NON-COMPETE DEVELOPMENTS

LEGAL DEVELOPMENTS IN EMPLOYMENT AGREEMENTS CONTAINING NON-COMPETE CLAUSES AND ALTERNATE PROTECTIONS

As an employment law attorney, I represented employees who were both threatened and sued for alleged violations of non-compete clauses in employment agreements. As a business owner for the past 25 years, I have always required employees sign non-compete agreements. Such agreements are intended to protect the employers’ economic interests without unduly restricting the employee’s ability to find alternative employment.

Historically, the enforceability of such clauses depended on the reasonableness of the duration and geographic scope of the restrictions. The law regarding non-compete clauses has largely been created out of case law on a state-by-state basis. This geographic restriction has become hard to define in a world with so many digital companies generating revenue everywhere in the world. In the last few years, however, there have been several developments at the federal and state level looking to further define and curb the restrictions found in non-compete clauses.

PROPOSED FEDERAL LIMITATIONS - YET TO BECOME LAW

PRESIDENT BIDEN ORDER AND U.S. HOUSE OF REPRESENTATIVES BILL

President Biden produced an Executive Order which told the Chair of the FTC to "curtail" the unfair use of non-competes that would unduly limit worker mobility. As of yet, there has been no change in the law despite President Biden's Order. However, the FTC issued a proposed rule in 2023, explained below. The U.S. House of Representatives introduced the Workforce Mobility Act (2021, 2023) which prohibits the use of non-competes in commercial enterprises but has broadly written exclusions. H.R. 731 118th Congress (2023-24).

Neither of these two actions created new law but set the tone for what was to follow from the Federal Trade Commission (“FTC”) and the National Labor Relations Board (“NLRB”). ?In 2023 the FTC and NLRB have worked together and agreed to share information regarding this issue. The FTC’s proposed rule and the NLRB’s memo, described below, have laid the groundwork for a sweeping federal law to curb the restrictions in non-compete clauses. Non-compete disputes are still adjudicated under state rules, both statutory and under state case law, also noted below.

A.??????? FEDERAL TRADE COMMISSION

On January 5, 2023, the FTC published a Notice of Proposed Rulemaking regarding Non-Compete Clauses which would for the most part eradicate such clauses. 88 Fed. Reg. 3482 (to be codified at 16 CFR 910.1(b)(1)). The proposed rule states “it is an unfair method of competition for an employer to enter into or attempt to enter into a non-compete clause with a worker; maintain with a worker a non-compete clause; or represent to a worker that the worker is subject to a non-compete clause where the employer has no good faith basis to believe that the worker is subject to an enforceable non-compete clause.” 88 Fed. Reg. 3482. This language wouldn’t concern me in the least if I was representing an employer because every employer likely has a “good faith” basis to have such a clause. And in cases where that isn’t the case (ie, janitor, secretary), the employer just would not sue to enforce. Nothing about this language changes much, if anything, in the current state of the law. It seems as if the FTC’s had to put together a response to President Biden’s 2021 Executive Order.

The notice says the FTC “seeks to ensure competition policy is aligned with the current economic evidence about the consequences of non-compete clauses...the existing legal frameworks governing non-compete clauses-formed decades ago, without the benefit of this evidence-allow serious anticompetitive harm to labor, product, and service markets to go unchecked.” 88 Fed. Reg 3482. And the mandate in the proposed rule indicates “an employer that entered into a non-compete clause with a worker prior to the compliance date must rescind the non-compete no later than the compliance date.” 88 Fed. Reg. 3482. Again, this language is so broad it wouldn’t pass muster as statutory grounds. There are too many employer rights which could be tripped up by this all-encompassing language. While courts may eventually use sections of the proposed rule in evaluating a case, an employer’s right to enter into a non-compete is still intact, but for state law limitations.

