When Noncompetes Attack

Noncompete agreements aren’t always appropriate. This is a pretty simple concept that sophisticated companies don’t always grasp. I’ve written often about how noncompete agreements can be a company’s most powerful tool to protect its trade secrets and proprietary information. But only if the employee has access to trade secrets and proprietary information. When a big company takes a blunderbuss approach and makes all of its low-level employees sign noncompete agreements, it can backfire.

In the past few months, companies like Jimmy John’s and Amazon have faced backlash after the media learned that they were forcing sandwich makers and warehouse employees to sign noncompetes. This week, the Wall Street Journal ran a story about Stephanie Russell-Kraft, a former reporter—apparently entry level—at Law360. When Ms. Russell-Kraft left to work at Reuters, Law360 informed Reuters that she had signed a noncompete agreement while at Law360. Reuters fired her for not disclosing the noncompete when she applied.

Now, Law360 is facing bad PR (as reflected in these articles in Slate and Above the Law). Far worse, the New York Attorney General is now investigating Law360 to see if it violated New York labor laws.

I’m not going to claim to be an expert in the legal news-wire business. But it’s hard to see how an entry-level reporter would have access to proprietary information justifying a noncompete. In almost all circumstances, companies should limit noncompetes to senior executives and employees with access to proprietary information and trade secrets.

That’s not to say that companies shouldn’t take steps to protect against lower-level employees misusing or disclosing confidential information. Many times, this can be accomplished by less restrictive agreements such as nonsolicitation or nondisclosure agreements. I’ve found that courts are much more willing to enforce these types of agreements.

This brings us back to one of the key themes that you will find throughout my blog posts: each company needs a personalized strategy for protecting its trade secrets and proprietary information. This strategy should implement appropriate protections, which will often include targeted noncompete agreements. But too many companies force all employees to sign noncompetes. As we’ve seen recently, the company can come off as a bully. Or worse.

Beekeepers Show How Not To Protect Trade Secrets

Trade-secret misappropriation actions, not surprisingly, require discovery into the trade secrets at issue. This can create problems, particularly when the action is being litigated between competitors. In a recent case out of Nebraska, the plaintiff appears to be facing a pretty terrible choice: either disclose its proprietary information to a competitor, risk discovery sanctions, or walk away from its claims. Even worse, some simple proactive thinking could have prevented this problem.

In McDonald Apiary, LLC v. Starrh Bees, Inc., 201 WL 299014 (D. Neb. 1/25/16), the plaintiff and defendant are competitors in the beekeeping and honey production industry, with the plaintiff based in Nebraska and the defendant in California. They entered into an oral agreement under which the plaintiff would place a number of the defendant’s bee hives in Oklahoma and Nebraska.

The plaintiff now accuses the defendant of breaching the contract and has sued for misappropriation of trade secrets and other claims. Of course, the defendant has sought discovery into the alleged trade secrets, including information about the locations where the plaintiff places beehives.

As happens routinely in these cases, the plaintiff is only willing to produce its claimed trade-secret documents on an “attorney’s eyes only” (AEO) basis. The defendant objected, leading to this particular order.

The court rejected the AEO designation, focusing on the plaintiff’s failure to protect this information. Including when the plaintiff shared some location information with the defendant and other competitors:

Plaintiff has failed to explain how it can share certain location information with a competitor and simultaneously claim its location information is held strictly confidential. . . . The parties apparently did not enter into any type of confidentiality agreement as part of their oral contract. And this type of undocumented business arrangement does not appear to be unusual for the Plaintiff: McDonald Apiary has entered into similar contracts with other competitors and has not provided evidence it demands a confidentiality agreement in those contracts.

So the plaintiff has spent time and money developing certain information about the best places to locate bee hives. There’s no reason why this information couldn’t be a trade secret — it certainly appears to give the plaintiff benefits by virtue of being unknown to others. But the plaintiff didn’t adequately protect the information when it shared portions of it with third parties under oral contracts with no confidentiality restrictions.

Here, the lesson is simple: First, never enter into oral contracts. Second, any time you are sharing proprietary information with a third party, the contract must include confidentiality/non-disclosure obligations. While this may seem obvious, this case (and many others I’ve seen) show that companies far too often focus on “business” terms, without regard for protecting proprietary information.

Are We Headed for a Landmark Florida Supreme Court Non-Compete Case?

