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Non-Compete, Confidentiality and Non-Solicitation Agreements

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Non-Compete, Confidentiality and Non-Solicitation Agreements: Drafting and Pre-Litigation Goals and Strategies

Prepared and Presented by:  JEFFREY B. OBERMAN

I.                   INTRODUCTION.

More employers than ever are using non-competition, confidentiality and non-solicitation agreements to prevent unfair competition and solicitation of their employees, and to protect their trade secrets and confidential information.  This article summarizes goals and strategies relating to such agreements.

II.  OLDCO’S GOALS IN DRAFTING AND USING AGREEMENTS:  DETERRENCE, DAMAGE CONTROL AND RECOVERY.

A. Do Not Overuse Non-Compete Agreements. Non-compete agreements are generally disfavored.  Freeman v. Duluth Clinic, Inc., 334 N.W.2d 626 (Minn. 1983).  Notwithstanding their obvious economic appeal to employers, covenants not to compete are partial restraints of trade and, therefore, are disfavored by courts and will be narrowly construed. Bennett v. Storz Broad. Co., 134 N.W.2d 892 (Minn. 1965); Lemon v. Gressman, 2001 WL 290512 at *1 (Minn. App. Mar. 27, 2001).

In Minnesota an enforceable non-compete agreement must be both necessary to safeguard the employer’s protectable interests and reasonable as between the parties.  See Bennett, 134 N.W.2d at 898; Medtronic, Inc. v. Sun, 1997 WL 729168, at *3 (Minn.  App., Nov. 25, 1997).  Generally, companies have protectable interests in (1) customer goodwill, (2) confidential information, (3) trade secrets, and (4) customer contacts. See Safety-Kleen v. Hennkens, 301 F.3d 931 (8th Cir. 2002) (upholding injunction because former employee’s close contacts with customers constituted a “protectable interest”) (applying Missouri law).  The agreement must not impose any greater restriction on the employee than is necessary to protect the employer’s business.  Bennett, 134 N.W.2d at 899.

B. Do Aggressively Use Trade Secret and Confidentiality Agreements. With employees whose positions in the company do not warrant competition restrictions, consider using trade secret and confidentiality agreements without non-compete provisions.  In addition to providing protections vis-à-vis that employee, this helps establish that the employer considers its information confidential.

Minn. Stat. § 325C.01, subd. 5 (1982) provides, in part, that “Trade secret” means information . . . that: (i) derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use, and (ii) is the subject of efforts that are reasonable under the circumstances to maintain its secrecy.”  Electro-Craft v. Controlled Motion, Inc., 332 N.W.2d 890, 899 (Minn. 1983); Widmark v. Northrup King Co., 530 N.W.2d 588 (Minn. App. 1995). The entity seeking protection of the trade secret must make a “reasonable effort under the circumstances” to maintain secrecy.  See Electro-Craft, 332 N.W.2d at 901 (quoting Minn. Stat. § 325C.01, subd. 5(ii)).   One example of measures that signal that an employer intends to keep information confidential is to require every employee to sign non-disclosure agreements.  Surgidev Corp. v. Eye Tech., Inc., 648 F. Supp. 661, 693-94.

C. Reasonable Restrictions on Competition. The General Rule:  Employment-Related Covenants Not to Compete Must be Reasonable in Their Temporal and Geographic Scope.[1]

