United States: Employment Restrictive Covenants And Other Post-Employment Restrictions

I. INTRODUCTION

§ 80:1 Scope note

This chapter discusses the use and enforcement of restrictive covenants between employers and employees. The chapter first addresses the different types of covenants and their purposes of preventing the loss of goodwill, client relationships, and confidential information, and preventing unfair competition by a departed employee or a competitor.

We next turn to the factors that employers consider in deciding whether to litigate to enforce a restrictive covenant. These factors include stopping the imminent harm from the potential loss of other employees or clients, or use or disclosure of the employer's confidential information, as well as preserving the business's going value or "goodwill." Often, the loss of a key group of employees and/or clients may devastate a business, and preliminary injunctive relief is necessary to keep the business intact. In other instances, the loss of a few clients or single client may be so impactful to a business that the damages from that loss overshadows the harm from the potential loss of other, smaller client relationships. In those instances, an employer may seek to litigate to recover damages, based on an analysis of several key factors. Employers may also be forced to litigate (whether for injunctive relief or damages) to deter future instances of raiding their employees and clients and to make clear that they will protect these relationships even to the point of potentially expensive litigation.

Also provided is a discussion of the various claims, defenses, and remedies that typically emerge in litigation to enforce restrictive covenants. Attention is also given to the effect a liquidated damages provision in a restrictive covenant agreement has on the likely available remedies through litigation. In addition, we address the venue of the dispute and the use of alternative dispute resolution. The chapter also highlights some key substantive differences between New York law and that of other states, and discusses how choice-of-law issues are resolved.

We also outline some practical considerations and pre-litigation steps employers will need to take to prepare their case before filing. Cases often involve motions for preliminary injunction, which require significant showings by employers as to the imminent harm they seek to prevent. In order to meet its burdens, an employer must usually undertake a substantial investigation for evidence to support its claims. Once a request for injunctive relief is filed, the proceeding often turns into a mini-trial, as the evidence introduced at the preliminary injunction hearing will frequently make or break a case. This includes a discussion of issues concerning, and sources of, discovery, both before and after a case is commenced. Practical tips regarding electronic discovery, both pre-complaint and post-complaint, will be highlighted. The discussion will touch on issues concerning possible resolution after a case has been commenced or a preliminary injunction hearing has been held.

Finally, the chapter concludes by providing checklists and additional tips for restrictive covenant drafting and litigation, and provides some sample language for various covenants. Related topics are covered in Chapter 79, "Contracts for Services" (§§ 79:1 et seq.); Chapter 104, "Theft or Loss of Business Opportunities" (§§ 104:1 et seq.); or Chapter 105, "Misappropriation of Trade Secrets" (§§ 105:1 et seq.).

§ 80:2 Strategic objectives

The threshold question for the employer concerning whether to propose and whether and how to enforce restrictive covenants is: what does the employer seek to protect? Employers should consider what relationships in their business are most vulnerable when key employees leave. These include relationships with particular clients or customers, as well as relationships with particular employees, groups, or business units. Employers should also consider what steps will ensure that they can preserve and maintain these relationships even after key employees leave the company, such as seeking to prevent use of confidential information, seeking to prevent solicitation or servicing of existing or prospective clients, and seeking to prevent solicitation of other key employees to whom the employer would entrust the continued servicing of the clients. Once the potential harm is identified, employers can then assess what specific protections will allow them to minimize the impact of the employees' departures and maximize the likelihood of preserving key relationships.

The basic question for the employee at the time a covenant is proposed is usually more straightforward: is the employee willing to abide by certain post-employment restrictions as a condition of accepting a job with a new employer, or once employed, agree to restrictions in exchange for additional benefits, such as cash, stock options or other equity grants, greater responsibilities, promotion, or other things of value. Litigation often ensues when employees ignore their covenants or take a myopic view of their enforceability when a new, lucrative opportunity presents itself.

