Macchia: Are noncompetes standing on shaky ground?

By Melissa A. Macchia

Over the last 18 months we have seen drastic changes in this country’s employment laws as a result of the pandemic, including new and updated laws and regulations related to sick leave, unemployment compensation and employee safety requirements. One change that has been mostly overshadowed by the ever-evolving nature of the pandemic, and its impact on the employment area, is a shift in the use and the enforceability of noncompetition agreements.

Traditionally, employers have long used noncompete agreements, and other related restrictive covenants, to protect their customer bases and proprietary information and to limit the ability of their employees to take confidential information and set up a competitive business across the street. Indiana courts have been largely tolerant of noncompete agreements, especially when compared to their counterparts in California, for example, and have allowed employers to enforce noncompetition agreements that are reasonable. What is reasonable? In the most basic sense, the question is whether the noncompetition agreement is reasonably necessary to protect a company’s legitimate (and protectable) business interests. Practically speaking, however, reasonable noncompetes vary substantially and are based on a fact-sensitive inquiry that looks at a particular company’s business and the specific employee’s position within the company, including the employee’s access to confidential and competitive information. Reasonable noncompetes will vary in both geographic and temporal scope and also typically prevent employees from performing similar tasks for a competitor. There are also special rules in Indiana and many other states depending on the nature of the work and/or certain circumstances, for example, for physicians and in a sale of business context. On the other hand, however, noncompetes will start to cross the line when they hinder employees from finding other gainful employment and go beyond what is actually reasonably necessary to protect an employer’s business activities and information. For example, an employer whose business is confined to the state of Indiana will have a very hard time restricting an employee from competing in North Carolina or across the United States.

These rules and guidelines of reasonableness have been relatively constant in Indiana over the past few years and are shaped little by little with each Indiana Court of Appeals and Supreme Court decision that addresses the issue. While we have long picked on California as the ultimate example of a state that bans the use of noncompete agreements in most situations, other states are beginning to shift from being tolerant of reasonable noncompete agreements to either evaluating them with the strictest scrutiny or taking a hardline rule against noncompetes altogether, especially with respect to low-wage workers. By way of example, in June 2019, Maine passed a law that prohibits all noncompete agreements between an employer and employee when the employee’s wages fall at or below 300% of the federal poverty line. Maryland adopted a similar law in 2019 that voids any noncompete agreement between an employer and an employee who earns less than or equal to $15 per hour or $31,200 per year. Washington’s law became effective Jan. 1, 2020, and precludes noncompete agreements for employees who earn below $100,000 per year. Virginia passed a law in April 2020, just weeks after our country started feeling the strong impacts of the impending pandemic, that also bans noncompete agreements with low-wage workers.

This change has not stopped as more and more states have attempted to follow suit — and some have managed to do so without much attention beneath the shadow of the seemingly never-ending pandemic. As of today, there have been over 65 bills introduced this year alone in at least 25 states that would restrict an employer’s use of noncompete agreements. Some of those bills have died, but many are still pending, and some have been passed. Earlier this year, the District of Columbia joined California and a handful of other states by imposing a blanket ban on the use of most noncompete agreements. In May, the Illinois Legislature passed an amendment to its noncompete law that will restrict the use of noncompete agreements to employees who earn at least $75,000 annually, requires certain adequate consideration for the noncompete and requires 14 days’ notice for an employee to review and consider the agreement. Nevada passed a law that becomes effective in a couple of months, which bans noncompete agreements with employees paid solely on an hourly wage basis.

Currently, the enforceability and rules related to noncompete restrictions are not governed by federal law, and employers have been left to navigate a sea of state-based restrictions that can at times be quite cumbersome for employers with a large geographic footprint. The tide changed in July, however, when the Biden administration reintroduced a push for federal reform of noncompete law by issuing an executive order that directs the Federal Trade Commission to “curtail the unfair use of non-compete clauses and other clauses or agreements that may unfairly limit worker mobility.”

So what does this mean? The short answer is, we simply don’t know yet. This is not the first time federal regulation of noncompete agreements has been a topic of discussion — most recently, we saw these discussions start and stop again during President Obama’s presidency, with a call to action directed at the state level (which seems to have triggered much of the state-based changes discussed above). Similar to those efforts by the Obama administration, the new executive order does not change the law on noncompetes. Rather, it simply encourages action on a federal level (rather than state), and so, at this point, we are not faced with any new laws or regulations to follow.

While enforceable noncompete agreements will remain a useful tool in curtailing the unauthorized use of confidential information and limiting the ability of employees to cause significant damage to their former employers’ businesses by restricting competition, the landscape of what is permissible continues to change and will continue to change. A more uniform, federal approach to noncompete law could take much of the guesswork out of what is permissible and would limit the need to conduct a survey of applicable state laws on a regular basis. On the other hand, employers may be faced with a more restrictive federal law than the state law(s) that applies to them. And even if we do not see change at the federal level, we will likely continue to see additional change by more and more states. Either way, employers have no choice but to stay up to date and be aware of these changes on the federal level and in each and every state in which business is conducted and/or employees reside. Another wrinkle in this issue is that some states will use the law of the state where the employee resides (rather than where the business physically operates and regardless of any choice-of-law provision in the agreement).

Staying armed with this knowledge will help ensure that employers are using noncompete agreements, as well as other restrictive covenants, in a permissible fashion and, therefore, gives employers the best chance at protecting their business activities and their valuable information and relationships. It will also help employers avoid the headache and significant financial burden involved with attempting to enforce a noncompete that is now unintentionally unenforceable as a result of a new law that did not rise above everything else this country is now facing.•

• Melissa A. Macchia is a partner in Taft’s employment practice group. Reach her at [email protected]. Opinions expressed are those of the author.