In Internet Law, Online Business Law

Traditional Non-Compete Limitations

In order for a non-compete agreement to be held enforceable, courts require several limits to help balance the interest of the party looking to enforce the agreement with the interests of fairness to the party subject to the non-compete. While a party enforcing a non-compete almost always has some legitimate interest in enforcing a non-compete, the agreement cannot be so overly burdensome to the party that he or she cannot reasonably find gainful employment.

When determining whether a non-compete agreement is overly burdensome and, therefore, whether it can be enforced; courts consider whether the non-compete is: (1) necessary; (2) reasonable as to (a) time, and (b) geography; and (3) not harsh or oppressive to the employee, or otherwise contrary to public policy.  The following cases help show how this rule and balancing test was created.

  • 1.         BDO Seidman v. Hirshberg held that “a restrictive covenant will only be subject to specific enforcement to the extent that it is reasonable in time and area, necessary to protect the employer’s legitimate interests, not harmful to the general public and not unreasonably burdensome to the employee”.
  • 2.         Chart Indus., Inc. v. Spagnoletti held that a non-compete agreement must be “reasonable in geographic scope and temporal duration, advances a legitimate economic interest of the party seeking enforcement, and survives a balancing of the equities…”.
  • 3.         Harvest Ins. Agency, Inc. v. Inter-Ocean Ins. Co. held that “covenants are deemed reasonable only where the restraint is reasonably necessary to protect the employer, is not unreasonably restrictive of the employee and is not against public policy.  The determination of the reasonableness of the restraint focuses on the legitimate interests of the employer which might be protected, and the protection granted by the covenant in terms of time, space, and the types of activity proscribed”.

While the above consideration must be reviewed and balanced to determine the enforceability of a non-compete agreement, in some states, the court will amend the non-compete provision as written when it is not reasonable as to time and geography due to being overbroad or vague. Here, the court will “blue pencil” the provision by either writing in a reasonable restriction to time, geography, or both.

Non-compete agreements seem reasonable for businesses that truly operate in one physical location, but as communication technology improve, businesses have been able to effectively conduct business across the entire world through the use of a computer or smart phone. This brings up issues on how to properly limit the scope of a non-compete to protect the business interest of the enforcing party, but not so burdensome that the employee cannot find work in a particular field.

The Internet is Everywhere and Nowhere

In the internet age, lines have blurred in regard to where a business exists and where it is engaging in business. This brings up one of the biggest issues in the legal profession: the courts’ ability to apply law in areas where technological and societal advances and innovations have changed the nature of the typical application of law.

Courts have begun to navigate these types of issues where non-compete agreements have national, global, and even no geographical limitation defined because the business effectively works everywhere. The following scenarios are cases where courts have seemed to accept the enforcement of non-competes with limitless geographic boundaries. These scenarios arise in areas where (1) the employee worked worldwide, (2) the employee was highly ranker or knew highly sensitive information; and (3) the scope is limited to only particular clients, products, or services.

Enforcement of Non-Competes without Geographic Limitations

Where the Employee Worked Worldwide

In Coates v. Heat Wagons, Inc.,the Court allowed for a non-compete agreement to be upheld where the Defendant operated in many areas across the United States. Here, the Plaintiff “manufactures, sells, and leases large heaters in steel mills, portable heater units, heater parts, air conditioning systems, and other related goods.” Coates, the Defendant, worked for the Defendant with primary responsibilities including “purchasing products for [the Plaintiff] to sell, aiding in the marketing and sale of those products by the Plaintiff, identifying new products to add to the Plaintiff’s sales catalog, and assisting in price adjustments and setting customer pricing discounts.”

However, Coates was involved with and hid his involvement with S&S, a competitor to the Plaintiff.  Following Coates’ termination, the Defendant discovered his involvement with the competitor and took action seeking to enforce the non-compete agreement.

Here, the Court needed to decide whether the geographic limitations were reasonable. “Coates had contacts with customers and vendors in [nineteen of the thirty-two states that the Plaintiff served] since his employment. The Court here struck “the thirteen states with which Coates had no contact and enforces the restriction as to the nineteen states with which Coates did have contact.”

