By Eugene W. Policastri, Esq.
A business owner recently disclosed to me her concerns that her team could take down her business. She is worried that her team has developed relationships with her key clients. Now, with the Federal Trade Commission’s potential ban on non-compete agreements, she wonders if she will have any rights left at all.
Non-compete agreements never really worked well in the modern era; they were a holdover from the old sales territory mentality. But now, with markets having global reach and courts reluctant to enforce these agreements in favor of the employee’s right to earn a living, I long ago moved my focus away from non-compete language in an employment agreement.
Instead, and what courts will readily enforce, I focus on characterizing customer lists as trade secrets to protect the employer’s business from employees who may decide to venture out on their own.
THE EMPLOYEE CONTRACT
It all starts with an enforceable restriction in your contract.
To be enforceable, the restriction against taking customers and gaining customer lists must be narrowly tailored to your business purpose. By narrowly tailored, I mean it has to restrict the employees from soliciting clients from whom you are actually getting business, or from whom you, based on history, reasonably believe you will obtain future business.
If you happen to have a contract with those clients, all the better. But usually, what you have is a relationship that you have nurtured and cultivated, that has produced business for you in the past, and from which you can expect future work.
The contract language and how you define your clients must be carefully drawn lest a court find it overly broad and unenforceable as written, therefore refusing to modify it to what you really meant to say.
So, your first step is to take care to refine your restrictive covenant so that it is clearly understandable and plainly drafted to protect an actual, not theoretical, business interest. Less is better than more. Efforts to protect you from your team for every client known in the universe is probably going to fail. What is probably going to succeed is limiting the clients on the restricted list to those whom you have demonstrably serviced in the past and will likely do so in the future.
BEYOND THE CUSTOMER LIST
While customers and clients make up the vast majority of key concerns, another important business secret to be kept as well is your business’ financial data. This includes data regarding the daily operation of your business, such as your costs, profit margins and other formal data you use in price setting.
Closely related to this is, of course, your analysis of potential weak spots in your business, a so-called SWOT (strengths, weaknesses, opportunities and threats) analysis that you would not want your team to use against you when they leave you and start their own business venture. Please notice I said “when” not if; we are an incredibly mobile society and employment changes are a constant; you can be assured they will always happen.
BEYOND THE CONTRACT
Even if you have a well-drafted contract, there are still internal steps you should take to protect your client lists and business information.
For example, are there levels of authority within your company to access the restricted data on a need-to-know basis? Your sales staff may need to access your client list to identify opportunities with target clients, but they would not need to access your SWOT analysis.
Further, do you take steps to password-protect access to your highly sensitive information? Cases can be lost if courts find that you did not keep “secret” your trade secrets.
In a recent case decided by the Maryland Appellate Court, Ingram et al. v. Cantwell-Cleary Co., Inc., on Dec. 22, 2023, the court found that the employer’s confidential customer lists, vendor pricing, profit margins and “pricing to customers” qualified as trade secrets.
The court also found proven misappropriation by former employees, based on circumstantial evidence. Customers testified they received the same packaging and pricing offered by Cantwell-Cleary from the new entity formed by the employees who left Cantwell-Cleary. Significantly, the other employees of the newly-formed entity, who did not come from Cantwell-Cleary, were also found liable for the misappropriation. The court found on the record presented that these employees had reason to know that the pricing and labeling information came from Cantwell-Cleary and was only acquired by the breach of the duty to maintain the secrecy of the information.
CONTRACT ENFORCEMENT
All businesses should understand the three basic steps to enforce the covenants in your employment contracts.
First, you would usually issue a cease-and-desist letter outlining the activity that violated your contract, and a demand that the former employees acknowledge their obligation and consent to stop their violative actions.
Failing that, and these letters often do fail to get immediate results, you should seek an expedited injunction in court to restrain the former employees’ activity pending a trial, which could be a year down the road. Without this preliminary relief, the harm to your business could already be done.
Lastly, in litigation, you should assemble your claimed damages in terms of lost profits from sales as a remedy in addition to an injunction.
In Cantwell-Cleary, the court vacated the trial court’s ruling on evidence based solely on an examination of gross profit from sales overall. The court remanded the case to the circuit court for further evidence, specifically to determine the profits lost to customers taken by the former employees. The time period for this analysis had to be limited as sales data can become stale overtime.
So, when assembling your damages for court, you will want to employ an expert in accounting, as well as market analysis, to prove that the former employees used your data to your detriment, and to calculate and illustrate the damages you sustained.
CONCLUSION
Well-drafted contracts and effective procedures to protect your client lists and business data go a long way in mitigating the expense of a court-driven solution. Are all these steps necessary? Yes, if you want to protect your livelihood.
If you would like to speak with one of our attorneys about your contract, please contact Gene Policastri at 301-986-9600.
