Supreme Court of Illinois Grants Leave to Appeal in Reliable Fire Equipment

Today the Supreme Court of Illinois granted an employer's leave to appeal in Reliable Fire Equipment v. Arredondo, the Second District case last year which added new confusion to non-compete law in Illinois.

Following Reliable Fire Equipment, the five appellate courts in Illinois were left to apply three different "protectable interest" tests. The Court had little choice but to resolve this conflict among the appellate districts.

The case represents the Court's first true opportunity to enunciate a standard by which employment-based non-compete agreements will be judged. I believe the Court will adopt some variant of the traditional test widely used across many jurisdictions, which allows enforcement of non-compete agreements if: (a) the covenant is reasonable and not greater than is required for the protection of the employer; (b) the covenant does not impose an undue hardship on the employee; and (c) the covenant is not injurious to the public interest.

Element (a) is almost always an issue in litigation and encompasses traditional hot-button issues like a covenant that is too long, too extensive in geographic reach, or too broad in scope. It also would require a court to analyze the breadth of the covenant in relation to the interest an employer seeks to protect.

Also, it is element (a) where Illinois courts have gotten lost on a detour for the last, oh, 70 years or so. The Court is unlikely to issue an opinion in Reliable Fire Equipment until early 2012.

Hair Stylists Subject to Enforceable Non-Compete Agreement (Jon Scott Salon v. Garcia)

Clients mistakenly believe that non-competes are limited to a narrow range of "sophisticated" industries. In fact, non-compete agreements are common in a wide range of disciplines, from so-called professions (accounting services) to business-to-business relationships (wholesale insurance brokerage) to retail services (personal training).

I presented at a seminar a few weeks back, and a judge remarked to me that his experience with non-compete cases "usually involved hair stylists." Though he was joking, it's not unheard of to see such cases. Stylists develop a personal connection with their clients and provide a service that is hard to replicate. Many personal services providers have sales employees or technicians who develop intimate relationships with clients and who get to know their clients very well. It is this kind of interest a business can protect legitimately through a non-compete agreement.

Employers ought to consider using the least restrictive means possible to prevent competition by personal services providers. A customer non-solicitation agreement for a hair stylist, for instance, would narrowly match the restriction with the protected interest. A stylist presents a risk only if she takes her clients. She is unlikely, for instance, to develop some proprietary program or process that has independent value.

Don't be surprised, though, when courts misapply the law if the non-compete defendant is a retail service provider like a stylist. A lot of judges who don't hear but a few non-compete disputes a year think covenants should be limited to a narrow set of circumstances - the high-paid CEO, the rainmaking insurance producer, or the partner at an accounting firm. A recent Texas judge misapplied the law and dismissed a proceeding against a stylist, holding that because she was an "at-will" employee, she could not be restrained by a non-compete at all.

This was a ruling that was contrary to existing precedent. The mistake may have been made due to courts' hostility to non-compete agreements, particularly as to employees who line Main St. USA. Non-compete litigation always has a cost; mistakes made by courts are one of those costs that are hard to predict.

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Court: Court of Appeals of Texas, Fifth District
Opinion Date: 5/19/11
Cite: Jon Scott Salon, Inc. v. Garcia, 2011 Tex. App. LEXIS 3790 (Tex. Ct. App. May 19, 2011)
Favors: Employer
Law: Texas

Non-Compete In Post-Employment Settlement Agreement Judged With Less Scrutiny (McClain & Co. v. Carucci)

Not all non-competition covenants are judged with the same degree of scrutiny.

On the pro-enforcement side is the "sale-of-business" covenant, under which the restrictions normally are examined only for their reasonableness as to time, territory and scope. On the anti-enforcement side is the traditional employment-based covenant, which usually requires an enforcing party to show not only that the covenant is reasonable, but also tied to a legitimate business interest. The burdens on an employee's ability to earn a living, and the public interest are usually considered as well under an exacting "reasonableness" analysis.

The history of covenants not to compete is quite interesting (to me), and many would argue that the old justifications and presumptions that courts used long ago do not apply in a more modern economy. Sale-of-business covenants were the first types of covenants to be enforced by courts, and for the most part, they pose few enforcement problems. Employment covenants are a different story.

In the past on this blog, I have been critical of the sale-of-business nomenclature, because it is underinclusive and suggests to courts, lawyers, and (most importantly) clients that the test only applies to a covenant signed in connection with a business sale. Sounds logical.

But it's not right.

In point of fact, courts analyze a wide range of covenants under this more relaxed standard. Among these are covenants in franchise agreements and shareholder agreements. Last week, a Virginia court - in a matter of first impression - added another type of agreement to this list: settlement agreements.

This makes sense. Many settlement agreements are the product of arms-length negotiations and pose few problems in terms of being adhesive. That is not always the case, though. For many terminated employees, a severance agreement may not be negotiable at all and may be presented as a take-it-or-leave-it offer. A lot depends on the employee's position within the company, and pre-existing contracts he or she has which may impact the terms of any release.

In McClain & Co., Inc. v. Carucci, the employer and employee reached a post-employment settlement agreement after Carucci apparently embezzled nearly $300,000. The agreement called for him to pay the employer $250,000, grant it a 30-month non-compete, and exchange releases. The court examined the few other cases on point and concluded that the "sale-of-business" test applied to the settlement agreement, at least in Carucci's case.

The court did not lay down a per se rule on this, nor should it have. A court when confronting a non-compete in a release agreement likely will examine a number of factors, including the degree to which it was negotiated, the benefits the employee received (such as garden-leave), the circumstances of the employee's termination, and other unique circumstances.

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Court: United States District Court for the Western District of Virginia

Opinion Date: 5/4/11

Cite: McClain & Co., Inc. v. Carucci, 2011 U.S. Dist. LEXIS 48404 (W.D. Va. May 4, 2011)

Favors: Employer

Law: Virginia

Flat-Fee Liquidated Damages Award Upheld in Staffing Dispute (ProTherapy Assocs. v. AFS of Bastian)

Staffing agreements almost always have some sort of non-compete or (more commonly) non-solicitation covenant. Courts recognize that without such protections staffing companies could become an involuntary employment agency for their clients.

In recognition of this, many agreements don't prohibit solicitation but rather tie a monetary price to it. These arrangements are called "liquidated damages" clauses, and they basically set a pre-determined formula for solicitation or hiring of an employee. Liquidated damages clauses can be enforceable, but several procedural requirements must be met. Most commonly, the damages must not be readily ascertainable at the time of contracting. Additionally, the formula or pre-determined sum must not be grossly disproportionate to damages that might be expected to result from a breach.

A recent dispute in the skilled nursing staffing industry upheld a clause that provided for $10,000 per wrongfully solicited or hired employee. The case followed a familiar storyline. The staffing company was terminated in favor of a replacement. The nursing homes used the replacement company to hire the workers the homes could not themselves hire without paying the liquidated damages.

The court found the $10,000 sum to be reasonable and enforceable. The plaintiff introduced evidence showing that the replacement cost of skilled nurses was relatively close to the $10,000 figure and that nurses frequently received signing bonuses of $10,000. Employers who choose to utilize liquidated damages clauses should be prepared to justify them with actual figures showing why the preset number was reasonable and proportionate to likely harm. The number need not be perfect, but also it can't just be random and certainly can't be punitive.

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Court: United States District Court for the Western District of Virginia
Opinion Date: 5/3/11
Cite: ProTherapy Associates, LLC v. AFS of Bastian, Inc., 2011 U.S. Dist. LEXIS 47161 (W.D. Va. May 3, 2011)
Favors: N/A
Law: Florida