1. Time Periods. Covenants restricting competition must be reasonable from a temporal standpoint. To the extent they are not, such covenants will not be enforced. Courts consider a variety of factors in determining whether a restrictive covenant is reasonable from a temporal standpoint, including the following: (1) nature of the work; (2) time necessary to train new employees to replace exiting employees; (3) time necessary to allow customers to become familiar with new employees; and (4) time necessary to obliterate the identification between the employer and the employee in the minds of the employer’s customers. Dean Van Horn Consulting Associates v. Wold, 395 N.W.2d 405 (Minn. App. 1986); Klick v. Crosstown State Bank of Ham Lake, Inc., 372 N.W.2d 85 (Minn. App. 1985); See also West Publishing Corporation v. Stanley, 2004 WL 73590 (D. Minn. Jan. 7, 2004) (granting a preliminary injunction where noncompete agreement was limited to one year, employee had intimate knowledge of employer’s systems and products, did not significantly limit employee’s ability to earn a living, and was reasonable).  Drafters of non-compete agreements should be careful not to overreach in crafting temporal restrictions.  In some jurisdictions and under certain circumstances, even one year may be unreasonable.  See Earthweb v. Schlack, 71 F.Supp.2d 299 (S.D.N.Y. 1999) (invalidating one-year non-compete because “[w]hen measured against the information technology industry in the Internet environment, a one-year hiatus from the work force is several generations, if not an eternity.”); See Head, DVM v. Morris Vet. Center, Inc., 2005 WL 1620328 (Minn. App. July 12, 2005) (validating district court’s temporal modification of a non-compete clause from three years to one where a few of vet’s clients followed her to her new clinic, but many stayed with clinic).

2. Geographic Limits. Covenants restricting competition must be reasonable from a geographic standpoint as well. To the extent they are not, such covenants have not been enforced. Courts have historically considered a variety of factors in determining whether a restrictive covenant is reasonable from a geographic standpoint, including the following: (1) a “reasonable” trade area; (2) area where employee actually performed duties; (3) employer’s actual business area; and (4) location of employer’s customers.  Overholt Crop Ins. Serv. Co. Inc. v. Bredeson, 437 N.W.2d 698 (Minn. App. 1989); Satellite Indus. Inc. v. Keeling, 396 N.W.2d 635 (Minn. App. 1986); Metro Networks Comm. v. Zavodnick, 2004 WL 73591 (D. Minn. Jan. 15, 2004) (denying defendant’s motion to stay injunction where noncompete agreement restricting defendant from doing several “restricted activities” in the Minneapolis/St. Paul metropolitan area for one year was reasonable in terms of time, geography, and scope); Universal Hosp. Serv., Inc. v. Hennessy, 2002 WL 192564, (D. Minn. Jan. 23, 2002) (granting TRO because non-compete was supported by consideration and reasonable: period of 12 months, radius of 100 miles).

3. Customer Restrictions Becoming Common. A customer restriction may substitute for, or complement, a geographic restriction.  See IDS Life Ins. Co. v. SunAmerica, Inc., 958 F. Supp. 1258, 1273 (N.D. Ill. 1997) rev’d on other grounds, 136 F.3d 537 (7th Cir. 1998) (applying Minnesota law); see also Madsen v. Spectro Alloys Corp., 1998 WL 373067, at *3 (Minn. App. Jul. 7, 1998) (prohibition against competing “in any market” in which employer does business was not ambiguous and not limited to employer’s territory when employee signed agreement); Farm Credit Services v. Wysocki, 627 N.W.2d 444 (Wis. 2001) (restricting employee from list of customers the employee consulted or served in the year prior to separation is not per se invalid); Commodities Specialists, Co. v. Brummet, 2002 WL 31898166 (D. Minn. Dec. 27, 2002) (granting preliminary injunction where defendant was primary contact with customers, non-compete provisions were supported by adequate consideration, one year was a reasonable temporal restriction, no geographical restriction was necessary in light of plaintiff’s international business, and plaintiff had a legitimate business interest in preventing loss of customers).

