Employees who bring their book of business to a new employer must make additional considerations when asked to sign a non-compete.
This article by TELG principal Tom Harrington and TELG managing principal R. Scott Oswald was published by Westlaw Journal Government Contract on September 15, 2014.
Leaving with what you brought: Non-compete agreements when you bring your book with you
Many employees wrongly consider signing a non-compete agreement a mere formality no more important than deciding whether to enroll in a new employer’s flexible spending account or selecting their parking space. Nothing could be further from the truth. Non-compete agreements can severely affect an employee’s ability to advance his or her career. In our practice, this is often most evident when we represent employees who have had long careers dedicated to contracting with the federal government.
An Illustrative Hypothetical: The Career Professional Who Wants a Change
Imagine a government contracting professional, Susan, who wants to make a career change. For the past 25 years, she has worked as an information technology project manager for the biggest names in the industry and she has contracted with various defense and civilian agencies. Tired of the bureaucracy associated with some of the larger contracting firms, she decides to bring her wealth of experience to Boutique LLC, a start-up enterprise operating out of Washington.
The first few months at Boutique are great. Susan, relying on the network of contacts she developed over her career, generates strong leads for the company. A few of the leads result in small contracts for Boutique, but most of Susan’s efforts are designed merely to build relationships between Boutique’s executives and her own contacts within federal and state governments.
But Susan eventually finds herself at odds with Boutique’s president, Frank. After a few months, the relationship turns so toxic that Susan feels she has no choice but to resign. Susan tenders her resignation and sets off to find a new job.
Given her extensive background in the industry, Susan decides to do some independent consulting work. She reaches out to her federal government contacts and her Virginia and Maryland state government contacts. Relying on her network, Susan learns of several new opportunities before they are even publicized. She speaks with several people with whom she has worked over the years, and together they start chasing contracts.
Susan’s efforts quickly succeed. She secures two small but lucrative contracts — one with the Navy and one with the state of Maryland. Excited about these opportunities, Susan updates her LinkedIn profile to reflect her work on the new contracts.
Frank, Boutique’s president, views Susan’s updated profile. Still angered by the way Susan left the company, Frank is enraged to learn that Susan now works directly with the Navy and Maryland, two entities to which she had introduced him when she worked at Boutique. Frank tells Boutique’s attorney to write a cease-and-desist letter to Susan and the Navy and Maryland contracting offices, informing all parties that Susan has breached the non-compete agreement that she signed when she joined Boutique.
Non-compete agreements can severely affect an employee’s ability to advance his or her career.
Attached to the letter is a copy of the non- compete agreement that, if enforced, would prevent Susan from “directly or indirectly, individually, or in association with others or through any competitive entity, as an agent, principal, employee, independent contractor, or inany other capacity whatsoever, contacting any customer of Boutique or accepting any business from any customer of Boutique.”
Susan initially is unconcerned. Neither the Navy nor Maryland was actual “customers” of Boutique. But the non-compete provides that “Customer is defined as any entity that has placed an order with or been solicited by any representative of Boutique in the two-year period immediately preceding the employee’s departure.” Susan knows that while she worked at Boutique, she solicited the Navy, Maryland and a host of other entities with whom she had prior relationships.
Has Susan really breached her non-compete merely because she sought work from those contacts that she had spent a career cultivating? Is the fact that she introduced Boutique to her network enough to bar her from working with those same entities once she leaves?
Enforceability of Non-Compete Agreements
This commentary focuses on whether an employee can leave with what he or she brought. More specifically, it examines whether an employee who has spent a career cultivating a network of contacts immediately forfeits “rights” to those contacts when he or she signs a non-compete with a new employer. Before discussing the two competing schools of thought, it is important to touch on the basics of non-compete litigation.
In most jurisdictions,1 courts look primarily to three factors in determining the validity of a non-compete agreement: duration, geographic scope and breadth of the
restraint.2 In cases in which the non-compete restricts an employee’s ability to work for an inordinate period of time (typically longer than two or three years), courts often strike it down as unenforceable.3 Likewise, in cases in which the restriction prevents an employee from obtaining employment in locations where the employer does not conduct business, that non-compete too will be unenforceable.4 Finally, in cases in which the agreement, on its face, prevents the employee from working in any capacity for one of the former employer’s competitors, courts are likely to find the agreement overbroad and unenforceable.5
More broadly, courts put the onus on the former employer to identify some “legitimate business interest” that it seeks to protect through the enforcement of the non-compete agreement.6 PRELIMINARY AND PERMANENT INJUNCTIVE RELIEF
Let us return to the hypothetical case involving Susan, Frank and Boutique LLC. Susan ignores Frank’s cease-and-desist letter and continues to work for Maryland and the Navy. Frank sues and Susan receives a summons instructing her to appear in court at an injunction hearing. This is where the proverbial rubber hits the road. Essentially, Frank is asking the court to prevent Susan from engaging in any further business that Frank believes violates her non-compete agreement with Boutique.
In determining whether to grant Frank’s motion for a preliminary injunction, courts will require him to establish that:
- Boutique is likely to succeed on the merits.
- The company is likely to suffer irreparable harm without preliminary relief.
- The balance of equities tips in Boutique’s favor.
- An injunction is in the public interest.7
Some jurisdictions still allow for a balancing of these factors; others require the plaintiff to “win” each of the factors. Whether an employee may take his or her “book” with him or her is critical to the determination of all of these factors. Below is a point/counter- point discussion of how a pre-existing book of business works to the employee’s and employer’s benefit.
