NJ Business Law Blog

When Are Non-Solicitation Covenants in an Employment Agreement Enforceable?

A recent case offers guidance to New York employers concerning their ability to restrict former employees from attempting to take away the employer’s customers. 

In that case, a former employee of USI Insurance Services, LLC (“USI”) signed an employment agreement that included a provision restricting the employee’s ability to solicit the business of former clients for 24 months following the termination of the agreement.  USI Insurance Services LLC v. Miner, No. 10 Civ. 8162, 2011 WL 2848139 (S.D.N.Y. July 7, 2011). Yet just days after the the employee, Jeffrey Miner, left the company and triggered the termination of the employment agreement, he mass e-mailed USI’s current customers in an attempt to solicit business.  In this case, the U.S. Federal District Court for the Southern District of New York Court concluded that Miner’s actions constituted solicitation as a matter of law and granted partial summary judgment to USI on this issue. Id. at 13. Miner’s mass e-mail to USI’s current customers was a clear attempt to solicit business in violation of the employer’s contractual rights. Therefore, it was prohibited conduct.

In New York, non-solicitation covenants – also known as restrictive covenants – are provisions in an agreement that restrict others from actively engaging in certain business development activities (i.e. soliciting an employer’s customers). A non-solicitation covenant may restrict a former employee from contacting his employer’s customers by way of mailings, e-mails, personal calls or through other means that would constitute solicitation.  Id. at 11. According to the Court, non-solicitation covenants are enforceable if they are:

a)      necessary to prevent disclosure of trade secrets or confidential information, or

b)      where an employee’s services are unique or extraordinary.

Id.

Additionally, the covenants cannot impose undue hardship on the employee or be injurious to the public. Id. at 14 [quoting IBM Corp. v. Visentin, No. 11 Civ. 399, 2011 WL 672025, 8 (S.D.N.Y. Feb. 16, 2011)]. 

However, a non-solicitation covenant alone may not be enough to restrict a former employee from taking customers. In an unrelated case, the New York Court of Appeals noted that “‘absent an express or restrictive covenant not to compete,’ advertising to the general public . . . [would] not be considered solicitation, so long as such advertisements are not specifically aimed at the seller’s former clients.” Id. at 12 [quoting Bessemer Trust Co. v. Branin, 2011 WL 1583932, 5 (N.Y. Ct. of Appeals Apr. 28, 2011]. Accordingly, a former employee can continue to compete in the same industry.  Id.  Also, a customer can contact his former employee for the purposes of obtaining factual information and such interaction would also be permissible “so long as the response .  .  . [does] not go beyond the specific information sought.”  Id.

This is a significant decision for companies that are including non-solicitation covenants in their employment agreements. The Court’s decision gives an indication of what type of covenant would be reasonable to be enforced. 

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Be Careful Not to Undermine the Choice Of Law Provisions In Your Contracts.

One of the few ways to undermine the choice of law provision in your contract is to cite the wrong state’s law when you are trying to enforce it. That can be construed as a waiver of the choice of law.

A good example of this was a recent decision by the United States District Court for the Eastern District of California. The Court held that the parties, by their conduct, waived the New York law provision of the arbitration agreement by citing California law in their motion papers. This case involved an action for declaratory and injunctive relief by a California corporation against a Workers Compensation insurance provider.  Ellison Framing, Inc. v. Zurich American Insurance Company, 2011 WL 1322387 (E.D. Cal.). 

The plaintiff, Ellison Framing, Inc., (“Ellison”) was a California corporation with its operations located entirely within California. Id. at 1.  Ellison purchased and renewed its Workers Compensation Insurance from the defendant, Zurich American Insurance Company (“Zurich”). Id. On November 15, 2010, Ellison filed a complaint with the California Department of Insurance claiming that Zurich had overcharged it with improper fees. Id. Zurich responded by making a demand for arbitration with the American Arbitration Association based on the arbitration clause of the parties deductible agreements. Id.

Based on the arbitration agreement and the venue provision contained within the agreement, the American Arbitration Association (AAA) determined that the arbitration would be conducted in Schaumburg, Illinois. Id. Ellison responded by filing an action in the Superior Court of California, “seeking declaratory and injunctive relief on the grounds that the venue provision of the arbitration agreement is unconscionable.” Id. Zurich moved this action to the United States District Court for the Eastern District of California based on diversity jurisdiction. Id.

