Successful Hires in a World of Restrictive Covenants Five Things Every Company Should Do

By Paul Greco

Jul. 2, 2009

People change jobs every day, and that is a good thing. Individuals seek out new employment opportunities that match their talents, skills and aspirations, while companies welcome new employees who often come with the experience necessary to thrive. Thus, lateral hires—the movement of employees among employers in the same industry—are common and beneficial to those involved.

Nevertheless, the benefits of a lateral hire, like most things in life, do not come without risks. Often the individual who wants to change jobs is bound by restrictive covenants that can materially limit what he or she can do next. Moreover, every employee who looks for a new position owes the current employer a variety of duties that have to be respected. Both circumstances present potential traps for the new employer.

Fortunately, new employers can take steps to protect themselves. Here are five things that new employers should do when considering a lateral hire:

Collect restrictive covenants
One part of every employer’s hiring process should be collecting any restrictive covenants to which job applicants are subject. Restrictive covenants can take many forms, but three types of covenants are prevalent.

First, there are noncompetition covenants. These covenants typically prohibit an individual from engaging in competitive activities with the former employer for a period of time. Usually, the restrictions are limited to certain activities that occur within a defined geography.

Next, there are nonsolicitation covenants. These covenants usually provide that the employee may not solicit certain kinds of business opportunities (such as business accounts or former customers) for some length of time.

Finally, there are nondisclosure covenants. These agreements generally prohibit an employee from ever using or disclosing the confidential information and trade secrets of the former employer.

Each of these covenants can materially affect whether and how a lateral candidate can be employed by a subsequent employer. Thus, in the hiring process, the new employer should ask the lateral candidate to provide all employment agreements containing restrictive covenants, and it is a good practice to have the candidate acknowledge in writing that he or she has done so.

Evaluate the covenant situation
The purpose of collecting restrictive covenants is to enable the new employer to evaluate them and make a judgment about whether it can employ the lateral candidate in a way that will not violate any enforceable obligations. The evaluation should be done by legal counsel and generally requires several factors to be considered.

At the outset, it should be noted that state law plays a critical role here. Restrictive covenant laws can vary from state to state. For example, New Jersey recognizes the mere continuation of employment as sufficient consideration to make a restrictive covenant enforceable against an employee who was not asked to sign a covenant until after commencing employment. In Pennsylvania, that same covenant would be invalid and unenforceable for lack of consideration. Thus, the answer to whether any particular covenant is enforceable is heavily dependent upon the state law that governs.

While the prerequisites for validity can vary from state to state, restrictive covenants tend to be enforceable where they are supported by consideration; when they are necessary to protect a legitimate interest of the former employer; and when they are reasonable in duration, geographic reach and substantive scope. In the hiring process, the goal is to evaluate whether the restrictive covenant in issue is unenforceable, in whole or in part, in light of these prerequisites.

A covenant is supported by consideration when the former employer gave the employee something of value in exchange for committing to the restraint. As noted, what constitutes valid consideration is a state law issue that varies by jurisdiction.

The legitimate interests that an employer can protect through covenants are also dependent on state law. Many states recognize that employers have interests in protecting good will, confidential information and investments in training. In these states, restrictive covenants are evaluated to determine if the restraints serve to protect one of these interests, and many states will enforce a restrictive covenant only to the extent that the restraint is necessary to provide such protection. This is a very fact-sensitive inquiry.

Likewise, restrictive covenants should be evaluated for reasonableness. This part of the inquiry examines the burdens of the restraint on the departing employee and whether those burdens are reasonable in light of the former employer’s protectable interests.

Once again, evaluating covenants for reasonableness depends on the facts and on state law. For example, a covenant that prohibits working for a competitor anywhere in the U.S. might be entirely reasonable for the CEO of a national manufacturer, but that same restraint is probably overly restrictive for a medical device salesman with a territory limited to Pittsburgh.

Legal counsel can help hiring employers sort out the state law and fact issues presented, thus enabling the new employer to understand whether and to what extent the restrictive covenants are enforceable. That understanding is then used for the next step in the process: structuring the new job.

Structure the new employment relationship
After the covenants are evaluated, it may be the case that the new employer concludes that they are completely unenforceable for some reason, and therefore, that the new employer can utilize the lateral candidate in any manner that it sees fit. More often, however, the review will indicate that the covenants are valid at least to some extent, requiring the new employer to make decisions about how to structure the hire to comply with the enforceable obligations.

For example, consider a lateral sales representative candidate who has only one covenant: a noncompetition clause that provides that, for one year after terminating employment, the individual may not work as a competitive salesman in his former territory. Most states would enforce such a covenant, but it is still possible for the new employer to hire this candidate. The simple solution is to assign the candidate to a new territory initially and to instruct him to refrain from engaging in sales activities in his old territory during the restricted period.

This example presents a fairly simple situation, but the point is simple, too. Hiring companies should use the evaluation process as a guide for structuring the new hire to comply with the enforceable aspects of the restraints presented.

Instruct the lateral candidate on the resignation
Once a lateral candidate accepts a job offer, the new company should give the individual a few instructions that will protect both of them from potential liability to the old employer. Here are the key points to make:

  • Return everything and do not take anything. Candidates should be told to return everything that belongs to the former employer and not to take anything. This should include the return of company laptops, cell phones, PDAs and documents. Moreover, it is common today for employees to do some work at home. Files maintained at home should be collected and returned, too, just as if they had been kept at the former employer’s office. Electronic files that were maintained on personal computers should be copied to a single disk that is delivered to the former employer on the day of resignation and then deleted from the personal device. Lastly, it is a good practice for the hiring company to have the candidate confirm in writing that these steps were taken.

  • Respect the duty of loyalty. Whether or not they have restrictive covenants, employees owe their current employers a duty of loyalty, and they should be instructed to respect that duty until the day that they resign. As a practical matter, this means instructing lateral candidates to use their best efforts for the benefit of their current employer until resignation and to refrain from any activities that would divert resources or opportunities belonging to the current employer for the benefit of anyone else.
  • Tell the truth and do not disparage. When resigning, a departing employee should be careful not to disparage the current employer with colleagues or clients. In addition, the departing employee should be truthful if asked about the new position that he or she is taking. These precautions often reduce the tension presented when someone takes a job with a competitor and help avoid the need to explain anything unseemly if litigation does ensue.

Reach out to the former employer if it’s a particularly sensitive hire
Finally, new employers should consider reaching out to the former employer after the hire has been made. Taking this step is not always necessary, but for some sensitive hires, it may be worthwhile. When a new employer knows that the hire will cause concern, it should consider communicating with the former employer to advise how the company intends to structure the new employment relationship to respect the enforceable aspects of the lateral candidate’s covenants. Taking this step might defuse a volatile situation and facilitate a negotiated resolution of concerns rather than a litigated one.

In closing, while lateral hires present some risks, new employers can take steps to minimize them. The five steps outlined here go a long way toward accomplishing that goal and are useful additions to every company’s hiring practices.

The information contained in this article is intended to provide useful information on the topic covered, but should not be construed as legal advice or a legal opinion. Also remember that state laws may differ from the federal law.

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