§ 80:3 Are restrictive covenants "restrictive" or "protective"?

Post-employment covenants are often referred to as "restrictive" covenants because they place restrictions on employees' post-departure activities. Some practitioners also use "non-competes" as shorthand, even though the restrictions may be more focused than broader restrictions on competition with an employer, such as prohibiting only solicitation or servicing of the employer's clients. Some practitioners describe these provisions as "protective" covenants. In litigations, attorneys may seek to use one name or the other depending on whom they represent. Counsel for employees may draw subtle attention to the restrictions on their clients posed by overly "restrictive" covenants, while counsel for employers may look to draw on the psychology of protections for their clients provided by negotiated "protective" covenants. For uniformity and clarity, this chapter refers to postemployment covenants under their more traditional and more common name of "restrictive" or noncompete covenants.

Setting aside the issue of nomenclature, attorneys for employees and employers will try to portray the goal of the covenants differently. Employees' counsel will cast the covenants as merely restrictive or punitive, as if designed to prevent an employee from earning a living or being unduly restricted by the mere fact that the employee sought to improve her employment situation by leaving (or being forced to leave) the employer, or designed merely to prevent competition that would benefit customers. In contrast, attorneys for employers seeking to enforce the covenants will argue that they exist to protect the relationships, goodwill, and confidential and proprietary information of the employer from an employee who seeks to solicit away a client she met while on the employer's payroll, misappropriate the employer's confidential information or destabilize the employer's work force by selectively soliciting away talented employees. In addition, an employer may seek to emphasize the significant value of the matters to which the covenants relate and that the employer built that value through years of hard work. In contrast, the employee will try to demonstrate that the value is insubstantial because, for example, the company and customer information are widely known.

§ 80:4 Preliminary considerations

The key questions that underlie litigation of restrictive covenants are the same from the point of view of the former employer or the employee:

  • Do the covenants at issue prevent unfair competition or are they merely anticompetitive?
  • Are there particular interests of the employer that are protectable, i.e., client relationships, relationships with employees, goodwill, confidential and proprietary information?
  • Are the covenants designed to protect such legitimate business interests and do the covenants work as designed?
  • Do the covenants allow the employee to work in a chosen eld without undue restraint?
  • Are the covenants reasonable in scope (in terms of duration, geography, or client relationships protected)?
  • Was there sufficient consideration provided for the covenants?
  • Do the covenants consider special factors, such as an employee's pre-existing relationships with the clients or whether information desired to be protected is publicly available?
  • Has the employer complied with its obligations under the agreement containing the covenants?
  • What were the circumstances of the termination?

In evaluating these considerations, it is critical that employers determine the precise activities that they want to restrict. Absent this initial thought process, employers may draft inarticulate, vague, ambiguous or overly broad restrictions. An employer that intends to enforce its post-employment agreements needs to have specified precisely the obligations imposed on the employee, or risk that it may be unable to enforce its restrictions.1

Counsel for both employers and employees should assess these preliminary questions in determining the likelihood that the covenants will be enforced.

To read this Chapter in full, please click here.

Footnotes

* Mr. Lasky and Mr. Klausner thank David J. Fisher, an associate at Davis & Gilbert LLP, who co-authored this chapter.

1. See Pure Power Boot Camp, Inc. v. Warrior Fitness Boot Camp, LLC, 813 F. Supp. 2d 489, 507, 80 Fed. R. Serv. 3d 1025 (S.D. N.Y. 2011) (refusing to enforce a noncompetition agreement, in part, because the prohibited activities were vague, and thus the restrictions were deemed ambiguous and overly broad); Stork H & E Turbo Blading, Inc. v. Berry, 32 Misc. 3d 1208(A), 932 N.Y.S.2d 763, *2, fn. 2 (Sup 2011) (concluding that the employees had not violated an otherwise reasonable covenant because the employees' activities did not violate the prohibited post-employment conduct described in the covenant).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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