Friday, December 31, 2010

2010, Yer Outta Here!

It's time to put a wrap on 2010, a very satisfying year for me personally and professionally. On the personal side, I saw something I was convinced I'd never see in my lifetime: a Stanley Cup brought home to the City of Chicago. My parents saw something they never thought they would see in their lifetime: their only son get married.

On the professional side, I've advised many great clients on some very challenging and interesting issues. I won the only trial I had this year and was able to help several clients negotiate their way out of tough situations. Last year at this time, I wrote a post that captured some thoughts and impressions I formed through advising clients, litigating cases and studying other lawsuits and trends. I'd encourage readers to click on the link and read that post, as I think many of the same comments apply.

As for 2010, it was a more interesting year than 2009 for sure in regards to non-competes. A couple of points to highlight:

(1) As Jay Shepard writes, the volume of non-compete cases and disputes continues to rise and shows no signs of slowing down.

(2) Georgia enacted significant non-compete reform that will take effect for contracts entered into after today.

(3) Illinois, my home state, produced a number of significant state and federal court decisions, highlighted by the opinion in Reliable Fire Equipment - discussed at length this month.

(4) The number of cases involving the Computer Fraud and Abuse Act in the context of garden-variety employee unfair competition claims has declined significantly.

(5) And, I saw the absolute dumbest non-compete agreement I've seen in 13 years of practicing law: a non-solicitation restriction buried in a 52-page employee handbook that itself contained a disclaimer that it was not a contract. Hard to believe.

As for 2011, I look forward to the third full year writing this blog. Honestly, I feel like I'm just getting warmed up. I still plan to write 2 to 3 times per week, but I have some ideas to mix up the content a bit. Once per month, I will write a "Spotlight" column, focusing on a state, an industry or a legal topic. It will be a bit more in-depth than my regular columns, kind of like a poor man's bar journal article. I also plan on sharing more of what my blogger colleagues write. I've done that some, but not enough. There are a lot of great law blogs out there, and I plan to highlight and discuss others' posts. Some of the best are listed on my Blog Roll (look to your right...).

I would like to hear from you too. I have been blessed to have more than 45,000 visitors to my site this year, and I always look forward to the thoughtful e-mails my readers send to me. If there is a topic or issue on your mind, please feel free to send it along and I will see if I can work it into a column.

The end of the year always means that it's time for every scribe, professional and amateur alike, to put together a top 10 list of sorts. Throughout the year, I've offered several comments about what employers need to consider when drafting or enforcing non-compete agreements.

It occurred to me, though, that since a fair percentage of my clients are employees, rather than companies, I really ought to put together a list for them. I thought a great deal about what kind of list to draft, and I wanted to do something different and practical.

So I put together this list of ten things employees need to provide their attorneys to receive non-compete advice.
  1. Copies of all employment contracts - This may seem self-evident, but I emphasize the word all. I have met with many clients who have non-compete obligations expressed in several different agreements, and it's essential that your lawyer have a full understanding of all contracts and terms.
  2. Personnel file - In some states, employees have an automatic right to receive their personnel file. If you live in one of these states, you should always request a copy of your file.
  3. Cease and desist or "reminder" letters - It is fairly standard now for any departing employee to receive a not-so-friendly reminder from an ex-employer about the terms of a non-compete agreement. If you have received such a letter, don't sweat it. If you haven't, it could help establish that your ex-employer has not been vigilant about protecting its confidential information.
  4. Prior job description or resume - In assessing your non-compete, it is imperative that your attorney have a full understanding of what it is you do and how you could potentially harm your ex-employer's business interest.
  5. Company proprietary information - If you left and retained company proprietary documents, your lawyer needs to see them. This could avert a potential claim and allow the employee to walk into court with clean (or cleaner) hands.
  6. Prior legal opinions - If you've met with other attorneys about your non-compete and received an opinion letter, bring it with you. It is important for your lawyer to understand what advice - good or bad - you have received previously.
  7. Stock or equity option agreements and plans - Participation in a company incentive plan can trigger a whole separate set of agreements (usually called award agreements). Those documents may contain restrictions on competing, though they are more likely tied to paying back income received from exercising options.
  8. Employee handbook - Particularly in involuntary termination cases, it is important for your attorney to assess whether you might have some severance, progressive discipline or other right that has not been resolved.
  9. New employment documents - This could include a number of documents if you're already employed or have a new opportunity on the horizon: an indemnification agreement, employment agreement, offer letter, and new job description.
  10. Questions - Yes, you should list out any questions you have for your attorney. Hiring an attorney is often a new experience for many employees. Unfortunately, it is stressful too and you're bound to forget questions you want to ask. No question is dumb, so write them down and bring that list with you.
Well, that's it. Thank you, again, to each of my readers, colleagues, and especially my clients for another great year!

