Arnold H. Pedowitz, lawyers in New York, NY, New York

DUTY OF LOYALTY, TRADE SECRETS

AND OTHER MEANS OF

PROTECTING EMPLOYERS FROM UNFAIR COMPETITION

Gary Eidelman^[1]

and

Arnold H. Pedowitz^[2]

DUTY OF LOYALTY^[3]

The Second Circuit recently held that a former employee had to forfeit all of his compensation commencing with the date of his disloyalty and running through to his last day of employment. Phansalkar v. Andersen Weinroth & Co, L.P., 334 F3d 184 (2d. Cir., 2003). The disloyal employee lost in excess of four million dollars. In this time of close corporate scrutiny we can expect issues of employee loyalty to receive increased attention from the courts.

Employees owe a duty of loyalty to their Employers. Prozinski v. Northeast Real Estate Services, LLC., 59 Mass.App.Ct. 599, --- N.E.2d ---- (Mass. App.Ct, 2003); Everen Securities, Inc., v. A.G. Edwards & Sons, Inc., 308, Ill.App3d 268, 277, 241 Ill.Dec. 451, 458, 719 N.E.2d 312, 319 (1999); Condon Auto Sales & Service, Inc. v. Crick, 604 N.W.2d 587, 598 (Iowa, 1999); Cameco, Inc. v. Gedicke, 157. N.J. 504, 516, 724 A.2d 783, 789 (1999). The duty is fiduciary in nature and requires that the employee act in good faith toward the employer during the course of his/her employment. Reading Radio, Inc. v. Molly S. Fink, __ A.2d __, 2003 WL 22161437 (Pa.Super., 2003)(Employee breached duty by actively recruiting employer's sales representatives, who worked under his supervision, to work for his new employer); Pollock v. Berlin-wheeler, Inc, 112 S.W.3d 73 (Mo.Ct.App., 2003)(breach of duty by agent for failing to disclose competition with principal); Esposito v. Connecticut College, 1999 WL 81305, *4 (Conn. Super. Ct., Dkt. no. 543055, Feb. 10, 1999) (Employee may breach his/her fiduciary duty by deliberately failing to disclose certain concerns about, and evidence of, misuse of charitable bequests.); Fryetech, Inc. v. Harris, 46 F.Supp2d 1144, 1154 (D. Kan. 1999) (Where employer has equipment sold for scrap, employee cannot secretly buy it for a competitive purpose.); Demoulas v. Demoulas Supermarkets, Inc., 424 Mass. 501, 529, 677 N.E.2d 159 (1997) (Employee cannot take a corporate opportunity for himself.); Royal Carbo Corp. v. Flameguard, Inc., 229 A.D.2d 430, 645 N.Y.S.2d 18 (2d. Dept., 1996) (Employee cannot secretly organize a competing entity utilizing a former employer's customer list.); But See, United Aircraft Corp. v. Boreen, 413 F.2d 694 (3rd Cir., 1969) (Simply preparing to compete while employed by another does not violate the duty.)

After leaving employment, an individual remains barred from using the former employer's trade secrets or confidential proprietary information. Allen Manufacturing Company v. Loika, 145 Conn. 509, 144 A.2d 306 (1958); Christopher M's Hand Poured Fudge, Inc. v. Hennon, 699 A.2d 1272 (Pa. Super. Ct. 1997); Venture Express, Inc. v. Zilly, 973 S.W.2d 602 (Ten Ct. App. 1998). Essentially, the duty of loyalty provides that, where an employee acts in a manner that is contrary to the best interests of the employer, he/she may be in violation of the duty. The taking of kickbacks is prohibited, helping someone else to compete with the employer is prohibited, disclosing an employer's confidential information is prohibited, soliciting clients or customers for a competitive venture while still employed is prohibited, copying clients lists, taking an employer's property and other such conduct is all prohibited. Following the termination of employment, an employee remains bound not to reveal the former employer's trade secrets or confidential business information or to use same and engage in unfair competition.^[4] Omega Optical, Inc. v. Chroma Tech. Corp., 800 A.2d 1064 (Vt., 2002)(no duty of loyalty owed former employer after employment has ended); Reuben C. Setliff, III, M.D., P.C. v. Akins, 616 N.W.2d 878 (SD, 2000)(employee may solicit former employer's customers only after the employment relationship ended).

For guidance purposes, courts look to the Restatement (Second) of Agency, ż 387 (1958) which states that:

"Unless otherwise agreed, an agent is subject to a duty to his principal to act solely for the benefit of the principal in all matters connected with his agency."

Courts also look to the Restatement (2d) of Torts, ż395 which provides that:

"Unless otherwise agreed, an agent is subject to a duty to the principal not to use or to communicate information confidentially given him by the principal or acquired by him during the course of, or on account of, his agency, or in violation of his duties as agent, in competition with, or to the injury of, the principal, on his own account, or on behalf of another, although such information does not relate to the transaction in which he is then employed, unless the information is a matter of general knowledge."

The penalties that may be sought in an action for a breach of the duty of loyalty include: salary forfeiture, disgorgement of profits, recission, a constructive trust being imposed, injunctive relief, lost profits, compensatory and punitive damages.

TRADE SECRETS^[5]

Forty-three states, and the District of Columbia, have adopted the Uniform Trade Secrets Act (the "UTSA")^[6]. The UTSA not only defines what a trade secret is, but also provides for rights and remedies.^[7] While the UTSA is denominated a "Uniform" law, in fact the final version, as adopted, often varies from state to state. States that have not adopted the UTSA rely on the definition of trade secrets found in the Restatement of Torts, ż757.^[8] Courts differ on what they consider to be the elements which are required to be proven in order to establish the existence of a trade secret. However, the common threads include: (i) the extent to which the information is known outside of the aggrieved employer's business^[9]; (ii) the extent to which the information is known by employees and others involved in the aggrieved employer's business^[10]; (iii) the nature of measures taken by the aggrieved employer to guard the secrecy

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of the information^[11]; (iv) the value of the information to the aggrieved employer and to his competitors^[12]; (v) the amount of money or effort expended by the aggrieved employer in developing the information^[13]; and (vi) the ease or difficulty with which the information could be properly acquired or duplicated by others.