4. No Blanket Rule for Reasonableness. There is no fail-safe manner in which to determine temporal or geographic reasonableness. The inquiry is on a case-by-case, fact-specific basis. Davies & Davies Agency, Inc. v. Davies, 298 N.W.2d 127 (Minn. 1980).  Different jurisdictions use various methods of addressing overly-broad and unreasonable covenants.  Some courts hold restrictive covenants totally unenforceable if they are unreasonable in scope or duration.  See, e.g., Fields Found Ltd. v. Christiansen, 309 N.W.2d 125 (Wis. Ct. App. 1981).  Such courts may take this approach in order to encourage employers to write more narrowly-tailored covenants.  See Telxon Corp. v. Hoffman, 720 F. Supp. 657 (N.D. Ill. 1989).  In other jurisdictions, the courts will “blue pencil” invalid portions of the agreement, and enforce the rest as written.  See BDO Seidman v. Hirshberg, 93 NY.2d 382, 394 (N.Y. 1999).  Minnesota courts utilize a modified “blue pencil” doctrine and will rewrite portions to make them reasonable.  Dean Van Horn, 395 N.W.2d at 405 (Minn. Ct. App. 1986) (3 year restrictive covenant “blue-pencilled” to 1 year); see also Ikon Office Solutions, Inc. v. Dale, 2001 WL 1269994 (8th Cir. Oct. 24, 2001) (using “blue pencil” doctrine to limit 5-year competition restriction in sale of business context to 3 years).  In recent years, absent unique circumstances or significant severance payout, non-compete agreements rarely set a period beyond one year.

D. Consider Other Covenants.

1. Protecting Customers from Solicitation. Restrictions on solicitation of customers have been deemed enforceable as protecting the good will of the employer’s business.  Minnesota courts have upheld non-solicitation agreements even where they contain no territorial limits, because the restriction to former clients is sufficiently narrow.  See Dynamic Air, Inc. v. Bloch, 502 N.W.2d 796, 800 (Minn. App. 1993).  A New York court outlined the legitimate parameters of non-solicitation covenants protecting the goodwill of customer relationships.  See BDO Seidman, 93 NY.2d at 382.  The court found that a customer relationship that an employee acquired through the overall effort and expense of the employer was protectable. The same court, however, indicated that non-solicitation agreements would be deemed overbroad and unenforceable in at least two situations:  (1) when it extends to “clients with whom a relationship with [the former employee] did not develop through assignments to perform direct, substantive services,” and (2) when it extends to personal clients of the former employee “who came to the firm solely to avail themselves of his/her services and only as a result of his/her own independent recruitment efforts, which [the employer] neither subsidized nor otherwise financially supported as part of a program of client development.”  Id. at 391-92.

2. Workforce Protection (Anti-Raiding). Minnesota courts have not yet directly addressed the issue of the enforceability of so-called “anti-raiding” agreements as they apply to the raiding of employees. The Eighth Circuit has, however, ruled on a matter that included an employee non-solicitation clause as part of a settlement agreement between two competing companies.  See Frank B. Hall & Co., Inc. v. Alexander & Alexander, Inc., 974 F.2d 1020 (8th Cir. 1992).  The court was not asked to rule on the validity of the employee non-solicitation agreement, but its decision assumed its enforceability.  The court also noted that the non-solicitation clause “did not prohibit the parties from merely hiring an employee of the other without solicitation . . . .”  Id. at 1024 n.5.  Accordingly, it is reasonable for a workforce protection clause to restrict the former employee from soliciting the former employer’s work force.  This restriction, however, should not serve to restrict the right of the employer’s work force to freely compete.  Loral Corp. v. Moyes, 174 Cal.App.3d 268, 279-80 (Cal. Ct. App. 1985) (construing agreement to mean that the former employee could not solicit the employees of his former employer, but that if those employees approached him, he was free to receive and consider their applications); Cap Gemini America v. Judd, 597 N.E.2d 1272, 1287 (Ind. Ct. App. 1992) (applying California law to an employment agreement and holding that nonsolicitation clause was not violated by former employee placing “anonymous advertisements” in the newspaper for computer programmers).  Despite California’s strong prohibition against restraints on trade, California courts have upheld anti-raiding provisions to the extent they prevent former employees from soliciting their former co-workers.  See, e.g., Robinson v. Jardine Ins. Brokers Int’l Ltd., 856 F. Supp. 554, 558-59 (N.D. Cal. 1994) (finding an employer may contractually prohibit an employee from raiding its workforce for a limited period of time following termination). Such clauses must, however, be properly tailored to the facts and circumstances of the particular case; Cap Gemini America, 597 N.E.2d at 1287 (holding employer could only protect its workforce from a raid by a former employee at the location where he worked; clause was not enforceable where former California employee lured employer’s Indiana employees to work for him).