Monday, December 27, 2010

Wal-Mart/CVS Dispute Over Mullany Illustrates Problems of Hiring the "Senior Big Dog"

The Delaware Non-Compete Law Blog has a couple of excellent posts on the recent decision by Judge Travis Laster enjoining CVS Caremark from hiring Hank Mullany, a former senior executive with Wal-Mart Stores, Inc.

At the time of his departure, Mullany was the Executive Vice-President and President of Wal-Mart North, a position that reported directly to Wal-Mart's CEO. Mullany oversaw store operations, real estate and supply chain functions for 19 states, stretching from Illinois all the way to eastern seaboard states from Maine to North Carolina.

Mullany gave notice of his resignation in October, about 10 months after his promotion to President of Wal-Mart North. Wal-Mart later found out that CVS intended to hire Mullany. According to Wal-Mart's Complaint, CVS and Wal-Mart compete in the retail pharmacy market and other associated markets, such as beauty aids, consumables and groceries. Mullany's non-compete agreement with Wal-Mart prohibited him from working with any general or specialty retail store with a gross revenue threshold of $5 billion.

Vice-Chancellor Laster found that, in signing the non-compete agreement, Mullany knew exactly what he was signing and that the covenant appeared reasonable under Delaware law. It is true that one does not necessarily think of CVS and Wal-Mart as direct competitors, but in the retail space, with whom wouldn't Wal-Mart compete at least in some respect?

In his decision, Vice-Chancellor Laster specifically noted that if non-compete agreements should apply to anyone it is to "senior big dog executives." Though it is relatively uncommon for a state's non-compete test to hone in on the position or pay grade of the employee, it is not a stretch by any means to think that courts consider an employee's level of sophistication and business acumen to be a significant factor when determining to what extent the covenant should be enforced.

This relates, most often, to the protectable interest of "confidential information." Wal-Mart's Complaint was replete with references to the types of information and business strategies Mullany was able to access while at Wal-Mart. Those allegations portrayed a convincing story of how Mullany could use that information to run CVS' operations and take on Wal-Mart directly, particular in the pharmacy and prescription drug market. In competitive transitions like the one Mullany sought to make, a non-disclosure agreement is of limited use because compliance is hard to monitor. It is much easier to determine whether an executive employee is working for a competitor, and nearly impossible for outsiders to determine exactly what information he or she is using to perform day-to-day duties.

Monday, December 20, 2010

Bobby Petrino's New 7-Year Deal With Arkansas Contains Only In-Term Non-Compete Restriction

As the University of Arkansas prepares to play The Ohio State University (my alma mater) in the Sugar Bowl after the New Year, it apparently does not need to worry about perennial navel-gazer Bobby Petrino looking for greener pastures.

It was reported a few weeks ago that Arkansas locked up Petrino to a new employment agreement that runs through 2017, a move clearly necessitated by high-profile job openings at Florida and Miami. One aspect of Petrino's original deal that was somewhat controversial was his non-compete agreement, which was limited to the SEC's Western Division. As any college football fan well knows, the SEC is somewhat of an incestuous conference, with several coaches - Nick Saban and Houston Nutt, to name a few - jumping from one conference rival to another in a relatively short time-frame.

Notably, Florida is in the SEC's Eastern Division. Had Petrino been offered and taken the Florida job (which went to Texas' high-profile assistant, Will Muschamp), the non-compete would not have applied. Florida would have been on the hook only for the buyout payment to Arkansas, but Petrino likely would not have faced an injunction to prevent him from taking the position altogether.

