Court of Appeals of Colorado Overturns Jury Verdict on Abuse of Process Counterclaim

Employees aren't equipped with an overwhelming array of weapons to fight back anticompetitive lawsuits.

I have written many times on this blog about this topic. In this author's view, the legal system works most efficiently when parties can rely upon contract law to allocate rights and responsibilities with some predictability. Though non-competes are restraints of trade, they should be struck down only when patently overbroad and when the objective intent from the contract language is to deter fair competition.

I also believe that trade secrets law is a species of property law, and that if an employer can demonstrate a taking of protected (that is, valuable and secret) property, the law should honor that. But in the absence of protection efforts that place a third-party on objective notice that the property is truly something that is "secret", trade secrets law can be a destructive, overused weapon between competitors that disrupts parties' reasonable expectations in dealing with each other.

Employees sometimes assert abuse of process counterclaims when faced with a competition lawsuit appears to be filed as an end in itself - not as a means to an end. Abuse of process claims are tough to prove, but generally require the employee to show three things:

(1) an ulterior purpose to the suit;

(2) actions by the employer that are not proper in the course of the lawsuit; and

(3) damages.

There's another hurdle to clear, though, when an abuse of process counterclaim is based on the idea that the lawsuit itself is not proper. It's called the "sham litigation" exception, because lawsuits generally are protected by the First Amendment's clause enabling parties to petition the government to redress grievances. The sham litigation exception to First Amendment immunity further requires a counterclaiming party to show an objectively baseless suit brought in bad faith.

A recent Court of Appeals ruling in Colorado reversed a district court's jury verdict in favor of ex-employees who each obtained a $200,000 judgment on an abuse of process counterclaim. The problem that the district court made was not assessing the sham litigation exception properly on a post-trial motion by the employer. Instead of assessing whether the employer's competition claims were objectively baseless and devoid of factual support, it held a reasonable jury could have found for the employees on their counterclaim.

This conclusion missed the mark, since the court - not a jury - must pass on the First Amendment constitutional issue. Interestingly, Colorado rejected a bright-line gatekeeper rule. Specifically, it found that just because an employer's competition claims survive summary judgment does not mean the abuse of process counterclaim automatically fails. The court noted that trials may often be more efficient than resolving summary judgment motions, and that summary judgment denials often don't contain the type of exacting analysis that would automatically dispose of an abuse of process counterclaim.

One issue that is not discussed in the Colorado case - or in many cases like this - is the second element of the abuse of process tort. As listed above, an employee must generally show some action "not proper in the course of the lawsuit." When the theory is that the lawsuit is a sham, it is hard to identify something concrete that is improper, such as the misuse of subpoena power. However, my view is that the sham litigation analysis subsumes the second element. If a lawsuit is objectively baseless, then the process itself - the cost of discovery, disruption in the marketplace - has been subverted entirely.

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Court: Court of Appeals of Colorado, Division Three
Opinion Date: 11/8/12
Cite: Health Grades, Inc. v. Boyer, 2012  Colo. App. LEXIS 1842 (Col. Ct. App. Nov. 8, 2012)
Favors: Employer
Law: Colorado

Department of Justice Sues EBay Over No-Poaching Agreement With Intuit

Last week, the Department of Justice filed another suit against one of the nation's tech giants for entering into horizontal no-hire agreements. This time the suit is against EBay, and it generally alleges that EBay and Intuit engaged in an informal and formal contract not to hire each other's key employees.

The DOJ has sued under the Sherman Act, claiming that the no-hire agreement is both illegal under a per se and rule of reason analysis. Though the suit is pending in California - a state with a well-known and broad policy against enforcement of non-competes - the California law receives only one passing mention in the complaint. And the state public policy would appear not to have any impact on the Sherman Act analysis.

It is not clear what the imminent harm is, or whether EBay and Intuit have continued their understanding not to hire each other's people, however informal that understanding may have been. The DOJ had obvious access to e-mail communications and probably gained them from another suit that it brought in California federal court against other tech companies.

Intuit is not a defendant, as it is under an agreed order in a similar case. A copy of the Complaint is contained below.

US v. eBay, Inc.

Non-Compete Radio: Episode 4 Link

Today's episode (link below) features an interview with Rob Dean of the Roanoke, Virginia firm, Frith & Ellerman. Rob's practice includes the representation of employees in non-compete matters.