3. Assigning Invention and Patent Rights. In the absence of an express contractual agreement defining ownership rights in inventions, the employer’s right to claim ownership in discoveries made by an employee depends on both the nature of the discovery and the nature of the employment relationship.  An employer can require an employee to assign ownership rights in past and future inventions, and should do so in writing.  At the time such an agreement is made, the employer must provide the employee with written notice that the agreement “does not apply to an invention for which no equipment, supplies, facility or trade secret information of the employer was used and which was developed entirely on the employee’s own time, and (1) which does not relate (a) directly to the business of the employer or (b) to the employer’s actual or demonstrably anticipated research or development, or (2) which does not result from any work performed by the employee for the employer.”  Minn. Stat. § 181.76.  Existing employees should be provided independent consideration to support such agreements.  See Eaton Corp. v. Giere, 971 F.2d 136, 139-40 (8th Cir. 1992).

The general rule is that “an individual owns the patent rights to the subject matter of which he is an inventor, even though he conceived it or reduced it to practice in the course of his employment.”  E.g., Banks v. Unisys Corp., 228 F.3d 1357, 1359 (Fed. Cir. 2000).  Minnesota courts have held that where an employer “has conceived the plan of an invention, and is engaged in experiments to perfect it, no suggestions from an employee, not amounting to a new method or arrangement, which in itself is a complete invention, is sufficient to deprive the employer of the exclusive property in the perfected improvement.”  Larson v. Crowther, 26 F.2d 780, 790 (8th Cir. 1928); Hebbard v. American, Zinc, Lead & Smelting Co., 161 F.2d 339, 342 (8th Cir. 1947) (finding employer owns improvements to process when they were discovered by employee employed specifically to invent improvements).

There are two widely recognized exceptions to the general rule:  “First, an employer owns an employee’s invention if the employee is a party to an express contract to that effect; second, when an employee is hired to invent something or solve a particular problem, the property of the invention related to this effort may belong to the employer.”  Banks, 228 F.3d at 1359.  These exceptions are grounded in principles of contract law, which protect parties’ right to freely structure their bargained-for agreements.  Id. When applying the “employed to invent” exception, a court will examine the “employment relationship at the time of the inventive work to determine if the parties entered an implied-in-fact contract to assign patent rights.”  Id. In determining whether an implied-in-fact contract exists, courts look to state law contract principles.  Id. See Teets v. Chromalloy Gas Turbine, Corp., 83 F.3d 403, 408-09 (Fed. Cir. 1996).

III. COMMON DRAFTING AND IMPLEMENTATION MISTAKES: TRAPS FOR THE UNWARY.

A. Non-Compete Agreements Must Be Supported By Consideration. Employers should provide job applicants who they wish to hire with written, conditional offers of employment and a copy of the non-compete agreement prior to the new employee’s first day of work. Signing a covenant not to compete at the inception of the employment relationship provides sufficient consideration to support the covenant.  See, e.g., Overholt Crop Ins. Serv. Co, 437 N.W.2d at 702.