A misappropriation of trade secrets or other proprietary information by an employee, or former employee, can reasonably be the subject of redress in litigation between an employer and a former employee. Trusted employees who are given information in confidence should respect, and not exploit, the close relationship they engendered. Accordingly, special care must be taken when interviewing your client to inquire into all relevant areas which might serve as the basis for establishing the existence, or not, of proprietary information deserving of protection or a trade secret. By way of illustration, while a customer list may be a trade secret in certain circumstances,^[14] depending upon how the facts develop, you may be able to establish that it is not.^[15] Though an aggrieved former employer may find it hard to establish the existence of a trade secret, the task of an aggrieved employer will be made easier when ill-advised clients blatantly disregard common sense notions of fair play. Generally speaking, an employee who has not signed an Agreement Not

class=Section3>

To Compete is free, upon leaving his employer, to engage in competitive employment. There are, however, exceptions to this rule. Where the former employee seeks to use the trade secrets or proprietary information of his former employer in order to obtain a competitive advantage, or where the former employee, in establishing the endeavor, breaches his Duty of Loyalty to his former employer, the competitive activity can be enjoined and/or result in an award of damages.^[16]

In general, courts in non-UTSA, as well as UTSA, states often use the factors set forth in Restatement (First) of Torts, ż757 in order to determine whether something is protectable as a trade secret or not. These factors include:

1. The extent to which the information is known outside of the business;

2. the extent to which the information is known by employees and others involved in the business;

3. the extent of measures taken to guard the secrecy of information;

4. the value of information to the owner and the owner's competitors;

5. the amount of effort or money expended by the owner in developing the information; and

6. the ease or difficulty with which the information could be properly acquired or duplicated by others.

Examples of trade secrets have included: client contact lists (Byrd's Lawn & Landscaping, Inc. v. Smith, 142 N.C.App. 371, 542 S.E.2d 689 (2001)); cost and pricing information (Enter. Leasing Co. v. Ehmke, 197 Ariz. 144, 3 P.3d 1064, 1069-70 (Ct.App.1999)); software (Compuserve Corp. v. Serena Software International, Inc., 77 F.Supp. 2d 816 (E.D. Mich., 1999)); intentionally memorized information of an employer (CarpetMaster of Latham, Ltd., v. Dupont Flooring Systems, Inc., 12 F. Supp. 2d 257 (N.D.N.Y., 1998); a recipe (Christopher M's Hand Poured Fudge, Inc. v. Hennon, 699 A.2d 1272 (Pa.Super.Ct., 1997)). The scope of what may be included is virtually limitless provided that it is protected and that it fits the definition of a trade secret.

COVENANTS NOT TO COMPETE

In order to properly understand how to address Covenants Not To Compete it is imperative that you first have an understanding of the Duty of Loyalty and Trade Secrets. We will now proceed to discuss the fertile area of law that comprises noncompete agreements.

A. COVENANTS NOT TO COMPETE: AN OUTLINE OF THE LAW^[17]

1. Statutory Restrictions

A number of jurisdictions have enacted legislation limiting the right of employers to restrain competition. The scope of some such legislation reaches all employers in the state, see, e.g., California Business & Professional Code ż16601; Florida Statutes Ann. ż542.33; Colo. Rev. Stat. ż8-2-113; Nevada Revised Statutes, ż613.200; Oregon Revised Statutes ż653.295; Tennessee Code Ann. ż47-25-101; Wisconsin Statutes Ann. ż103.465, while other states focus upon specific professions or circumstances, see, e.g., Alabama Code ż8-1-1 Contracts Restraining Business Void (professionals); Colorado Revised Statutes ż8-2-113(3) (physicians); Mass. Gen. Laws ch. 112, ż 12X, (prohibits imposition of covenant not to compete on physician who leaves established practice) Oklahoma Statutes, Title 15, ż218 (sale of business); 26 Vt. Stat. Ann. ż281(c) (prohibits a school of barbering or cosmetology from requiring a student to agree not to compete with it). A detailed analysis of all such legislation is beyond the scope of this paper.

2. Protectable Interests of Employers

An employer has the right to protect its established business including its customers, secrets, and other compilations of information. When the character of a business and the nature of one's employment require the law to protect the established business against competitive activities by one who has become familiar with it through employment, restrictions that are reasonably necessary to protect the employer are valid. Kayem v. Stewart, 2003 WL 22309466 (Tenn.Ct.App., 2003); Kennedy v. Kennedy, 584 S.E.2d 328, 20 IER Cases 604 (NC, 2003); Robert S. Weiss & Assocs. v. Wiederlight, 208 Conn. 525; 546 A.2d 216 (1988); May v. Young, 125 Conn. 1, 6-7, 2 A.2d 385 (1938). An employer has a protectable interest against a former employee's competition by improper and unfair means, but not against ordinary competition by a former employee. SECURITAS SECURITY SERVICES USA, INC. V. Jenkins, 16 Mass.L.Rptr. 486, 2003 WL 21781385 (Mass.Super., 2003); Vlasin v. Loen Johnson & Co., 235 Neb. 450, 455 N.W.2d 772, 776 (1990).

Covenants not to compete will be enforced to prevent the misuse of employers' trade secrets, customer routes, client lists, and established customer relationships. READING RADIO, INC v. Fink, 2003 WL 22161437 (Pa.Super., 2003); Intelus Corporation v. Barton, 7 F. Supp. 2d 635, 638 (D. Md.1998); Becker v. Bailey, 268 Md. 93, 299 A.2d 835, 838 (1973). Employer protectable interests include trade secrets, customer contacts, and other confidential information. HANCHETT PAPER COMPANY v. MELCHIORRE, 341 Ill.App.3d 345, 792 N.E.2d 395, 275 Ill.Dec. 164 (App.Ct. Ill., 2003); Paramount Termite Control v. Rector, 238 Va. 171, 380 S.E.2d 922, 925 (1989); John G. Bryant Co. v. Sling Testing & Repair, 471 Pa. 1,8, 369 A.2d 1164 (1977); Cape Mobile Mart v. Mobley, 780 S.W.2d 116, 118 (Mo. App. 1989). An employer has a protectable interest in at least current customers, if not all past customers. Ellis v. James V. Hurson, 565 A.2d 615 (D.C. 1989).

The Uniform Trade Secrets Act, adopted in many jurisdictions, prohibits misappropriation of trade secrets by wrongful means, and defines trade secrets which employers may protect as information that derives value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means, by other persons who can obtain economic value from its disclosure or use, and which is the subject of reasonable efforts to maintain its secrecy.