The Book of Business is the Employee’s Toolbox
An employee has an obvious desire to take what he or she brought to the business when he or she leaves. An employee should not have to forfeit a career’s worth of contacts simply because he or she introduced those people to an employer. The New Jersey Superior Court Appellate Division dealt with this precise issue in Coskey’s Television & Radio Sales & Service v. Foti.8
In Coskey’s, the employee, Ronald Foti, was a highly knowledgeable and experienced designer of commercial sound systems and had developed a substantial client base prior to joining the employer. After Foti left Coskey’s, the company tried to enjoin him from working with clients for whom he had previously provided services. The court overturned the injunction, holding that “[w] hat Foti brought to his employer; he should be able to take away.” The court explained:
This is little different than the tradesman who brings his tools to his employer and upon separation leaves with them, or a scientist who has entered into an employment relationship with a head full of scientific data which he used for the benefit of his employer and then may use for the benefit of another upon reemployment. … Foti’s relationships within the industry were not bought and paid for; they were merely rented during the period of employment.
This sentiment was echoed by the U.S. District Court for the District of New Jersey in Laidlaw Inc. v. Student Transportation of America Inc.9
A more recent case in the Eastern District of New York sheds light on the public policy at issue.10 U.S. District Judge Jack B. Weinstein opined: “In professional matters, sensible clients follow the talent they trust, and not the organizations to which that talent is temporarily attached. Clients are not dragged against their will from one firm to another, but actively choose who they will retain for professional services.”11 Judge Weinstein cited precedent for the proposition that when a non-compete prohibits the individual from working with clients who followed him to his former employer due to a “pre-existing relationship,” the agreement must be deemed unreasonable.12
Finally, a less pervasive but entirely appropriate public policy argument is that enjoining an employee from bringing his or her book of business actually stifles small business growth. Returning to our hypothetical case, imagine that Susan knew she was signing over her network of contacts to Boutique when she executed the non- compete agreement. One of three possible scenarios would probably result:
- Susan refuses to join Boutique because she fears losing her contacts.
- Susan joins Boutique but refuses to introduce Frank and the other executives to her network of contacts.
- Susan joins Boutique without signing a non-disclosure agreement and, when she left, has an unfettered right to take with her any and all of Boutique’s customers.
Under any of these scenarios, small-business growth is undermined. Indeed, it would be nearly impossible in these scenarios for businesses to recruit the experienced talent that they need in order to thrive.
But the Employer Paid for That Book
Although we act as employee counsel, we are not unsympathetic to the difficult situation that employers, particularly small businesses, may face in attempting to enforce reasonable non-compete agreements against departing personnel. One can argue that Frank hired Susan specifically for her contacts and even paid her a premium for them. When an employer invests money, time and energy in an employee, the company should be able to protect that investment.
Unlike the more employee-friendly decisions
Discussed above, a recent case from the 8th U.S. Circuit Court of Appeals takes a decidedly pro-employer position.13 relying on precedent from the Missouri Court of Appeals; the 8th Circuit found that “an employer may protect customer relationships even if the employee had contact with some of the same customers before joining the employer.”14 Going further, the court stated: [Employer] had the right to require [employee] to develop strong relationships with any and all customers that she could. The evidence in the record showed that [employer] invested considerable money, time and effort to allow [employee] to develop, maintain, foster and preserve [employer’s] relationships with its customers, including the customers [employee] originally met during her [prior] employment. [Employer] had a legitimate business interest in restraining [employee] from pursuing those customers with whom she developed or strengthened a relationship while working for [employer], regardless of whether those customer contacts originated with [employee].15
As can be seen from the above passage, courts that take a more employer-friendly position focus on the costs incurred by the employer in allowing the employee to strengthen relationships he or she had previously developed.
Resolving the Tension: An ‘Employment Pre-nup’
What can be done to alleviate this tension between employer and employee? First, the answer lies in negotiating the non-compete agreement at the outset of the employment relationship so that its terms are fair and reasonable to both parties. Although this may require some difficult conversations at the outset of the employment relationship, it will go a long way to reduce conflict when the relationship ends.
There are two ways to deal with this “existing book of business” problem. The first is to include broad language in the non-compete that carves out all of the employee’s pre-existing business relationships. This carve-out could say something to the effect of, employer agrees that any customers with whom employee maintained a pre- existing business relationship and to whom employee introduced employer shall not be subject to the terms of this non-compete agreement.” Although this approach is fairly straightforward, it can still lead to significant post-employment litigation. One can imagine a dispute over how one defines the employee’s “pre-existing business relationship” or whether the carve-out embraces a relationship that only briefly existed decades earlier. An imprecise and ambiguous carve-out could render the non- compete agreement a nullity in its entirety.
The better approach is for the employer and the employee to have an open and honest conversation about the specific clients that the employee intends to bring to the table. The employee can explain to the employer the nature of his or her relationships with various entities and identify those with whom he or she would like to be able to pursue employment opportunities if (read: when) the employment relationship ends. Once the parties whittle down the list to something that is reasonably calculated to protect both of their legitimate interests, an addendum can be included that specifically identifies those entities that are not subject to the non-compete. This way, with regard to the existing book of business, there will be almost no question regarding the post- employment rights of either the employee or the employer upon dissolution of the employment relationship.
As noted, however, we do not mean to imply that these conversations will be easy or comfortable. Indeed, this sort of “employment pre-nuptial agreement” tacitly admits that the employment relationship will not last forever. But the alternative — costly, time consuming and all-or-nothing litigation is far less palatable.
We say “most” because non-compete litigation varies significantly from state to state. For example, California views as void nearly any prospective restrictions on an employee’s right to compete with a former employer