The Court granted Zurich’s motion to compel arbitration because Ellison’s claim, that Zurich fraudulently overcharged by using improper fees fell within the scope of arbitration agreement. Id. at 5. But, the Court held that in spite of a choice of law provision in the agreement providing New York law as the governing law for all disputes, the parties, by their conduct, had waived the New York law provision by citing only to California law in their motion papers. Id.

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© 2011 Nissenbaum Law Group, LLC

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Are you Pro Choice (of Law) in Your Contracts?

One of the most common mistakes business people make when reading a contract is to overlook the Choice of Law clause. While this may sound like a mere technicality, in fact, it is critical to the contract’s enforcement.

A Choice of Law contract clause states that the agreement will be enforced under the law of a particular state. That is especially important when the state in which the contract was entered into is not readily apparent. For example, what if someone in Pennsylvania signs an employment contract with a company based in California. And what if that person will work out of a satellite office in New York? It is not clear which state’s law would apply. That is a major problem if, for example, the restrictive covenant in that contract is enforced to bar the employee from working in the industry for a certain period of time. The law of California is radically different than the law of New York or Pennsylvania in this regard. California is notoriously hostile toward restrictive covenants.

Interestingly, the Choice of Law Clause is generally binding regardless of the state in which the Court hearing the dispute is sitting. So, in our example, the contract might say that New York law applies, yet the suit might be instituted in Pennsylvania since that is where the former employee resides and has assets subject to collection in the event a judgment is entered. In such a case, the Pennsylvania court would enforce New York law.

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© 2011 Nissenbaum Law Group, LLC

Please visit our website at www.gdnlaw.com and our other blogs at www.nissenbaumlawblog.com; www.foreclosuredefenselawblog.com; www.saleofbusinesslawblog.com; www.internetdefamationlawblog.com; www.constructionlawinfoblog.com; www.filmproductionlawblog.com; www.nonprofitlawinfoblog.com; www.franchiselawinfoblog.com; www.internetlawinfoblog.com; and www.njbusinesslawblog.com

U.S. Third Circuit Court of Appeals Holds Exculpatory Clause Enforceable

Commercial Contracts: A fundamental principle of contract law is the public policy of freedom of contract: the idea that individuals should be permitted to bargain freely amongst themselves. Under this legal doctrine, courts will generally uphold the majority of contract provisions, including those which would limit or completely eliminate liability for one party. Such liability-limiting provisions are referred to as exculpatory clauses. In a recent decision, Wartsila NSD North America, Inc. v. Hill International, Inc., the United States Court of Appeals for the Third Circuit gave credence to these deep-rooted principles of contract law.

In Wartsila, the parties had entered into a written consulting agreement whereby the defendant would provide consulting services for the plaintiff in connection with the construction of a power plant. The agreement also contained an exculpatory clause (a clause that disclaims liability in advance), which stated that the defendant would not be liable to the plaintiff for any lost, delayed or diminished profits, revenues or opportunities or any other incidental, special, indirect or consequential damages resulting from the defendant’s performance or failure to perform the services under the agreement.

When the project was not completed on time and a senior consultant on the project was found to have overstated his credentials, the plaintiff sued defendant to recoup the losses it sustained as a result. However, the Court found the broad exculpatory clause to be valid and enforceable, reasoning that the public policy of freedom of contract would be best served by enforcing the terms of the parties’ agreement, including that clause.

In reaching its holding, the Court also noted that none of the defenses under which the exculpatory clause should be disregarded were applicable. Specifically, the Court found that (a) the defendant had not committed fraud; (b) there was no evidence of undue influence or unequal bargaining power; (c) the “public interest” exception did not apply; and (d) the clause did not deprive the plaintiff of the entire benefit of the contract. As none of these justifications would apply, the exculpatory clause was held to be valid and enforceable.

This case highlights the importance of careful review in drafting and executing agreements. Exculpatory clauses can be valuable tools for limiting one party’s liability, but they can also severely impair the other party’s ability to recoup its losses. This case also articulates potential arguments for overcoming the limits of an exculpatory clause. Therefore, even if a contract includes such a clause and a dispute arises, the underlying facts should be carefully examined before concluding that recovery may be foreclosed.

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© 2008 Nissenbaum Law Group, LLC

Please visit our website at www.gdnlaw.com and our other blogs at www.nissenbaumlawblog.com; www.foreclosuredefenselawblog.com; www.saleofbusinesslawblog.com; www.internetdefamationlawblog.com; www.constructionlawinfoblog.com; www.filmproductionlawblog.com; www.internetlawinfoblog.com; and www.njbusinesslawblog.com