A few months ago, I wrote about a Florida appellate case holding that referral sources qualify as legitimate business interests under Florida’s restrictive covenant statute (Section 542.335, Fla. Stat.). On New Year’s Eve, a different Florida appellate court disagreed, setting up a possible appeal to Florida’s Supreme Court.

In Hiles v. Americare Home Therapy, Inc.Florida’s 5th District Court of Appeals overturned in part a temporary injunction entered against the former employee of a home healthcare company, who had allegedly violated a non-compete agreement. (The case I discussed in my earlier post also involved the home healthcare industry.) The injunction was based on the company’s claimed need to prevent the former employee from soliciting referral sources.

Under the Florida statue, a restrictive covenant is only enforceable if supported by a legitimate business interest. Here, the appellate court held that referral sources are not legitimate business interests.

The court relied on one of the legitimate business interests listed in the statute: “substantial relationships with specific prospective or existing customers, patients, or clients.” Since referral sources are not specific customers or potential customers, this court found that they are not legitimate business interests.

This is faulty logic, since the statute makes clear that the list of legitimate business interests in non-exclusive: “The term ‘legitimate business interest’ includes, but is not limited to” the enumerated items, including substantial relationships with customers.

In the home healthcare industry, it certainly sounds like referral sources are very important to business success. This is likely the case in a number of industries, where business is primarily generated through referral sources. In those industries, a company should be able to protect its referral sources through restrictive covenants.

Given the appellate-court split, there is at least a chance that the Florida Supreme Court will address this issue. If it does, the case could have far-reaching effects. The Florida Supreme Court could take this opportunity to address the definition of “legitimate business interest” under the statute, and clarify what types of legitimate business interests beyond those listed in the statute justify restrictive covenants. This could dramatically alter the way Florida treats restrictive covenants. Stay tuned.

Shark Tank and College Football Non-Competes

Two recent stories show why all companies should at least consider implementing non-compete agreements or other restrictive covenants.

First, here’s a link to a short interview with Shark Tank’s Robert Herjavec, talking about his first company. Unbeknown to Robert, his sales manager had set up a side business, to which he funneled half of Robert’s customers. Robert only found out because another employee broke down and told him during her exit interview.

Robert finishes the interview with good advice: “The minute you hire the first employee, you have to be careful.”

We don’t know if the sales manager had signed a non-compete or non-solicitation agreement. Such an agreement could have given Robert far better legal options.

Also, Robert trusted that his employees would be loyal. While it’s obviously good to trust your employees, it’s far better to trust and also have them sign appropriate restrictive covenants.

I also read about how an assistant coach of the Arkansas Razorbacks football team left for the University of Georgia. Bret Bielema, Arkansas’ head coach, was not happy. Apparently, his recently hired coaches signed non-compete agreements that prohibited them for coaching for other SEC schools. But the coach who had left had been hired earlier, and he did not have a non-compete.

Of course, Arkansas should have had its coaches sign non-competes from the outset. And once they decided to require new coaches to sign one, they should have at least attempted to have the older coaches sign as well.

These stories show how non-compete agreements can have value across diverse industries. It’s worth speaking with an attorney to figure out whether your company can benefit from implementing restrictive covenants, or improving existing agreements.

 

Florida Loves Non-Compete Agreements

Florida’s restrictive-covenant statute, Section 542.335, is one of the most employer-friendly in the country. A recent case from Florida’s Fourth District Court of Appeal, Transunion Risk and Alternative Data Solutions, Inc. v. Reilly, shows how this statute favors an employer trying to enforce a restrictive covenant against a former employee. A copy of the opinion can be downloaded below.

This opinion is short on facts, but the plaintiff sued the defendant for violating a non-compete agreement and sought a temporary injunction. At the injunction hearing, the trial court ruled in the defendant’s favor after the plaintiff finished its case in chief, before the defendant put on any evidence.

The appellate court reversed. First, it looked at the likelihood of irreparable injury, citing the statute’s presumption of irreparable injury that arises when the plaintiff shows a violation of an enforceable restrictive covenant. Here, the appellate court reversed because the defendant did not present evidence:

As the trial court’s ruling was issued before Reilly presented any evidence, Reilly could not have met his burden of presenting evidence overcoming the presumption.