Petrino's new contract contains a significant pay raise and a non-compete that extends to the entire SEC. The long form of Petrino's new deal with Arkansas is not yet final, but should be within several weeks. His letter agreement contains a total compensation package averaging $3.56 million per year. The non-compete clearly applies during the term of his employment with Arkansas only. So if Petrino reaches the end of his current 7-year deal with Arkansas, and an SEC job is open, he is free to take it. As we all know, coaches almost never reach the end of a deal. They are either extended or fired. On this score, if Petrino were fired without "cause", the SEC non-compete would not apply.

Most courts consider in-term non-competes like the one Petrino has to be far less problematic than post-termination non-competes. They are viewed as a reasonable exchange for those individuals offering unique personal services, and there is little concern about loss of livelihood or income. In fact, the interest that an employer like the University of Arkansas is seeking to protect through its in-term non-compete is the loss of Petrino's services, not irreparable harm from an ex-employee through direct competition.

I don't know how Arkansas courts have construed in-term non-competes, but the law of other states clearly demonstrates that such covenants are enforced much more broadly.

Friday, December 17, 2010

Equitable Tolling of Non-Compete Not Available In Massachusetts Absent Contract Provision (EMC Corp. v. Arturi)

A federal district court has held that, under Massachusetts law, a non-compete restriction cannot be extended beyond the terms of the contract.

The case involved a suit filed by EMC Corporation against Chris Blotto. EMC originally filed suit in March of 2010, about 4 months after Blotto left EMC to join Knowledgent Group. It did not pursue injunctive relief until August, and at that time, it only sought to enforce a customer non-solicitation provision given evidence that Blotto was soliciting an EMC customer.
In November, EMC filed a second preliminary injunction motion, this time seeking, among other things, to prevent Blotto from working with Knowledgent for one year from the date of the order. The court denied the motion on the grounds that extending the restriction past December 4, 2010 was not allowed under Massachusetts law.

The court declined to endorse a broad application of the equitable tolling rule and indicated that EMC could easily amend its employment agreement to give it the right to toll the non-compete period during the period of an employee's breach. The court did not find that the reason for delay in seeking injunctive relief was important to its holding.
Court: United States District Court for the District of Massachusetts
Opinion Date: 12/15/10
Cite: EMC Corp. v. Arturi, 2010 U.S. Dist. LEXIS 132621 (D. Mass. Dec. 15, 2010)
Favors: Employee
Law: Massachusetts

Thursday, December 16, 2010

Part V: What's Next After Reliable Fire Equipment v. Arredondo

This is Part V, the final installment, in a series discussing the holding in Reliable Fire Equipment v. Arredondo. Please scroll down for further discussion of this case.

Over the past several days, I have discussed the impact and meaning of Reliable Fire Equipment, the most recent of three appellate cases that directly address the viability of the so-called "legitimate business interest" test under Illinois non-compete law. The case is obviously important because it portends a shift in how courts will analyze non-compete agreements. But it is far from perfect and it means that the real answers to big questions will be provided in the next covenants case to hit the appellate courts.

Today, I want to tie this up and discuss where courts in Illinois are likely to head next.

In the short term, it is clear that courts will start to discard and move away from the rigid two-part legitimate business interest test that has been used by Illinois courts to examine the validity of non-compete agreements. That test served a gatekeeper role that demanded employers establish either that the ex-employee had access to near-permanent customer relationships or attempted to use confidential information when competing. Absent a showing of one of those two interests, the court did not need to consider whether the covenant was reasonable.

After Reliable Fire Equipment, courts will be inclined to examine whether an employer had other protectable interests if it cannot establish either of these two traditional business justifications for enforcing a covenant.

In that respect, courts will need to consider the parameters of what a protectable interest is. Does it include mere "access" to confidential information, rather than an attempt to use it? Similarly, can true sales-oriented businesses rely on covenants or will courts continue to find that those businesses by definition have more fleeting, tenuous relationships that cannot be restrained?

What about goodwill, unique services and special training? In many states, these are recognized as protectable employer interests. Courts in Illinois have had little to say about them. For high-level executives, these interests alone could support a non-compete regardless of whether the executive attempts to use confidential information to compete.

A couple of other related questions loom. How will courts examine non-solicitation agreements? Do the same protectable interests apply to both? Since they are less restrictive and more readily enforced, will courts be more lenient in finding the presence of a legitimate employer interest? Again, courts in Illinois have mixed the two analyses up on many occasions and have not reached consistent results.

