United States: Notable Noncompete Developments In 2018

Employers should consider reviewing and revising noncompetition agreements to reflect the changes in the noncompete legal landscape in 2018, including, for example, (i) the enactment of the Massachusetts Noncompetition Agreement Act, (ii) the renewed application and endorsement of Illinois’ “Janitor Rule” and (iii) developments under Section 925(e) of the California Labor Code and California’s general prohibition against noncompetition agreements.

Massachusetts Noncompetition Agreement Act

As reported in the September 2018 edition of Employment Flash, Massachusetts recently enacted the Massachusetts Noncompetition Agreement Act (Act), effective October 1, 2018, according to which noncompetition agreements entered into on or after that date by employees living or working in Massachusetts must comply with the Act’s numerous requirements to be enforceable. Notably, the Act requires employers to pay “garden leave” or “other mutually-agreed upon consideration” if an employer wishes to restrict post-employment competition by covered employees.

The concept of “garden leave” originated in the United Kingdom and captures the period before an employee’s termination of employment, usually the notice period, during which the employee remains employed with the employer and continues to receive paychecks but is instructed not to perform work. The Act defines “garden leave” as 50 percent of an employee’s highest annualized salary over the two-year period preceding the employee’s termination of employment, to be paid during the restricted period following termination of employment. Although the Act does not define “other mutually-agreed upon consideration” or clarify whether this consideration must be substantially equivalent to “garden leave,” the legislative history of the Act seems to suggest that this consideration should consist of an amount similar to “garden leave.” In any event, the Act increases the costs of noncompetition agreements for employers in Massachusetts. Employers with employees in multiple states, including in Massachusetts, should consider drafting state-specific noncompetition agreements to meet the requirements of the noncompetition laws in the various jurisdictions where employees are located.

Illinois’ ‘Janitor Rule’

A recent ruling by an Illinois federal judge reminds employers not to overreach when it comes to drafting noncompetition agreements. According to the “Janitor Rule,” noncompetition agreements are unlikely to be enforceable if they are drafted so broadly as to prevent an employee from working for a competitor in any position (e.g., even as a janitor), as opposed to only those positions similar to the ones held by the employee while working for the employer.

In Medix Staffing Solutions, Inc. v. Dumrauf, 2018 WL 1859039 (N.D. Ill. Apr. 17, 2018), the employee argued that the noncompetition agreement was so broad that it would prevent the employee from working for a competitor even as a janitor. Without specifically naming the “Janitor Rule,” the U.S. District Court for the Northern District of Illinois held that, while the employee’s janitor example was “a bit far-fetched,” there was nothing in the noncompete to make the employee’s argument inaccurate. Accordingly, the court found the noncompetition agreement so overbroad that it was unreasonable on its face. The court ruled that, because the noncompetition agreement was so broad as to be a ban on competition per se, the entire agreement was unenforceable. In addition to reinforcing the importance of the “Janitor Rule,” Medix also serves as a reminder that employers should not assume a court will “blue pencil” or otherwise modify overbroad noncompetition covenants to make them enforceable. Courts may refuse to blue-pencil overbroad noncompetition agreements that are patently unfair as written (i.e., fall within the ambit of the “Janitor Rule”) and may refuse to enforce the entirety of such agreements.

California’s General Prohibition Regarding Noncompetition Agreements

A recent Delaware Court of Chancery decision, NuVasive, Inc. v. Miles, 2018 WL 4677607 (Del. Ch. Sept. 28, 2018), relied on Section 925(e) of the California Labor Code to enforce a noncompetition covenant in an employment agreement with a Delaware choice-of-law provision against a California employee who was represented by independent counsel during negotiations. Section 925 of the California Labor Code prohibits employers from requiring an employee who primarily resides and works in California to agree to a provision either (i) “requiring the employee to adjudicate outside of California a claim arising in California” or (ii) “depriving the employee of the substantive protection of California law with respect to a controversy arising in California.” Section 925(e) exempts from these restrictions employees that are individually represented by legal counsel in negotiating the choice of law terms and forum selection provisions. The NuVasive court asserted, “[i]n Section 925, I find, the California Legislature has stated strongly its general view that the prohibition of covenants not to compete ... cannot be evaded by choice of law provisions, but has made a policy decision that when contracting parties’ rights are protected by representation, freedom of contract trumps this interest.” Accordingly, the court applied Delaware law and enforced the noncompetition agreement. However, it is unclear whether a California court would rule differently if a California employee sought declaratory relief there, given California’s strong public policy against noncompetition agreements, as codified in Section 16600 of the California Business and Professions Code. California courts have previously held that Section 16600 represents the state’s strong public policy against the enforcement of noncompetes, thus rendering choice-of-law provisions allowing for the enforcement of noncompetes invalid.

NuVasive has not yet been mentioned in any California court decision, and no state courts in California have addressed Section 925. Of the handful of federal court decisions that make any mention of Section 925, only one specifically addresses Section 925(e), but it offers little insight into California courts’ willingness to enforce noncompetes. Until the California courts, Legislature and/or administrative agencies provide additional guidance regarding the interaction between Section 925(e) and California’s general prohibition against noncompetition agreements, employers should consider the legal risks associated with relying on NuVasive when entering into noncompetition agreements and employment-related agreements containing noncompetition provisions with employees in California. This holds true even if such agreements contain non-California choice-of-law or choice-of-venue provisions and employees are represented by independent counsel when negotiating such agreements.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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