How to protect your business from unfair competition by former employees

We recently wrote about how the tight job market is making it hard for you to find employees. One side effect is that even if you can find the workers you need, they may feel they can easily leave and get another job. In the current fluid environment, many of you are understandably concerned about protecting your organization from unfair competition. Here are some methods that can help.

Covenants not to compete

The most obvious step is to have employees sign a covenant not to compete. Certainly, Arkansas made the tool much more employer-friendly when it passed Ark. Code Ann. sec. 4-75-101 in 2015.

Legal standard for enforceability

Under the statute, an enforceable noncompete requires the employer to have a protectable business interest and the agreement to be limited in time and scope in a manner that isn’t greater than necessary to defend the interest. The covenant’s reasonableness is determined after considering:

• The nature of your protectable business interest;
• The geographic scope of the business and whether a geographic limitation is feasible under the circumstances;
• Whether the restriction placed on the employee is limited to a specific group of customers or others associated with your business; and
• The nature of the business.

Reformation now available

Before the statute passed, Arkansas courts wouldn’t modify or reform a noncompete to conform with the required legal standard. For example, if a court determined a 100-mile geographic restriction wasn’t reasonable, it wouldn’t simply cut the limit to a distance of, say, 25 miles, which was reasonable. Some companies revised their agreements multiple times, each one resulting in a new lawsuit, before finally drafting one that was enforceable. It was an all-or-nothing situation. Either the agreement was effective in every respect, or it wasn’t enforceable at all.

After the Act passed, however, courts gained the power to modify or reform a noncompete on terms that are enforceable. Therefore, you can avoid the repetitive-lawsuit issue and protect your legitimate interests without being frustrated by a technicality.

A recent Arkansas Court of Appeals case illustrates the change. A gutter and insulation company headquartered in Little Rock had executed a noncompete with a sales production manager. Upon separating from the company, he was restricted from competing with the employer within 100 miles of his work location in Northwest Arkansas. When he left and started a competing business in the same area, the employer sued and moved to enforce the covenant.

The court found the 100-mile restriction was excessive. Instead of dismissing the case, however, it carved out more reasonable terms to protect the company’s legitimate interests.

The court found the company had established a protectable interest in its customer lists and information and entered an injunction scaled to guard it. The court eliminated any geographic restriction, instead prohibiting the former employee from contacting the company’s customers, potential customers, or any customers who had any contact with him during his employment, and limited the restriction to the Northwest Arkansas area.

Not a license to overreach

Under the Act, employers may think they can now draft the most overbroad, oppressive restrictions to maximize the in terrorem (or intimidating) effect on employees and discourage them from any thought of competition in the belief a court will correct any drafting deficiency and still impose limits. Remember, however, your first goal is to get the court to want to rule in your favor.

The best approach is to draft an agreement that’s reasonable in protecting your interests but doesn’t restrict former employees from being able to work. You should focus on what makes it unfair for them to compete and then address those elements.

A recent case illustrates the principle. A corrugated packaging company hired an office manager and executed a noncompete agreement. Later, the company began to explore purchasing a high-speed digital printer so it could print lithograph-quality images directly onto corrugated board. The technology was much cheaper than previous printing processes and would eliminate the need for printed labels.

The office manager told his uncle about the technology, and they proceeded to start a new company providing only printing services to corrugated box manufacturers and having no dealings with his employer’s customers. The employer fired the manager and sued to enforce a statewide restriction on his printing efforts.

The court rejected the company’s arguments. On the one hand, the court found the manager breached his fiduciary duty to the employer when he started the printing business using information he gained from the company while still employed. On the other hand, it wouldn’t enforce the noncompete.

A noncompete may be enforced only if the employee can use the information to gain an unfair competitive advantage. The court noted, however, numerous other workers had access to the same details as the manager, but no one else was required to sign a noncompete. They could have done exactly what the manager did, and the company would have had no protection. Therefore, the employer wasn’t acting to protect itself from unfair competition generally but only with respect to one person.

Moreover, the details about the digital printer weren’t company proprietary information but were generally available to anyone. And the company never actually purchased a digital printer. As a result, the court found the employer had no protectable interest in the information used by the manager.

In addition, the noncompete restricted the manager from working for companies engaged in “the manufacture, purchase, and/or sale of corrugated boxes and related packaging materials.” But his new company was engaged only in the printing and not the other, forbidden processes. For the above reasons, the court ruled the covenant wasn’t enforceable. It was clear the court felt the company had been overreaching and was most unsympathetic.

Confidentiality agreements

Another tool to protect your organization from unfair competition is having a confidentiality agreement in place. Your policy needs to apply generally to all employees having access to the information you’re seeking to protect. You must treat the materials in question as confidential, which means taking steps to protect their distribution:

• Ask everyone with access to sign a confidentiality agreement; and
• Keep the information physically secure by storing it in limited-access locked areas or, for electronic materials, by restricting access through password protection or even encryption.

If the steps are taken, a confidentiality agreement can be more broadly worded than a trade secret, which is protected by statute. Information that isn’t a trade secret can still be considered confidential if it’s treated as confidential.

Customer lists, customer-specific information, and pricing/marketing strategies are areas of particular focus. And a confidentiality provision can be as effective as a covenant not to compete. By way of example, we represented a security broker who didn’t have a noncompete but had signed an agreement protecting the confidentiality of its customers and their information. When he left to go to another brokerage, he was successfully barred from contacting the former clients he served.

Information about who has the resources to have an investment account and their specific needs isn’t generally available to the public and couldn’t have been obtained through publicly available means. The client wasn’t barred from being a stockbroker, but he wasn’t permitted to contact the clients he served at his previous brokerage firm.

Nonsolicitation agreements

One type of nonsolicitation agreement restricts a former employee from directly or indirectly recruiting ex-coworkers. Another places limits on the solicitation of your customers, although it’s really just a variation on a covenant not to compete.

In some cases, you may wish to restrict the solicitation of the suppliers of critical materials, especially if they are of limited availability.

Policies on company-provided equipment, services

You should have a policy in place informing employees they should have no expectation of privacy with respect to any company-provided equipment or services.

Be careful to respect clearly personal information such as family and medical communications, but employees should understand their communications on company-supplied computers, tablets, e-mail accounts, or cell phones are subject to review and inspection at any time. Such a policy and actual periodic review often disclose those seeking to send company information to outside parties improperly or identify discussions about plans to use sensitive company data.

Bottom line for employers

In this age of “You, Inc.,” where workers are encouraged to focus on themselves and develop their skills and personal marketability, you should be sensitive to the possibility that their mindset could put your company’s confidential information at risk. It could expose your business to unfair competition from former employees to the benefit of your competitors.

There are steps you can take to guard against unfair competition. In doing so, however, avoid overreaching to the point of trying to restrain ordinary competition. It bears remembering the adage, “Pigs get fed, but hogs get slaughtered.”

Steve Jones is an attorney with Jack Nelson Jones, P.A., in Little Rock, Arkansas, where he focuses his practice on labor and employment law and business litigation. He has served as Managing Partner and is presently Secretary and Vice-President for the firm. You can reach him at sjones@jacknelsonjones.com.