Many companies use restrictive covenant agreements with key employees to guard against economic harm to the company by an employee who takes a job with the company’s competitor and/or tries to persuade the company’s customers to stop doing business with the company. These are particularly common with sales staff. In Pennsylvania, these covenants will generally be upheld if they are narrowly drawn to protect the employer’s legitimate business interests and if the employee has been given meaningful consideration in exchange for agreeing to be bound by the covenants. To learn more about Noncompetes, visit our Navigating Noncompetes blog series in the AMM Employment Law Blog.
Companies recognize that merely doing business with other firms can also be risky when it comes to protecting their interests in employees and customers. Consequently, it has become customary to include “no hire” provisions in contracts to prohibit a party from hiring away the other party’s staff. These clauses are particularly common in agreements in the technology field and in non-disclosure agreements that parties often enter into when evaluating whether or not to begin a business relationship. The viability of these provisions is in doubt in Pennsylvania, where the Pennsylvania Superior Court struck down a no-hire clause in a service agreement earlier this year. The Pennsylvania Supreme Court has agreed to hear the case.
In Pittsburgh Logistics Systems, Inc. v. BeeMac Trucking, LLC, the trial court held that the no-hire clause was unenforceable because it prevented individuals from seeking employment with certain companies even though those individuals had not agreed to or been compensated for the restriction. It is important to note that in a separate action, Pittsburgh Logistics Systems (“PLS”), the company attempting to enforce the restrictions against BeeMac, was unsuccessful in its efforts to enforce the restrictive covenants contained in four employees’ employment agreements, each of whom left to work at BeeMac. The trial court concluded that the covenant not to compete was oppressive and overly broad since it had an unlimited geographic scope. The court viewed PLS as having “unclean hands” and refused to enforce the restriction at all.
The Superior Court agreed with the trial court and held that the no-hire clause was unenforceable as a matter of law. The Superior Court was influenced by the lower court’s holding that the non-compete covenants in the employment agreements were not enforceable, noting that it would be unfair for PLS to achieve the same result by using a contractual no-hire provision in its contracts with other companies.
Two Superior Court judges dissented, drawing a distinction between a no-hire provision in a contract between two companies and a non-compete clause binding employees. They reasoned that the no-hire clause did not restrict the employees’ actions; rather, the clause was a bargained-for restriction in recognition of the fact that BeeMac would have access to PLS employees and know-how. The dissenting opinion suggests that the correct analysis is whether the no-hire clause was a reasonable restraint on trade. Using that test, the dissenting judges would have enforced the clause and granted the injunctive relief requested by PLS to prevent BeeMac from “enjoy[ing] the benefit of its purported breach” and “leverag[ing] the specialized knowledge that PLS’s former employees acquired while under its employment.”
It will be interesting to see how the Pennsylvania Supreme Court views these issues when it hears this case. Stay tuned for further developments.
Employment agreements, especially those for key employees which include non-competition terms, must be carefully drafted. What should they include? Here are eight (what’s magic about ten?) musts:
1. Define the Restrictions. The non-compete should, first and foremost, clearly define the prohibited zone by industry segment, by geography and by time. Because these covenants are disfavored in the law (certainly by every trial court which I’ve ever asked to enforce one of these agreements) employers must leave no doubt about the restrictions and be able to tie each to an identifiable protectable interest. The covenants are not enforceable unless they are required to protect such interests, and then only to the extent the restrictions are reasonable.
2. Protectable interest? Courts will not enforce these covenants unless the employer has an interest which can only be protected by the restriction. Eliminating competition is not a protectable interest but, for example, protecting customer relationships is. Consider how the particular employee could hurt your business and tailor the restrictions to provide protection in those areas.
3. Reasonable? A covenant prohibiting competition anywhere in the country is not likely to be enforced where the employee’s relationships were confined to one state or region of the country. Such a broad restriction would likely be found to be unreasonable. Similarly, temporal restriction should be limited to the time required to give the employer’s new representative time to meet and solidify relationships with the customers.
4. Don’t forget to protect your people. A well drafted employment agreement will include provisions which prohibit the employee from inducing your employees to move to the new employer. Losing one key employee is bad enough; losing three or four may be catastrophic.
5. What happens if the employer sells the business? Unless the covenant can be assigned, it is lost and the employee is free to compete. Restrictive covenants are important assets of the business. Absent assignability, the value of those assets is lost if the business is sold.
6. A tolling provision? It may take some time for an employer to learn that a former employee has violated the covenant. Litigation to stop that violation takes more time. A well drafted document will include a tolling provision which stops the clock from running while the employee is in breach.
7. Protect confidential information. The employment agreement should protect confidential information and trade secrets. Employees are often privy to sensitive information which is necessary to do their job. When they leave employment, that information should stay behind. Make sure that the employment agreement provides that confidential information and trade secrets will not be “used or disclosed” after the sale. Define confidential information as broadly as possible, but keep in mind that it does not include information known to the public or easily discoverable.
8. Make violation risky. The former employee must know that if he chooses to violate, it will cost him. The tolling language, mentioned above is one way to get that point across. Another is to provide for recovery of attorney’s fees if the restrictive covenants are violated and enforcement litigation results.
There is a large body of state specific law surrounding the interpretation and enforcement of these agreements. Make sure the attorney who you engage is experienced in this area of the law.