Restrictive Employment Contracts – New Ruling, Old Rules

I have reviewed many employment contracts in my career that sought to restrict the right of an employee to work elsewhere. This was in legal news because the Court of Appeals recently ruled on an injunction not entered at Angie’s List’s request against its chief rival, Home Advisors. The trial court failed to enforce the restrictive covenant against the new employees, and Home Advisors. The appellate court allowed the employees to keep their jobs with Home Advisors (because there was no clause restricting where they could work), but reversed the trial court and forbade them from violating their restrictive employment contracts. In this instance, it might be more proper to characterize these as confidentiality contracts.

The Indiana Court of Appeals recently ruled on another restrictive covenant in an employment contract, and the case established some important points. These are as follows:

  1. Business development, such as golf outings, can be restricted through such covenants. The trial court found that such can cause irreparable harm.

  2. Waiting a period of months to enforce such an agreement does not stop enforcement of the agreement, unless the employee can show harm due to the delay.

  3. The new employer’s claim that it is done soliciting employees from the old employer does not moot the request for an injunction.

The Angie’s List case illustrates how important this area of law is. Home Advisors is fighting AL for market share. It would not overstate it to say that AL’s business depends upon enforcing restrictive employment covenants.

Indiana analysis of such a covenant begins with, of all people, Greenwood hair stylists. In Robert’s Hair Designers v. Pearson, 780 N.E.2d 858 (Ind.App. 2002), the appellate court reversed the trial court’s decision not to enforce a restrictive covenant.

While the appellate court did not reproduce the covenant, so it is difficult to characterize it as well-drafted, it did have some important features.

One, it was limited in time. Just one year.

Two, it was limited in geography. An area of about one county.

Three, it was limited in terms of contacts. The stylists were forbidden from contacting current clients. In other words, they had a way of still earning a living.

Did you notice a theme from the prior three paragraphs? Limited. This follows the broad public policy of allowing persons to work as they please, while protecting an employers’ legitimate interests.

The trial court ruled, incorrectly, that because the salon could not quantify its loss from not enforcing the restrictive covenant, that it was unenforceable. The appellate court gave the legal equivalent of a backhand to the trial court, writing that if it were quantifiable there would be no grounds for equitable relief.

There are two points that matter that this court did not discuss, as there was no need to. But they are crucial to resolving most restrictive covenants.

One, the higher skilled the employee, the more restrictions a court will accept. Lilly necessarily has bullet proof restrictive covenants for its researchers to prevent one that has a billion dollar idea on Lilly’s dime hiding it and starting a new company.

Two, if a trial court does find a covenant overly restrictive, it can apply what is called the Blue Pencil Doctrine. Under this, the court can strike out overly restrictive terms. Note, however, it can only strike out terms, it cannot add any words at all. If by this striking it can end up with a reasonable covenant, then it will enforce this (new) covenant.

This doctrine led to the inclusion of Azerbaijan in a covenant I reviewed. It was part of a laundry list of literally every recognized country in the world. It listed every state, and in Indiana listed every county. While we were able to compromise the issue, the trial court could have struck out what it considered to be the overly restrictive listed areas.

Including Azerbaijan.

EXTRA CREDIT:

  1. The case referred to for the three numbered points is Hannum Wagle & Cline Engineering, Inc. v. American Consulting, Inc., 64 N.E.3d 863 (Ind.App. 2016).

  2. This case also dealt with “extension clauses,” meaning that any restricted time period did not begin until the court ordered it, if the employee was found in violation of the contract. The appellate court said rulings on these should not be determined at the preliminary injunction stage, but rather reserved for any hearing on a permanent injunction. BUT…keep in mind that all the evidence entered at the preliminary injunction phase will be considered at the order on a permanent injunction. Many times the trial court does not even hold another fact finding, unless there is new evidence.

  3. Here’s the Angie’s List case link: http://www.in.gov/judiciary/opinions/pdf/12291602jb.pdf

    Remember, it is not for publication, so it is not to be cited in any legal brief.

  4. The Greenwood hair stylists case is an unusual reversal, because the standard of proof is abuse of discretion. It requires the trial court to seriously misapply the law, or find facts that have no basis in reality. It is crucial to marshal your evidence for the preliminary injunction hearing because that is where the case will likely be decided.

  5. The overall policies the courts try to weigh are an employee’s right to earn a living (hence these contracts are disfavored) against an employer’s right to legitimately protect business interests.