B.??????? NATIONAL LABOR RELATIONS BOARD (NLRB)

On May 30, 2023, the Office of the General Counsel of the National Labor Relations Board (the Board) issued a policy memo expressing its position that non-compete clauses violate Section 8(a)(1) of the National Labor Relations Act (NLRA) because they prohibit employees from accepting certain types of jobs and operating certain types of businesses after the end of their employment. National Labor Relations Board Memorandum GC 23-08 (May 30, 2023).

While having no legal power, the memo provides a view into how the NLRB could handle cases in the future against employers relating to non-competes clauses. ?The General Counsel states the restrictive clauses violate the NLRA when they “could reasonably be construed by employees to deny them the ability to quit or change jobs by cutting off their access to other employment opportunities that they are qualified for.” ?GC 23-08 (May 30, 2023).

Nonetheless the General Counsel indicates in the memo some clauses may not violate the NLRA if they reasonably restrict parties’ “managerial or ownership interests in a competing business. ” GC 23-08 (May 30, 2023). The General Counsel also leaves open the possibility that a narrowly tailored non-compete provision may survive NLRA scrutiny if “justified by special circumstances.” GC 23-08 (May 30, 2023). ?This statement could be interpreted to mean anything is a special circumstance.? But the memo goes on to state that an employer’s “desire to avoid competition from a former employee is not a legitimate business interest that could support a special circumstances defense.” ?GC 23-08 (May 30, 2023).

The memo’s recommended prohibition on overly broad non-compete clauses in employment agreements follows the Federal Trade Commission’s (FTC) January 2023 proposed rule. While both the FTC and the NLRB state an interest in balancing employee and employer rights, each case will be decided on its own facts. It’s unlikely these federal proposals will provide anything other than some guidance for the courts. There is nothing in these federal remarks which will change a court’s analysis in weighing the interests of the parties. The federal proposals do, however, make clear a higher level of scrutiny will be implemented around such clauses.

STATE LAWS DIMISHING BROAD ENFORCEMENT OF NON-COMPETES

Several states have introduced new laws in the past few years to better define who should be subject to non-competes. These new laws divide high and low wage earners. The policy is to allow restrictions on highly paid employees but leave the lower paid wage earners alone so they can move on to a new employer without restrictions. The obvious impetus to the distinction is the economic interests of lower wage earners outweigh an employer’s desire to restrict such workers.

Though no federal legislation, executive order, or proposed rule has been passed as law (ie, ?NLRB memo, FTC proposed rule, House Bill, and President Biden) the following states have enacted legislation to curb or strike down the enforceability of non-compete clauses. Specifically, California, North Dakota, the District of Columbia, and Oklahoma are states which have declared non-competes entirely (or largely) unenforceable based on policy grounds. There are other states which have struck down such contracts in low wage earner categories. These states include Washington, New Hampshire, Maine, Maryland, and Rhode Island. This year has seen some additional state-wide restrictions. Oregon has a new law which only allows non-competes to be enforced if the employee makes over $100,000 per year, the limit is no more than 12 months, and the employer provides 50% of the departing employee's earnings, or $100,000. Illinois passed a law in June of 2021 which declares as invalid any non-competes where the employee earns less than $75,000. Also, Illinois' statute allows any former employee to solicit if they earn less than $45,000. Nevada also passed a law in 2021 that prohibits and voids all such contracts for hourly employees. See California Business & Professional Code 16600; Illinois, 820 ILL. COMP. STAT. 90/1; Maine, ME. REV. STAT. ANN. tit. 26, §§ 599-A, 599-B; Maryland, MD. CODE ANN., LAB. & EMPL. § 3-716; Massachusetts, MASS. GEN. LAWS ch. 149, § 24L(c); Nevada, NEV. REV. STAT., 613.195; New Hampshire, N.H. REV. STAT. ANN. § 275:70-a; Oregon, OR. REV. STAT. § 653.295; Rhode Island, R.I. GEN. LAWS §§ 28-58-1 to -3; Virginia, VA. CODE ANN. § 40.1-28.7:8; Globus Med. v. Jamison, 2:22cv282 (E.D. Va. Aug. 15, 2023), and Washington, WASH. REV. CODE § 49.62.020.

