A Noncompete Ban By Any Other Name – Time To Take Action

The interests protected by noncompetes — trade secrets, confidential business information, goodwill, and others — are critical to most companies’ success. But, protection of these interests does not happen by accident. With all the changes at the state level and potential changes at the federal (including likely regulations to be issued by the FTC), it is critically important to make sure you have a plan.

As Benjamin Franklin said, “If you fail to plan, you’re planning to fail.”

So, here is a three-step plan to take now:

First:Review existing restrictive covenant agreements and update them as necessary.

With one of the key tools to protect a company’s legitimate business interests (i.e., noncompetes) in the crosshairs and others (nonsolicits and no-recruits) increasingly coming under scrutiny, companies need to focus more closely on the remaining options to ensure they have the protections they need and that fit their particular circumstances.

Those key options (each with their own pros and cons) are as follows:

• Nondisclosure agreements. Also known as an “NDA” or “confidentiality agreement,” these agreements restrict a person’s use of confidential information and trade secrets. They serve multiple important purposes and are a fundamental building block to protecting trade secrets. For example, they put employees on notice that the company has information that may be confidential in general and identifying for the employee particular types of information that the company, in fact, considers confidential. Most courts view NDAs as the price of admission before they will step in to help protect the company’s trade secrets. But, they are also an important tool in the protection of other confidential information and even customer goodwill, insofar as the goodwill and information about the client often go hand in hand.

While nondisclosure agreements are generally considered enforceable without much scrutiny, some decisions (including two recent cases, TLS Mgmt. & Mktg. Servs., LLC v. Rodriguez-Toledo, 966 F.3d 46, 57 (1st Cir. 2020) and Brown v. TGS Management Company, LLC, 57 Cal.App.5th 303, 315-19 (2020)) potentially upend that paradigm.

To the extend these cases are followed, if an NDA is significantly over-inclusive, it could be at risk of being unenforceable in its entirety. See TLS Mgmt. & Mktg. Servs., LLC, 966 F.3d at 57 (refusing to narrow the “astounding [over]breadth”); Brown, 57 Cal.App.5th at 315-19.

Accordingly, companies should review the language in their nondisclosure agreements and make sure that it’s tied to the information that the company in fact treats as confidential. See id. at 57, 59 (invalidating an agreement that prohibited the use and disclosure of information that (1) included general knowledge, (2) was otherwise publicly available, and (3) was received from third parties (such as the plaintiff’s former clients)). And, while you’re at it, don’t forget to comply (or make an informed decision to not comply) with the Defend Trade Secret Act’s whistleblower notification requirements. 18 U.S.C. § 1833(b).

Of course, even if the NDA is enforceable, depending on the jurisdiction, it likely will not prevent an employee from taking a job merely because the employee may be in a position to use or disclose the company’s confidential information. As a consequence, oftentimes violations occur without the former employer’s knowledge – and by the time the violation is discovered, it may be too late.

• Nonsolicitation agreements. These agreements typically prohibit the solicitation of a company’s customers (and sometimes referral sources, suppliers, and others). And they do so without restricting the nature of the former employee’s employment with a competitor. That said, sometimes nonsolicitation agreements are drafted so broadly that courts will consider them to effectively constitute a noncompete, and refuse to enforce them on that basis.

When customer goodwill (and potentially customer confidential information) is at issue, a properly drafted nonsolicitation agreement (if complied with) offers meaningful protection. But like an NDA, nonsolicitation agreements are not a prophylactic, and oftentimes violations occur without the former employer’s knowledge.

• • A variation on the theme of nonsolicitation agreements are agreements that prohibit the former employee from causing a customer or other party to terminate or reduce its relationship with the former employer, or that expressly prohibit the former employee from even servicing the customer. They are known as noninterference agreements and no-business / no-service agreements, respectively. While they provide more protection than nonsolicitation agreements, they are harder to enforce.

• No-recruit / no-raid agreements. These agreements, which prohibit the solicitation of a company’s employees, are sometimes referred to as nonsolicitation agreements, but more properly are known as no-raid, anti-raiding, antipiracy, nonrecruit, or similarly named agreements. In the past, companies often did not enforce these restrictions absent a contemporaneous breach of a noncompete or other agreement. However, enforcement actions involving these agreements seem to have become more commonplace, and the law is developing to hold these agreements to a standard similar to those of nonsolicitation agreements.

• • A variant of no-raid agreements are no-hire agreements, which are an absolute ban on the hiring – as opposed to just a bar to the solicitation – of a company’s employees. While they provide more protection than no-recruit agreements, they are harder to enforce.

• Alternative forms of noncompetes. If noncompetes are banned, similar (but different) types of agreements may remain permitted. At the moment, this issue varies by state (with some states viewing them as noncompetes and others not). How a federal overlay would apply is, at this point, unknown. However, if permitted, the impact of a noncompete is ameliorated to some extent because the employee is permitted to compete or is paid during the restricted period.

