employment restrictive covenants that help protect a corporation against losing quality employees. Unfortunately, without more data, I cannot provide much insight into the validity or enforceability of the agreements your company is utilizing.
In general, non-solicitation agreements have to be carefully crafted and tailored to protecting the legitimate interests of the company. Far more effective than creating contractual obligations binding employees to a company, however, is creating a corporate environment that employees do not want to leave. As Jim Goodnight, the CEO of SAS, one of the country’s most successful software companies observed in a 2003 “60-Minutes” piece, “You know, I guess that 95 percent of my assets drive out the front gate every evening. It’s my job to bring them back.”
SAS has been extraordinarily successful in achieving its CEO’s vision (the company is often selected as the best company to work for in the U.S.). The ties that bind its employees to the company are not contractual in nature; they are grounded on more meaningful connections between employer and employee. Solve the problems that are confronting your company and I suspect the “bleeding” you referenced will diminish dramatically, if not stop altogether. Your goal should be to make your non-solicitation agreement irrelevant.
Restrictive Covenants in an Expired Term Contract: Roy’s Analysis of Quirky Question # 179
Quirky Question # 179:
Our company has a sales force composed of individuals located throughout the U.S. When we hire sales employees, we use a term employment agreement, typically of three years’ duration. Our employment contracts include post-employment restrictive covenants, the most important of which are non-competes and non-solicits with respect to our customers. Each restrictive covenant last two years.
We try to negotiate new agreements for the sales employees who are doing a good job. Our goal is to get the new agreements in place at least one month before the existing agreements expire. Sometimes, however, things fall through the cracks and we find ourselves negotiating a new agreement following the expiration of the former contract. In the interim, the employees usually just keep working for us under the terms of the prior agreement. Then, if there are compensation changes, we make them retroactive to the date the prior contract expired.
One of our best salespeople recently advised us she was resigning to join a competitor. Her contract apparently expired about three months ago but we failed to notice and did not negotiate with her regarding a new agreement. Nevertheless, she continued working under the terms of her old contract and did not raise any concerns.
When she told us she was leaving, we tried to sweeten the offer to persuade her to stay. We were not successful. We then told her we expected her to abide by the two-year non-compete and the two-year non-solicit. Her response was that those provisions expired with the contract’s expiration. That can’t be right, can it? The contract specifically provides that the restrictive covenants continue for two years after the contract’s termination.
Roy’s Analysis:
There are a number of interesting aspects to your question. But, let’s start with the basics.
First, as you noted in the first sentence of your question, your employees are located throughout the U.S. As I’ve remarked in many prior Blog posts, it is critical to understand that post-employment restrictive covenants are governed by state law. Moreover, state laws vary widely with respect to the these covenants – some states repudiate the restrictive covenants except in very limited circumstances, some states enforce them but only where they are justified by a legitimate corporate interest, and some states largely enforce the contracts as written. Thus, your first task is to ensure you understand the law of the state where the issue you identified has arisen.
Second, perhaps I belabor the obvious to state that in any question involving contract interpretation, it is crucial to carefully parse through the language of the contract. What did the parties intend? Were the parties’ intentions accurately represented in the contract? More specifically here, did the contract differentiate between termination and expiration? Did the contract address the question of whether the post-employment restrictive covenants would survive the expiration of the contract?
Third, as you acknowledged, your employee’s contract “expired about three months ago but [you] failed to notice.” As you seemingly understand, this is not a helpful fact. Although your employee continued working without a contract for the last several months, her continued employment following the expiration of her contract likely has little impact on the legal issue you now confront.