What to do? Treat people the way you want to be treated. That solves a lot of problems. Speaking from experience, it's far better for everyone (and less expensive) to negotiate a resolution before adversarial proceedings start. Once in court, both sides lose some control regarding resolution and normally communicate only through counsel. Unfortunately, fear and greed all too often fuel continued disagreeable behavior during litigation. One of the deterrents to protracted litigation, which causes each party to seriously evaluate the merits of the legal postures, is to consider if someday the states will require the losing party to pay the winner's attorney fees and costs.

As of 2023, non-competes remain a valuable business tool. These limitations articulated in a handful of states, and by proposals from President Biden, the House of Representatives, the FTC and the NLRB simply represent an attempt to legislate fairness. In the absence of any additional guidance, employers can expect more states to pass laws and federal agencies to issue regulations which contain language appearing to impugn employers’ rights to protect their economic interests. If such measures are too overreaching, employers will pay less in wages, or use more AI to fulfill certain jobs, or creatively work around the perceived new restrictions. In the end, fairness will be the ultimate litmus test.

ALTERNATIVE EMPLOYER REMEDIES TO NON-COMPETE RESTRICTIONS

TORTIOUS INTERFERENCE WITH CONTRACT/BUSINESS EXPECTANCY

“THE OPERA SINGER”

It should be noted there are other non-contractual actions which could trip up former employees if they are not careful. Ever heard of tortious interference with a contract? Tortious interference with business expectancy? These are a couple of legal actions, among others, a former employer could use in the absence of a non-compete to restrict the behavior of a former employee in the next job. These tools are in place to ensure the balance between fair competition and improper conduct. The line between the two is never clear, but the case law lays out the basics.

The seminal case occurred in the 1850s with a famous opera singer. Everyone wanted to hear Johanna Wagner sing. She was engaged by Benjamin Lumley to sing exclusively at Her Majesty’s Theatre for three months. But then, a chap named Frederick Gye got a little nutty and induced Johanna with more money to sing at his theatre, the Covent Garden Theatre. This was an English travesty! Lumley sued Gye, believing Gye’s behavior to be scandalous, perhaps immoral, but at the very least, downright wrong. It was 1853 when the case went to court. The court upheld Lumley’s claim against Gye for inducing Johanna to cancel her engagement by offering a higher offer. The tort came into existence. ?Improperly enticing workers to leave a pre-existing employment contract eventually expanded over the generations to all prospective business relationships, including both those reduced to signed contracts and those without a contract.

Below is an overview of what the interference claims look like today. Keep in mind such claims can be brought with a breach of contract claim, or independently depending on the contract's nature.

HYPOTHETICAL

Say a former employee goes to work for a competitor. With no non-compete in play, the employee thinks the former employer’s clients are fair game. Armed with information about the business, the processes, the prices, and an understanding of how the former employer went about securing and maintaining clients, the former employee goes on the attack to grab market share. Most former employees will not resort to any means whatsoever to get a former client (although some will). But that does not mean they won’t embellish the facts to create a false image about the former employer to attract business to the new position. It also does not mean they won’t use ‘trade secrets’ to get the business. Over time, the former employees discover the power of telling half-truths about their former company combined with knowledge of the old employer’s way of doing business (ie, contracts, prices, processes) is a potent weapon of mass economic destruction. And when the employees start to see the money roll in, improper conduct, otherwise known as greed, will be redefined as fair play-at least by the former employees.

The former employer will eventually learn of this activity, especially if enough money is involved. The question is how big the employer’s eruption will be, at least in the form of legal action. If you poke the bear hard and deep, there will be a resulting tsunami of legal claims starting with the benchmark, tortious interference.

