Restrictive Covenants and Blue Pencils: A Shifting Landscape

Many employment contracts contain restrictive covenants designed to govern what a person may – or, most often, may not – do after they leave a company. Traditionally these non-compete restrictions were used mostly with senior executives, sales people who possessed account lists, and key individuals with access to confidential trade secrets and proprietary designs or processes.

But as companies widen the use of these restriction-laden employment agreements to include middle managers and even office or manufacturing staff who possess no truly confidential information, courts in various jurisdictions have wither modified such clauses or thrown them out entirely. In some states with limitations on restrictive covenants, judges have “blue pencilled” the portions of a contract that are deemed too restrictive with no legitimate business purpose, while allowing the rest of the clause to remain in force. Many other states, however, do not allow judges to modify the agreement and if a provision is too broad, the entire clause will be found to be unenforceable.

For example, in a “blue pencil” jurisdiction a clause prohibiting a middle manager from working in the same or a similar industry for four years might be “blue pencilled” by a judge as being unnecessarily restrictive while permitting a prohibition from working for a direct competitor for two years to remain in force. A state that prohibits blue penciling, such as Virginia, would simply find the clause unenforceable.

Wide Variances

How a court handles challenges to restrictive covenants varies widely from state to state. California bans non-compete clauses almost entirely. In fact, California’s law is so sweeping it prohibits an employer from naming some other state as the applicable law to get around the Golden State’s prohibition. So an employee in the San Diego office of a company headquartered in Florida cannot have their employment agreement be subject to Florida law, which allows the restrictions.

Virginia, on the other hand, allows restrictions, provided the terms are fairly narrow and reasonable. Some states such as Maryland permits judges to blue pencil an agreement while neighboring Virginia does not grant its judiciary such leeway.

Being a “right to work” state doesn’t seem to impact how it handles restrictions on an employee’s right to find a job with a competitor, such as in Alabama. Its stringent right to work laws are said to have helped attract large auto plants and global aircraft manufacturers. Yet it bans a business from keeping a departing employee “from exercising a lawful profession, trade or business of any kind” unless specifically prohibited by law. Thus, an executive or assembly line worker of Airbus couldn’t be barred from crossing the street to work for hated rival Boeing if it opened an office or facility in the state.

Blue Pencils

Even in states that allow blue pencilling, the practice has been controversial. Opponents claim that, in effect, a judge is unilaterally overturning a private, freely-negotiated and executed agreement between a business and its employee. But those who support blue penciling maintain that employers have all the bargaining power when offering a job, and that the courts need to be able to balance things out when there is a dispute. For much of the past 20 or more years, the scope of blue pencilling in states that allowed it had been slowly expanding. Judges were becoming increasingly willing to set aside whole provisions of employment contracts. But that may be changing.

New York, for instance, has been highly receptive to a jurist blue pencilling an overly broad restrictive covenant. But the state’s high court ruled not long ago that an agreement may not be blue pencilled “if there is a coercive use of dominant bargaining power” when the employment contract was signed. Because the employee was unemployed at the time she was offered a job, the court ruled she may have felt pressured to sign the agreement rather than prolong being out of work.

As a result, a year later another court used the precedent to grant a defendant’s motion to dismiss when a former employee of a company was sued for violating the non-compete restriction in her contract. The court concluded that there was such unequal bargaining power when the job was offered that it refused to blue pencil it. Similar decisions have been reached in state courts as far afield in judicial temperament as Illinois and North Carolina.

The raft of decisions setting aside blue pencilling in favor of throwing out an entire provision of an employment contract means that employers need to keep two critical things in mind as they negotiate and draft the restrictive covenant provisions of an employment agreement.

• In states that allow what the law calls “equitable reformation,” be sure that the agreement states explicitly that it may be modified by a court and thus increase the likelihood any blue pencilling will stand up.
• Be certain that the restrictive covenant provisions have a legitimate business reason for existing; take the language out if it doesn’t.
  If blue pencilling is being discarded by courts in favor of overruling an entire restrictive covenant, then employers need to ensure that their employment agreements are strong enough to protect the company yet not so restrictive on an employee’s future that a judge is likely to say it goes too far and removes it entirely.

Jesse has represented numerous clients in employment disputes in state and federal courts. Reach him at 703.888.1943 or by email at jesse@binnall.com.