Information contained in this publication is intended for informational purposes only and does not constitute legal advice or opinion, nor is it a substitute for the professional judgment of an attorney.
From sweeping legislation to unexpected case law, and everything in between, 2018 brought a lot of changes to unfair competition law. Massachusetts’ successful passage of legislation addressing noncompetition agreements after years of negotiation and California’s further restriction of restrictive covenants are just highlights from a year of significant changes. Read on for a summary of some of the biggest legislative and case law events in unfair competition law of 2018 and a peek into the crystal ball for what is coming in 2019.
Massachusetts Provides Guidance and Limits on Noncompetition Agreements and Adopts the Uniform Trade Secret Act
After years of negotiation, the Massachusetts legislature passed the Noncompetition Agreement Act, a law limiting the use of noncompetition agreements for any employee (or independent contractor) living or working in the Commonwealth.1 Effective October 1, 2018, employers may only enter into noncompetition agreements with exempt employees, and may only seek to enforce such agreements with employees who resign or are terminated for cause.
Significantly, employers are now required to provide some form of consideration beyond employment in order to make their noncompetition agreements binding. Sufficient consideration is either “garden leave,” defined by the Act as 50% of the employee’s highest annual salary during the prior two years to be paid consistent with the payment of wages during the restricted period, or other mutually-agreed upon consideration between the employer and the employee, provided that it is specifically described in the noncompetition agreement.
Consistent with the requirements set forth in recent Massachusetts case law, the Act also limits post-employment noncompetition restrictions to a maximum duration of 12 months and further requires the agreements be reasonable in geographic scope and restricted activity.
In addition, there are several other formal requirements, including 10 business days of notice for new and existing employees, inclusion of a statement that the employee has a right to consult with an attorney regarding the terms of the agreement, and an employer signature. Employers also may not choose another state’s law to govern the agreement in order to avoid the requirements of the law.
Favorable to employers, the Act acknowledges there are circumstances where noncompetition agreements are necessary and should be enforced.
At the same time, the Massachusetts legislature also passed a law adopting the Uniform Trade Secret Act. The Massachusetts Uniform Trade Secret Act (MUTSA) allows employers to seek an injunction for the “actual or threatened misappropriation” of trade secrets. Therefore, the law could open the door to claims based on the “inevitable disclosure” doctrine, i.e., the employer cannot prove the employee took its trade secret information but it is inevitable the employee will disclose the employer’s trade secrets in his/her new position with a competitor, and therefore should be enjoined from working there. The MUTSA also allows for the recovery of attorneys’ fees if the employer prevails. Given the new restrictions around the use of noncompetition agreements, the MUTSA may be a useful tool to employers seeking to protect their trade secrets.
Utah Passes Law Curtailing Noncompetition Agreements in Broadcasting
On March 27, 2018, Utah’s governor signed into law an amendment to the state’s Post-Employment Restrictions Act. Limited to employees in the broadcasting industry, the amendment prohibits the use of post-employment noncompetition agreements unless: (1) the employee is exempt; (2) the post-employment restrictive covenant is part of a written employment contract with a term of no more than four years; and (3) the employee is terminated for cause or the employee breaches the employment contract in a manner that results in his or her separation of employment from the broadcasting company. Further, the restrictive covenants are only enforceable for one year. Any agreement with a broadcasting employee that does not comply with the Act is void.
Idaho Amends Law to Remove Rebuttable Presumption of Irreparable Harm
Idaho law only allows for noncompetition agreements with “key employees” or “key independent contractors,” as defined in the statute, for a maximum period of 18 months post-employment, subject to a few rebuttable presumptions. For the past two years, it was also a rebuttable presumption that if a key employee or key independent contractor breached a non-compete, the company suffered irreparable harm. The key employee or key independent contractor then had to establish that he/she did not have the ability to adversely affect the company’s legitimate business interests. On March 28, 2018, however, the Idaho legislature passed an amendment repealing this rebuttable presumption. Consequently, effective July 1, 2018, companies now shoulder the burden of establishing the likelihood of an irreparable harm in order for a court to issue an injunction.