“As a nearly nationwide business, [the Plaintiff] has an interest in protecting its interests in each state in which it conducts business in the heater and heater parts market. In light of Coates’s knowledge of and contact with [the Plaintiff’s] customers and vendors and his knowledge of [the Plaintiff’s] business—all acquired while Coates was an … employee”, the Court held that the enforcement of the non-compete, in the states that Coates served and the blue penciling to remove the states that Coates did not serve, was not clearly erroneous.

Where Employee Was Highly Ranked or Knew Highly Sensitive Information

In Zambelli Fireworks Mfg. Co., Inc. v. Wood, the Court allowed for a broad geographic scope due to the employee’s status as a highly ranked employee that also possessed highly sensitive information.

Wood, the Defendant, was employed by Zambelli, the Plaintiff, for seven years. During this period, Wood acquired specialized training, licensing, knowledge, and skill. The specialized training was provided by Zambelli, and Wood was also “responsible for preparing business proposals, which required access to pricing information, contract terms, and client lists.” Eventually, the relationship between Zambelli and Wood ended, and Zambelli sought to enforce its non-compete agreement, which prohibited Wood, among other things, “from engag[ing] in any manner in the pyrotechnic business within the Continental United States or taking any position of employment with any company engaged in the sale or production of pyrotechnic displays for a period of two years after leaving Zambelli”.

The Court reasoned “that legitimate business interests include trade secrets, confidential information, goodwill, unique or extraordinary skills, and specialized training that would benefit competitors” favored upholding the non-compete agreement. This reasoning resulted in the enforcement of a non-compete lasting two years throughout the Continental United States; however, it did limit the scope of the non-compete to designing or choreographing aerial pyrotechnic displays because it would have otherwise prevented prevent Wood “from engaging in his chosen profession, [and] is not necessary for the protection of Zambelli’s legitimate business interests”.

Where the Non-Compete Addresses Only Particular Clients, Products, or Services

In Salas v. Chris Christensen Sys., Inc., the Court upheld broad geographic limitations because the scope of the non-compete agreement was focused narrowly to address particular clients, products, or services that the former employee actually worked with during his employment. Here, “Christensen, a renowned manufacturer and distributor of ‘high quality dog grooming products that are used by dog show enthusiasts around the world,’ hired Salas, a pet handler and groomer, to serve as Vice-President of Sales and Education Director.”

Salas agreed not to “directly or indirectly interfere with or endeavor to entice away from the Company [Christensen] any clients or accounts with whom the Employee [Salas] had direct contact with at any time during his or her employment at Company”. He also agreed not to “induce or attempt to induce any supplier, licensee or other business relation of the Company to cease doing business with the Company”.

In this case, it is undisputed that this agreement has no specific geographic scope, which would usually lead to an unenforceable restrictive covenant. However, the Court decided that “limiting the applicability of the covenant to particular client bases is an acceptable substitute for a geographic limitation in a non-compete agreement.” Here, the noncompete agreement is limited to “entities which are or intend to be ‘engaged in providing and manufacturing pet supplies and related products manufactured and distributed by [Christensen]’”. The Court found this to be a suitable replacement to geographic limitations.

Nonenforcement of Non-Competes without Geographic Limitations

While the above case, highlight recent courts’ ability to enforce non-compete agreements where modern geographic considerations defy early case law, courts still strike down non-compete agreements that are overly broad to the point that blue penciling will not remedy the issue.

1.         Chart Indus., Inc. v. Spagnoletti, held that a non-compete agreement must be “reasonable in geographic scope and temporal duration, advances a legitimate economic interest of the party seeking enforcement, and survives a balancing of the equities…”.

The former employee worked for plaintiff for approximately 14 years in various roles.  Most recently, the Defendant held the position of Vice President of LNG Sales. This stands for “liquefied natural gas,” and is one of the fastest growing divisions of the Plaintiff’s business. The Defendant’s main responsibilities were in North America. The Defendant eventually left for a position with Taylor-Wharton International where he would focus on LNG, industrial gas, and cryoscience. From here, the Plaintiff sought to enforce its non-compete agreement.