This doesn’t sound right. A defendant should have the right to rebut this presumption simply by cross-examining the plaintiff’s witnesses. That’s what the trial court apparently thought happened here. But the presumption so strongly favors the plaintiff that this appellate court was unwilling to allow the defendant to rebut it without putting on affirmative evidence.

The trial court also concluded that the plaintiff had an adequate remedy at law. But the appellate court reversed this finding, noting that even when a plaintiff has suffered actual money damages,

the continued breach of a non-compete agreement threatens a former employer’s goodwill and relationships with its customers, and nothing short of an injunction would prevent this loss.

This finding essentially eliminates the adequate-remedy-at-law prong of the injunction analysis in restrictive-covenant cases.

Finally, the appellate court reversed the trial court’s finding that the plaintiff had not demonstrated a substantial likelihood of success on the merits. On this point, the appellate court relied on the trial court’s “implied finding” that the defendant violated a restrictive covenant. So once a court finds that the defendant breached, the plaintiff has automatically shown a substantial likelihood of success.

This case shows how Florida’s restrictive-covenant statute provides employers with the upper hand in litigation. As a result, these agreements are a very effective tool for protecting proprietary information and trade secrets. All Florida companies should consult with an attorney to determine whether to implement these types of agreements.

Transunion Risk and Alternative Data Solutions, Inc. v. Reilly

“Just Doin Blow and Erasing Evidence”

As the Defend Trade Secrets Act—which would create a federal cause of action for trade-secrets theft—makes its way through Congress, critics have focused on the proposed statute’s ex parte seizure provision. In a nutshell, the statute would allow for the entry of ex parte orders to seize specifically identified repositories of evidence that are at risk of destruction.

I’ve responded to these criticisms multiple times before (see here, here, and here). The statutory protections (e.g., the party subject to the order is entitled to a hearing within 7 days) combined with federal judges’ reluctance to issue ex parte orders are, in my view, sufficient to prevent abuse.

Meanwhile, the threat of evidence destruction is real. A recent case shows how far defendants can go to allegedly destroy evidence of trade-secrets theft.

As described in Law360, a radio-controlled-vehicle company sued several former employees for violating restrictive covenants and misappropriating trade secrets, among other claims. The plaintiff filed a motion seeking sanctions against the defendants for destroying evidence.

According to the plaintiff, the defendants destroyed “scores of emails, texts, and documents that described their scheme to start at least one rival toy car and boat business.”

One of the defendants—who sounds like a real winner—apparently sent a text message talking about how he expected to get served with the complaint, saying “That’s what I’m trying to deal with now so I can’t go out, just doin blow and erasing evidence.”

In misappropriation cases, the evidence is almost always in electronic form. And it’s way too easy for defendants to destroy this evidence. While a plaintiff could seek sanctions (as the plaintiff here is seeking against the guy “doin blow”), a plaintiff would almost always rather have the actual smoking gun proving misappropriation.

The ex parte seizure provision is a powerful tool that may allow companies to preserve critical evidence.

What’s Worse Than Having Trade Secrets Stolen? Waiting Too Long to Do Something About It.

If you discover that your trade secrets have been stolen, you must act immediately. That’s the lesson from a recent case in the Middle District of Florida, Dyncorp International LLC v. AAR Airlift Group, Inc. A copy of the order can be downloaded below.

The Plaintiff, Dyncorp, has been providing aviation services to the State Department under a contract going back more than 20 years. Apparently, the State Department is now re-bidding that contract. The Defendant, AAR, is one of the bidders. Dyncorp alleges that AAR hired former Dyncorp employees and “coerced” those employees into disclosing Dyncorp’s trade secrets, which AAR used in its bid.

Dyncorp filed suit for, among other things, violating the Florida Uniform Trade Secrets Act. About three weeks later, Dyncorp filed a motion for preliminary injunction that sought to enjoin AAR from using Dyncorp’s trade secrets.

The district court denied the motion, finding that Dyncorp did not satisfy any of the injunction prerequisites. Of particular note, the court found that Dyncorp’s delay in filing suit showed that it had not suffered irreparable injury:

Dyncorp admits that it was notified of AAR’s alleged misappropriation of trade secrets in April 2015 but let more than four months pass without filing suit. Dyncorp attempts to explain the delay away by arguing that it complained to the State Department and AAR and conducted its own investigation during this time, but offers no explanation as to why those undertakings and this suit could not proceed simultaneously – particularly if, as Dyncorp asserts, it was facing the prospect of irreparable injury.

