The Employee Wins: California Supreme Court Non-Compete Opinion

California lawyer Scott Pearce provides an analysis of Edwards v. Arthur Anderson, a 2008 California Supreme Court Case addressing non-compete agreements.




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A doctor's departure.

The departure of a doctor from a medical practice group is not always amicable. In some situations, the medical records of a departing doctor's patients may be held hostage. The Texas Occupations Code and Texas Medical Board Rules (located in the Texas Administrative Code) both contain provisions addressing medical records.

Chapter 159 of the Occupations Code addresses the confidentiality and release of patient records. (159.002(2) & 159.005)

Texas Medical Board Rules Section 165.5 requires that the departing physician post a sign in her office informing the patients of the departure, publish notice in the newspaper, and send letters to all patients. Section 165.5(c) prevents other physicians from preventing the departing doctor from posting a sign or withholding contact information for patients.

A departing doctor should instruct her patients to fill out appropriate releases so the patients' records are transferred to the doctor's new office. The departing doctor should also follow all departure requirements contained in the Texas Medical Board Rules.

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Nebraska Non-Solicitation Case

Happy holidays to you and your family.

Below is a link to an article written by Seattle attorney Jill Pugh regarding a Nebraska Court of Appeals opinion affirming the enforceability of a non-solicitation agreement. Aon Consulting, Inc. sued to enforce the agreement against a former employee. The agreement was actually signed by the employee with a predecessor company that was acquired by Aon.

Here is a link to the opinion.

Here is a link to the blog.

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The Non-Compete Playbook: The Injunction Hearing

An injunction hearing in Texas state court is similar to a bench trial. Depending on the Court's preferences, both parties may offer opening and closing remarks. The party with the burden of proof on the injunction, in this case Company A, will offer its evidence and then Jordan James has the opportunity to offer any evidence she would like the court to consider. This may consist of deposition testimony, live testimony in the courtroom, and the offering of documents into evidence.

After presentation of the evidence, the Judge determines whether Company A is entitled to a temporary injunction. In the Company A/Jordan James dispute three individuals testified: James, her supervisor at Company A, and a law firm client of Company A's. The Court after considering the evidence, denied the injunction.

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Injunctions and the NFL

The use of injunctive relief has been discussed at length in this blog. Last week a federal judge in Minnesota issued an injunction preventing the National Football League from suspending several players for violation of its anti-doping policy including New Orleans Saint Deuce McAllister (pictured right). Until further ruling from the Court, McAllister and the other players may continue to play on Sunday. McAllister carried the ball one time yesterday in the Saints' victory over the Atlanta Falcons.

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The Non-Compete Playbook: Discovery

Picking up on the Company A/Jordan James dispute, Company A successfully obtained a temporary restraining order against James. The Court ordered James not to engage in any placement work and return all Company A documents in her possession. Furthermore, the Court ordered Company A to post a $5000 bond and set the preliminary injunction for hearing in ten days. Company A requested that the Court allow for limited discovery before the injunction hearing. The Court will allow Company A to take 1 deposition and permit the service of 10 requests for production. James is also permitted the same. So what are these type of discovery devices?

(1) The Deposition: Permits a party to ask an individual questions under oath. In cases where a party is a company, the opposing party can ask the company to designate a representative or representatives to testify on certain topics. A Court reporter transcribes the testimony under oath and in some instances, the deposition is videotaped. In Texas, a party is generally limited to 6 hours of deposition time for each deponent.

(2) Request for Production: Permits a party to request production of categories of documents. This also includes electronic discovery and could include the inspection of hard drives and other sources where electronic data may be maintained.

(3) Interrogatories: A party can force the other side to answer written questions under oath.

Parties may also conduct discovery on non-party witnesses. This may take the form of a deposition, document requests, and depositions on written questions.

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IBM v. Apple (Mark Papermaster)

Apple hired 26-year IBM veteran Mark Papermaster to run its hardware engineering team. IBM sued to enforce its two-year non-compete with Papermaster and obtained an injunction preventing him from going to work with Apple. The judge ordered that IBM post a 3 million-dollar bond. See the links below regarding the case:

news.yahoo.com/s/nf/20081104/bs_nf/62825

www.internetnews.com/bus-news/article.php/3785391/Papermaster+Fires+Back+in+IBMApple+Tussle.htm

Happy Thanksgiving!