3. Consideration for Enforceable Covenants

A covenant must have consideration flowing to the party agreeing not to compete. Sherman v. Pfefferkorn, 241 Mass. 468, 135 N.E. 568 (1922). Accepting employment at-will is sufficient consideration to support a restrictive agreement by an employee. Morgan's Home Equip. Corp. v. Martucci, 390 Pa. 618, 136 A.2d 838, 846 n.14 (1957). A beneficial change in an employee's status is sufficient consideration to support a restrictive covenant agreed to after employment commences. M.S. Jacobs & Assocs. v. Duffey, 452 Pa. 143, 303 A.2d 921, 922 (1973).

There is a divergence of views on whether a covenant to compete must be signed at the beginning of the employment relationship in order for it to be supported by consideration and enforceable. Some jurisdictions hold that even though an employer makes no mention of any restriction on post-employment competition, a covenant signed after the employment commenced provides sufficient consideration for an enforceable covenant. See, e.g., Herr v. Heiman, 75 F.3d 1509, 1514-15 (10^th Cir.1996); Ellis v. James V. Hurson, 565 A.2d 615, 620 (D.C. 1989)(substantial period of employment following signing of covenant); Paramount Termite Control, 380 S.E.2d at 926; Marine Contractors Co. v. Hurley, 365 Mass. 280, 310 N.E. 2d 915 (1974)(subsequent covenant is ancillary to original employment contract); Arthur Young & Co. v. Galasso, 142 Misc.2d 738, 538 N.Y.S.2d 424, (Sup. Ct. 1989); Puritan-Bennett Corp. v. Richter, 8 Kan.App.2d 311, 657 P.2d 589, 591 (1989). Since the employment at-will relationship is mutual and either party can terminate it any time, there is no reason to distinguish between the employee's consent to continue under new terms from the employer's consent not to terminate unless the employee accepts the new terms. See Simko, Inc. v. Graymar, 55 Md. 561, 567, 464 A.2d 1104 (1983).

Other jurisdictions hold that an agreement not to compete that is not included in the original employment agreement, but added subsequently in a contract for continuance of employment, is void for lack of consideration. Pacific Veterinary Hosp. v. White, 72 Or.App. 533, 696 P.2d 570, 573 (1985), citing 1983 Oregon Laws Ch. 828, ż1, but see, Nike, Inc. v. McCarthy, 2003 WL 22287347 (D. Or. Sept. 29, 2003)(holding that since employee's execution of non-compete occurred in connection with a promotion, the agreement was enforceable under Oregon law); Morgan Lumber Sales Co. v. Toth, 41 Ohio Misc. 17, 321 N.E.2d 907 (1974). A non-competition agreement signed after an employee has begun working can be sustained only if supported by independent consideration. Insulation Corporation of America v. Brobston, 446 Pa. Super. 520, 529; 667 A.2d 729, 733 (1995); Satellite Indus. v. Keeling, 396 N.W.2d 635, 639 (Minn.App. 1986). In such jurisdictions, continuation of employment is not sufficient consideration for a covenant despite the fact that the employment relationship was terminable at-will. George W. Kistler, Inc. v. O'Brien, 464 Pa. 475, 347 A.2d 311, 316 (1975).

4. Reasonable Geographic Restraints

If a restrictive covenant is supported by adequate consideration and is ancillary to an employment agreement, an employee's agreement not to compete against his employer upon leaving employment will be upheld if the restraint is confined within limits which are no wider as to area and duration than are reasonably necessary for the protection of the business of the employer and do not impose undue hardship on the employee or disregard the interest of the public. Kennedy D.D.S., P.A. v. Kennedy, 584 S.E.2d 328 (NC 2003)(3 year and 15 mile radius restriction was enforceable); Unger v. FFW Corp. 771 N.E.2d 1240 (Ind. 2002); Concord Orthopaedics Professional Association v. Forbes, 142 N.H. 440, 444-45; 702 A.2d 1273 (1997); Smith, Batchelder & Rugg v. Foster, 119 N.H. 679, 406 A.2d 1310, 1312 (1979); Becker v. Bailey, 268 Md. 93, 299 A.2d 835, 838 (1973); Knoebel Mercantile Co. v. Siders, 165 Colo. 393, 439 P.2d 355, 358 (1968). A restrictive covenant that is overbroad in geographic scope is unenforceable. Varsity Gold, Inc. v. Porzio, 45 P.3d 352 (Ariz. 2002)

Some of the factors considered in determining the enforceability of a covenant not to compete include whether the employee is an unskilled worker whose services are not unique; whether the covenant is necessary to prevent the solicitation of customers, disclosure of trade secrets, or use of assigned routes or customer lists; and whether there is any exploitation of personal contacts between the employee and customers. Budget Rent A Car of Washington v. Raab, 268 Md. 478, 302 A.2d 11, 13 (1973). Where the employer's clientele consists of the general public, it is ordinarily reasonable to devise the geographic restraint in terms of the employer's normal market. Moore v. Dover Veterinary Hosp., 116 N.H. 680, 367 A.2d 1044, 1048 (1976). When the primary concern is the employee's knowledge of customers, the territory should be limited to areas in which the employee made contacts during his employment. Manpower of Guilford County v. Hedgecock, 42 N.C.App.515, 257 S.E.2d 109, 114 (1979). A court will accept as prima facie valid a covenant related to the territory where the employee was employed as a legitimate protection of the employer's investment in customer relations and good will, but not where the employer does business because the employer wants to avoid competition with the employee in that area. W. R. Grace & Co. v. Mouyal, 262 Ga. 464, 466; 422 S.E.2d 529, 532 (1992); Howard Schultz & Assocs. v. Broniec, 239 Ga. 181, 236 S.E.2d 265, 268 (1977).

