Non-Compete Agreements

Although some departing employees are willing to risk violating their non-competes when they leave a company, a recent court decision reinforced one of the significant dangers that those employees can face in doing so. In this decision, a federal appeals court in Ohio ruled that a former employee who violates a non-compete can be forced to pay the employer’s legal fees, even if the former employer does not prevail on all of the issues raised.

In an opinion issued on January 10, 2019 in Kelly Services Inc. v. De Steno, the U.S. Court of Appeals for the Sixth Circuit considered a case involving three employees who left Kelly Services to join a competitor. The employees had signed non-compete agreements during their employment, so Kelly Services sued them and secured a preliminary injunction. The injunction was not permanent, and was intended to remain in effect only until the court could examine the enforceability of the restrictions in the non-competes. The court maintained the injunction for the one-year period set out in the non-compete and lifted the injunction shortly after that period expired, all without ever ruling on the enforceability of the restrictions.

After the court lifted the injunction, Kelly Services asked the court to order the employees to pay for its attorneys’ fees. Kelly Services based its request on language in the agreements that allowed Kelly Services to recover the fees and costs involved “in enforcing” the agreements. The former employees objected to the request and argued that Kelly Services could not recover its fees and costs because it had not actually won on its claims. The district court found, however – and the Sixth Circuit agreed – that the former employees had to pay the fees and costs because the specific language in the agreements did not require Kelly Services to win. Rather, the agreements only required that Kelly Services incurred the fees “in enforcing” the agreements.

Although the Sixth Circuit did not have to reach the issue, its language suggested that there are limits to the circumstances in which broad fee-shifting provisions will be enforced. For example, the Sixth Circuit suggested that it would not be proper to award fees incurred in enforcing an agreement if the former employer’s efforts to enforce the agreement lacked sufficient legal basis or were simply designed to oppress or harass a former employee.

This case reinforces the importance of both including a fee-shifting provision in agreements of this nature and having the proper language in those agreements.

Federal law has long protected owners of patents, copyrights and trademarks from infringement of those intellectual property rights. Trade secret owners, however, traditionally had to rely on state law to protect their trade secrets from improper use or disclosure. Congress has now given trade secret owners an additional avenue for protecting their intellectual property: the Defend Trade Secrets Act of 2016 (the “DTSA”). The DTSA creates a civil cause of action under federal law for misappropriation of trade secrets.

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This post was co-authored by Inna Shelley.

Employers should have counsel review their non-compete agreements in order to ensure that a merger or other restructuring would not affect the successor company’s right to enforce the agreement.  On May 24, the Ohio Supreme Court decided Accordia of Ohio, LLC v. Fischel, a case in which four employees signed non-compete agreements promising not to compete with their employer for two years after leaving the company. The non-compete agreements lacked language addressing mergers, such as that the agreement extended to the company’s successors or assigns. After a merger, the contracting company ceased to exist because it was subsumed into the successor, and the four employees continued to work for the successor entity. These employees later quit and began competing with their former employer.

However, the Ohio Supreme Court held that the new entity could not enforce the non-compete agreements past the original 2-year period specified in the agreements. This 2-year period began to run after the employees stopped working for the original company when it ceased to exist in the merger. By the time the employees left the successor company, the 2-year non-compete period had expired.

The Ohio Supreme Court held that although non-compete agreements transfer as a matter of law to the successor entity in a merger between companies, they are enforceable only according to their terms. The successor will only receive the benefit of the bargain struck by the original contracting entity and nothing more. As a result, the Court concluded that enabling the successor employer to enforce the non-compete agreements would be against the agreements’ plain language, which stated that they applied only to the original company. While the successor obtained all the rights to the new contracts, it was unable to enforce them more than two years after the “old” employer disappeared in the merger.

The majority opinion insisted that the decision was consistent with long-established Ohio merger law providing that the successor company in a merger takes over all the previous company’s assets, property, and contacts. However, the dissenting justices believed that the decision departed from century-old precedent holding that a successor entity steps into the shoes of its predecessor and acquires the right to enforce agreements in its capacity as the successor. 

Employers can avoid the result in Accordia by ensuring that their non-compete agreements state that they are made between the employee and the company, plus the company’s successors and assigns. Non-compete agreements should also state that all of the company’s rights under the agreement also flow to the company’s successors and assigns and that the company’s successors and assigns may enforce the agreement.  Businesses contemplating acquisitions should review their agreements with key employees to make sure that they have appropriate language; if not, the employees can be asked to sign new agreements.  Continued employment is sufficient consideration in Ohio for non-compete agreements. 

Businesses that have made acquisitions in the past may also wish to review the covenants, representations, and warranties contained in their merger agreements to determine if they might have claims against the seller for transferring unenforceable agreements.