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The Non-Compete Playbook: The TRO

Picking up on last week's entry, Company A has decided it will file a lawsuit against Jordan James in Dallas district court and seek a temporary restraining order ("TRO"). A TRO typically precedes a temporary injunction, but the grounds for relief are largely the same. Most TROs or injunctions are prohibitory in nature, meaning they prohibit a party from certain conduct. In some cases a TRO or injunction can request mandatory or affirmative conduct, such as the return of a customer list or other company documents.

In order to obtain a TRO, Company A must show:
1. A request for permanent relief;
2. A probable right to relief; and
3. A probable injury.

Within the allegations contained in the lawsuit, Company A must set forth why a TRO is necessary. Those allegations must be verified; meaning someone from Company A must swear that the factual matters set forth are true. Company A should be prepared to file a bond assuming that the TRO is granted. Also, in Dallas County, unless there are extenuating circumstances, James must be provided with two hours notice of Company A's intent to obtain the TRO.

In Dallas County, the lawyer will file the lawsuit and the clerk will put the newly filed lawsuit in a red jacket. The lawyer will take the red jacket to the judge who has been assigned the case. If the judge is not around, the lawyer will have to find another judge to consider the matter. There is no "live" evidence presented at a temporary restraining order hearing. The judge considers the lawsuit papers and the arguments of counsel.

Assuming the court finds in Company A’s favor, it will enter the TRO, set a bond amount, and set the injunction hearing for within 14 days. After the bond is posted, the clerk will then issue a citation for the original petition, notice of the TRO, and the TRO. At that point, Company A must serve James with the actual lawsuit and TRO. Once service has been completed, any violation of the TRO is treated like a contempt of court. In our next analysis, we will discuss the temporary injunction hearing.


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The Non-Compete Playbook: Preliminary Considerations

The Scenario
Assume the following: Jordan James, a successful legal recruiter employed at Company A has left to start her own placement firm. James signed a non-compete and non-solicitation with Company A and it is believed that James took her Microsoft Outlook contacts that contains all of her client information. What should Company A do and what should James anticipate?

Preliminary Considerations

(1) What are Company A's objectives? Is James worth the time and money from a cost/benefit analysis? Is James competing with Company A a threat? Even if not, has she taken information that is important to Company A? The reality is James will be able to compete some day against Company A but she should not be able to with information that does not belong to her or in violation of her contractual covenants.

(2) Is the non-compete enforceable? Before Company A instructs its lawyer to file a lawsuit and obtain a temporary restraining order (discussed in next week's entry), the next question should be what is the likelihood of enforceability of the non-compete? Obviously, no lawyer can predict what a Court can do, but they can give an educated guess. Hopefully, Company A already had this discussion with the lawyer who drafted the non-compete, but in many cases a lawyer wasn't involved and the law changes.

(3) Are James' documents in order? This includes any employment agreement, her employment file, and any company manuals that contain policies she is subject to. Can you capture (within the confines of the law) James' most recent communications (email/phone messages) with clients? Is there any evidence of James' contacting clients after her departure from Company A?

(4)What clients did James service? Were they serviced primarily by James or others at Company A? Would it make sense to contact the clients James worked with at Company A and let them know she has departed and who will be taking over her responsibilities? Not only will contacting them potentially protect business and preempt James, it is a means for developing allegations in a lawsuit and the basis for a temporary restraining order by finding out if she is talking to Company A clients and customers.

Next, the focus will be the filing of a lawsuit seeking a temporary restraining order.

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Merrill Lynch/B of A Non-Compete Update

Merrill Lynch and Bank of America appear to have resolved the non-compete issues discussed in my last entry:

To: All Merrill Lynch and BAI financial advisors

On October 24, Bank of America and Merrill Lynch announced transition programs for retaining financial advisors. Today, Bank of America and Merrill Lynch are pleased to announce a plan for the combined brokerage platform to be a member of the Protocol for Recruiting Brokers. This is one of the initial decisions coming out of the transition assessment process that is currently underway in preparation for Bank of America's acquisition of Merrill Lynch, which is scheduled to close on or after December 31, 2008, subject to regulatory and shareholder approvals.