LAW

Tortious interference with a contract occurs when someone induces a breach of contract between the former employer and a third party. The elements are: (1) the existence of a contract; (2) the defendant's knowledge of the contract; (3) the defendant's intentional procurement of its breach; (4) the absence of justification; and (5) damages. Though determined state by state, the law generally doesn’t require an independent tort to have been committed for the conduct to be unjustified. Tortious interference with a prospective business advantage occurs when: (1) a business relationship or expectancy existed with probable future economic benefit to employer; (2) former employee knew of the relationship or expectance; (3) the employer was reasonably certain to have continued the relationship or realized the expectancy; (4) former employee engaged in intentional misconduct and (5) the former employer sustained direct and proximate damages.

APPLIED

At the outset, know that courts want to protect the rights to regular competition but not to the extent wrongdoing is involved. Litigation frequently focuses on whether the former employee justifiably caused the breach of the contract. Not all interference is illegal or improper. But it could be improper, not illegal, and still support the basis for a successful claim against the former employee. There are numerous variables which will be used to determine if the actions were improper. These include the former employee’s motive; the former employer’s affected interests; the former employee’s intent to cause interference; the nature of the contract; policy considerations, and types of damages incurred. ?

?Using the possible facts described above, here are a few scenarios I think would prove to be improper:

????????????The employee bad mouths and/or lies about the credibility of her former company and its employees

????????????The employee uses pricing information to gain an unfair advantage

????????????The employee calls on any existing or prospective clients he would have not known about but for his previous employer

????????????The employee steals and uses proprietary information such as customized coding, or say, ingredients in a secret sauce

????????????The employee arguably commits fraud by lying about the former employers’ products and services

????????????The employee commits fraud by falsifying information to entice employees to leave the previous employer

????????????The employee steals, whether by copying data or by duplicating it from memory, internal processes the employee knows are specific to the former employer

Each state has its own case law, however, the use of customer lists, prospect lists, pricing information, and information otherwise unknowable in the marketplace to one’s financial advantage should be considered improper. “Improper” is a broad term which each person needs to consider when divulging esoteric information to gain an economic advantage.

OTHER REMEDIAL CLAIMS

The tortious interference claims mentioned above form the basis for most employment interference claims in the absence of a non-compete. However, there are several more to be considered depending on the conduct in question. Such claims include breach of fiduciary duty, defamation, stealing trade secrets, breach of an employment agreement, negligence, violating a non-disclosure agreement, theft, and destruction.

CONCLUSION

Non-compete clauses in employment agreements are very much alive and useful in businesses throughout the United States. Prior to the advent of the information age the geographic and durational limitations made sense. Now, due to the nature of work where many people can work anywhere in the world, the geographic limitation is less relevant. Courts have repeatedly struck down geographic limitations which apply to the country, or the world. The question today is what economic interests can employers protect, and through what means? State laws in existence today attempt to balance employer and employee interests. Attempts by the FTC, the NLRB, the U.S. House, and the President, while important to the extent they show federal interest in the topic, have no force of law. And it is doubtful such rights will be legislated at the federal level. While many employment practices are subject to federal law (ie anti-discrimination, fair wage, FMLA, ADA, ADEA, and trade secrets), anti-compete issues between an employer and employee should remain within the jurisdiction of state law.

And the remedies allowed for violations of anti-compete legislation would be difficult to legislate at the federal level. When operating in conjunction with state remedies, there could be wide divergence in damage awards, which would lead to forum shopping. For example, federal Title VII (anti-discrimination) law puts caps on non-economic losses based on the size of the employer. However, some states, with identical state law provisions have no such limits, and allow for unlimited punitive damages, while other states cap damages at lesser amounts than the federal law. This disparity in damage allowances leads to massive forum shopping where plaintiffs are trying to find any nexus with the state that has the broadest damage allowance.

Alternatively, regardless of changes in non-compete laws, whether federal and/or state, employers and employees alike will have to pay close attention to other relevant employment laws. Intentional interference torts, breach of duty of good faith and fair dealing, fraud, negligent misrepresentation, defamation, and unjust enrichment to name a few will serve to provide additional protections for employers.

The best advice I’ve ever given after 30 years of handling employment matters on these topics is to TREAT PEOPLE THE WAY YOU WANT TO BE TREATED, and most of these problems will never materialize.