5. Reasonable Temporal Restraints

Section 186 of the Restatement (Second) of Contracts provides that a promise is unenforceable on the grounds of public policy if it is unreasonably in restraint of trade. A promise is in restraint of trade if its performance would restrict the promissor in the exercise of a gainful occupation. Such promises are unreasonable if they are greater than needed to protect the employer's interests or the employer's need is outweighed by the hardship to the employee or the likely injury to the public. Restatement ż188. See Ellis v. James V. Hurson, 565 A.2d 615, 618 (D.C. 1989). Courts will consider the surrounding circumstances, including the nature of the employer's business, the subject matter, the purpose served, and the situation of the parties. A.B. Chance Co. v. Schmidt, 719 S.W.2d 854, 857 (Mo.App.1986). Lack of durational and geographic limitations renders a covenant void. Ackerman V. Kimball International, Inc., 634 N.E.2d 778, 781-82 (Ind. App. 1994); College Life Insurance Co. of America v. Austin, 466 N.E.2d 738 (Ind.App. 1984). Prudential Ins. Co. v. Sempetrean, 171 Ill.App.3d 810, 525 N.E.2d 1016, 1020 (1^st Dist. 1988).

The reasonableness of the temporal limitation depends upon the time required to obliterate in the minds of customers the identification formed during the period of employment. Pollack v. Calimag, 157 Wis.2d 222, 458 N.W.2d 591, 599 (Wis. App.1990). The higher in management and the more key and important the functions performed by the employee, the longer the time which could be justified for a non-competition covenant. Mathieu v. Old Town Flower Shops, 585 So. 2d 1160, 1161 (Fla. App. 1991); Dorminy v. Frank B. Hall, 464 So.2d 154, 158 (Fla.5th Dist Ct. App. 1985).

6. Covenants Not to Solicit Customers

Customers developed by a sales employee are the property of the employer and may be protected by a contract under which the employee is forbidden from soliciting those customers for a reasonable time after terminating employment. Whitaker Gen. Medical Corp. v. Daniel, 324 N.C. 523, 379 S.E.2d 824, 826 (1989). A covenant will be valid if it restricts a former employee from soliciting the former employer's clients or accounts with whom the former employee actually did business or had personal contact. Polly v. Ray D. Hilderman & Co., 225 Neb. 662, 407 N.W.2d 751, 756 (1987). In Idaho, a covenant not to compete which does not have an express geographical boundary may still be enforceable provided that the class of persons with whom contact is prohibited is sufficiently narrow and defined. Pinnacle Performance, Inc. v. Hessing, d/b/a. BAHF, 17 P.3d 308 (Idaho Ct. App. 2001). Activity covenants designed not to prohibit competition, but to protect the employer's relationships with customers, do not require geographical limitations. McRand, Inc. v. Van Beelen, 138 Ill. App.3d 1045, 486 N.E.2d 1306, 1315 (1985); Chapman & Drake v. Harrington, 545 A.2d 645, 648 (Me. 1988); Ellis v. James V. Hudson, 565 A.2d 615, 620 (D.C. 1989). However, a covenant preventing any contact with any person who was a customer or client of a former employer may be deemed too broad and beyond any legitimate business interest. Keener v. Convergys Corporation, 205 F.Supp.2d 1374 (S.D.Ga. 2002)(provision overbroad which prohibited solicitation regardless of whether the employee actually had contact with the customer), later proceeding, 342 F.3d 1264 (nationwide injunction was overbroad). Direct or indirect solicitation of customers may legitimately be prohibited, not casual contact with them. Professional Liability Consultants, Inc. v. Todd, 122 N.C. App. 212, 217, 468 S.E.2d 578 (1996).

7. Blue Penciling

A restraint that otherwise meets a state's standards for enforceability may be stricken/denied enforcement if it is not confined within limits which are no wider as to area and duration than are reasonably necessary for the protection of the business of the employer. Many courts in overbroad situations will modify overly broad restrictions by making them more narrow, rather than striking them in their entirety. Different approaches are taken by the courts in such circumstances. Some courts will "blue pencil", or cross out, the overbroad provision, and, if the agreement is otherwise reasonable without the excised portion, the agreement will be enforced. Pathfinder Communications Corporation v. Macy, 795 N.E.2d 1103 (Ind. 2003)(Indiana courts will blue pencil agreements without adding additional terms); Holloway v. Faw, Casson & Co., 78 Md. App. 205, 552 A.2d 1311, 1324 (1989), aff'd in part and rev'd in part, 572 A.2d 510 (Md., 1990). Other courts will actually revise the temporal or geographic restrictions agreed to by the parties. Still others will revise the prohibited conduct.

The Virginia courts have yet to adopt any definite "blue pencil" approach. In Maryland and in the District of Columbia, the law is also somewhat unsettled as to the proper role of the courts in revising an overbroad restriction. The Maryland Court of Special Appeals has adopted a flexible approach. Specifically, if the covenant as a whole evidences a "deliberate intent by the employer to place an unreasonable and oppressive restraint" on the employee, the entire covenant will be invalidated. Holloway, 552 A.2d at 1327. If, however, the covenant does not evidence such an intent, although unreasonable, "the court should modify the express terms so as to align the reasonable expectations of the parties to the reasonable expectations of the law." Id.

Similarly, courts in the District of Columbia have enforced only portions of restrictive covenants, where severable from unreasonable portions and where the covenant is obtained in good faith. See, e.g., Ellis v. James V. Hudson Assoc., 565 A.2d 615 (D.C.App., 1989).

The highest court in New York ruled that when the facts warranted it, the courts could revise overly broad non-compete agreements to encompass only that conduct as to which a former employer had a legitimate interest in protecting. BDO Seidman v. Hirshberg, 93 N.Y.2d 382, 690 N.Y.S.2d 854, 712 N.E.2d 1220 (N.Y., 1999)(the Court revised the clause to read that the accountant could solicit those clients who came to the firm because of his personal efforts and that he could solicit those clients of the firm which he did not service to any significant extent while at the firm). In Florida the Covenant Not to Compete Statute, Fla. Stat. Ann. ż542.335, states that

"If a contractually specialized restraint is overbroad, overlong or otherwise not reasonably necessary to protect the legitimate business interest or interests, a court shall modify the restraint and grant only the relief reasonably necessary to protect such interest or interests."