Rob and I discuss a wide range of topics including the use of social media evidence in non-compete cases, Virginia's trend against enforcement of non-competes, the blue-pencil rule, declaratory judgment suits, and (most critically) his bold prediction that Michigan will top Ohio State in this year's Big Game (at least to us alumni).

The 30 minutes flew by, and I thank Rob for joining me. I hope to have him back on the podcast to discuss the Urban Meyer era and how poorly he predicts college football games.

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Supreme Court of Illinois Recognizes Intrusion Upon Seclusion Tort in Non-Compete Investigation

Non-lawyers would be surprised at the type of feelings and emotions that run through competition cases. One only need to read Steve Jobs' biography to get a sense of how raw his feelings were on the upcoming smart phone patent wars he did not get a chance to see.

Non-compete cases are much the same way. Employers feel ex-employees are disloyal. Ex-employees feel entitled to do what they want. Suspicion and speculation abound. And, as a lawyer, I have always been amazed at how personal the lawyers take most cases.

Frequently (though not often), employers overstep their bounds in investigating a non-compete breach. It is hardly uncommon for companies to hire investigators to look into what an ex-employee is doing out in the field for her new company. But sometimes those investigations can go off-course. Real life, after all, is not an episode of The Good Wife.

The Supreme Court of Illinois in Lawlor v. North American Corp. recently recognized the tort of intrusion upon seclusion in the context of a non-compete investigation gone south. The tort is a branch of the invasion of privacy claim and is fairly flexible in what types of facts can give rise to the claim. It essentially provides for tort liability when one party intentionally interferes with another's private affairs, such as by examining bank account information or opening personal mail.

The Court had never recognized the cause of action until Lawlor. The case arose when North American's outside counsel retained a private investigation firm to investigate whether Kathleen Lawlor was improperly competing following her departure from North American. The firm obtained Lawlor's phone records to examine whether she was talking to competitors. Lawlor sued for the tort of intrusion upon seclusion. North American defended the case on the grounds that there was no principal-agent relationship between it and the investigation firm. Unfortunately for North American, the Court determined sufficient grounds existed for the jury to find that North American was intimately tied into what the private eye firm was doing.

The case is emblematic of the type of emotions that can run high in non-compete cases. Precisely because facts concerning competition are intended to be hidden, a company often resorts to creative means to find out what is happening in the field. Though not all pretexting may be illegal or tortious, a company must determine which tactics are vigilant and which are overzealous. And it is the job of outside counsel to ensure that the company is taking reasonable, yet appropriate and measured, steps to triage what happened.

A copy of Lawlor is contained below.

Lawlor v. North American

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Court: Supreme Court of Illinois

Opinion Date: 10/18/12

Cite: Lawlor v. North American Corp. of Illinois, 2012 IL 112530

Favors: Employee

Law: Illinois

Employer Unable To Condition ERISA Severance Payments on Signing Undisclosed Non-Compete

For those of you dying to know more about ERISA, here ya go.

First, the basics. ERISA is a sweeping federal statute that governs employee health, welfare, and benefit plans. Employers often institute ERISA-based plans and within those plans provide that terminated employees are eligible to receive severance benefits under certain condictions. For instance, employees who have been discharged without cause or who worked at the company for a certain number of years may be eligible for severance pay, even if that is not contained within an employment contract.

Simple enough. But ERISA-based plans almost always contain the requirement that an employee, as a condition of receiving severance pay, execute a release. That makes perfect sense, for it would be somewhat absurd for an employer to pay out benefits and not get some assurance that a Title VII charge won't arrive in the mail months later.

Severance plan documents often attach a form release for employees to see, and from there, it's just a matter of filling in the blanks at the time the severance benefit rights accrue. But what rights does an employer have to insert in a severance document the requirement that the employee sign a non-compete?

According to one Illinois federal court, none.

The case of Pactiv Corp. v. Rupert dealt with a case where the ERISA plan simply stated that the employee's separation agreement must "be in a form acceptable to the company." The plan documents mentioned nothing about a non-compete. Though Pactiv understandably was concerned that its ex-employee was in a position to capitalize on knowledge he gained while at Pactiv, the court refused to imply a requirement into the severance plan Pactiv adopted.