B. “Midstream Agreements” Must Be Supported By Separate, Independent Consideration. The “independent consideration” requirement for a “midstream” employee is a trap for the unwary. Where a non-compete agreement is executed after an employee has commenced employment, the agreement must be supported by “independent consideration” to be enforceable. National Recruiters. Inc. v. Cashman, 323 N.W.2d 736 (Minn. 1982) (when employer fails to inform prospective employees of non-compete agreements until after they have accepted jobs, the employer “takes undue advantage of the inequality between the parties.”).  Even if an employee has not physically begun to work, but has already accepted an offer of employment, a non-compete agreement following the original offer of employment cannot be enforced absent independent consideration.  Sanborn Mfg. Co. v. Currie, 500 N.W.2d 161 (Minn. App. 1993); see also TestQuest, Inc. v. La France, 2002 WL 196287 (Minn. App. 2002) (affirming injunction against former sales executive because mid-stream agreement allowing the employee to continue working and obtain additional vested stock options constituted sufficient consideration); Midwest Sports Mktg., Inc. v. Hillerich & Bradsby of Can., Ltd., 552 N.W.2d 254, 265 (Minn. App. 1996); review denied (Sep. 20, 1998) (holding non-competition covenant invalid where employee knew before he began working that he would have to sign the covenant, but did not know its terms and conditions until two weeks after his employment began); See also Tonna Heating Cooling, Inc., v. Waraxa, 2002 WL 31687601 (Minn. App. Dec. 3, 2002) (holding non-compete agreement signed after employment commences is presumed unenforceable unless clearly ancillary to the employment agreement or supported by adequate consideration);  FSI Int’l, Inc. v. Shumway, 2002 WL 334409, (D. Minn. Feb. 26, 2002) (denying motion for preliminary injunction or TRO, on the basis that the mid-stream non-compete agreement was not supported by sufficient independent consideration and there was no evidence of a competing product);  J. K. Harris & Co., LLC v. Dye and ABC Co., 2001 WL 1464728, (D. Minn. Nov. 16, 2001) (denying TRO because Court found that covenant not to compete was entered into after employment began and was not supported by adequate consideration).  However, where the employee signed a non-compete after starting working, but knew of the implementation of the non-compete agreement, continued working, and continued to receive monthly “draws” (or advance payments on unearned commissions), the Court held that this constituted sufficient consideration.  See Progressive Tech. Inc., v. Shupe, 2005 WL 832059 (Minn. App. April 12, 2005) (upholding non-compete agreement signed contingent with ‘draw’ agreement after employee had already begun working).

C. “Independent Consideration.” Independent consideration consists of real benefits which are bargained for between the employee and the employer. “Real benefits” include benefits beyond those to which the employee is already entitled to by virtue of employee status or a separate contract. Sanborn, 500 N.W.2d at 161.  To satisfy the independent consideration requirement, there must be a distinction between employees who sign non-compete agreements and those who do not sign such agreements. Otherwise, the alleged “independent consideration” is illusory and insufficient to allow enforcement of a restrictive covenant.  Freeman, 334 N.W.2d at 626; BFI-Portable Services. Inc. v. Kemple, 1989 WL 138978 (Minn. App. Nov. 21, 1989).  There are many opportunities to provide midstream employees with consideration contingent upon execution of a non-compete agreement, for example:  promotions, special bonus program participation rights, severance packages, stock grants, stock options, pension participation eligibility, retention plans, and cash payments.

D. Protect The Continuing Viability Of Your Non-Competition Agreements. Non-compete obligations must expressly survive termination of employee’s employment or expiration of the employment agreement.  If the non-compete clause is part of a larger agreement – for example, an employment agreement – which contemplates and allows for termination “of the agreement,” the employer should draft the non-compete clause so that it is clear that the non-compete obligations survive termination of the underlying agreement.  See Burke v. Fine, 608 N.W.2d 909, (Minn. App. 2000) review denied (June 13, 2000) (holding non-compete in employee’s two-year employment agreement was not enforceable against employee who terminated his employment approximately three and one-half years after he signed the agreement, where no language in non-compete covenant indicated that it survived expiration of underlying contract).  The employer should also ensure that merger clauses in subsequent agreements – for example, a separation agreement or release of claims – do not by their terms supercede and, thus, render unenforceable, an employee’s continuing non-competition obligations.

E. Protect Employer’s Right to Assign the Non-Compete Agreement as Part of Sale of Business. The employer should include a proactive clause allowing the employer to assign the non-competition agreement.  If the employer seeks to sell its company to, or merge with, another company, such a clause will defray concerns that the successor employer may be unable to enforce the non-competition agreements without individual employees consenting to assignments of the non-competition agreements to the successor employer.  See Managed Healthcare Associates, Inc. v. Kethan, 209 F.3d 923 (6th Cir. 2000).