In Illinois, courts have the discretion to modify covenants but will not where to do so would be to create a new contract between the parties. Joy v. Hay Group, 2003 WL 22118930 (N.D. Ill. Sept. 11, 2003)(under Illinois law, a court may use the blue pencil doctrine to modify a covenant that is unenforceable on its face); Lawrence and Allen, Inc. v. Cambridge Human Resource Group, Inc., 292 Ill.App.3d 131, 685 N.E.2d 434, 226 Ill.Dec. 331 (Ill.App. 2 Dist., 1997). In Iowa the court will impose a narrow enforcement of an otherwise broad restriction. Moore Business Forms, Inc. v. Wilson, 953 F.Supp. 1056, 1064 (N.D.Iowa, 1996). Vermont will likewise modify an otherwise overbroad clause. A.N. Deringer, Inc. v. Strough, 103 F.3d 243 (2d Cir., 1996).

8. Effect of Termination

One of the most interesting questions arising in the context of covenants not to compete is whether an employer that terminates an employee may enforce a restraint contained in the employee's employment agreement. For those states that deny enforcement following a termination, courts typically look to see whether the termination was for cause or not. They also focus on the text of negotiated language. In some jurisdictions, courts will not enforce a restraint included in an employment agreement if the employer materially breaches that agreement in terminating the employee. In other jurisdictions, courts will not enforce restraints against employees terminated without cause.

In this area, courts applying Virginia law have enforced restraints following the termination of employment. See, e.g., Clinch Valley Physicians v. Garcia, 414 S.E. 2d 599 (Va., 1992). However, these courts have looked to the specific language of the contracts at issue to determine whether the contract provided for enforcement after termination. In Maryland, the few cases to address this issue have suggested that enforcement would not be appropriate where the employer terminates the employee. See, e.g., Ruhl v. FA Bartlett Tree Expert Co., 245 Md. 118 (Md., 1967). In the District of Columbia, the nature of, or reasons for, the termination can effect the enforceability of a restraint. See, e.g., Gryce v. Lavine, 675 A.2d 67 (D.C.Ct. App., 1996).

By statute the discharge of an employee without cause or in violation of a contract or other legal obligation is a factor for the courts to weigh when considering whether or not to enforce a covenant in Georgia. Ga. Code Ann. ż13-8-2.1 (Michie Cum. Supp. 1995). The courts in Indiana will enforce a covenant whether or not an employee is terminated for cause. Gomez v. Chua Medical Corp., 510 N.E.2d 191 (Ind.App. 3 Dist., 1987). Mississippi will not enforce a covenant where the termination was arbitrary, capricious, or in bad faith. Empiregas, Inc. of Kosciusko v. Bain, 599 So.2d 971 (Miss., 1992). In New Jersey the material breach of an employment agreement by an employer will preclude enforcement of a covenant not to compete. Platinum Management, Inc. v. Dahms, 285 N.J.Super. 274, 666 A.2d 1028 (Law Div., 1995). In Pennsylvania the circumstances of the termination are an important factor to consider in determining whether or not to enforce a covenant. Insulation Corp. of America v. Brobston, 667 A.2d 729 (Pa.Super., 1995). An employer's breach of the employment contract will preclude enforcement of a non-compete in Missouri, Arkansas and New York. Alexander & Alexander, Inc. v. Feldman, 913 F.Supp. 1495 (D.Kan., 1996); Colonial Life & Acc. Ins. Co. v. Sisco, 1999 WL 328903 (Ark.App., 1999); International Business Machines Corp. v. Martson, 37 F.Supp.2d 613, (S.D.N.Y., 1999); In re UFG Intern., Inc., 225 B.R. 51 (Bankr. S.D.N.Y., 1998) (the court rejected the argument that the employer's poor financial condition constituted "cause" and noted that: the employer's willingness to provide employment, absent a cause termination, was an essential element that had to be shown for enforceability; and that an employer's failure to give the contractually required notice before a termination constituted an employer breach). However where the employee is discharged for cause the Covenant Not to Compete will be enforceable. Borne Chemical Company v. Dictrow, 85 A.D.2d 646, 445 N.Y.S.2d 406 (2d Dept., 1981).

9. Injunctions

While breach of a restraint against competition can result in an award of damages, it is the ability to obtain a quick court injunction precluding the competitive behavior by the former employee which offers employers the best protection against competitive harm. Merrill Lynch, Pierce, Fenner & Smith, Inc. v. McClafferty, 2003 WL 22351329 (D. Hawaii Sept. 26 2003)(employer demonstrated that it would be irreparably harmed by employee going to work for a competitor, temporary restraining order granted); Advanced Marine Enterprises v. PRC, Inc., 256 Va. 106 (Va., 1998) (enforcing 8 month injunction against competition in specified geographic area).

In general, an employer seeking to enjoin a former employee from competing pursuant to a contract must establish four elements (each state will have its own requirements):

(1) the likelihood that the employer will prevail on the merits (i.e., that the former employee's activity will violate a contractual agreement);

(2) that the greater injury would result from not enforcing the agreement than from enforcing the restrictions;

(3) that the employer will suffer irreparable harm unless the injunction is granted; and

(4) the public interest would be served or would not be harmed by granting the injunction.

Many courts will also require a showing that the employee acquired something from his employment needing the protection of the covenant, such as trade secrets, confidential information, significant training or client relationships, before issuing an injunction.

Some illustrative cases setting forth the standards for granting an injunction in a non-compete case are: Keener v. Convergys Corporation, 342 F.3d 1264 (11^th Cir. 2003); Nike Inc. v. McCarthy, 2003 WL 22287347 (D. Ore. Sept. 29, 2003); Hatchett Paper Company v. Melchiorre, 341 Ill. App. 3d 345, 792 N.E.2d 395 (Ill. 2003); Kennedy D.D.S. P.A. v. Kennedy, 584 S.E.2d 328 (NC 2003); Merrill Lynch, Pierce, Fenner & Smith Inc. v. Ran, --- F.Supp.2d ----, 1999 WL 958464 (E.D.Mich., 1999); Wright Medical Technology, Inc. v. Somers, 37 F.Supp.2d 673 (D.N.J., 1999); Gold Messenger, Inc. v. McGuay, 937 P.2d 907 (Colo.App., 1997); UARCO, Inc. v. Lam, 18 F.Supp.2d 1116 (D.Haw., 1998); Newell Co. v. Lee, 950 F.Supp 864 (N.D.Ill., 1997); Uncle B's Bakery, Inc. v. O'Rourke, 920 F.Supp. 1405 (N.D.Iowa, 1996); Thermatool Corp. v. Borzym, 227 Mich.App. 366, 575 N.W.2d 334 (Mich.App., 1998); Camco Inc. v. Baker, 936 P.2d 829 (Nev., 1997).