The court stated: "Reserving the right to have a separation agreement in a 'form acceptable to the Company' is not notice to an ERISA beneficiary that a non-competition covenant could be required as a condition to receive benefits." ERISA plans are not subject to ad hoc amendments or interpretation.

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Court: United States District Court for the Northern District of Illinois
Opinion Date: 11/1/12
Cite: Pactiv Corp. v. Rupert, 2012 U.S. Dist. LEXIS 158413 (N.D. Ill. Nov. 1, 2012)
Favors: Employee
Law: Federal/Illinois

Non-Compete Radio: Episode 3 Link

Today's podcast on Non-Compete Radio features a discussion with Bill Tarnow, chair of the Labor and Employment Law practice at Neal Gerber and Eisenberg. The topic is "Mistakes in Non-Compete Litigation." Bill and I discussed our thoughts on the blue-pencil rule, what percentage of non-compete agreements we think are poorly drafted, and the perils of adding weak trade secrets claims.

We also went over Vanko's "Three Pillars of Death" and even gave brief mention to the current state of Illini football.

Enjoy the discussion by clicking below. You also can subscribe to the podcast through iTunes.


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Permanent Injunctions and The Erie Problem

God help us all!

I am discussing the Erie v. Tompkins case from 1938. This was like the fourth most annoying case from law school, and I thought I left it once and for all in Champaign, Illinois in 1997.

But it rears its head - fittingly so, perhaps - in the tragicomedy known as E.I. duPont v. Kolon Industries. The issue, though, is one that is likely to repeat, so if for no other reason than I feel an obligation to get this issue on the table, I have to discuss this. And it's somewhat surprising that I haven't seen it come up much before.

The issue, put simply, is this: does federal or state law apply to determining whether to issue a permanent injunction in a diversity case for violation of the trade secrets act?

Why is this issue important? For injunctions arising under federal law, courts apply the so-called eBay test that requires a court to examine four factors before awarding a permanent injunction: (1) irreparable injury, (2) inadequate remedy at law, (3) balance of hardships favoring the plaintiff, and (4) that the public interest is not disserved by issuing an injunction.

This differs from the state-law approach. In many states, courts have held that if a statute authorizes a court to issue an injunction, then a plaintiff need not prove irreparable harm. Demonstrating success on the merits is enough.

Trade secrets law is governed by state law. And every state that has adopted the Uniform Trade Secrets Act (47 states) allows for injunctions to issue in trade secrets cases.

So in Kolon Industries, the Eastern District of Virginia found that the Erie doctrine applies, and a federal court must apply state substative law to determine whether a permanent injunction remedy is appropriate in a trade secrets case. Erie basically says this: on a matter of substance, a federal court must apply the law of forum state. On procedural issues, federal law applies.

My problem is not so much with the Erie-based holding in Kolon Industries, because it is hard to see a permanent injunction order as anything other than substantive. But state laws that do not apply an eBay-like test, to me, make no sense. It should never follow that because a legislature has authorized an injunction for a violation of a state statute, that the injunction should automatically be entered.

This is particularly the case when the plaintiff has damages remedies available to it. In the Kolon Industries case, DuPoint obtained compensatory damages of $919.9 million. I can see where an injunction should automatically follow if the statutory violation does not allow for the recovery of damages, such as in the case of some deceptive trade practices statutes. Or in the case of a prophylactic law applicable to a regulated industry.

But when a damages remedy is available (and indeed has been awarded), it is short-sighted to rely on the fact that a statute has authorized injunctive relief to award injunctive relief. This is not to say, of course, that Kolon Industries was wrongly decided on DuPont's entitlement to an injunction, which was clearly warranted on the facts.

Non-Compete Radio Is Back: Episode 2 Link

It was either watch the debate or finish Episode 2 of my podcast. The first few minutes of the debate were excruciating.

So, after 6 months, Episode 2 of Non-Compete Radio is on the air. You can listen directly to Remedies in Non-Compete Litigation by clicking below. And remember to subscribe to Non-Compete Radio in the iTunes store.

Next week, I will be interviewing Bill Tarnow of Neal Gerber & Eisenberg, a great non-compete lawyer who recently was named one of Chicago's "40 Under 40" attorneys to watch. Bill and I are going to discuss mistakes we see in non-compete and trade secret litigation.