Merrill Lynch, Pierce, Fenner & Smith Incorporated is currently a member of the protocol and will remain a member after the transaction closes. Merrill Lynch FAs will continue to be able to move between protocol member firms as permitted by the protocol.

Banc of America Investment Services, Inc. (BAI) is not currently a member of the protocol. The transition team is currently determining the specifics of how and when BAI will become a member of the protocol. Additional details will be communicated prior to the closing of the merger.

“Today’s announcement is one example of how we’re moving quickly to bring together Bank of America and Merrill Lynch,” said Keith Banks, president of Bank of America’s Global Wealth & Investment Management division. “This work will help ensure we maximize the benefits of this combination to better serve our clients.”

“We were one of three founding members of the recruiting protocol,” added Robert McCann, vice chairman and president, Global Wealth Management at Merrill Lynch. “Over the last few years, it has worked well for both our Financial Advisors and our clients."

If you have any questions, please contact your manager.

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Financial Advisors and Non-Competes in a Brave New World

After Bank of America ("BofA") purchased Merrill Lynch it put on the full-court press to keep one of Merrill's most important assets, its brokers. What has resulted is "The Advisor Transition Program ("ATP")", which provides financial incentives for brokers who remain following the merger. Reportedly, if a broker leaves during the seven year term of the ATP, he or she has to return all customer information and records and can be enjoined from disclosing such records. This provision has raised some questions.

Merrill and other large brokerage houses are members of the Protocol for Broker Recruiting (the "Protocol"). A district court in Iowa recently described the Protocol as an agreement between signatories that allows for "reciprocal 'poaching' of registered representatives and the registered representative's clients from the former firm, apparently on the assumption that they will gain as much as they lose in the exchange." Though a broker's employment agreement, at Merrill for example, may contain a non-disclosure, Merrill had essentially agreed not to enforce the provision as long as the departing broker moved to another Protocol member.

So when BofA took over, the question became whether it intended to enforce the terms of the non-disclosure contained in the ATP? Merrill stated last week, "The Advisor Transition Program does not change any of the rights or obligations that exist for our financial advisors under the [Protocol]. It has no impact on the Protocol. Suggestions to the contrary are likely the product of those who want to recruit our financial advisors to other firms."

So the answer for now appears to be that the Protocol is alive and well at Merrill. Nevertheless, as a non-signatory of the Protocol, BofA could potentially still enforce a non-compete or non-disclosure. The enforceability of the non-disclosure in the ATP will vary from state to state and what BofA will do on down the road remains to be seen. Today's news indicates that many brokers are unhappy with the ATP's financial incentives.

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Non-Competes and Tap Dancing

Once a Court enters an order upholding a non-compete, it can enforce its ruling through contempt. In some cases this can lead to jail time - even for a dance instructor (see the story below).

http://www.star-telegram.com/448/story/982818.html

Texas Occupation Code Part 2

In a previous posting we discussed placement professionals' obligations under Chapter 2501 of the Texas Occupations Code. There is only one reported case addressing this provision. In Joseph Chris Personnel Services, Inc. v. Donna Rossi, et al., Joseph Chris, a real estate recruiter, sued former employees for alleged breach of employment contract, breach of fiduciary duty, and violation of the Texas Occupations Code. Essentially, Joseph Chris claimed the Defendant employees started a competing recruiting company by taking information from the Joseph Chris database among other things. The Defendants did not reside in Texas.

Joseph Chris' occupations code claim was based on the provision that provides an employee of a personnel services company "may not disclose information about an applicant, an employer, and employment position, or the operation of the personnel service." The Court did not reach the merits of the claim because it ruled that the Texas Occupations Code did not apply to these non-Texas employees. There is no reported case that we are aware of, where a Plaintiff has alleged and a court has actually addressed whether a job candidate's service file as defined within the occupations code as trade secret under Texas criminal law would qualify as a trade secret under the standards set forth by the Texas Supreme Court and discussed in the October 6th entry.