IV. REMEDIES AND OTHER PROVISIONS WITH TEETH: DETER VIOLATIONS; INCREASE ODDS OF ENFORCING RESTRICTIONS.

A. Enhance the Claim for Damages. The damages caused by a former employee’s breach of a non-compete agreement are often difficult to prove.  Such damages are measured by the business loss actually suffered as a consequence of the breach.  See Lemon, 2001 WL 290512 at *3 (citing Faust v. Parrott, 270 N.W.2d 117, 120 (Minn. 1978)).  To establish damages, an employer must show by a preponderance of evidence that “(a) profits were lost, (b) the loss was directly caused by the breach of the covenant not to compete, and (c) the amount of such causally related loss is capable of calculation with reasonable certainty rather than benevolent speculation.” Id. Although the law does not require mathematical certainty in the proof and calculation of lost profits, it requires evidence of definite profits grounded on a reasonable factual basis.  See Cardinal Consulting Co. v. Circo Resorts, Inc., 297 N.W.2d 260, 267 (Minn. 1980).  Damages that are remote, speculative, or conjectural are not recoverable as a matter of law.  Busch v. Busch Constr. Co., 262 N.W.2d 377, 379 (Minn. 1977).  The method of proving lost prospective profits depends on the circumstances of a particular case.  Cardinal Consulting, 297 N.W.2d at 267.  The court may consider the departed employee’s wrongfully-gained profits at his new job as a way to measure damages.  See, e.g., Cherne Indus, Inc. v. Grounds & Assoc., Inc., 278 N.W.2d 81 (Minn. 1979).  In such a circumstance, the employer must show that the departed employee’s gross income, or some of it, was specifically derived from former or prospective clients or customers who had a relationship with the employer protected by the covenant not to compete.  Id.

Employers can contractually enhance their potential damage claims by the following:

1. Accounting. Consider a provision granting the employer with express rights to an accounting in the event of a breach.

2. Return of Profits. Consider a provision requiring the breaching former employee to repay all profits earned as a result of the breach.

3. Attorneys’ Fees. It is advisable to include an attorneys’ fees provision in the agreement. This will serve as an additional deterrent to the would-be violator contemplating violation of the agreement.

4. Require Notice of Possible Re-Employment. Consider a requirement that, during the restricted period, the employee will notify the employer, in writing, of any possible re-employment prior to accepting an offer and an authorization for the employer to contact the potential employer and provide it with a copy of the non-compete agreement.

B. Notice to Future Employer. Consider adding provisions to the agreement that put future employers on notice of possible liability for any/all of the above.  Doing so may prevent a hiring that would violate the agreement.  Even if it does not, it may add to OLDCO’s breach of contract and interference with contract claims.

C. Choice of Law, Forum. For reasons discussed in related articles (forum shopping, race to the court house, first filed rule, etc.), it is critical to include a choice of law provision and a forum/venue selection provision.

D. Injunctive Relief. In addition to providing for money damages in the event of a breach of the non-compete, the agreement should expressly state that injunctive relief would be appropriate in the event of a breach and that irreparable harm would result absent injunctive relief.  See Ticor Title Ins. Co. v. Cohen, 173 F.3d 63, 68-69 (holding acknowledgement of irreparable harm in the agreement could arguably be viewed as an admission by the employee that his former employer would indeed suffer irreparable harm should he breach the non-compete provisions).  This provision should clearly state the forum in which injunctive relief may be sought and that the employee will pay the employer’s attorneys’ fees.