Colorado Eases Post-Employment Restrictions for Physicians Treating Rare Disorders
In Colorado, physicians may enter into a covenant not to compete under which a physician who leaves the group practice may be compelled to pay damages if he or she solicits patients who are former or prospective patients of the group practice. In April 2018, the Colorado legislature amended this law (for the first time since 1982) to add an exception for physicians treating patients with rare disorders.2 Specifically, the amendment provides that after termination of an agreement, physicians may disclose their continuing practice of medicine and new contact information to any of their patients with a “rare disorder,” as recognized by the National Organization for Rare Disorders, Inc. Signed into law on April 2, 2018, the Colorado amendment allows physicians to continue treating patients with rare disorders without liability, even when providing such service would otherwise violate their noncompetition agreements.
California Further Narrows the Use of Restrictive Covenants
The generally understood belief that employee non-solicitation agreements were permitted in California, despite the state’s statutory restrictive covenant prohibition, was called into question in AMN Healthcare, Inc. v. Aya Healthcare Services, Inc. The California Court of Appeal, Fourth Appellate District, held that the employee non-solicit agreement before it constituted an unenforceable restraint on trade, prohibited under Business and Professions Code Section 16600.3
The parties in the lawsuit compete in the business of providing healthcare professionals, such as travel nurses, on a temporary basis to medical facilities. The individually-named defendants left AMN to work for Aya as travel nurse recruiters. The employee non-solicit at issue prohibited the travel nurse recruiters from soliciting any employee of AMN to leave the service of AMN for a period of at least 12 months. The court held that the provision clearly restrained the recruiters from practicing with Aya their chosen profession—recruiting travel nurses. In coming to this conclusion, the court of appeal noted the provision had the effect of restricting the number of nurses with whom a recruiter could work, and consequently, AMN was limiting the amount of compensation a recruiter would receive after leaving AMN’s employ.
On January 11, 2019, a California federal district court issued a decision bolstering the argument that employee non-solicitation clauses are unenforceable under California law. In Barker v. Insight Global, the judge declined to interpret the decision in AMN narrowly.4
In Barker, Judge Freeman in the Northern District of California followed AMN and reconsidered and reversed her own ruling dismissing claims based on the defendant's requiring employees to execute allegedly unfair and unenforceable employee non-solicitation provisions.5 In doing so, the court noted that it was “convinced by the reasoning in AMN that California law is properly interpreted . . . to invalidate employee nonsolicitation provisions.” Further, the court took pains to reject the notion that the secondary alternative ruling of AMN limited the primary holding: “the Court is not persuaded that the secondary ruling in AMN finding the nonsolicitation provision invalid …based upon those employees’ particular job duties abrogates or limits the primary holding.” In short, Barker—the first decision issued after AMN—unequivocally followed its more expansive reasoning and rejected the opportunity to limit it to its particular facts, thus reinforcing the argument that employee non-solicitation clauses are unenforceable under California law.
While the California Supreme Court could eventually weigh in, it is critical for employers to work closely with counsel to manage the risks presented by these decisions. Employers may need to seek guidance not only for the drafting of new agreements, but also for reviewing current or legacy agreements. Employers are going to have to weigh the legal risk of retaining these clauses in some fashion against any perceived benefit in using such clauses to promote a stable workforce.
New York and New Jersey Federal Courts Opine on Non-Solicitation, Non-Acceptance and No-Contact Clauses
In New York and New Jersey, several federal courts considered the enforceability of customer non-solicitation, non-acceptance and no-contact clauses. For example, in Mercer Health & Benefits LLC v. Digregorio, 307 F. Supp. 3d 326 (S.D.N.Y. 2018), the Southern District of New York held that a customer non-solicitation agreement was enforceable to the extent it applied to current clients of the employer, but that the employer did not have a legitimate interest in expanding the scope of the non-solicitation clause to prospective clients. The court further held that the employer was likely to establish that the former employees breached the non-solicitation agreement where the former employees announced their departures to clients through targeted announcements.