Turning then to the specifics of your question, let’s start with the first issue I referenced above – what state’s law applies to the contract interpretation issue. Where does this employee work? Where was the contract executed? Is there an enforceable choice of law provision in the contract (i.e., a provision specifying that the law of a certain state will govern the enforcement of the contract)? (It’s beyond the scope of this Blog analysis for me to provide you a state-by-state survey of this issue. For the purposes of your question, in a moment I’ll reference a couple of Minnesota cases that shed some light on this issue.) Read more
Roy’s Analysis of Quirky Question # 160, Non-Competes and Public Policy
Quirky Question # 160:
We are a nationwide company with offices and employees in nearly every state. One of our primary growth areas is California. We understand that California courts are generally inhospitable to post-employment restrictive covenants, including non-competes. But, we are trying to have uniform policies throughout our organization. Consequently, we still have confidentiality and non-compete language in our employees’ contracts, even for those who work in California.
Recently, one of our employees left our company and joined a competitor, also located in California. We understood that it would be difficult to enforce the non-compete so we simply called our competitor and pointed out our concerns regarding both our non-disclosure and our non-compete obligations. We advised our competitor that we would appreciate it if they would abide by the spirit of our non-compete and noted that we would reciprocate if provided the opportunity with regard to our competitor’s employees.
Our competitor terminated our ex-employee soon thereafter. Her lawyer has now written us to state that we have violated public policy. What is he talking about? We did not fire the employee. We just had a friendly chat with our competition.
Roy’s Analysis:
I understand your concerns but I do not believe the solution you have devised is prudent. As a preliminary observation, your perception that California courts are “generally inhospitable” to post-employment restrictive covenants is accurate (though a bit understated). The California legislature has made abundantly clear that, except in very limited circumstances – typically linked to the sale of a business – non-competes are not enforceable in California. See California Business and Professions Code § 16600. Both in recognition of that legislative pronouncement, and even before the statute was passed, California courts had rejected non-competes as an undue restraint on trade and an inappropriate limitation on an employee’s job mobility. See, Edwards v. Arthur Anderson LLP, 44 Cal.4th 937 (2008).
Given the statutory and judicial repudiation of post-employment restrictive covenants in California, I recommend against devising a way to circumvent California law. Putting it bluntly, when you state that you hope a competitor would “abide by the spirit of [your] non-compete” and not hire your employee, aren’t you really asking your competitor to violate California law? And, when you link your request to a promise of reciprocity, aren’t you really saying that if your competitor violates the law by refusing to hire your former employees, your company will collude with them to do the same? In short, if they violate the law to benefit your organization, your company will violate the law to benefit their organization. Read more
Non-Competes, Unsigned Agreement; Quirky Question # 126
Quirky Question # 126:
We have a non-compete issue. Several years ago, we provided our employees with an employment agreement that contained various post-employment restrictive covenants. When one of our employees left a couple of years later and started competing with us, we took a careful look at the non-compete language in the employment agreement. Simply put, it was not brilliantly drafted. Therefore, we had our lawyers draft a new version of the employment agreement that contained a more carefully crafted (and more comprehensive) non-compete. Because our company also was having some financial difficulties at that time, we also used that opportunity to change everyone’s compensation formula, reducing their compensation.
Most of our employees signed off on the new agreement. Several, however, did not. Nevertheless, we started compensating those employees on the basis of the new compensation system and they continued to work. After another year or so, due to ongoing financial problems at our company, we reduced everyone’s compensation yet again. We presented the employees with a new employment agreement, containing the new compensation formula. We also changed some other terms and conditions of their employment, and significantly enhanced the non-solicitation agreements (both with regard to co-employees and customers) contained in the agreement. Again, some employees did not sign. But, we started compensating them on the basis of the new agreement and they continued to work for us.
A couple of the employees who never signed the revised agreements recently left our company and joined one of our competitors. We’d like to enforce the most recent version of the employment agreement, with its better drafted restrictive covenants, even though they did not sign. Even though they did not sign, they continued working for us. Short of enforcing that agreement, we’d like to enforce the agreement they did sign. Do you see any problems with that plan?
Roy’s Analysis:
Responding specifically to the question you posed at the end of your factual description, “Yes, I see problems with your plan.” Let me step back, however, to explain why.