• • Forfeiture-for-competition agreements and compensation-for-competition agreements. These are agreements by which an employee either forfeits certain benefits or pays some amount of money (often a percentage of revenues) if they engage in activities that are competitive with their former employer.
  • Garden leave/notice covenants. Generally, these clauses call for compensating an employee (or former employee) while they are restricted from working for a competitor. There are essentially two types, each with its own variations: (1) the traditional version, in which the employee is required to provide notice of resignation for a specified (typically, lengthy) period, during which they remain employed by their soon-to-be-former employer (but do no work) and, as a consequence, continue to be bound by their fiduciary duties (including to not compete),³ and (2) a model in which the employee is paid some amount of compensation during the restricted period of a traditional noncompete.

• Invention assignment agreements. These agreements require employees to assign to the company any new inventions, trademarks, copyrights, trade secrets, or other intellectual property or improvements to the company’s intellectual property. Such agreements protect the company’s investment in its intellectual property and preserve to the company the benefits of new developments that arise as a consequence of work being done for the company. They tend to be enforceable, assuming they follow applicable state limitations.

• Springing/“time out” noncompetes. In Massachusetts, a court is expressly permitted to, in effect, create a noncompete for someone who has engaged in unlawful conduct, such as breaching their nondisclosure agreement or nonsolicitation agreement, misappropriating trade secrets, or breaching their fiduciary duties to their employer. As such, while the employee is permitted to compete in the first instance, they essentially forfeit that right if they engage in otherwise unlawful behavior. Accordingly, this is not a separate agreement; it’s a remedy. Nevertheless, it can be identified as a remedy in an agreement. There is no case law about its enforceability at this point, but I have had clients use it for years before it was incorporated in the Massachusetts Noncompetition Agreement Act, and, on a positive (albeit unhelpful) note, I have never had to test it.

To understand the relative enforceability (i.e., how likely a court is to enforce the particular agreement) and strength of protection offered by these agreements, I have plotted them on the graph below. The farther up the X axis of the graph, the greater the protection offered by the type of agreement. The farther right on the Y axis, the more likely a court is to enforce the agreement. (The graph is not drawn to scale; it’s intended to give just a general sense of how the different types of agreements compare.)

Note that, for the most part, these agreements are not mutually exclusive. Which agreements make sense to use will depend on the particular circumstances of the company, the industry, the business interests, and the employee at issue. Careful consideration should be given to these issues now to make sure that the appropriate protections are in place, regardless of what happens to noncompetes moving forward.

Second: Update company policies

Supplement any agreements with appropriate policies, including in particular, policies governing the proper use of company owned equipment and technology and personal devices (BYOD policies), trade secrets and confidential business informationpolicies, and codes of conduct.

Third: Training, training, training.

What are the three most important steps to protecting a company’s trade secrets, other confidential information, and goodwill? Okay, it’s not really training, training, training – but training is crucial to making the protections work.

Even with the best of agreements in place, protecting legitimate business interests comes down to training – starting before a new employee walks in the door, continuing during the employment cycle, and repeating at the end (where it starts for the new employer). Training is critical to preventing information from entering the company and contaminating the company’s existing information and research. (This infiltration often happens not just at the start of employment, but later, when employees work on something similar to what they worked on at their former employer.) Relatedly, making sure that company information doesn’t leave the company (during or at the end of the employment relationship) is also critically important.

To help train employees about how to avoid these missteps, we have created some short “Ten Minute Training” videos for each of those scenarios.

For more details on a proper trade secret / goodwill protection program, see “A primer and checklist for protecting trade secrets and other legitimate business interests before, during, and after lockdown and stay-at-home orders.” (It’s long, but worth a read, and includes a step-by-step guide to evaluating and establishing a proper plan.)

Taking these steps should help to both reduce the need for enforcement actions by avoiding inadvertent loss of information and goodwill, and increase the likelihood of success if and when you do need to enforce your rights or defend your conduct. (Please feel free to contact us if you need assistance putting a legitimate business interest protection plan in place, reviewing what you have, enforcing your rights, or defending your conduct.)

We know first hand how hard it is to keep up with the ever-changing requirements around the country. To help, we created the following resources (available for free):

• 50-State Noncompete Law Chart, providing the first of its kind summary of current noncompete law in every state (and D.C.) — and updated on a continual basis, as the laws change (downloadable PDF);
• Compensation criteria and wage thresholds summary chart, providing details for each of the 11 states that has compensation related requirements for the use of noncompetes;
• Notice requirements summary chart, providing details for each of the 8 states (plus D.C.) that has notice requirements related to noncompetes (downloadable PDF);
• 50-State and Federal Trade Secret Law Chart, providing a comparison the trade secrets laws nationally to the Uniform Trade Secrets Act (downloadable PDF); and
• “Changing Trade Secrets | Noncompete Laws” (dedicated blog page) now provides a current detailed summary of the changing landscape of trade secret laws and noncompete laws around the country, state by state and at the federal level.
• Trade secret and other legitimate business interest protection plan strategy and checklist.