In HRB Prof’l Res. Ltd. Liab. Co. v. Bello, No. 17-CV-7443 (KMK), 2018 U.S. Dist. LEXIS 166434 (S.D.N.Y. Sept. 27, 2018), the Southern District of New York also confirmed an arbitration award against a former employee, which included a permanent injunction enjoining the former employee from violating a non-solicitation clause in his employment agreement. The court rejected the former employee’s first-contact argument (i.e., that he did not solicit clients, but rather the clients came to him), as “irrelevant” because the at-issue agreement prevented the former employee from “accepting, not just soliciting, HRB clients,” as well as from “providing tax services” to the HRB clients for two years after his employment ended with HRB.
New Jersey federal courts also entered the non-solicitation fray in 2018. In one recent case, for example, for example, the District Court of New Jersey enforced a non-solicitation agreement providing that the employee may not directly or indirectly “solicit, contact, call upon, communicate with or attempt to communicate with” a client or prospective clients with whom the employee was involved or to whom he was exposed while employed by his former employer.6
Similarly, in Corporate Synergies Group, LLC v. Andrews, et al., No. 18-cv-13381 (D.N.J. Oct. 3, 2018), the court enforced a non-solicitation clause prohibiting former employees from, among other things, directly or indirectly accepting, soliciting, calling upon or servicing clients with whom the former employees worked in the year prior to their resignations. The court held that it considered the former employees' attending meetings with clients, or providing information concerning the clients to their new employer’s sales representatives (whether in response to a client inquiry or not), to be “prohibited” by the injunction.
Illinois Federal Court Refuses to Enforce or Blue-Pencil Overly Broad Covenants Based on the “Janitor Rule”
In April 2018, a court in the Northern District of Illinois granted a 12(b)(6) motion to dismiss restrictive covenant claims because the covenant at issue was facially overbroad and unenforceable.7 In finding the covenant facially overly broad and defective, the court cited with favor the so called “Janitor Rule,” which states that if a covenant is so broad that it would preclude an employee for working for a competitor even in non-competitive positions such as a janitor, then it is too broad to be enforced. This case serves as a strong reminder that in addition to making sure that duration and geographic scope are limited, covenant drafters also have to narrowly tailor activity restrictions to truly competitive positions—ideally similar to positions the employee held for the former employer.
The case perhaps is even more significant because it granted a motion to dismiss based on just the facially overly broad language of the agreement and the court refused to blue pencil or modify the agreement. This decision is just the most recent of a series of decisions by Illinois courts refusing to enforce and/or dismissing overly broad covenants, and also refusing to blue-pencil or rewrite such covenants. See, e.g., First National Assets Management, LLC v. Garzon, 2016 WL 6301871 (Ill. Cir. Ct. Sept. 6, 2016) (granting motion to dismiss with prejudice as to non-compete provision of restrictive covenant where it was facially overbroad); Assured Partners, Inc. v. Schmitt, 2015 IL App (1st) 141863 at ¶¶37-42, 44 N.E.3d 463 (1st Dist. 2015) (holding customer non-solicitation clause unenforceable as a matter of law where “it seeks to prohibit [employee] from working in the future with customers, suppliers, and other business entities which he never had contact with while working for [employer]” and refusing to blue-pencil agreement; Multimedia Sales & Marketing, Inc. v. Marzullo, 2012 WL 5894340 (Ill. Cir. Ct. Oct. 5, 2012) (granting motion to dismiss and dismissing contract claims with prejudice).
However, in a least one recent case, another Illinois federal judge refused to dismiss a covenant as a matter of law and held, “courts will only find [restrictive] covenants facially invalid in ‘extreme cases.’” American Transort Grp., LLC v. Power, 2018 WL 1993204, at *4 (N.D. Ill. Apr. 27, 2018) (quoting Abbott-Interfast Corp. v. Harkabus, 250 Ill. App. 3d 13, 21 (2d Dist. 1993)). Because the standard for enforceability in Illinois is fairly vague and often dependent on both how well the covenant is drafted and the facts and equities in each particular case, one would expect such disparate results to continue.