First, as a prefatory observation, keep in mind that there is no federal law regulating contracts that include non-competition provisions or other post-employment restrictive covenants. Like so much of employment law, non-compete issues are dependent on state law. Moreover, the 50 states are by no means uniform in how they treat post-employment restrictive covenants. Some states repudiate these anti-competitive restrictions completely, whether by statute or common law; other states enforce them, largely as written. So, the first challenge you confront is to ensure that you understand where your state falls on the spectrum of repudiation to complete enforcement. Further, you need to understand that if your company is operating in multiple states, you likely will not be able to use a single contract containing identical provisions if you expect to be able to enforce them in all jurisdictions where your company is operating. In short, you need to tailor these provisions depending on location, considering the statutes and judicial decisions of the states where your employees are working.
Second, in your question you comment that you provided your “employees with an employment agreement that contained various post-employment restrictive covenants.” This comment implies that you provided this agreement to both applicants and current employees. If true, you may have a problem with the adequacy of the consideration needed to support these contracts. For new employees, the provision of the job itself typically constitutes adequate consideration. For existing employees, however, separate consideration typically is required to support a post-employment restrictive covenant. Again, however, this varies from state to state, and in some jurisdictions, continued employment may constitute adequate consideration to support the contract, especially when other factors exist. Unless your company is operating in one of those states, you may have a problem with regard to your current employees, separate and apart from the other issues I will address below.
Third, although it is good that you evaluated the quality of your employment agreements and the restrictive covenants contained in the agreements, you do not have complete latitude to alter those documents and impose the new agreements on existing employees. Employment agreements, like any other contract, require an offer, acceptance of that offer, and as referenced above, consideration. Although your company certainly has the right to change the employment agreements it uses, you have to meet the standard requirements needed to establish any contract. You also noted that at the same time you reviewed the employment agreements, you also reduced your employees’ compensation. Given that fact, it would appear that there was no consideration sufficient to support the change in the agreements and the restrictive covenants they contained, even for those employees who did sign.
Fourth, you stated that when you modified your employment agreements, some of your employees did not sign the new agreements. As to these employees, your situation is even more problematic. In my opinion, there are very few courts that will enforce these unsigned agreements. By way of example, in Cypress Group, Inc. v. Stride & Associates, Inc., 2004 WL 616302 (Mass. Super. 2004), a Massachusetts court observed, “[E]ach time an employee’s employment relationship with the employer materially changes . . . a new restrictive covenant must be signed.” Similarly, in Smith-Scharff Paper Co. v. Blum, 813 S.W.2d 27 (Mo. App. 1991), a Missouri court noted that materially altering employee’s salary after employee agreed to a non-competition covenant resulted in unilateral breach by the employer of the employment agreement. (Remember, this is a state-by-state analysis.)
Contracts reflect an accord, an agreement, (or as law school contract professors like to characterize it), a “meeting of the minds.” When an employee refuses to sign an agreement offered to him or her, it is pretty clear that he or she is not “agreeing” to the new terms. At that point, your company had three alternatives: a) the company could have made a greater effort to obtain the signatures of those who balked, offering financial or other incentives to incentivize the employees to sign; b) the company could have made the difficult decision to part ways with the employees who refused to sign; or c) the company could have elected to stick with the original signed agreement. Unfortunately, as discussed below, your company opted for none of those options.
Fifth, you also inquired whether you could enforce the original, signed agreement. Here, your later actions have significantly diminished the likelihood that your initial agreement has any continuing validity. The combination of your alteration of material terms of the original agreement, which you unilaterally imposed on your employees, coupled with your presentation of subsequent employment agreements to your employees vitiates your initial agreement. The fact that you offered your employees new employment agreements presents several problems, especially because you also reduced your employees’ compensation in a manner consistent with the later agreements. This action certainly suggests that your company has abandoned the initial agreement. Alternatively, your decision to begin compensating your employees consistently with the later agreements would appear to be a breach of your original agreement and the compensation terms it contained.
