Non-Competition Agreement Reform Will Have to Wait Until Next Year…Again

“Wait ‘til next year,” the unofficial slogan of fans of the Brooklyn Dodgers, is becoming equally applicable to proponents of reform to Massachusetts law concerning non-competition agreements. Massachusetts legislators have filed bills every year since 2009. Each has failed to be enacted into law. This year looked like it would be the year. The House passed a bill. The Senate did too. Both agreed that there needed to be some reform. Unfortunately for proponents of reform, they did not agree on what that reform should be.

Since 2009, the House and Senate have proposed over a dozen bills. Several sought an outright ban (a la California) on all non-competition agreements. Johanna Matloff previously discussed whether a blanket prohibition was necessary in the context of existing judicial limitations on the enforceability of non-competition agreements. This year’s proposed legislation did not seek to ban non-competition agreements (though for certain classes of employees they would have been banned). Instead, it sought certain limitations and appears to have been designed to incentivize employers to draft narrower agreements. A review of the notable provisions, including a so-called “garden leave” provision is warranted, because they likely are to recur in the next legislative session.

Some Background

Non-competition agreements are contracts through which an employee agrees not to work for a competing employer within a certain period of time after leaving a job. Once reserved for high-level employees or salespersons with access to trade secrets and institutional knowledge, these agreements have become ubiquitous. The U.S. Department of the Treasury reported in March of this year that 18 percent of all workers (nearly 30 million people) are covered by non-competition agreements.

In Massachusetts, non-competition agreements are enforceable to protect an employer’s trade secrets, confidential information, and goodwill. The agreements must be “narrowly tailored” to protect these legitimate business interests. They also must be limited in time, geographic scope, and space (the activities prohibited). Finally, a court will enforce an agreement only if the harm to the employer outweighs any harm to the former employee. Agreements are enforceable even if the employer terminates the employee. A court determining whether an agreement is enforceable may “reform” it to make it enforceable. In other words, if a court does not consider the time limitation in an agreement to be reasonable, the court can change the time period and enforce the agreement with that time period. Massachusetts law regarding non-competition agreements – in its current form – is judicially created.

This Year’s Campaign for Reform

House Speaker Robert DeLeo started the reform effort again this year during a March speech to the Greater Boston Chamber of Commerce. He supported compromise legislation that would limit non-competition agreements to one year and ban them from applying to lower-wage workers. He also said that employees should be informed clearly and before taking the job that signing an agreement is required.

The bills that followed largely tracked Speaker DeLeo’s proposed compromise. They also added a provision for “garden leave.” Garden leave, common in Europe, describes the situation when a departing employee agrees not to work for a certain period of time while remaining on the prior employer’s payroll. The House passed its comprehensive reform bill by a vote of 149-0 on June 29th. The Senate passed a revised version of the bill the House passed on July 18th. The House and the Senate had until July 31st (the end of the legislative session) to reconcile the two bills and deliver the bill to Governor Charlie Baker, who likely would have signed a bill that imposed restrictions (but did not ban) non-competition agreements. They were not successful.

The Takeaways

Both the House and the Senate passed non-competition legislation this year that would place restrictions on non-competition agreements in Massachusetts. Employers should take note of the aspects of each bill that likely will recur in the next legislative session’s reform effort. The next session does not begin until January, 2017.

Although the House and Senate did not agree on the scope of certain restrictions, the two bills contained the same provisions with the Senate taking a more restrictive approach. The Senate also added two requirements that did not appear in the House bill: (1) non-competition agreements must be reviewed every three years and (2) an employer must notify a departing employee in writing of its intent to enforce the non-competition agreement within ten days following termination of the employment relationship (this requirement does not apply in the event of employee misconduct).

Garden Leave

  • The House version required the departing employee to be paid 50% of the employee’s salary during the period of restriction, but allowed the employer and employee to negotiate “other mutually-agreed upon consideration” in lieu of the salary requirement at the time the agreement is executed without requiring any specific consideration.
  • The Senate version required the departing employee to be paid 100% of the employee’s earnings during the period of restriction, but allowed the employer and employee to negotiate “other mutually agreed upon consideration” in lieu of the earnings requirement when the employment relationship ends so long as the consideration equals or exceeds 100% of the employee’s earnings
  • Had the legislation passed, Massachusetts would have become the first state to require garden leave

Time Limitations

  • The House version limits the non-competition period to one year, but it may be extended to two years if the departing employee engages in misconduct such as breaching a fiduciary duty or unlawfully taking property
  • The Senate version limits the non-competition period to three months, but it may be extended to two years if the departing employee engages in misconduct such as breaching a fiduciary duty or unlawfully taking property

Geographic Scope

  • Both versions create a presumption that the geographic reach of a non-competition agreement is reasonable if it is limited to the geographic areas in which a departing employee provided services or had a material presence at any time during the last two years of employment

Proscribed Activities

  • Both versions create a presumption that a restriction on activities that protect a legitimate business interest is reasonable if it is limited only to the specific types of services the departing employee provided during the last two years of employment

Effect of Overly-Broad Restrictions

  • The House version retained Massachusetts law, permitting a court to “reform” an overly broad agreement
  • The Senate version would change Massachusetts law to the so-called “red pencil” approach, which would require courts to invalidate an overly broad agreement

Exempted Employees

  • The House version exempts four categories of people who cannot be bound by non-competition agreements: (1) nonexempt employees under the Fair Labor Standards Act, (2) undergraduate or graduate students engaged in short-term employment, (3) employees who have been terminated without cause or laid off, and (4) employees who are younger than 18
  • The Senate version adds two additional categories: (1) employees whose average weekly earnings are less than twice the Massachusetts average and (2) independent contractors

Execution of Agreement at Start of Employment

  • Both versions require that the agreement be provided to the employee ten days before the employee starts work or at the time of the employment offer, whichever is earlier
  • Both versions require that the agreement be signed by both the employer and employee and expressly state that the employee has the right to consult with counsel prior to signing

Execution of Agreement after Employment Started

  • Both versions require the agreement to be supported by “fair and reasonable” consideration that is independent from continued employment
  • Both versions require notice of the agreement to be provided to the employee at least ten business days before it becomes effective
  • Both versions require that the agreement be signed by both the employer and employee and expressly state that the employee has the right to consult with counsel prior to signing

It is now clear that there is broad legislative consensus in favor of sweeping reforms to Massachusetts non-competition agreements. After legislators came so close to reaching final agreement this year, employers should expect the House and Senate to take up their respective efforts again in the new legislative session beginning January, 2017. There are, of course, no guarantees in politics, but at this point, it would be surprising if reform legislation did not pass in the next session.

Judging from the areas of agreement between the House and Senate, we can expect future reform legislation to include:

  • A requirement that a non-competition agreement be provided to the employee some period of time – i.e. ten days – before employment begins, or supported by “fair and reasonable” consideration if signed after employment begins.
  • Some form of “garden leave” – employers will have to pay departed employees not to compete against them.
  • Exemptions for certain categories of employees, particularly those who are paid hourly (FLSA nonexempt) and those who have been terminated by the employer.

Employers should be aware that non-competition agreements are still legal and enforceable, but major changes are likely coming in 2017 or 2018. While neither the House nor Senate version passed this year applied retroactively, other unpassed versions of reform bills did seek to invalidate or restrict agreements signed prior to legislative enactment. Conn Kavanaugh will monitor the progress of non-competition reform in the 2017-2018 legislative session.

ANDREW DENNINGTON

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ALEXIS P. THERIAULT

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