Eventually, though, courts will need to formulate an actual, usable test. Illinois has cobbled it together over time, and even the most recent cases are not exactly clear on what an employer must show to demonstrate enforceability.

There is plenty of good law to draw upon. Assuming courts in Illinois will require an employer to demonstrate some protectable interest, then a model for courts to consider will be the old balancing test used in Iowa and other states.

That test requires a showing that: (a) the covenant is no more extensive than reasonably necessary to protect the employer's business interest; (b) the covenant does not impose an undue hardship on the employee; and (c) the covenant does not prejudice the public interest.

Importantly, the concept of "reasonableness" fits within both categories (a) and (b). Because it is not overly formulaic, a court could still uphold a covenant that is broader in scope but narrower in time. The way the current law reads, an employee could make a good faith argument that a covenant must be reasonable in each of time, territory and scope. A more robust, big-picture analysis seems more logical.

This test also links the notion of reasonableness and a protectable interest. As I wrote when assessing Sunbelt Rentals and Steam Sales, the two concepts are completely interrelated. It makes no sense to analyze whether a covenant is reasonable without assessing what it is the employer is seeking to protect.

All of these questions need to get answered by the Supreme Court, which has been less than helpful in clarifying the law of restrictive covenants. There is an upside to all the recent confusion in the Illinois cases. The Supreme Court may have no choice but to step in and provide answers to these and other important questions.

Tuesday, December 14, 2010

Part IV: The Dissenting Opinion in Reliable Fire Equipment v. Arredondo

This is Part IV in a series discussing the recent holding in Reliable Fire Equipment v. Arredondo. Please scroll down for further discussion of this case.

From my vantage point, Justice O'Malley's dissenting opinion in Reliable Fire Equipment is notable in three respects.

First, he articulates that based on the concurring opinion, his dissent and the most recent holdings in other Illinois appellate cases, courts have abandoned the "legitimate business interest" test as it was previously formulated. He argues that because two of the three justices (and perhaps all three) agree that the categorical rule cannot stand, that the legitimate business interest test is no longer the law in Illinois until the Supreme Court steps in. I agree with this. It is clear the test is not really viable any longer, and attorneys should be prepared to analyze an employer's protectable interest in light of each case's facts.

Second, despite his clarification of the current status of what is not the test, he doesn't do much to articulate a usable test. He suggests in sort of a meandering way that the totality of the circumstances must be considered to determine whether there is a legitimate employer interest that would uphold a non-compete clause. But he uses muddled (and loaded) terms like "unfair competition", and "fiercer than ordinary", without really describing the significance of them. The closest he comes to articulating a test is very early on in his opinion by stating that the totality of the circumstances test requires a court to first determine whether a protectable interest is present, followed by an analysis of whether a covenant is reasonable in time, territory and scope of activity. It is unclear why he is equating "protectable interest" with terms like "fiercer than ordinary" competition or "unfair competition." In fact, it's possible he is not equating them at all.

(I am at a complete loss, though, why courts refuse to adopt a clear test like the one Iowa courts use. That three-part test, long advocated by influential scholars, provides that employment non-compete arrangements will be sustained if: (a) they are no more restrictive than reasonably necessary to protect an employer's business interest; (b) they do not impose an undue hardship on the employee; and (c) they are not prejudicial to the public interest. More on this tomorrow.)

Third, he suggests that appellate courts have misapplied the law by holding, as a general rule, that a non-solicitation covenant cannot be enforced it if prohibits a former employee from working with customers that he or she never had contact with while working for the original employer. There is some merit to this. After all, how could a non-compete ever be valid if this were true? By definition, a prohibition on competing means that an employee won't be able to work with any customer in a competing business, whether that customer was one of his former employer's or not. I am not sure his analysis and conclusion on this point are particularly well-developed, for Illinois courts have applied this rule only to customer non-solicitation provisions. I think courts will have to analyze this further, but Justice O'Malley's opinion points out a rather obvious flaw that has been ignored for years.

The dissenting opinion certainly provides some clarity for attorneys, but it does more to highlight what may be on the horizon. Next, I will discuss some longer term implications for Illinois courts following Reliable Fire Equipment.

Monday, December 13, 2010

Part III: The Concurring Opinion in Reliable Fire Equipment v. Arredondo

This is Part III in a series discussing the recent holding in Reliable Fire Equipment v. Arredondo. Please scroll down for prior posts and information about this case.