Courts that have examined the enforceability of the original agreement when other agreements were subsequently presented have uniformly found the initial agreement to be unenforceable. For example, in another Massachusetts case, AFC Cable Sys. v. Clisham, 62 F. Supp. 2d 167, 173 (D. Mass. 1999), the court found that a change in the employee’s title from “sales consultant” to “sales manager” and the accompanying modification of his pay structure, as well as the employer’s subsequent efforts to have him sign a new non-competition agreement, indicated that employee had entered into a new employment relationship with employer, thereby voiding the original non-compete agreement he had signed at the outset of his employment. Similarly, in F.A. Bartlett Tree Expert Co. v. Barrington, 353 Mass. 585 (1968), the court held that changes in the employee’s compensation plan, title, responsibility, and territorial assignment, together with the employer’s requests that he sign a new agreement containing restrictive covenants, rendered the restrictive covenants in the agreement signed at the outset of employment unenforceable. As these illustrative cases demonstrate, particularly when an employer changes material terms of an employee’s contract and presents the employee with a new agreement (or multiple new agreements), there is compelling case law that the original agreement is unenforceable.
In sum, your company is confronting a number of serious problems with respect to any attempt to enforce either the later-presented, unsigned employment agreements, or the original signed agreement. In my view, it would not be worth your time or energy or resources to seek to enforce any of these agreements as to the employees who left your organization and who are now competing with your company.
Quirky Question # 104, Restrictive Covenants in Acquisition Context
Because of the recent success of one of our software products, we are receiving serious inquiries from two potential suitors. They want to know whether our restrictive covenants will continue to bind our key employees in the event of an acquisition. I’ve always assumed that the employees would continue to be bound but there is nothing in the agreements themselves that addresses this context. Any thoughts on whether we will be able t bind our key employees to the same restrictive covenants they have with us in the event our company is acquired?
In Minnesota, for example, courts will enforce reasonable post-employment restrictive covenants when linked to a legitimate corporate interest. Recognizing that restrictive covenants are anti-competitive, restrain trade and restrict employee mobility, however, courts examine these agreements carefully. As the Minnesota Supreme Court stressed more than 40 years ago, non-competes are “looked upon with disfavor, cautiously considered, and carefully scrutinized.” Bennett v. Storz Broadcasting Co., 134 N.W.2d 892 (Minn. 1965). Minnesota courts evaluate post-employment restrictive covenants to ensure that they are supported by adequate consideration, and are geographically, temporally and substantively reasonable.
In light of these general principles, even before turning to your specific question about the assignability of the restrictive covenants used by your firm, I recommend you evaluate the following key issues.
First, where do your employees who have restrictive covenants work? Do they all work in one state or are you confronting a situation where various states’ laws might apply? Do the states where your affected employees work accept or reject restrictive covenants? Are there important statutory or common law limitations that will govern the interpretation of these contract provisions? If, for example, as alluded to above, some of these employees live and work in California, you may not need to consider the question of whether the covenants would be enforceable by a successor corporation because they probably would not be enforceable by your company. (A corollary inquiry is whether, even for your hypothetical California employees, your employment agreements have choice of law provisions, i.e., contract terms that specify which state’s law will govern the interpretation of the contracts. I’ll reserve the issues surrounding the validity of these provisions for another day, but note that it is important to your analysis.)
Second, assuming your employees are working in a state that does not repudiate post-employment restrictive covenants, the next fundamental inquiry for your consideration is what important corporate interests support your company’s restrictive covenants? Based on the facts you set forth, it would appear that your company considers carefully whether particular employees should be asked to execute the restrictive covenants. As you noted, your company only asks your “engineers, senior managers, and other select employees” to execute the restrictive covenants. This suggests to me that you should be able to articulate the reasons why your company considers it important for these individuals to sign agreements with these types of post-employment restrictions. But give some thought to how you would express these ideas.
