News & Insights
Mar 27, 2020
Is now a time to think a bit differently about an old topic? Let’s see. This short article does not make that decision for your business or client. It does provide the reasons to consider it.
Until the aftermath of COVID-19 passes through the American workforce, businesses experiencing coronavirus-related economic hardships will face difficult decisions. These include whether to furlough or layoff employees—an already challenging question. Given the current evolving state of the economy and job market, mindful businesses will want to consider the effect of terminating employees who are subject to non-compete agreements. Will COVID-19 change the way courts approach their enforcement? We think it could, and here’s why.
Oversimplifying a bit, but synthesizing accurately, a court examining a non-compete agreement faces two questions. First, the court must decide whether the non-compete agreement is enforceable. Second, if it is, the court will determine if the non-compete agreement should be enforced after balancing the prevailing equities between the presenting employer and employee. As to the first question, again generally speaking, a non-compete agreement is enforceable if it is (i) supported by adequate consideration, (ii) reasonably needed to protect an employer’s legitimate business interests, and (iii) reasonably tailored in time, place, and scope of conduct to accomplish the business protection purpose.
But how a court typically decides if it should “enforce” an “enforceable” non-compete agreement adds a different and additional analysis. It starts almost exclusively by addressing an employer’s temporary restraining order or injunction motion seeking to require the employee to honor her or his contractual promises.
In Tennessee, similar to many states, courts have historically used a four-factor test to determine if early injunctive relief should be granted to an employer seeking to enforce a non-compete agreement:
(1) the threat of irreparable harm to the employer if the injunction is not granted;
(2) the probability that the employer will succeed at trial on the merits of its underlying claim that the non-compete was breached;
(3) the balance between the harm to the employer if injunction relief is denied and the injury that granting the injunction would inflict on the employee; and
(4) the public interest.
These factors are balanced against one another on a case-by-case basis. Factors (3) and (4) are impacted right now by the current pandemic, and may cause downstream changes in judicial analysis that could cause unsuspecting employers problems. Here’s how.
Picture this scenario: a business (let’s creatively call it the “Company”) is faced with COVID-19-related economic stressors. It makes the undesirable decision to lay off some of its employees—some of which have signed non-compete agreements. The economic stressors impacting the Company, however, are not unique to it. Many other businesses are making similar staffing decisions. As a result, it is ever more difficult for the Company’s former employees, including those subject to non-compete agreements, to find replacement jobs. Not many businesses are hiring.
Now imagine that one of the Company’s former employees fortuitously does find a new job working for one of the Company’s competitors. Knowing that it has a reasonable non-compete agreement—at least according to a traditional court analysis and even state law specific precedent—supported by adequate consideration (see above), the Company files a lawsuit seeking an injunction preventing its former employee from working for its competitor. Despite the fact that its non-compete agreement is enforceable, the Company is surprised when the court denies its request for injunctive relief. “Why?”, it asks, did this happen now when it would not have before? Why did the court decide it should not be enforced if it would have been mere months or even weeks before?
The Company discovers that the current state of the economy and job market have, in the court’s opinion, tipped the balancing of harms test in favor of its former employee (factor (3)). Remember this analysis is done on limited proof at a preliminary stage. Courts often, and legitimately, temper justice with mercy. Specifically, the court determined that the potential harm to the Company was outweighed by the harm to its former employee if she or he were to be placed back into the impoverished job market. This “weighing” is subjective. It is fact specific. Down economies make it harder to find comparable work. Judges are people with sensitivities. Their lives, and the lives of those they see in their courtrooms, have been dramatically altered too through this pandemic. Working for the Company’s competitor may be the former employee’s only presently available option. Not permitting it is pretty darn hard on the employee in circumstances not heretofore faced.
The Company realizes that the court also found that it would now be against public policy (factor (4)) to allow the Company to terminate its former employee, thereby removing his ability to earn a living during a difficult economic time, only to thereafter prevent him from earning a living with another business when the Company could no longer provide him that opportunity. The court has opined to the Company, “if he were truly of such value to the Company that it needed to restrict him from working elsewhere, the Company should not have terminated him, without cause, when times were tough on it.”
Is this possible scenario actually real? We think so. When courts are faced with decisions based upon subjective factors, little justification for a decision is required. Sympathies exist. How hard is it to envision a judge—facing in her or his own family some of the same hardships foisted on the employee in our pandemic-caused example—quickly finding folly in a “traditional” pre-pandemic relative “hardship” analysis? Who is better to weather the storm in unprecedented times: an employer still in business or an employee put out of it?
A lesson presented to the Company in the foregoing example, or yours, is that any employer considering layoffs or furloughs of its employees should consider now the impact later of that decision on any existing non-compete agreements. An employer should apprise itself of the agreements it currently has in place with its employees and include the same as discussion points when strategizing about how best to survive the COVID-19 challenges we are all facing. We have seen how it has changed our ways of doing business in just 30 days. How will it change other ways over the next several years?
As to one of those ways, enforcement of non-compete agreements going forward, employers will almost certainly face novel challenges. The factors determining “hardship” and “public policy” findings are fluid, and COVID-19 will continue to mold them. If your business’s employment decision is influenced by the presumed or expected enforcement of a non-compete agreement, the carpenter’s adage of “measure twice before cutting once” makes a lot of sense.
Another important point to consider: what binding precedential effect does an adverse ruling on one non-compete agreement during this pandemic have on the enforceability of a business’s other ones after the smoke has cleared? Going back to our example, assume the Company has a forum selection clause in all of its non-compete agreements. Also assume that the judge who denied the Company’s request for an injunction presides over that selected forum. As a result of its forum selection clause, the Company must attempt to enforce its other non-compete agreements in front of the same judge who has already found a similar—if not identical—non-compete unenforceable. Sure, times may later have changed . . . but will the judge change her perspective from a previous view? If she does not, the Company may have unintentionally gutted its non-competes through the attempted enforcement of one during a time of unprecedented unpredictability.
Which brings us to our final overarching thought. While businesses may be reducing their workforces now, we all know that one day they will grow them again. An employer should be prepared to face scrutiny from future employees with respect to non-compete agreements if it is known that the employer is going to enforce them—even when the employees find themselves jobless, without fault, during an international crisis. Will quality candidates seek out work from perceived “ruthless” employers. Time will tell. We do not know when this crisis will end, but it will. Consider how you want your employees—past, current, and future—to look at your business when we reach the light at the end of the tunnel.
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