Significant Defend Trade Secret Act Cases in 2018
The Defend Trade Secrets Act (DTSA) was signed into law in 2016 and provides a federal court civil remedy and federal court jurisdiction for trade secret and misappropriation claims. In 2018 we saw the first cases testing aspects of the law. The following summarizes a few notable 2018 DTSA decisions.
Dunster Live, LLC v. LoneStar Logos Mgmt. Co., LLC., 908 F. 3d 948 (5th Cir. 2018).
In this case, the plaintiff sued former members of the same LLC alleging that defendants stole proprietary software and database in violation of the DTSA. The district court denied the plaintiff’s preliminary injunction request and dismissed the complaint without prejudice. Defendants then sought attorneys’ fees for the claims brought. The district court denied the request because the case was dismissed without prejudice and thus the defendant was not yet the prevailing party. On appeal, the Fifth Circuit held that a determination of bad faith did not support a fee award because it would improperly interpret the "prevailing party" language out of the DTSA, and courts were required to interpret "prevailing party" to mean the same thing in the Act that they did in other federal fee-shifting statutes.
AUA Private Equity Partners v. Soto, 2018 U.S. Dist. LEXIS 58356 (S.D.N.Y. April 18, 2018).
A former employee defendant uploaded AUA's trade secrets from her work laptop to her personal Google Drive, wiped her laptop clean, cleared her browsing history, and was terminated the next day. AUA brought suit under the DTSA, and the defendant moved to dismiss, arguing that the company had not pled that she used or disclosed AUA’s trade secrets. The court denied the defendant’s motion, holding that her argument ignores the definition of “misappropriation.” Disclosure or use is not a required element of misappropriation, but rather an alternative basis for liability under the Act. The court also did not accept defendant’s argument that she had not “acquired” the trade secrets under the plain meaning of that term. The court noted that many courts, which have adopted the UTSA, have found that misappropriation by acquisition satisfies the acquisition element under the DTSA.
Leslie Lyle Camick v. Harry Holladay, esq., 2018 U.S. App. LEXIS 35410 (10th Cir. Dec. 18, 2018).
The plaintiff alleged that defendants violated the DTSA by unlawfully acquiring trade secret information in 2011 relating to manhole security covers and pole crabs the plaintiff developed. After the district court dismissed the plaintiff’s complaint, the Tenth Circuit affirmed the ruling because the plaintiff’s complaint did not allege any act of acquisition, disclosure, or use of trade secrets occurring on or after the DTSA’s May 11, 2016 enactment date. The court held that because there were no factual allegations that the misappropriation continued after May 11, 2016, the DTSA claim failed against the defendants.
No-Poach Agreements, Antitrust Issues, and Litigation Against Fast Food Franchises
In 2016, the U.S. Department of Justice (DOJ) issued its Guidance to Human Resource Professionals, and informed employers that “going forward, the DOJ intends to proceed criminally against naked wage-fixing or no-poaching agreements,” due to antitrust concerns.In the DOJ’s Antitrust Division’s “Division Update Spring 2018,” the Antitrust Division stated, “[m]arket participants are on notice: the Division intends to zealously enforce the antitrust laws in labor markets and aggressively pursue information on additional violations to identify and end anticompetitive no-poach agreements that harm employees and the economy.”
On April 3, 2018, the DOJ’s Antitrust Division filed a civil antitrust lawsuit against Knorr-Bremse AG and Westinghouse Air Brake Technologies Corp., and with it simultaneously filed a civil settlement. The complaint alleges that these companies and a third company, Faiveley, reached naked no-poach agreements beginning as early as 2009 and continuing until at least 2015, in violation of Section 1 of the Sherman Act.The settlement entailed an injunctive component, cooperation clause, and a provision lowering the evidentiary burden of establishing a violation of the settlement agreement.