The concurring opinion in Reliable Fire Equipment clarifies a great deal about how to evaluate restrictive covenants in Illinois. The thrust of the concurrence is that there are no hard and fast rules about what qualifies as a "legitimate business interest" in terms of a non-compete's enforceability. Justice Hudson correctly noted that the cases have been less than clear on how rigid Illinois' two-part test was.

As it stands now, courts within the Second District will have to assess the employer's legitimate business interest under a "totality of the circumstances" test. This is more in line with the intensely fact-based nature of non-compete cases, departs from the two-part test used by courts, and expands the overall analysis to more than "time, territory and scope" as is currently used in the Fourth District.

As I have mentioned before, courts in many states look at an array of protectable interests, from customer contacts and access to confidential information to unique services and special training. In Illinois, the inquiry has been very narrow and many fact patterns just don't seem to fit the analysis at all.

On Wednesday, I will discuss this in more detail about what may be next after Reliable Fire Equipment, but for now, employers may take some comfort in the fact that other interests may be used to justify a restriction on competition. Just by way of example, an employer may now be able to enforce covenants against not only those employees who "attempt" to use confidential information against an ex-employer, but also against those whose employees whose position poses an inevitable risk of disclosure of confidential information.

Saturday, December 11, 2010

Part II: Application of the Legitimate Business Interest Test in Reliable Fire Equipment

This is Part II in a series discussing the recent holding in Reliable Fire Equipment v. Arredondo. Please scroll down for further discussion of this case.

In Reliable Fire Equipment v. Arredondo, the Appellate Court found that the legitimate business interest test had to be applied to determine whether the non-compete agreement was enforceable. Though my prior post noted that the Appellate Court seemed to back away from a rigid two-factor test, it went ahead and applied the same historical test courts previously have used in Illinois. In that respect, the court analyzed whether Reliable Fire Equipment could show the presence of confidential information or near-permanent customer relationships that would allow it to enforce the non-compete.

The discussion on confidential information was fairly brief, and the Appellate Court accepted the trial court's conclusion that much of the relevant data available to the ex-employees - customer lists and pricing information - was easily findable and within the public domain. The Appellate Court was not willing to reverse this conclusion under an exacting standard of review.

The Appellate Court's discussion of customer relationships was more extensive. The court approved the two alternate tests courts have used to determine whether an employer has a legitimate interest in protecting its customer base. It discussed the "seven-factor" approach and the "nature of the business" test. Concluding that Reliable Fire Equipment's business was a sales-driven business, typified by common sales techniques and cross-purchasing by customers, the Appellate Court found that in such a circumstance a "near-permanent" relationship is generally absent. In the court's view, there continues to be a rather significant distinction between a professional services business (such as accounting, consulting, medical practice) and a sales-driven business.

Having concluded that, the court went on to discuss the seven-factor test, which applies various indicators to determine whether a true sales business still can have near-permanent relationships with its customers. The Appellate Court applied those factors and found the trial court's conclusion that Reliable Fire Equipment did not satisfy the test was not erroneous.

In particular, the court noted that buyers of fire alarm systems typically placed a project for bid and accepted the lowest quote. The court also noted that the sales staff had to supply their own computers and cell phones and had a limited entertainment budget. The court further stated that customers were well-known and could be located through access to public directories. Finally, the court determined that the business' relationship with customers was at-will and not exclusive.

The last point the Appellate Court made concerned the reasonableness of the employees' agreements with Reliable Fire Equipment. In particular, the court expressed concern as to the broad scope of the covenant, determining that the restriction prohibiting the employees from working with all customers of their ex-employer was too broad. Under Illinois law, the restriction really should extend to those customers with whom the employee developed a business relationship.

On Monday, I will discuss Justice Hudson's concurring opinion.

Friday, December 10, 2010

Part I: The Majority's Holding in Reliable Fire Equipment

This is Part I in a series discussing the recent case of Reliable Fire Equipment v. Arredondo. Please scroll down for my initial post concerning this case.

What is most notable about the majority opinion in Reliable Fire Equipment v. Arredondo is its length and depth of analysis. Keep in mind the backstory, here. Illinois Appellate Courts, for years, have failed to examine the precedents of the Supreme Court of Illinois when examining covenants not to compete.