This case shows that once you discover—or even suspect—that your trade secrets are being improperly used, you must act fast. Any delay can be cited by a defendant as a reason for denying injunctive relief, just as AAR did here. While not every case will demand the immediate filing of a lawsuit, you need to at least consult with an attorney right away. Then, your attorney can advise you of your various legal options, and the risks and benefits of each.

Dyncorp v. AAR — Order Denying Preliminary Injunction

Fantasy Football Trade Secrets Scandal?

If you’ve even glanced at a TV in the last few weeks, you’ve likely seen ads for daily fantasy sports sites Fan Duel or Draft Kings. These websites allow users to enter daily or weekly fantasy sports contests to risk and possibly win real money. Business appears to be booming. But today brought news of a possible scandal in this new industry.

Via the New York Times:

A major scandal is erupting in the multibillion-dollar industry of fantasy sports, the online and unregulated business in which players assemble their fantasy teams with real athletes. On Monday, the two major fantasy companies were forced to release statements defending their businesses’ integrity after what amounted to allegations of insider trading, that employees were placing bets using information not generally available to the public.

Fan Duel’s employees have apparently been entering and winning contests on Draft Kings, and vice versa. Today’s story includes allegations that a Draft Kings employee had access to non-public information about the entries in Draft Kings’ biggest contest and used that information to enter and win money in Fan Duel’s largest contest. Without getting too deep into the strategy involved in these contests, knowing which players and lineups have been selected by other entrants can provide a huge advantage. This information is not released publicly until everyone’s lineups lock and no further changes can be made.

This raises a number of interesting legal issues. But for our purposes, this episode provides lessons to companies who have non-public information that their employees could use for personal gain. It could be argued that the lineup data being used by the employees is a trade secret, at least until all lineups are publicly released. Thus, it could also be argued that the employees are misappropriating the companies’ trade secrets.

Regardless, both Draft Kings and Fan Duel are facing potential liability and regulatory risk as a result of their employees’ alleged conduct. I’d expect lawsuits to be filed within days. And there’s talk of Congressional hearings to determine whether the industry needs further regulation.

Many companies have information that their employees could use for personal benefit at the companies’ expense, just like Fan Duel and Draft Kings. The lesson here is that companies need to think proactively about how to minimize the risk that employees actually use this information improperly. Today, Fan Duel and Draft Kings announced that they are prohibiting their employees from entering daily/weekly fantasy sports contests. This policy probably should have been implemented long ago. Companies need to think about how to protect this information before it is used improperly, not after, once the damage is done.

In most cases, a policy against personal use does not go far enough. Employees with access to company information that could be used for personal benefit should, at a minimum, sign a non-disclosure agreement.

Now is the time to address whether your company is doing all it can to protect information that your employees could use for their personal benefit. If you don’t know where to start, consult with an attorney who can guide you in the right direction.

A Double-Edged Sword: The “Attorney’s Eyes Only” Designation in Trade-Secrets Cases

Trade-secrets cases present a unique set of challenges in the discovery process. In particular, many of these cases are litigated between competitors. Thus, issues arise when producing competitively sensitive documents. Almost always, the parties agree to (or the court enters) some sort of protective order that allows the producing party to designate highly sensitive documents as “attorney’s eyes only” (AEO). In other words, those documents can only be reviewed by the receiving party’s attorneys, not the representatives/employees of the party itself.

But as is the case in many aspects of discovery, this process is subject to abuse. Invariably, producing parties over-designate documents as AEO. This can lead to various problems, as it is difficult to litigate a case without sharing with your client the nature of documents produced by the other side.

Recently, a magistrate judge in the Northern District of Illinois addressed this issue in the case of Global Material Technologies, Inc. v. Dazheng Metal Fibre, Co. The full opinion is worth a read, as it gives a comprehensive discussion of the law applicable to these situations. There’s a link to download the opinion below.

This case involves a trade-secrets misappropriation claim brought by a metal fiber manufacturer against a company to whom it previously outsourced manufacturing operations. Allegedly, the defendant gained access to the plaintiff’s proprietary customer information and pricing strategies and used that information to compete with the plaintiff.