No-poach agreements in the franchise context (restrictions in the franchise agreement that preclude one franchisor from hiring from another franchisor) have been drawing the attention of class action counsel and state attorneys general. As a result, a number of fast-food franchise chains have jettisoned their no-hire agreements to avoid being the target of litigation.
Coming Down the Pipeline in 2019
Although we are only a little over a month into 2019, multiple states have already introduced noncompetition reform bills. A slew of states have introduced legislation that would prohibit noncompete agreements for low-wage workers, including Hawaii (Hawaii HB 1059 and SB 328), Indiana (Indiana SB 348), Maryland (Maryland HB 38 and SB 328), Missouri (Missouri HB 331), New Hampshire (New Hampshire HB 346 and SB 197), New York (New York AB 2504), and Virginia (Virginia SB 1387). In addition, Washington’s proposed legislation (Washington HB 1450 and SB 5478) limits the use of noncompetition agreements to employees who earn three times the average annual wage and to independent contractors who earn four times the average annual wage.
Other states are proposing broad restrictions to the use of noncompete agreements. A North Dakota bill (North Dakota HB 1351) seeks to amend its existing noncompete statute to clarify the language and definitions. South Dakota’s bill (South Dakota SB 120) reduces the permissible time period a noncompete agreement can be in effect from two years to one year. Proposed legislation in Georgia (Georgia HB 81) would prohibit the use of noncompete agreements with information technology employees. Vermont’s proposed legislation (Vermont HB 1) goes further, prohibiting any noncompetition agreements except for in the limited circumstance of (1) the sale of a business; (2) the dissolution of a partnership; or (3) the dissolution of a limited liability company. Likewise, Pennsylvania’s proposed legislation (Pennsylvania HB 171) prohibits the use of noncompete agreements in employment contracts, limiting the use of future noncompetes to (1) the sale of a business or (2) the dissolution of a partnership.
An Arkansas bill (Arkansas 1068) would go even further and repeal Arkansas Code §4-75-101, effectively prohibiting all non-compete agreements.
At the federal level, in the U.S. Senator Marco Rubio (R-FL) has also introduced legislation that would prevent employers from using non-compete agreements in employment contracts for certain non-exempt employees (S. 124).
The changes in 2018, and early onslaught of legislation in 2019, serve as a reminder that employers should continue to confer with legal counsel when drafting restrictive covenant agreements. It is also prudent to check in with counsel throughout the year in the event there is a new law or court decision affecting the enforceability of its agreements.
1 See Melissa L. McDonagh and Kevin E. Burke, Massachusetts Legislature Passes Comprehensive Noncompete Reform, Litter ASAP (Aug. 2, 2018); Stephen T. Melnick, Chris Kaczmarek, and Melissa L. McDonagh, Frequently Asked Questions About the New Massachusetts Noncompetition Agreement Act, Littler ASAP (Sept. 5, 2018).
2 See Stephen Baumann, A "Rare" Amendment: Colorado Amends its Non-Compete Statute for the First Time Since 1982 to Protect Physicians Treating Patients with "Rare Disorders", Littler ASAP (Apr. 6, 2018).
3 See Stephen Tedesco and Melissa McDonagh, The Other Shoe Drops: Court of Appeal Decision Narrows Use of Employee Non-Solicitation Provisions in California, Littler Insight (Nov. 16, 2018).
4 See James Witz, Second California Court Adopts Position that Employee Non-Solicitation Clauses Are Invalid Restraints on Trade, Littler ASAP (Jan. 24, 2019).
5 Case No. 16-cv-07186-BLF, 2019 WL 176260 (N.D. Cal. Jan. 11, 2019).
6 No. 18-3666, 2018 U.S. Dist. LEXIS 133446 (D.N.J. Aug. 2, 2018).
7 U.S. Dist. LEXIS 64813 (N.D. Ill. Apr. 17, 2018).