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Non-Competes and Insurance Brokers

Insurance brokers, like many professionals often confront non-compete agreements when they consider making an employment change. Below is a synopsis of two cases dealing with non-competes in the insurance industry:

Spring v. Walthall, Sachse & Pipes, Inc., 2005 Tex. App. Lexis 6825 (Tex. App. - San Antonio 2005, no pet.) Defendant Rosemay Spring was an insurance broker for Plaintiff Walthall, Sachse & Pipes ("WS&P"). Spring resigned from WS&P and within a week contacted thirty-three of her former customers. Twenty-five signed agent of record letters indicating their desire to do insurance business with Spring. WS&P filed suit against Spring and obtained an injunction preventing her from soliciting WS&P customers or disclosing WS&P trade secrets.

The San Antonio Court of Appeals considered Spring's appeal of the injunction. Spring's non-compete with WS&P prevented her from acting as an insurance broker/producer for a period of 1 year within a twenty-five mile radius of WS&P's principal place of business. Her "non-piracy covenant" prevented her from soliciting or accepting WS&P's customers for a period of 3 years. Spring testified during the injunction that she was soliciting WS&P clients and essentially competing.

The court of appeals held that WS&P met its burden to obtain a preliminary injunction. Spring did not challenge and the Court did not address whether the non-compete or "non-piracy covenant" actually were enforceable under Texas law.

Hargrave v. Giuffre, 1999 Tex. App. Lexis 9618 (Tex. App. - Beaumont 1999, no pet.) Richard Giuffre worked for Hargrave as an insurance broker. At the outset of his employment he was required to sign a "Producer's Contract", that among other things, prohibited him from soliciting or accepting any insurance business from any of the insurance accounts of the agency.

The Beaumont Court of Appeals ruled "We find that the covenant in this case is not reasonable with regard to the scope of activity to be restrained in that it is not limited to those clients whom Giuffre serviced or had dealings with while at the agency." The opinion seems to suggest that the outcome might have been different if the non-compete was tailored to Giuffre's customers.

The Hargrave non-compete failed to satisfy Texas Business and Commerce Code 15.50. By drafting a non-compete that was overly-broad, Hargrave lost any opportunity to legally prevent Giuffre from competing.

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Trade Secrets under Texas Law

In many instances non-compete agreements are designed to protect trade secrets provided to employees during the course of their employment. The sensitive nature of some trade secrets are apparent, like the formula for Coke. But what about customer lists, sales techniques, or other items that are not a secret formula or chemical composition? Courts often look to Restatements of Law for authority and guidance. The Restatement (Third) of Unfair Competition states “It is not possible to state precise criteria for determining the existence of a trade secret.” Determination of whether something is a trade secret is left to a case by case analysis.

The Texas Supreme Court has held that a trade secret is “any formula, pattern, device or compilation of information which is used in one's business and presents an opportunity to obtain an advantage over competitors who do not know or use it.” Computer Assocs. Intern. v. Altai, 918 S.W.2d 453, 455, (Tex. 1994). To determine whether a trade secret exists, Texas courts apply the Restatement of Torts' six- factor test:

(1) the extent to which the information is known outside of his business; (2) the extent to which it is known by employees and others involved in his business; (3) the extent of the measures taken by him to guard the secrecy of the information; (4) the value of the information to him and to his competitors; (5) the amount of effort or money expended by him in developing the information; and (6) the ease or difficulty with which the information could be properly acquired or duplicated by others.

In upcoming entries we will address specific claims for trade secret protection and how Texas courts have ruled.

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Placement Professionals

Today I had the opportunity to speak with the DFW Recruiters Network. Placement Professionals are faced with a variety of legal issues including covenants not to compete, non-solicitation covenants, anti-raid provisions, and the general enforceability of fee agreements with clients. All of these topics are the subject of this blog, but I wanted to take this opportunity to provide some helpful links to placement professionals.

Chapter 2501 of the Texas Occupations Code governs "Personnel Services". Personnel Services "means a person who, regardless of whether for a fee, directly or indirectly attempts to obtain permanent employment for an applicant or obtains or attempts to obtain permanent employment for an employee." Chapter 2501 places a number of requirements on those offering personnel services including a bond requirement, caps fees in certain circumstances, and sets forth a laundry list of 10 "Prohibited Practices". A plaintiff who files a lawsuit and asserts a violation of the statute can obtain attorneys' fees. Further, a violation of 2501 can also constitute a violation of the Texas Deceptive Trade Practices Act.

