What Are Non-Competes?
As the term is commonly used, a "non-compete" is a contractual agreement by which an employee or independent contractor agrees not to enter into or start a competing profession or trade against an employer for a certain period of time after termination. Non-competes are designed to protect the legitimate business interests of an employer by prohibiting the otherwise unrestricted ability of the employee to immediately use confidential information and other intangible assets acquired during the course of employment to the detriment of the employer’s interest.
As frequently defined, non-competes restrict the ability of one party to engage in a profession, typically a profession in direct competition with a former employer. These agreements are usually only valid in limited situations because they are essentially contracts in restraint of trade. Whether or not a non-compete is reasonable and enforceable depends upon the specific facts of each situation and the relevant law , which varies from state to state.
Where permitted by law, non-competes may be used to protect tangible assets that can be assigned a dollar value, like customer lists and trade secrets. As modified by state law, a non-compete usually outlines the following:
The above outlines the basic contours of how a non-compete is typically structured. However, as mentioned above, options vary from state to state; for example, some states will only enforce non-competes if it is part of a contract, others allow them in connection with the sale and purchase of a business. Further, in certain states, such as Florida, the courts have been known to disregard non-competes entirely if the right to bring the action is assigned to the Department of Business and Professional Regulation.
How Non-Competes Apply to Layoffs
Both the federal and New Jersey law on non-competes provide that either, both or any of the parties can terminate what is known as the "at will" employment relationship at any time, with or without cause. So, the question is, if an employer who has a non-compete with an employee lays him off, does the non-compete continue to apply? The answer is yes, but it can be very complicated, especially in situations where the layoff is within a few months of the expiration of the non-compete. The reason this can be problematic for the employer is that the payment that they offer, or are paying the employee during the layoff is probably not going to be deemed adequate consideration to keep the non-compete in effect. Moreover, the employee, even if he does not have an acceptable alternative job lined up, may not have as great an incentive to adhere to the non-compete.
To start with, employers should ensure that their layoff agreement provides that the employer has the right to enforce the non-compete despite the fact that the employee was laid off. The most common enforcement method involves seeking injunctive relief – that is, making sure the employee abides by the post-termination restrictions.
Employers should also ensure that their agreements provide compensation to the employee during the layoff period that would be adequate consideration for the enforcement of the non-compete. For example, if the employee is laid off immediately before the end of the non-compete, and is not paid his full compensation during the layoff, the employee may say that he did not receive an incentive not to work for competitors during the period of "assumed" unemployment. Another possible scenario is one in which the employee is laid off with pay a year prior to the expiration of the agreement. The employee may find another job, and then claim that he will not be providing sacrifice to abide by the remaining non-compete period.
At least one New Jersey case suggests that the appropriate compensation would be two years severance pay for a two year non-compete period.
It could be argued that, in the situation where the non-compete is not being enforced, the employee should not be entitled to compensation for the post-employment non-compete period. In addition, one can argue that the requisite consideration for the covenant not to compete must be in existence at the commencement of employment.
Unfortunately, there is no case law in New Jersey on this issue. So far, the best practice for an employer wishing to enforce a post-employment covenant when it is laying off an employee is to agree to pay the full salary or at least some modified salary during the period between the layoff and the end of the non-compete. In addition, usually, the employee should be reminded of his obligations even prior to the termination of employment, and certainly when the layoff begins.
Legality of Enforcing a Non-Compete After a Layoff
The interplay between non-competes and layoffs can be contentious. Whether a non-compete will be enforceable after a layoff depends on a variety of factors, including the requirements of the specific non-compete, the jurisdiction, and the reason for the layoff. For example, some courts will not enforce non-competes in the event of a layoff due to lack of work, while others may do so even after such a layoff, depending on the circumstances. See, e.g., Niskanen v. Larson Co., 198 N.W.2d 801 (Iowa 1972) ("We do not here hold that employees in corporate transitions of this nature must necessarily lose their rights under restrictive covenants. We do hold that a unilateral decision of a corporation to close its plant and terminate employment does not of itself avoid the terms of an otherwise valid restrictive employment covenant."); but compare 5 Star Masons, Inc. v. Burch, No. 8:10-cv-2062-T-24, 2012 U.S. Dist. LEXIS 68998, at *11 (M.D. Fla. May 21, 2012) (non-compete void when "[t]he agreement had no express provisions dealing with lay-offs or termination for cause or by the company").
All too often, employers fail to take the steps or include the language necessary so that their non-competes will be enforceable even after layoffs. A company that is contemplating layoffs or has already laid off employees would be well-advised to consult counsel to ensure that its non-competes are structured and drafted in a manner that ensures their enforceability.
Employee Options and Remedies
In most circumstances, non-compete and similar agreements that restrict an employee’s ability to work in his/her field after a layoff or termination are enforceable under Connecticut law. However, there are several common instances in which employees can argue that the agreements should not be enforced.
A common argument made by employees is that their employer did, in fact, terminate their employment. For instance, if the company makes the decision to cease doing business and lays all employees off and/or terminates all employees, then it generally follows that they have terminated all employees. Similarly, where the company decides to sell its business and all, or nearly all, of the people employed in the business, are terminated, there is a solid argument that all, or nearly all, of the employees have been terminated as a direct result of the sale of the business.