This may sound unusual, and it its, but pick a random, garden-variety covenants case from the last 30 years and any citation to any Supreme Court precedent will be extremely difficult to find.

Lawyers have known this for quite sometime, that the two appellate branches of our courts seem to treat the other as if it does not exist. Because the Supreme Court has taken so few covenants cases - and almost no true employee cases - it was just assumed that you would cite to the appellate courts and nothing else.

That changed a few years ago when Justice Steigmann of the Fourth District had his ear bent by a well-known Chicago lawyer and began looking into historical precedent more carefully. He eventually unwound the legitimate business interest test in Sunbelt Rentals v. Ehlers, a case that focused the analysis of non-compete agreements on whether the time, territory and scope of the covenant was reasonable. Put another way, the gloss of whether a covenant supported a "legitimate business interest" was stripped away as being inconsistent with years of Supreme Court precedent. Justice Steigmann traced the Court history and commented that the interest test was created by Appellate Courts out of whole cloth.

After Sunbelt Rentals was decided, I noted that Justice Steigmann's holding was a bit incomplete because it failed to address one critical case, House of Vision v. Hiyane. In particular, House of Vision discussed an employer's interest in protecting customer relationships. While it is true the Court did not formulate the legitimate business interest test as the Appellate Courts have since classified it, it clearly recognized that reasonableness was not to be viewed in a "scope, time and territory" vacuum.

Reliable Fire Equipment takes much the same approach. After a careful analysis of the Supreme Court's prior cases - including a critical and extended discussion of House of Vision - the Appellate Court concluded that it was essential for the promisee (i.e., the employer or one receiving the benefit of the covenant) to demonstrate an interest worthy of protection.

Here's where the court's holding becomes more interesting and esoteric. It seems to portend a clear departure from what attorneys have always believed to be a two-part inquiry into what actually constitutes a "legitimate business interest." As readers of this blog know, in Illinois courts have recognized the following as protectable employer interests:

(1) "near-permanent" customer relationships the employee would not have had but for his or her relationship with the employer; and

(2) access to, and an attempt to use, confidential information or trade secrets of the employer.

The court is somewhat vague on whether the legitimate business interest test is so limited, obliquely saying that the test "need not be inflexible if broadly construed." I'm not sure what this means. Later, the court stated that "[o]ther criteria may exist that warrant protection under the law beyond those enumerated in the two traditional prongs of the...test."

More on this when I discuss the impact of Reliable Fire Equipment, but it is fair to say for now that lawyers have some room to argue that other interests worthy of protection - special training, unique services - may support a non-compete agreement.

On Monday, I'll discuss the application of the legitimate business interest test to the facts of Reliable Fire Equipment.

Second District of Illinois Appellate Court Reaffirms (Kind of ) Legitimate Business Interest Test (Reliable Fire Equipment v. Arredondo)

There is officially a true conflict within the Illinois Appellate Courts over how the enforceability of non-competition agreements will be determined.

In Reliable Fire Equipment Co. v. Arredondo, the Second District of the Illinois Appellate Court reaffirmed application of the "legitimate business interest" test, at least in some modified format, for employment restrictive covenants. The court engaged in a lengthy historical analysis of non-compete law, both in Illinois and under the common law. Because of the importance of this opinion, I will write five separate posts on this blog.

Part I: The Majority's Holding
Part II: Application of the Facts
Part III: The Special Concurrence
Part IV: The Dissent
Part V: What's Next


Court: Appellate Court of Illinois, Second District
Opinion Date: 12/3/10
Cite: Reliable Fire Equipment Co. v. Arredondo, 405 Ill. App. 3d 708 (2d Dist. 2010)
Favors: Employee
Law: Illinois

Thursday, December 9, 2010

Trade Secrets Theft By Ex-Valspar Employee Results In 15-Month Prison Sentence

David Yen Lee, of Arlington Heights, Illinois, was sentenced to 15 months in federal prison arising out of his theft of trade secrets from Valspar Corp. in late 2008 and early 2009. An article from today's Daily Herald concerning the sentence can be found here. Lee was a technical director for Valspar when he began downloading to a thumb drive batch paint formulas, which he apparently intended to use for his soon-to-be employer in Japan, Nippon Paint.