Irreparable harm can be shown by demonstrating the unavailability or inadequacy of money damages. Ticor Title Insurance Co. v. Cohen, 173 F.3d 63 (2d Cir., 1999); Lumex, Inc. v. Highsmith, 919 F.Supp. 624 (E.D.N.Y., 1996); National Interstate Ins. Co. v. Perro, 934 F.Supp. 883 (N.D.Ohio, 1996), Mettler-Toledo Inc. v. Acker, 908 F.Supp 240 (M.D.Pa., 1995), Frontier Corp. v. Telco Communications Group, Inc., 965 F.Supp. 1200 (S.D.Ind., 1997), Allen v. Hub Cap Heaven, Inc., 225 Ga.App. 533, 484 S.E.2d 259 (Ga.App., 1997).

The standard of review used by courts on appeal of a trial judge's decision granting/denying a preliminary injunction in a non-compete case is often one of abuse of discretion. Ticor Title Insurance Co. v. Cohen, 173 F.3d 63 (2d Cir., 1999); Valley Medical Specialists v. Farber, 982 P.2d 1277, 298 Ariz. Adv. Rep. 34 (Ariz., 1999); Buckley v. Seymour, 679 So.2d 220 (Ala., 1996); Gold Messenger Inc. v. McGuay, 937 P.2d 907 (Colo.App., 997); Browning-Ferris Industries of Florida, Inc. v. Manzella, 694 So.2d 110 (Fla.App. 4 Dist., 1997); UARCO, Inc. v. Lam, 18 F.Supp.2d 1116 (D.Haw., 1998); Midwest Television, Inc. v. Oloffson, 298 Ill.App.3d 548, 232 Ill.Dec. 783, 699 N.E.2d 230 (Ill.App. 3 Dist., 1998); Thermatool Cork v. Borzym, 227 Mich.App. 366, 575 N.W.2d 334 (Mich.App., 1998). In Louisiana the Appellate Court has to decide "whether the trial court's verdict was manifestly erroneous, clearly wrong based on the evidence, or clearly without evidentiary support." Dixie Parking Service Inc. v. Hargrove, 691 So.2d 1316, 1319 (La.App. 4 Cir., 1997). In Missouri "...the judgment of the trial court will be affirmed unless there is no evidence to support it, it is against the weight of the evidence, or it erroneously declares or applies the law." Renal Treatment Centers-Missouri, Inc. v. Braxton, 945 S.W.2d 557, 563 (Mo.App. E.D., 1997). And, in Nebraska the Appellate Court tries factual issues on the record de novo and where credibility issues are to considered the Appellate Court may give weight to the fact that the trial judge observed the witness. Terry D. Whitten, D.D.S., P.C. v. Malcolm, 249 Neb. 48, 541 N.W.2d 45 (Neb., 1995).

Jurisdictions are not uniform when it comes to deciding when an injunction should start. Some find that it should run from the date of the court's order. National Interstate Insurance Company v. Perro, 934 F.Supp. 883 (N.D.Ohio, 1996). Others start it from the date of the termination of employment. American Express Fin. Advisors, Inc. v. Scott, 955 F.Supp. 688 (N.D.Tex., 1996); Buckley v. Seymour, 679 So.2d 220 (Ala., 1996).

10. Damages

Former employees who are found to have breached a covenant not to compete can be held responsible for monetary damages. Some courts (like those in Maryland and the District of Columbia) allow employers to recover "expectancy" damages, including the profits that the employer would have realized had no breach occurred. Mercer Management Consulting, Inc. v. Wilde, 920 F. Supp. 219 (D.D.C. 1996); National Micrographics v. OCE-Indus, 55 Md. App. 526 (Md., 1983). A former employee who competes with his employer in breach of a restrictive covenant can be liable to the former employer in an amount equal to the former employee's gross income (less expenses) derived from the competition. In proving damages, it is generally the employer's burden to prove the damages with reasonable certainty. American Federal Group, Ltd. V. Rothenberg, 2003 WL 22349673 (S.D.N.Y. October 14, 2003)(under New York law, damages for breach of fiduciary duty must be proven with certainty); National Micrographics, 55 Md. App. at 532.

In Connecticut damages "...are measured by the loss suffered by the enforcing party." Van Dyck Printing Company v. DiNicola, 43 Conn.Supp. 191, 201, 648 A.2d 898, 904 (Conn.Super., 1993). Many courts award lost profits. Turbines, Inc. v. Thompson, 684 N.E.2d 254 (Ind.App., 1997); Lenco Pro, Inc. v. Guerin, 1998 Mass.App.Div. 10 (Mass.App.Div., 1998); Premix, Inc. v. Zappitelli, 561 F.Supp. 269 (N.D.Ohio, 1983). Hayes v. Altman, 438 Pa. 451, 266 A.2d 269 (Pa., 1970). Tort damages, lost profits and incidental damages are available in New Jersey. Platinum Management, Inc. v. Dahms, 285 N.J.Super. 274, 666 A.2d 1028 (Law Div., 1995). Lost net profits and/or the disgorgement of the employee's profits may be recovered in New York. Pencom Systems, Inc. v. Shapiro, 193 A.D.2d 561, 598 N.Y.S.2d 212 (1st Dept., 1993). Breach of contract damages, liquidated damages and lost profit are recoverable in Washington. Perry v. Moran, 111 Wash.2d 885, 766 P.2d 1096 (Wash., 1989). And, lost goodwill damages can be recovered in Virginia. Advanced Marine Enterprises, Inc. v. PRC Inc, 256 Va. 106, 501 S.E.2d 148 (Va., 1998).

11. Liquidated Damages

In order to avoid issues of proof and to minimize uncertainty some agreements provide for liquidated damages in the event of a breach of a non-compete provision. Some jurisdictions will enforce liquidated damage provisions provided that they are not in the nature of a penalty. Shapiro, Olefsky & Company v. Cohen, 2003 WL 21654161 (N.D. Ill. July 11, 2003); BDO Seidman v. Hirshberg, 93 N.Y.2d 382, 690 N.Y.S.2d 854, 712 N.E.2d 1220 (N.Y., 1999); Weber v. Tillman, 259 Kan. 457, 913 P.2d 84 (Kan., 1996); Weber, Lipshie & Co. v. Christian, 52 Cal.App.4th 645, 60 Cal.Reptr.2d 677 (Cal.App. 2 Dist., 1997); Banderas v. Doman, 224 Ga.App. 198, 480 S.E.2d 252 (Ga.App., 1997); Imperial Dry Cleaners & Laundry, Inc. v. Imperial Carpet Cleaning & Sales, Inc., 693 So.2d 830 (La.App. 2 Cir., 1997). Others will not. Wojtowicz v. Greeley Anesthesia Services, P.C., 961 P.2d 520 (Colo.App., 1997) (unenforceable as a penalty).