I look forward to having other guests join me in future episodes.

Listen to this episode

The Reading List (No. 12)

We start this week's Reading List with two entries from a site I need to visit more often.

Burr & Forman's non-compete blog has a very interesting article on potential antitrust implications when competitors settle non-compete disputes.

Also from the Burr & Forman blog, a report on how Tennessee courts employ the "rule of reason" analysis when modifying non-compete agreements. This post discusses the various approaches courts have taken and also warns employers not to fall in love with the idea that a court will backstop an overbroad or poorly written non-compete.

John Marsh has tackled the legendary case of E.I. DuPont v. Kolon Industries in a number of posts, and this week reports on the federal indictment of Kolon and several executives for trade secrets theft. John hales from Columbus, Ohio (where I went to school), and hopefully he can figure out Ohio State football's porous defense as well as he has the DuPont litigation.

For those trending to an intellectual bent, Judge Richard Posner writes this week on the interplay between "luck" and financial wealth. This is as esoteric as it gets, but what interested me is Judge Posner's somewhat dismissive attitude towards Ayn Rand. For some reason, this surprised me.

Robert Milligan of Seyfarth Shaw has an in-depth and excellent post on the sports agent kerfuffle involving Aaron Mintz and Mark Bartlestein. This feels to me like two petulant kids playing in the sandbox.

Later this week, I will write more on the Supreme Court of Illinois' decision in Lawlor v. North American Corporation, provide a case law update, and link to the (long overdue) second podcast from Non-Compete Radio. That's a lot to tackle, but after a short vacation, I'm feeling up to it.

A Lesson In How Not to Do It: Vibra-Tech Engineers v. Kavalek

Competition disputes fascinate me partly because of the ways people manage to screw things up.

For my employee clients who are looking to leave and compete, the advice I often end up giving is simple and straightforward. In a nutshell...

1. Don't take anything when you leave.

2. Be honest and forthright on your way out the door.

3. Know your contractual obligations.

4. Don't compete before quitting.

Of course, there are the inevitable line-drawing exercises that have to be hashed out, as I end up answering countless "what if I do this" questions. But as long as employees can stick to these four basic rules, things can't go too terribly wrong.

Scott Kavalek stuck to none of these rules.

The case is Vibra-Tech Engineers, Inc. v. Kavalek, and if nothing else, it is first-rate primer on how not to compete. Earlier this year, a federal court entered a judgment against Kavalek, his wife, and their two companies in the amount of $3.39 million. The suit was a not-so-garden variety non-compete and duty of loyalty action that Vibra-Tech brought in New Jersey. And the facts were startling to read.

Vibra-Tech is in the business of measuring vibrations in construction, quarry, and mining operations, and it also performs related consulting services. Kavalek was a high-level executive and corporate officer of Vibra-Tech who, years before his termination, set up two competing businesses and actively competed with Vibra-Tech while employed by it.

Among Kavalek's actions:

1. Hiring then-current Vibra-Tech employees to work for a competing entity.

2. Diverting several large customers to his own company, costing Vibra-Tech business.

3. Setting up another company as a "supplier" of geotechnical equipment and causing Vibra-Tech to purchase equipment from this supplier at inflated rates.

4. Lying at the time of termination of his involvement in these companies.

5. Tampering with sales invoices produced in discovery in an effort to hide Kavalek's sales activity with diverted customers.

6. Causing his attorneys to make repeated false representations in court about the production of documents and his association with corporations he controlled.

In a case such as this, contractual obligations almost seem to take a back seat. And indeed, the district court in rendering its judgment makes only passing references to the non-compete's enforceability. To be certain, if Kavalek never signed a contract, the outcome would have been the same.

The only real interesting legal issue to come out of the case is that the district court applied a disgorgement theory of damages, largely under the principles of agency associated with fiduciary duty law. Vibra-Tech had offered alternative damages theories, based on both lost profits and disgorgement. Ultimately, the court had little trouble finding that punitive damages also were appropriate.

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Court: United States District Court for the District of New Jersey

Opinion Date: 3/29/12

Cite: Vibra-Tech Engineers, Inc. v. Kavalek, 849 F. Supp. 2d 462 (D.N.J. 2012)

Favors: Employer

Law: New Jersey