The value of the stolen formulas was estimated to be between $7 million and $20 million.

It is certainly true that the overwhelming majority of trade secrets claims are civil matters. However, when the value of the secrets is large and there is an international element to the threatened or actual misuse, the chances of a federal prosecution grow significantly.

Though not expressly part of the statutory framework, it is apparent from the cases prosecuted criminally that prosecutors will look at a defendant's attempt to sell stolen commercial information. Put differently, improper retention of corporate information by an ex-employee - which happens all the time - is not in and of itself likely to draw the ire of an AUSA. Stealing the formula to Coca-Cola, on the other hand, with the intent to auction it off is certain to result in an arrest.

The Economic Espionage Act of 1996 criminalizes theft of trade secrets, and as is typical of similar statutes, the impact must touch and concern interstate or international commerce. The maximum penalty is 10 years in prison and a fine not to exceed $5,000,000.

Tuesday, December 7, 2010

Employee Handbooks Not Relevant to Whether Computer Use Was Unauthorized Under CFAA (Accenture v. Sidhu)

One of the many unanswered questions surrounding the federal Computer Fraud and Abuse Act has to do with employee policies or handbook provisions.

Put simply, lawyers have been mulling over whether an employer can demonstrate that an employee's computer use was "unauthorized" within the meaning of the CFAA if the employee signs off on corporate policies that put him or her on clear notice of what kind of computer use in the workplace is prohibited. Though policies and agreements vary, one of the central tenets of this practice is to include as an unauthorized use the downloading or transferring of corporate information to a personal e-mail account or thumb drive. Policies also can be written such that information printed or stored off of an employer's computer server may not be used for competitive purpose, and that if the employee does so, such use will be considered unauthorized.

These policies are designed to expand an employer's remedies for unfair competition. But do they?

According to one recent federal court, the answer is "no." The case of Accenture, LLP v. Sidhu deals with the impact of policies very similar to those identified above. Because the employee allegedly violated those policies, Accenture filed suit in federal court under the CFAA. (In California, this issue is critical given its long-standing policy against post-employment restraints.)

The court dismissed the claim and noted that "[t]he relevant inquiry is whether the employer allowed the employee use of the computer system, irrespective of whether the employer would have revoked permission if it understood the employees' intent, or knew about the employees' conduct." The court also noted that a carve-out exception would undermine existing precedent and, more fundamentally, graft "corporate policy into the substance of the CFAA."

Policies like those above, however, still are very useful for employers. For one, it can help establish breach of contract, may eliminate an employee's rights to severance pay, and demonstrate knowledge of wrongful conduct.


Court: United States District Court for the Northern District of California
Opinion Date: 11/9/10
Cite: Accenture, LLP v. Sidhu, 2010 U.S. Dist. LEXIS 119380 (N.D. Cal. Nov. 9, 2010)
Favors: Employee
Law: Federal

Friday, December 3, 2010

Liquidated Damages Formula Needs a Sound Rationale (Cottingham & Butler Ins. Svcs., Inc. v. Jacoway)

I've often written on the topic of liquidated damages, because I believe if properly drafted, those clauses provide the most sound, definitive calculation of damages in non-compete/non-solicit disputes. However, the key word is "properly drafted." This is an area of non-compete law riddled with examples of drafting errors.

Simply by way of brief background, "liquidated" damages is legal concept indicating an agreed calculation of damages before a breach happens. The calculation normally provides for a formula to be applied rather than a fixed sum of money, and it must be exclusive of other damage remedies. That is, it has to be a true liquidation - no additional sums can be owed on top of what the contract provides.

A recent case out of Iowa in the insurance brokerage context illustrates exactly how employers ought to be thinking of what should go into a liquidated damages calculation. As is common in many brokerage-agent relationships, the liquidated damages clause provided for payment to the ex-employer of a multiple of gross receipts per misappropriated customer. In this case, the multiple was 2.25 times average client remuneration over the two years preceding the employee's termination of employment.

The employer offered a very sound reason for why the calculation was set forth this way in the contract. An officer of the brokerage testified that the company had a valuation conducted every year, and that the valuation at the time the contract was signed revealed that the fair value of the company was 2.25 times revenue. Hypothetically, then, if the agency were to lose a customer, it would translate into a reduction of the firm's going concern value by a factor of 2.25 times gross receipts attributable to that customer.