The relevant portion of the non-compete agreement stated that he could not “for a period of one (1) year thereafter, directly or indirectly (A) act as a[n]…employee… in any business that directly or indirectly competes with the business of the Company or any of its subsidiaries.”

The Court said that it “appreciates that a national or even international covenant might be possible given the global economy, [but] the lack of any geographic restriction whatsoever must be highly scrutinized because it has the effect of entirely prohibiting an employee from earning a living in the industry in which the employee is experienced.”

2.         In Spallholtz, v. Leone, the Court held that the non-compete agreement could not be enforced because it was overly broad without geographic restriction. Here, the Plaintiff, Mary Spallholtz, was the daughter of the founder of General Gasket and Supply Company, which employed the Defendant, Richard Leone.

            Leone resigned in 2010 after six years of employment where he agreed “not to engage in any business that would impact any dealing or business transactions that would have an adverse impact on the above name company [General Gasket] for a period of five (5) years.”

The Court reasoned that the non-compete could not be enforced because “there is absolutely no geographic restriction as to where Leone could work without ostensibly violating the covenant.  Depending upon the facts of each case, it is practically possible that a national or even wider area of prohibition would be what is necessary to protect the employer’s trade secrets.”

3.         In Specialty Mktg., Inc. v. Lawrence, the court held that a non-compete agreement was unenforceable because it was so broad that it effectively protected Specialty, the Plaintiff from any competition in its market from competition anywhere. Specialty is a wholesale distributor of consumer home and automotive electronics that employed Brunson Lawrence, the Defendant, for fourteen years.

After some time with the Specialty, Lawrence became an account representative for Specialty, but after several years with this role, he was hired by The Goldberg Company, Inc., a general contractor and property manager of residential and commercial real estate. From here, Specialty sought to enforce its non-compete agreement. The relevant part of the non-compete agreement states:

“BRUNSON shall not own, manage, operate, control, be employed by, participate in, or be connected in any manner with the ownership, management, operation, or control, whether directly or indirectly, as an individual on his own account or as a partner, member, joint venturer, sole proprietor, officer, director or shareholder of a corporation, firm, association or other entity, of any business competitive with SPECIALTY in areas where SPECIALTY has a market for its business.”

The Court held that this is the exact type of language that courts should deem overly broad and unenforceable because it is “unlimited in functional scope. The provision exceeds the amount of protection that Specialty needs to protect its legitimate interests. The way the provision was written functions to prohibit competition “in areas where SPECIALTY has a market for its business.” “Thus, Lawrence could move to Arizona, a state outside those listed in the Complaint that define the area where Specialty has a market for its business, and if Specialty were to expand its business to the state then Lawrence would be in violation of the Agreement.” This clearly exceeds the scope of what non-compete agreements were meant to protect.

Novel Issue

While courts have begun to address the issue of non-competes in the internet age, it seems to have left an important consideration un-addressed. How does a geographically restricted noncompete affect a former employee starting an online based business? How can an employee start a business that is both everywhere and nowhere while a non-compete protects just one area within the country or even the world? Today, businesses are located in multiple states, employees may work from home in South Carolina with clients all based in Chicago, and business possess a certain mobility that was unanticipated when non-compete agreements first came into place.

A specific example where this issue might arise is when an employee decides to start a business online but is subject to a non-compete with his or her employer who runs a business in a physical place. Here, the law has defined that the non-compete must be (1) necessary; (2) reasonable as to (a) time, and (b) geography; and (3) not harsh or oppressive to the employee, or otherwise contrary to public policy, but this leaves open an issue where the proposed business would technically operate everywhere while the employer maintains a business at a physical location.

Here, the employer could have a perfectly reasonable non-compete agreement that states that the employee may not compete within a five-mile radius for six months, but it may be impossible for the employee to abide by this if his business has an online presence. This issue has not yet been specifically addressed, but the prevalence of online business makes it certain that these issues will come up as internet presence continues to defy the geographic limitations that were once so clear.

George Fowler is the author of this article. He is an associate attorney and can assist with navigating noncompete issues and drafting enforceable noncompetition agreements. He can be emailed and contacted at 843-212-3188.

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