For the first time in 15 years, the Supreme Judicial Court ("SJC"), Massachusetts' highest court, issued a decision analyzing the enforceability of non-solicitation covenants, the distinction between such covenants in the context of the sale of a business versus employment, and equitable tolling of restrictive covenants. As set forth below, this decision serves as an important reminder to businesses who impose restrictive covenants governed by Massachusetts law.
Factual Background
While the factual background of the case is long and twisty, only a few key details are necessary to rehash here. The defendant Matthew McGovern ("McGovern") entered into a restrictive covenants agreement with his former co-shareholders of the Prime Motor Group ("Prime"), in exchange for plaintiffs' agreement to buy out McGovern's minority share in Prime with no discount. The agreement, which was made a year after McGovern had been terminated as an employee and as part of a resolution of the parties' dispute concerning McGovern's alleged violation of an earlier restrictive covenants agreement, prohibited McGovern from hiring, soliciting, or encouraging Prime employees to leave Prime for 18 months. The agreement contained no tolling provision, but provided that plaintiffs would be entitled to injunctive relief if McGovern breached, without needing to prove irreparable harm.
McGovern nonetheless continued to solicit and hire Prime employees, leading plaintiffs to sue and seek injunctive relief, including an eighteen-month extension of the restrictive covenant.
The Trial Court's Decision
The trial court issued a preliminary injunction enjoining McGovern from soliciting or hiring Prime employees and scheduled a jury-waived trial for June 2018, just two months before the covenant was set to expire, which was limited to Prime's equitable claims. Following trial, the judge held that the anti-raiding covenant was supported by a legitimate business interest and was thus enforceable. The court also extended the covenant to August 2019, an additional year beyond the expiration date set forth in the agreement. In so doing, the trial judge acknowledged that the law was "less than clear" as to his ability to equitably extend a restrictive covenant absent a tolling provision, but noted that he was "heavily influenced" by evidence that McGovern had willfully ignored the agreement.
The SJC's Ruling
Despite Prime's argument that the appeal should be considered moot because the extension period had since expired, the SJC found that the issue whether a trial judge may exercise equitable authority to extend a restrictive covenant beyond its plain terms is one that it had not explicitly addressed and was the subject of conflicting First Circuit and Superior Court decisions. Additionally, it noted that it had not addressed the permissibility of anti-raiding provisions generally. Given that, and as the parties had fully briefed the issues, the SJC decided to reach the merits of the appeal, notwithstanding the fact that the extended covenant had expired. Ultimately, the SJC upheld the lower court's enforceability determination, but reversed the ruling extending the length of the anti-raiding covenant.
In affirming the enforceability of the agreement, the SJC first considered whether the agreement was entered into as part of a sale of a business or as an employment agreement, acknowledging that the standards for enforceability of restrictive covenants will depend on the context in which they arise. In fact, while the SJC noted that covenants made in the context of an employment relationship must be supported by a legitimate business interest limited to the protection of trade secrets, confidential information, or goodwill, a restrictive covenant made in the sale of a business may be supported by an interest not recognized in an employment setting. Ultimately, while the Court determined that the agreement at issue was a hybrid that did not fit squarely within one of the two categories, it was more akin to the sale of a business context. In light of this determination, the SJC noted that the anti-hiring covenant would be "examined less critically than [a covenant] entered into as part of an employment agreement." Notably, the Court found that Prime employees were, as a general matter, free to compete with Prime upon their departure. The Court affirmed that the anti-raiding provision was enforceable as it was supported by the legitimate business interest of preventing McGovern from raiding Prime of its key employees. The Court also highlighted that McGovern was free to compete generally, but couldn't use his inside knowledge to raid employees. It highlighted all of the confidential information that McGovern had access to, including starting salaries, compensation plans, and the relative strengths and experience of Prime's employees.
However, the SJC reversed the Superior Court's order extending the restrictive covenant by a year. The decision confirmed that contractual tolling provisions are enforceable, but highlighted the lack of any such provision in the parties' agreement. The SJC declined to hold that equitable tolling would never be permissible, but determined that it would only be appropriate when damages would be inadequate, "due to either the inability to calculate or the inadequacy of damages," and "absent a finding that monetary damages would provide inadequate relief," extension of a restrictive covenant without a contractual tolling provision is an abuse of discretion.
Takeaways
While this decision may not represent a stark departure from existing Massachusetts law, it serves as an important reminder for parties negotiating and litigating restrictive covenants. Some key takeaways are:
- While restrictive covenants in the employment context will only be enforceable under Massachusetts law if they are supported by one of three limited legitimate business interests—the protection of trade secrets, confidential information, and/or goodwill—covenants arising out of the sale of a business may be enforceable even if one of these three interests is not implicated. This decision suggests that anti-raiding provisions will be enforceable in the sale of a business context, but not an employment context (unless the party seeking enforcement can demonstrate that the covenant is necessary to support one of the aforementioned interests). Along the same lines, this decisions adds to a relatively small body of caselaw addressing the validity of employee non-solicits. While this case does not upset the general understanding that non-solicits may be more enforceable and/or scrutinized less closely than non-competes, particularly given the SJC's emphasis on Prime employees' ability to secure employment with another competitor, it nonetheless confirms that courts will carefully consider whether a non-solicit is supported by a legitimate business interest. In other words, companies should not presume that an employee non-solicit will be given a stamp of approval without satisfying the well-established requirements of restrictive covenants.
- Restrictive covenants may be "hybrids" that don't squarely fall within the employment context or the sale of a business context, but courts will analyze the circumstances of the case to determine the level of scrutiny to apply on enforceability questions.
- Parties seeking to enforce restrictive covenants should include tolling provisions, which are likely enforceable. However, it will be an uphill battle to convince a court to equitably toll such covenants in the absence of an explicit contractual tolling agreement.
- For agreements without tolling provisions, the party seeking enforcement and extension of a restrictive covenant should be prepared to present evidence of the inadequacy of damages and/or inability to calculate them. Indeed, this may be a reason to avoid bifurcating trial, notwithstanding the desire to address equitable claims first to allow for a swifter appellate review.
- Finally, the SJC's focus on McGovern's use of information related to Prime employees' compensation and strengths—and particularly its determination that this information allowed McGovern to unfairly compete—serves as an important reminder that information need not be a trade secret to support a reasonably tailored restrictive covenant.
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