E. Arbitration. An employer should consider whether the agreement should mandate that any disputes or controversies should be settled in arbitration.  Public policy in Minnesota favors arbitration as an informal and inexpensive way of resolving disputes between parties who have signed a contract including an arbitration clause.  Johnson v. Piper Jaffray, Inc., 515 N.W.2d 752 (Minn. App. 1994).  If the employer decides to include an arbitration clause, then the employer should take advantage of the contractual nature of arbitration and craft a specific arbitration clause that maximizes the protection of the employer’s interests.  (Minn. Stat. § 572.08 (2006) makes arbitration agreements enforceable “save upon such grounds as exist at law or in equity for the revocation of any contract.”)  If using an arbitration clause, an employer should specifically retain the right to bring a legal action in court against any third party that benefits in any way from the employee’s breach of the agreement.  Further, the agreement should either grant the arbitrator the right to provide injunctive relief, or the employer should specifically retain the right to pursue injunctive relief in court.  However, employers should not forget that if an employee successfully proves lack of consideration for a covenant not to compete, which contains an arbitration clause, this would vitiate the entire agreement, including the arbitration clause, and thus the matter would not be arbitrable.  See Freema, 334 N.W.2d at 629.

V. NEWCO’S GOALS: HIRE THE EMPLOYEE YOU WANT REGARDLESS OF THE NON-COMPETE.

A. NEWCO’s Exposure to Liability.

1. Tortious Interference with Contract. A new employer who hires an employee who is subject to a non-compete agreement may be liable to the prior employer for tortious interference with contract.  Kallok v. Medtronic, Inc., 573 N.W.2d 356 (Minn.1998). The new employer may also be required to indemnify the old employer for attorneys’ fees incurred by the old employer in litigation to enforce the valid non-compete agreement.  Id.

2. Respondeat Superior. Under the doctrine of respondeat superior, an employer is “vicarious liable for the wrongful acts of its employees committed within the scope of their employment.”  Oelschlager v. Magnuson, 528 N.W.2d 895, 902 (Minn. App. 1995).  To establish that an employee’s acts occurred within his or her scope of employment, “it must be shown that the conduct was, to some degree, in furtherance of the interests of the employer.”  Hentges v. Thomford, 569 N.W.2d 424, 427 (Minn. App. 1997).  Other factors to be considered are whether the (1) employee was authorized to perform this type of act; (2) act occurs substantially within authorized time and space restrictions; (3) employer should have reasonably foreseen the employee’s conduct.  Id. at 428. In an unpublished opinion, the Minnesota Court of Appeals held that a new employer may be held vicariously liable for an employee’s misappropriation of trade secrets.  See Hagen v. Burmeister & Assoc., 1999 WL 31130 at *3-4 (Minn. App. Jan. 26, 1999).  On appeal after remand, the Court of Appeals held the new employer vicariously liable for the breach of the non-compete agreement and misappropriation of trade secrets.  See Hagen v. American Agency, Inc., 617 N.W.2d 799 (Minn. App. 2000).  The Minnesota Supreme Court, however, reversed and held that the new employer was not vicariously liable for employee’s trade secrets violation.  Hagen v. Burmeister & Assoc., Inc., 633 N.W.2d 497, 505 (Minn. 2001).  The court found that the former employer failed to “introduce at trial some evidence tending to show that [employee’s] tortious act was foreseeable as that term is used in vicarious liability law: for example, evidence showing that the risk of employees misappropriating trade secrets is a well-known hazard in the insurance industry.”  Id. at 505.  The former employer’s failure to introduce such evidence was fatal to its respondeat superior claim.  Id.

3. Trade Secret Laws. Newco may also have direct liability to Oldco for violations of trade secret laws.  See Minn. Stat. § 325C.01, subd. 5 (2006); Electro-Craft, 332 N.W.2d at 899; Widmark, 530 N.W.2d at 588;  Surgidev 648 F. Supp. at 693-94.

B. NEWCO’s Pre-Hire Strategies:  Look Before You Leap.

1. Make the at-will employment offer letter contingent on the applicant’s ability to perform duties; confirm the applicant is not hindered by a non-compete or other agreement with a previous employer.

2. Make it clear in the offer letter that the employee is prohibited from bringing or using OLDCO’s property, trade secrets, confidential information.

