Connecticut Employment Law Blog Insight on Labor & Employment Developments for Connecticut Businesses

Court Rejects 18-Month Restrictive Covenant on Former Owners Who Became Employees

Posted in Human Resources (HR) Compliance, Litigation

Suppose your company just purchased another small company.  As is typical in such deals, you have hired the owners under a three year employment contract because the professional services and expertise of the owners is important to the deal’s success. In that arrangement, you have a restrictive covenant that says that if and when the employees leave, they will be subject to an 18-month non-compete agreement. 

Now, after three years, the employees — who were at-will — went from being Vice Presidents to Directors of Business Development with a base salary that was significantly less than the original deal.  But much of the original terms of the employment agreement still applied.

Later that year, the employees leave to work for a competing business.  Is the non-compete agreement enforceable?

That’s the question that the Superior Court was faced with in a recent decision in Creative Dimensions, Inc. v. Laberge.  The court (Judge Robinson presiding) rejected the non-compete.

The reasons for the rejection are somewhat unusual. Typically, if courts throw out such clauses, it is because the time and geographic restrictions are too broad.

That was not the case here. Instead the court relied on other factors such as “fairness” to the employer, and the extent of the restraint on the employees opportunity to pursue an occupation.  Notably, the fact that the employer did not require other employees to sign such restrictions was used against the employer.  (You would expect the employer to argue that the fact that the employer doesn’t require agreements of everyone as a factor showing that it uses these agreements cautiously.) 

The decision is a little wordy in its explanation, but it’s worth understanding:

Regarding the third factor, the fairness of the protection afforded the employer, CDI does not require the Agreement or any similar covenant to protect itself in the portable display market. Notably, CDI does not generally require its employees to execute Non-Compete/Non-Solicitation Agreements, even though it has lost employees to competitors in the past. [The employees] were the only CDI employees from 2005 through 2009 who were subject to such agreements. Although other sales employees, who had access to the same type of sales and client information as the defendants, came to and left the company during this period, CDI did not require any of them to execute such agreements. Also, there is no dispute that CDI regularly outsourced some of its portable display work to its competitors, thereby giving them access to designs and plans and indirectly to pricing. But, CDI did not require these direct competitors to execute limiting restrictive covenants. CDI did not require its competitors to promise to refrain from using the information they gained through the outsourced work to try to solicit CDI clients or prospective clients or to compete with CDI.

The fact that CDI did not require non-disclosure, Non-Compete, Non-Solicitation or Confidentiality Agreements of its competitors or of former or current sales employees is strong evidence that even the principals of CDI do not truly believe that such covenants are necessary to protect the company within the portable display market. A repeated theme in the plaintiff’s case was that the defendants were “very entrepreneurial,” and that it was from this attribute that the plaintiff required protection under the Agreement. However, the principals of CDI apparently did not feel similar threats from their actual established business competitors, with whom they readily shared display and design information, or from former sales personnel, who had access not only to client contact information, but also pricing strategies and vendor relationship histories.

While this court finds that the protections afforded CDI by the agreement are not necessary to protect CDI, it concludes that the terms of the Agreement do seriously impede defendants’ ability to pursue their careers. Notwithstanding the claims of CDI’s officers, the defendants’ collective skills, experience and knowledge are well-suited for the portable display world and less well-suited for others. The test for reasonableness is not whether the defendants would be able to make a living in other ways, or in other occupations, but whether or not the Agreement as drafted and applied would unfairly restrain their “opportunity” to pursue their occupation. The Agreement is overly broad in this regard. With its prohibition against working in any area in which they worked at CDI, and with its prohibition against working with any current or prospective customer of CDI, the Agreement would, essentially, keep the defendants out of the portable display industry for eighteen months, for no other reason than to prevent the defendants from competing with CDI.

This decision throws a bit of a wrench for employers who have come to rely on these non-compete agreements when doing business deals or working with senior executives.  The case is now set for trial later this year on other issues so no word yet whether there will ultimately be an appeal here.

What’s the takeaway for employers? Do not simply use non-compete agreements without demonstrating the need for them.  If there is a need, think about specifying the reasons why it is needed in the agreement itself.  And understand that some judges will look quite skeptically on these restrictive covenants so be prepared to show how these agreements fit within the company’s overall strategy to protect trade secrets or confidential information. 

This decision is not a reason to abandon the practice of using non-compete agreements, but it is a wake-up call that blanket use of broad non-compete agreements without clear support for the business reasons behind the non-compete may lead to issues down the road.

  • Freya

    According to the main purpose of state labor law posters, the broad use of the non-compete agreements is useless. And quite to the contrary, “without clear support for the business reasons behind the non-compete may lead to issues down the road”.