In some jurisdictions the existence of a liquidated damage clause will preclude injunctive relief. Blankenau v. Kern, 1999 WL 759977 (Neb.App., 1999); Ed Bretholet & Associates Inc. v. Stefanko, 690 N.E.2d 361 (Ind.App., 1998); Emergicare Systems Corp. v. Bourdon, 942 S.W.2d 201 (Tex.App.-Eastland, 1997); Bradley v. Health Coalition Inc., 687 So.2d 329, 332 n.4 (Fla.App. 3 Dist., 1997). In other jurisdictions a liquidated damage clause will not preclude injunctive relief. BDO Seidman v. Hirshberg, 93 N.Y.2d 382, 690 N.Y.S.2d 854, 712 N.E.2d 1220 (N.Y., 1999); UARCO, Inc. v. Lam, 18 F.Supp.2d 1116 (D.Haw., 1998); Zellner v. Stephen D. Conrad, M.D., P.C., 183 A.D.2d 250, 589 N.Y.S.2d 903 (2d Dept., 1992); Cellular One, Inc. v. Boyd, 653 So.2d 30 (La.App. 1 Cir., 1995); McDonagh v. Moss, 207 Ill.App. 3 62, 151 Ill.Dec. 888, 565 N.E.2d 159 (Ill.App. 1 Dist., 1990).

12. Employee Raiding

When an employee departs, employers face numerous challenges, including replacing the employee, introducing the replacement to clients/customers and making certain that the departing employee does not misappropriate or misuse confidential information and documents. Further disruption can occur, however, when the departing employee seeks to "raid" or "hire away" other employees.

While the common law duty of loyalty restricts current employees from such "raiding" during the employment relationship, there is generally no bar to such activity after the termination of the employment relationship. Most courts will, however, enforce contractual agreements between employers and employees restricting the employee's right to "raid" employees after the employment relationship ends. Such agreements, like covenants not to compete, must be supported by consideration.

The following is an example of the type of restrictions on "employee raiding" courts will enforce:

SAMPLE: Employee agrees that during the term of this Agreement, and for a period of twelve (12) consecutive months after termination of employment for any reason, she shall not, directly or indirectly, induce or attempt to induce or otherwise counsel, advise, solicit or encourage any person to leave the employ of the Company.

Anti-raiding clauses will be upheld. Mercer Management Consulting, Inc. v. Wilde, 920 F.Supp. 219 (D.D.C., 1996); Balasco v. Gulf Auto Holding, Inc., 707 So.2d 858 (Fla.App. 2 Dist., 1998); Arpac Corp v. Murray, 226 Ill.App.3rd 65, 168 Ill.Dec. 240, 589 N.E.2d 640 (Ill.App. 1 Dist., 1992); Intelus Corp v. Barton, 7 F.Supp.2d 635 (D.Md., 1998). However, in the law firm context they may be viewed as interfering with the public's right to choose counsel and therefore may not be enforced. Jacob v. Norris, McLaughlin& Marcus, 128 N.J. 10, 607 A.2d 142 (N.J., 1992)(finding that solicitation of the law firms's paralegals by departing attorneys could not be stopped).

13. The Inevitable Disclosure Doctrine

This doctrine has been used to help employers who do not have noncompete agreements with their employees, or employers who have noncompete agreements which might otherwise not be enforced, to obtain injunctive relief. Under this theory a court is asked to enjoin an employee from working for a competitor, or from engaging in a competitive endeavor, because the nature of the new job is such that the employee will necessarily have to, or will "inevitably" call upon or exploit, the proprietary or trade secret information of the prior employer. While not a new theory it is gaining increased popularity under this title - "the inevitable disclosure doctrine".

Pepsico, Inc. v. Redmond, 54 F.3d 1262 (7th Cir.(Ill.), 1995), though not the earliest case on the subject by far, is frequently cited as being the seminal case under this doctrine. In Pepsico an employee who had no noncompete agreement was enjoined from working for a competitor because it was felt that the employee would inevitably disclose trade secrets in his new position. The court opined that evidence of bad faith by the employee was a factor for the court to consider in making its decision. See PRG-Schultz International, Inc. v. Kirix Corporation, 2003 WL 22232771 (N.D. Ill. Sept. 22, 2003)(finding that jury could find for plaintiffs based on the inevitable disclosure doctrine).

In Lumex Inc. v. Highsmith, 919 F.Supp. 624 (E.D.N.Y., 1996) is another illustrative case. In it an employer was granted a 6 month preliminary injunction restricting an employee's employment by a competitor. The action was brought to enforce a non-compete agreement restricting an employee from working for a competitor and to enjoin him from disclosing trade secrets and confidential information. The plaintiff and defendant companies both manufactured fitness equipment and sold to an overlapping group of customers. The individual defendant, Highsmith, was a high level employee of Lumex and had been involved in top level meetings and decisions on all matters within the company. The non-compete agreement provided that if Highsmith was unable to obtain employment because of the non-compete, that the non-compete provision would only be in effect for so long as the employer continued to pay Highsmith's base salary, health insurance and life insurance premiums to a maximum of the 6 month non-compete duration.

Highsmith resigned from his position with Lumex and accepted a position at the defendant company. Thereafter, the defendant company wrote to Lumex stating that it had no intention whatsoever of either inducing Highsmith to breach any of his contractual obligations with Lumex or to use or obtain any confidential information or trade secrets that he might have. A preliminary injunction hearing was held. In making its decision the Court focused on the question of whether an injunction could be granted where the non-compete agreement did not allow the employment but there was no evidence of a disclosure of trade secrets. The Court noted that the two companies were direct competitors, were soliciting the same customers and were engaged in a "copy cat" type of business. Therefore, the timing for the introduction of a piece of equipment was critical to obtaining a selling advantage.