3. If you discover a problem (e.g., existing non-compete agreement) up front, evaluate the question of enforceability, and balance the risks before going forward with the hire.  Is it worth the risk?  Consider limiting the terms of the employment to assure (or at least make a good faith effort to assure) that activities will not conflict with the prior agreement or entail the use of OLDCO’s confidential information, trade secrets, or customer relationships.

4. Determine whether, and on what terms, NEWCO will defend/indemnify the employee.

5. Decide whether NEWCO’s attorney will represent the employee, whether NEWCO will hire separate counsel for the employee, or whether NEWCO will expect the employee to provide for his/her own representation.

6. Have an “exit strategy” (at-will employment, etc.).

C. NEWCO’S Post-Hire Strategies: Say What You Mean; Mean What You Say.

1. Don’t hide from OLDCO.  “Cover-ups” usually enhance exposure.  Consider open, honest and good faith communications (to resolve issues, and/or establish good faith).

2. Provide/offer as many concessions as possible to OLDCO (e.g., employee will not use OLDCO’s property, trade secrets, customer contacts, etc.); and then honor (and document) your commitments.

3. Consider whether to commence a declaratory judgment action.

4. Be prepared to address/discuss creative, multifaceted business solutions so all parties can avoid litigation risks and expenses.

VI. EMPLOYEE’S GOALS:  MOVE ON WITHOUT EXPOSURE.

A. Employee’s Exposure to Liability or Other Loss.

1. Legal Action by OLDCO. An employee who takes a new job in violation of a non-compete agreement risks a direct lawsuit by OLDCO, for numerous legal theories.  See all articles submitted in connection with this presentation.

2. Risks with NEWCO. In addition, the transitioning employee is at risk of committing to a new position (likely at-will) and then getting fired as a result of a non-compete dispute.  The risk that NEWCO will terminate the at-will relationship increases if NEWCO is surprised by the agreement and OLDCO’s claims.

B. Employee’s Pre-Hire StrategiesFull Disclosure; Anticipate Potential Problems; Minimize, Eliminate or Protect Yourself against Such Problems.

1. At the right time, inform NEWCO about the existence of your non-compete agreement or other protective agreement with OLDCO.

2. Have an understanding with NEWCO that you are not required or expected to bring or use OLDCO’s property, trade secrets, confidential information.

3. Make the terms of your employment clear, so your activities with NEWCO will not conflict with your prior agreement or use OLDCO’s property, confidential information, trade secrets or customer relationships.

4. Have NEWCO agree, in writing, that it will defend and indemnify you in the event of a claim by OLDCO.

5. If NEWCO expects you to retain separate counsel, have NEWCO agree to pay for that advice and consultation; and make sure you get the counsel before, rather than after, you make new commitments.

6. Seek an agreed severance/transition package, in the event NEWCO decides to terminate the relationship as a result of the OLDCO agreement/claims.

VII.  CONCLUSION.

Whether you represent OLDCO, NEWCO or the transitioning employee, there are many issues to think about in this area – before, rather than after, actions are taken.  The three parties should anticipate all issues, plan in advance, and then follow through with their agreements, in order to maximize their legal rights and/or minimize their exposure.


[1] Minnesota law recognizes a distinction between non-compete agreements associated with employment contracts and those arising as part of the sale of a business.  Kunin v. Kunin, 1999 WL 486814, at *3 (Minn. App. July 13, 1999), citing Bennet, 134 N.W.2d at 899.  The reasonableness of a non-compete agreement in the sale of a business context is determined by a three-step test:  “(1) whether the restriction exceeds the protection necessary to secure the goodwill purchased; (2) whether the restriction places an undue hardship on the covenantor; and (3) whether the restriction has a deleterious effect on the interests of the general public.”  Id., citing Bess v. Botham, 257 N.W.2d 791, 795 (Minn.1977) (prohibition preventing former salon owner from having “any interest in any hair salon anywhere in the United States for 11 years” was upheld as reasonable).

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