Third, again as referenced above, did you provide your employees consideration for executing the restrictive covenants? If they were informed of the restrictions when they first sought employment, the job offer and subsequent employment can constitute sufficient consideration. If, however, the request to one or more of your employees was an afterthought, and your company did not present them with the employment agreements containing the restrictions until after their employment commenced, you need to assess whether sufficient consideration was provided to support these contract provisions. If not, again you may not have an agreement that your company, let alone a corporate successor, could enforce.
Fourth, are the terms of the restrictive covenants reasonable? What is their geographic scope? What is their duration? What types of jobs would the restrictions prevent your employees from taking? The more onerous the burdens imposed on your employees, the more skeptical courts are likely to be about their enforceability. Once again, these issues should be evaluated before you even consider the impact of the potential acquisition on your employees’ restrictive covenants.
If, after exploring each of the issues addressed briefly above, you have concluded that the post-employment restrictive covenants would be enforceable by your company, the next part of the analysis is the one on which your question focused – Would the restrictions be enforceable by the successor company? Like other aspects of contract analysis, the first place to begin the evaluation is the contract itself. What specifically does the contract state about successors, if anything? What specifically does the contract state about the rights of your company to assign the agreements? What language was used in the contract regarding the nature of these “personal services” agreements? Looking at the specific contract language is the starting point for your analysis.
Here, you stated that “there is nothing in the agreements themselves that addresses the [acquisition context].” This could be problematic. Courts that have rejected enforcement of restrictive covenants when the underlying contract lacked an assignment provision focus on various factors to justify their decisions.
First, they point to the personal nature of the contractual obligations set forth in the agreement. For example, in Cary Corp. v. Linder, 2002 WL 31667316 (Ohio Court App. Nov. 27, 2002), the court observed, “The strong policy considerations in All-Pak [an earlier decision] recognize 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.”
Second, courts have pointed to the fact that the employers typically draft the employment agreement, with no input from the employees. In this context, courts are reluctant to read terms into the agreement that the employer failed to include. This is a factor that likely will militate against the enforcement of your agreements by a successor company.
Third, courts look to the specific underlying facts to evaluate the equities of the situation. For example, you stated that your firm is a software company. Let’s assume (arbitrarily) that your start-up has 75 employees and operates in just one state. Your employees may have been willing to sign a restrictive covenant that restricted their employment options in that state. Let’s assume further that the acquiring company is a national software firm that does business in all 50 states and internationally. In that context, the language of your geographic restriction may take on far greater implications and be far more limiting for your employees. In this context, a court may be far more reluctant to enforce a geographic restriction linked to the locations where your company’s potential successor does business.
Fourth, as referenced above, restrictive covenants constitute a partial restraint of trade and are anti-competitive. Courts often look for reasons not to enforce these restrictions. The absence of a clear assignment provision, included as part of the agreement at the inception of an employee’s employment, is an easy way for a court to reject enforcement of the agreement by a successor company.
In short, given the absence of an assignment provision in your employment agreements, it would be imprudent for your company to represent to the potential acquirer of your firm that the restrictive covenants will bind your key employees. This is not likely to be true.
But, don’t despair. There should be multiple ways to assuage the concerns of your company’s suitors on these issues. Regardless of the absence of contract assignment language, there remain a number of legal protections for any acquiring company. For one thing, your employees have fiduciary duties to your company, primarily linked to their duty of loyalty and their duty of confidentiality. For another, most (though not all) states have adopted the Uniform Trade Secrets Act, that justifiably restricts your employees’ ability to share your proprietary and confidential trade secret information with others. To the extent that the potential acquiring companies are concerned about protecting your company’s proprietary information, these interests should be protected.
Finally, there is no reason why the acquiring company should not be able to prepare new post-employment restrictive covenants for your existing employees. This will enable them to create contracts that are consistent with any agreements currently in place at the acquiring company for similarly situated employees. And, in these agreements, suggest that they include an assignment provision.
Follow