In terms of protection of placement professionals, 2501 states that a service file (defined as "a job order, resume, application, workpaper, or other record containing information related to: (A) an applicant; (B) an employer; (C) an employment position; or (D) the operation of a personnel service.") is a Trade Secret pursuant to Section 31.05 of the Texas Penal Code, the Theft of Trade Secrets criminal statute. Thus an individual who attempts to take a service file from his or her employer could potentially be subject to not only civil proceedings but criminal as well.

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Nuts and Bolts : Non-Solicitation vs. Non-Compete

Employers frequently require employees to enter into non-compete agreements, non-solicitation agreements, or a combination of both in order to protect trade-secrets and other valuable information.

Non-Solicitation Example:

Employee agrees that for a period of one year after the termination of his employment, whether voluntary or involuntary, he will not directly or indirectly call upon, solicit, divert, accept, or take away from Employer any individual, account, customer, company, partnership or any other entity to whom Employer rendered intermediary, consulting or brokering services, either on a fee for services or commission basis, during the course of his employment with Employer.

Non-Compete Example:

Salesperson agrees, upon termination of employment with company, and for a period of one year thereafter, she will not directly or indirectly compete with company in the Longview, Tyler, Marshall service area. Salesperson agrees that this paragraph prohibits her from accepting employment in the Longview, Tyler, Marshall service area from any mobile communications service provider, or any agent or reseller of a mobile communications service provider, as a salesperson, or in any other capacity that would give the salesperson customer contact or that would permit the use of the customer related information she acquired in the course of her employment with company.

Both provisions must comply with Texas Business and Commerce Code Section 15.50.

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Non-Competes and Rocket Packs

In Powerhouse Productions, Inc. v. Scott, the Dallas Court of Appeals affirmed a take-nothing judgment entered in favor of Defendant Eric Scott. Powerhouse builds rocket packs. (A rocket pack was piloted by 007 in Thunderball.) Scott began piloting the packs in the early 1990s, making over 400 flights throughout the world. Powerhouse charged clients between $15,000 to $25,000 per flight.

On February 4, 2004, Scott entered into a confidentiality and non-compete agreement with Powerhouse. The non-compete forbid Scott from competing with Powerhouse for a period of five years after the end of his employment. Scott and Powerhouse ended their relationship in November 2004.

In 2005 Scott went to work for Jet P.I., another rocket pack builder. After learning that Scott was making flights for Jet P.I., Powerhouse filed suit seeking to enjoin Scott from violating the non-compete agreement.

Section 15.50 of the Texas Business and Commerce Code provides: "a covenant not to compete is enforceable if it is ancillary to or part of an otherwise enforceable agreement at the time the agreement is made to the extent that it contains limitations as to time, geographical area, and scope of activity to be restrained that are reasonable and do not impose a greater restraint than is necessary to protect the goodwill or business interests of the promisee." As stated most recently by the Texas Supreme Court in Alex Sheshunoff Mgmt. Servs., L.P. v. Johnson, 209 S.W.3d 644, 651 (Tex. 2006), the non-compete cannot be a stand-alone promise from the employee lacking any new consideration for the employer.” Id. Consideration from the employer “must give rise to the employer’s interest in restraining the employee from competing.” Id. at 648-49.

The Dallas Court of Appeals rejected Powerhouse's argument that providing Scott with confidential information and training pre-2004 could serve as consideration for the 2004 non-compete. Further, letting Johnson fly the pack, the Court reasoned, did not give rise to the Powerhouse's interest in restraining Scott from competing. The Court ruled that as there was no consideration to support the covenant not to compete, it was unenforceable.

Lessons to be learned from this opinion are: (1) an employer must provide something new to the employee to support a non-compete, past training or previous disclosure of trade secrets doesn't suffice; and (2) there must be a nexus between the consideration provided and the non-compete. Here the court ruled that flying the rocket pack did not give rise to a non-compete. Typically, a non-compete is designed to protect trade-secrets disclosed to the employee during the course of employment.

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