Another frequent basis upon which a plaintiff can allege that the non-compete is unenforceable is that the non-compete was entered into under an illegal , invalid, or void contract. An example of this type of contract is a non-compete that purports to prevent the employee from working for a competitor anywhere in the world for any period of time. Such a contract, which can be considered a blanket prohibition, is overbroad and, thus, is void and unenforceable. Another example of an illegal or void contract is an agreement that prevents an employee from working in his/her field unless he/she works for his/her employer.
Finally, if the employee is terminated without cause, his/her non-compete may not be enforceable against him/her as a matter of sound public policy. To bar an employee from finding work after such an involuntary termination seems to contradict our public policy in Connecticut of supporting employees who seek to find new work after being terminated without cause.
Considerations for Employers Implementing Non-Competes
Employers are sometimes surprised to learn that non-compete agreements are governed by a different body of law than the contractual standard that governs other business agreements. Non-compete agreements are typically considered invalid unless the non-compete is reasonable in geographical scope and duration. Usually, the more limited the non-compete agreement, the easier it is for an employer to assert it is enforceable. Employers seeking to assure the enforceability of a non-compete agreement should be certain to consider the following:
What does the agreement prohibit? If an employer is unsure of the scope of the prohibited activity, it should consult experienced employment counsel to understand the law that appropriately defines the scope of their non-compete agreement. In particular, employers should consider whether the restrictions are carefully tailored to reflect the trade secrets and other confidential information they possess. The employer should also consider whether any of the company’s restrictions have been standardized or are otherwise common in the industry as this will afford greater weight to the legal argument that the non-compete agreements are reasonable in scope and duration.
What geographic area does the non-compete affect? For employers with only one place of business, a smaller and more local geographic area is safer. For employers with multiple locations in one city, a proof and justification for a larger geographic area should be considered up front. Even for employers with global businesses that can be proven to impose the same restrictions on employees in all of their locations, this is not likely to be a successful argument in the United States. Employers with regional, national or international footprint should tailor geographic areas for the various locations in which they operate.
How long does the non-compete agreement last? Because a non-compete agreement that lasts for a year or less is more likely to be upheld in a court of law, employers should, when possible, consider entering into non-compete agreements with a duration of one year or less. If you are considering a longer non-compete agreements, you should be certain it has been drafted in a manner that is carefully tailored to fit the duration of the employer’s business interests and competitive market.
Recent Developments in Non-Competes
With the increase in layoffs, courts and policymakers paid particular attention to whether lay off offers require accepting non-compete agreements. In 2019, the Connecticut Supreme Court overturned a lower court decision in a case where the plaintiff was terminated and asked to sign a severance agreement containing a release of claims and restrictive covenants including a noncompete agreement in exchange for severance pay. The trial court held that the noncompete provisions, were "neither supported by consideration nor necessary to fulfill the valid purpose of the employment agreement." Northern Pipeline v. Marathon Computer Sys., Inc., 241 Conn. 305, 320 (1997). However, the Supreme Court overturned the decision, holding that the noncompete provisions "aided a legitimate purpose and were supported by consideration." The court reasoned that the covenant not to compete was intended to protect the employer’s business interests and not to get anything off the back of an employee. Although the opinion did not specifically address the value of the severance offered, as long as the severance offered was not illusory, it appeared to have been viewed as sufficient consideration for the post-termination restrictions.
The United States Seventh Circuit weighed in on the enforceability of non-compete agreements. In 2019, in the case of Elite Staffing Solutions, LLC v. Rahman, the United States Seventh Circuit held that an Illinois non-compete agreement was unenforceable because the employer unilaterally modified the terms of a non-compete agreement relatively quickly after the agreement was executed. The court explained that "[w]ithout the promise of future employment—or any consideration at all—Rahman had no reason to accept such a lopsided deal" and struck down the non-compete. The court reasoned that the employer had the right to modify the employment terms at any time, thus making the requirement the employee’s acceptance of an amendment illusory. Applying Illinois law, the court determined that a promise "supported by an illusory promise is not binding" and held "The employment offer letters are not valid contracts . "
Cases like this have prompted policymakers to pass laws regarding what must be included in layoff offers, including whether restrictive covenants are enforceable. Most notably in 2019, the United States House of Representatives passed a bi-partisan bill to prohibit the use of non-compete agreements. The proposed bill includes relatively narrow exceptions to these prohibitions, including the use of non-compete agreements upon the sale of a business, protecting trade secrets, or preventing the unauthorized disclosure of client lists. The bill, however, does not allow states to enact laws that provide greater protection for employees to restrict the use of non-compete agreements at the state level. Similar prohibition bills were introduced in both the states of Maryland and New Jersey in 2019.
While bills that limit or prohibit non-compete agreements languished, several states introduced bills that would affect the way non-compete agreements could be used. In 2019, Massachusetts and New Jersey introduced bills that would have required employers to pay employees during their non-compete enforceability periods. This concept was adopted at least in part at the federal level, when the United States Senate introduced the "Workplace Mobility Act," which would essentially outlaw non-compete agreements, while simultaneously providing employees with compensation commensurate with the state’s unemployment rate from the day the non-compete becomes enforceable until the expiration of the required non-compete period.
While most attempts to affect the way non-compete agreements can be used and enforced failed, policymakers in 2019 ushered through legislation forbidding the use of non-compete agreements in certain professions. In 2019, the Louisiana legislature passed a bill that forbids the use of non-competition agreements for physicians, the state of Oregon passed a similar bill forbidding the use of non-compete agreements for nurses, dental hygienists, and optometrists.