Both the defendant and a non-party produced a number of documents designated as AEO, and the plaintiff filed a motion to challenge these designations.

The court went through the law applicable to these situations:

[T]he party seeking to protect documents . . . must continue to show good cause for confidentiality when challenged. . . . To make that showing, the designating party must show that disclosure will result in a clearly defined and serious injury, by pointing to specific demonstrations of fact. . . . The harm must be significant, not a mere trifle. Conclusory statements—including broad allegations of potential harm or competitive injury—are insufficient to meet the good cause standard. . . . If there is any doubt as to whether the material should be sealed, it is resolved in favor of disclosure.

The court also explained how the AEO designation should be used sparingly:

[T]he AEO designation should only be used on a relatively small and select group of documents where a genuine threat of competitive or other injury dictates such extreme measures. . . . The AEO designation must be used selectively because discovery and trial preparation are made significantly more difficult and expensive when an attorney cannot make a complete disclosure of relevant facts to a client[.]

After reviewing the documents at issue, the court sustained the designations in part and overruled them in part. In particular, the court focused on whether documents produced had become stale — i.e., the passage of time had mooted the documents’ sensitive nature. The court rejected broad allegations of harm, and only sustained those designations that were supported by an affidavit articulating the specific damage that would flow from disclosure.

The court also distinguished between the defendant and a non-party, noting that the non-party bears a lower burden in establishing a right to the AEO designation.

I can’t recall a trade-secrets case that I’ve litigated that did not touch on these issues. The issues presented are far too varied and complex to discuss in a single blog post. But at a high level, lawyers need to start thinking about discovery prior to filing the lawsuit, including what documents will likely be produced by both sides and how those documents will need to be protected.

These issues add a layer of complexity and strategy to discovery, and proactive thinking is necessary to protect your client and prevent/challenge abusive designation by the other side. This starts with the terms of the negotiated (or ordered) protective order, and continues as documents are produced and as litigation strategies shift over time.

GMT v. DMF

Florida Appellate Court Upholds Prohibition on Soliciting Referral Sources

It’s been a while since I’ve posted, as I was in trial and then on vacation. But I’m back and will endeavor to post regularly.

Employee mobility cases often involve the use of customer information or relationships. Many companies try to protect these relationships with restrictive covenants that prohibit competition or solicitation, or both. In Florida, restrictive covenants are governed by statute, Section 542.335, Florida Statutes.

Under this statute, a person trying to enforce a restrictive covenant must plead and prove one or more legitimate business interests. A recent Florida appellate decision, Infinity Home Care, LLC v. Amedisys Holding, LLC, addressed a twist on the typical non-solicitation case: can referral sources be a legitimate business interest? The opinion can be downloaded here.

In this case, a home healthcare company (Amedisys) sued its former employee and her new company, one of Amedisys’s competitors. The employee had signed a non-compete and non-solicitation agreement, which specifically prohibited solicitation of Amedisys’s referral sources.

While at Amedisys, the defendant’s primary job was to develop relationships with case managers at heath care facilities, who could then refer patients to Amedisys for home-care services. After leaving Amedisys, the defendant immediately started soliciting those same case managers to refer business to her new employer.

The lower court ruled that these referral sources were a legitimate business interest. Florida’s Fourth District Court of Appeal agreed. The appellate court noted that the statute lists “substantial relationships with specific prospective or existing customers, patients, or clients.” But the court found that the statute reaches beyond just these specific customer relationships:

Section 542.335, however, clearly states that the legitimate business interests listed in the statute are not exclusive. This allows the court to examine the particular business plans, strategies, and relationships of a company in determining whether they qualify as a business interest worthy of protection. . . . Here, it is undisputed that the relationships Amedisys is trying to protect are its referral sources. As the record shows, these doctors and clinics with whom it has developed substantial relationships are the “lifeblood” of its home health care business.

The appellate court acknowledged conflicting holdings among other Florida District Courts of Appeal on the issue of whether referral sources can be a legitimate business interest. But this result strikes me as the correct one. Plenty of companies rely heavily on referral sources to generate business. Given Florida’s broad restrictive-covenant statute, a company should be able to protect these types of relationships.

But given the divergent holdings, this issue is by no means settled. Any company operating in Florida that wants to protect its referral sources needs to consult with an attorney who can help make sense of the somewhat confusing law in this area.