Highsmith's responsibilities included being acutely aware of the business market as regards products manufactured by plaintiff, he had worked closely with the design and development staff of plaintiff and was privy to information regarding all aspects of development and manufacturing and marketing for the plaintiff. That information was found by the Court to be confidential and the quality of information that was not known or made available to plaintiff's competitors. The Court further noted that if that kind of information was disclosed to the defendant company that it would be given a competitive advantage.

The Court considered the fact that Highsmith had left all written confidential information with the plaintiff when he left and that he was otherwise well-intentioned. Nevertheless, the testimony established that there would be:

"not only a high risk, but it is inevitable that he will disclose important Cybex trade secrets and confidential information in his efforts to improve the Life Circuit product, and aid his new employer and his own future. Highsmith has even more incentive to further Life Fitness interests, improve Life Circuit and aid in the development of new products, by his bonus and stock option rights in his new employment agreement. As stated above, there is a high risk that in the course of working on Life Circuit or on other Life Fitness business, he will, perhaps inadvertently, disclosure Cybex trade secrets, or Lumex pricing and profit structure or even the Cybex future prototypes. Highsmith was privy to the top secret Cybex product, business and financial information. He cannot eradicate these trade secrets and this confidential information from his mind."

Id. 919 F.Supp. at 631.

The preliminary injunction that was granted restricted Highsmith from working for the defendant company for 6 months from when he started with that company, enjoined him from disclosing any trade secrets or confidential information during the pendency of litigation and directed plaintiff to pay Highsmith the monies provided for in the non-compete agreement.

While the concept of inevitable disclosure is gaining currency and attracting attention it is principally a specialized refinement of an existing body of law as opposed to a novel approach. Frequently, it is being used to obtain injunctive relief in the absence of non-compete agreements. Thus, your inquiry to a client cannot end when you learn that he/she does not have a non-compete agreement. You must learn whether there are facts that might warrant an inevitable disclosure injunction. Like it or not there are times when, notwithstanding the best of good faith by a departing employee, there are circumstances where the employee would inevitably disclose to the new employer the confidential information or trade secrets of the prior employer. Where that "high risk" exists injunctive relief may well be granted.

Other cases citing this doctrine are: Computer Sciences Corp. v. Computer Associates Intern., Inc., 1999 WL 675446 (C.D.Cal., 1999); Maxxim Medical, Inc. v. Michelson, 51 F.Supp.2d 773 (S.D.Tex., 1999); Lexis-Nexis v. Beer, 41 F.Supp.2d 950 (D.Minn., 1999); Dulisse v. Park Intern. Corp., 1998 WL 25158 (N.D.Ill., 1998); Bridgestone/Firestone, Inc. v. Lockhart, 5 F.Supp.2d 667 (S.D.Ind., 1998); In re Wilson, 149 F.3d 249 (4th Cir.(N.C.), 1998); Sprint Corp. v. DeAngelo, 12 F.Supp.2d 1188 (D.Kan., 1998); Merck & Co. Inc. v. Lyon, 941 F.Supp. 1443 (M.D.N.C., 1996); Glaxo Inc. v. Novopharm Ltd., 931 F.Supp. 1280 (E.D.N.C., 1996); International Business Mach. Corp. v. Seagate Technology, Inc., 941 F.Supp. 98 (D.Minn., 1992); Branson Ultrasonics Corp. v. Stratman, 921 F.Supp. 909 (D.Ct., 1996); Aetna Retirement Serv., Inc. v. Hug, 1997 WL 396212, (Conn.Super., 1997); APAC Teleservices, Inc. v. McRae, 985 F.Supp. 852 (N.D.Iowa, 1997); Baxter Intern., Inc. v. Morris, 976 F.2d 1189 (8th Cir.(Mo.), 1992); Bendinger v. Marshalltown Trowell Co., 338 Ark. 410, 994 S.W.2d 468 (Ark., 1999); Conley v. DSC Communications Corp., 1999 WL 89955, No Publication (Tex.App.-Dallas, 1999); National Starch and Chemical Corp. v. Parker Chemical Corp, 219 N.J.Super. 158, 530 A.2d 31 (N.J.Super.A.D., 1987); Southwestern Energy Co. v. Eickenhorst, 955 F.Supp. 1078 (W.D.Ark., 1997); Totino v. Alexander & Associates, Inc., 1998 WL 552818 (Tex.App.-Hous. (1 Dist.) 1998); C.R. Bard, Inc. v. Intoccia, 1994 W.L. 601944 (D.Mass, 1994); and Doubleclick, Inc. v. Henderson __ N.Y.S.2d __, 11/12/97 N.Y.L.J. 26, 1997 WL 731413 (N.Y.Supp., 1997).

Parenthetically, it is interesting to note that attorneys who have been given the confidential information of a client are not allowed to later engage in a litigation against that client for fear that the confidential information will be inadvertently used to the detriment of the first client. British Airways, PLC v. Port Authority of New York and New Jersey, 862 F.Supp. 889 (E.D.N.Y., 1994), U.S. Football League v. National Football League, 605 F.Supp. 1448 (S.D.N.Y, 1985), Abbondanza v. Siegel, 209 A.D.2d 1023, 619 N.Y.S.2d 896 (4th Dept., 1994), Borges v. Our Lady Of The Sea Corp., 935 F.2d 436 (1st Cir. (Mass.), 1991).

14. Choice of Law

Quite often, a covenant not to compete will contain a choice of law provision. A recent series of rulings by federal and state courts in Georgia demonstrate that the parties choice of law may not always be adopted by the Courts.

Keener I

In Keener v. Convergys Corp., 205 F. Supp. 1374 (S.D. Ga. 2002) ("Keener I"), James Keener brought an action for declaratory and preliminary injunctive relief preventing Convergys, his former employer, from enforcing his non-compete agreement. At the time he signed his agreement, Keener worked for a Convergys predecessor in Ohio. The agreement contained a choice of law clause providing that it "shall be governed by the laws of the State of Ohio." Keener later worked for Convergys in Illinois, and eventually resigned from Convergys and took a job with a competitor in Georgia. Keener and his new employer received a letter from Convergys demanding that Keener discontinue his employment in violation of the agreement. Keener negotiated a separation agreement with his new employer and sued Convergys in the United States District Court for the Southern District of Georgia.