Depending on what judge draws a case, he or she may have perceptions of how fair liquidated damages clauses are. Because they can be abused, some judges have negative feelings about applying those clauses and tend to default to the rule that they are disfavored as penalties. But testimony like that offered above enables a court to find that a liquidated damages clause is reasonable and proportionate to the anticipated monetary harm caused by a breach.


Court: Court of Appeals of Iowa
Opinion Date: 11/24/10
Cite: Cottingham & Butler Ins. Svcs., Inc. v. Jacoway, 2010 Iowa App. LEXIS 1393 (Iowa Ct. App. Nov. 24, 2010)
Favors: Employer
Law: Iowa

Wednesday, December 1, 2010

In Non-Compete Cases, Judges Determine Which Facts Are Important (FBK Partners v. Thomas)

Clients never like to hear my standard advice that each non-compete case turns on its own facts, and that no two cases are alike. But it is true. Lawyers can advise their clients as to the general rules of law and analyze a set of facts based on those rules. However, absent a dispute over solely a legal issue (which is rare), it is nearly impossible to look at two non-compete cases the same way.

Reading cases and explaining them here is helpful so that clients (a) know a bite about the law, and (b) see how outcomes similar to theirs may be decided. It is also helpful to see what facts judges cling to. I've said before, and I'll say it again, that judges' perceptions of facts often are colored by one simple, overriding theme: which party is wearing the "white hat"? But even taking that principle as a truism, it is still interesting to see which particular facts judges examine when ruling on a case.

Take the recent case of FBK Partners v. Thomas, a garden-variety non-compete dispute in Kentucky federal court. The employee, Thomas, had discussed leaving FBK to join a start-up, and apparently started moonlighting with the start-up prior to his last day at FBK. Aside from that, the facts of the case weren't all that different than a typical non-compete dispute.

The case isn't particularly notable for announcing a new rule of law or applying a rule in a curious way. However, it is notable for a couple of key facts that seemed to sway the judge's decision. Here are three such facts that caused me to do a double-take:

(1) The court rejected the employee's argument that the employer breached his employment agreement by modifying his duties. No real surprise that the argument is rejected. But the court's justification for it? Read this:

"There is evidence in the record that he knew the non-compete was valid when he began considering working for [the start-up]. Why else would he have provided [his new employer] with a copy of the non-compete?"

I don't understand this point at all. Employees are supposed to provide a copy of their non-compete to a new employer, and doing so should not amount to an admission that the non-compete is valid.

(2) The first point makes even less sense when you consider what the court said about the non-compete's reasonableness. The geographic scope of the non-compete included the entire United States and Mexico. However, Thomas worked for FBK in two states and in Mexico. At a minimum, Thomas had a good argument the geographic scope was unreasonable (which may have been why he showed a copy to his new employer). In enforcing the non-compete, the court did not modify the agreement to encompass a narrower geographic scope. The court's rationale was based in part on Thomas' failure to argue for a modification, but look at what else the court said:

"Furthermore, this Court is not inclined to modify an agreement that the parties entered into with full knowledge and adequate consideration."

This makes no sense. If a contract has no consideration, it isn't valid, so refusing to modify it on the basis that it has consideration is non-sensical. The fact that an employee signed an agreement with "full knowledge" of its terms has never been a proper rationale for applying the modification rule. It doesn't even make sense.

(3) The third fact is the most curious, though it didn't appear to sway the outcome at all. In assessing Thomas' potential breaches of the non-compete, the court said as follows:

"Thomas likely committed breach as early as December of 2008 by traveling to Kentucky to meet with [the new employer] and view [its] site in contravention of the agreement's prohibition on 'seeking employment' with a competitor."

This is the first time I have ever seen a court make such a statement. I don't think it is all that significant, because it would be nearly impossible for an employer to prove any damages associated with such a breach. However, if the employment contract contains a clause like this, interviewing, or seeking employment, with a competitor may allow an employer to terminate a contract for "cause" and avoid paying severance.


Court: United States District Court for the Eastern District of Kentucky
Opinion Date: 11/23/10
Cite: FBK Partners, Inc. v. Thomas, 2010 U.S. Dist. LEXIS 124579 (E.D. Ky. Nov. 23, 2010)
Favors: Employer
Law: Delaware