Southern District of New York Refuses to Enforce Restrictive Covenants Against Former Employees

The Southern District of New York recently denied Document Technologies, Inc.’s (“DTI”) motion for a preliminary injunction to enforce restrictive covenants against four former employees as well as against a competitor, LDiscovery, who hired the four former employees. See In re Document Techs. Litig., No. 17-cv-2405, 2017 U.S. Dist. LEXIS 104811 (S.D.N.Y. July 5, 2017).

In this case, DTI alleged that the former employees (“Individual Defendants”) conspired with LDiscovery to misappropriate their trade secrets and solicit their customers, and accordingly, moved for a preliminary injunction to prevent the Individual Defendants from violating several restrictive covenants in their employment agreements, including a one-year non-competition clause, a one-year prohibition on soliciting the company’s clients, a one-year prohibition on soliciting the company’s employees, a broad nondisclosure provision, and a covenant to return the company’s confidential information upon termination.

By way of background, four senior sales executives of DTI collectively decided to leave DTI and signed new employment agreements with LDiscovery. LDiscovery provided the four Individual Defendants with agreements that indemnified them from claims of improper conduct by DTI as well as significant signing bonuses to make up for compensation lost during the one year non-compete period by which they agreed to abide. More specifically, “the Individual Defendants signed employment agreements with LDiscovery whereby they agreed to resign from DTI by no later than January 31, 2017. The agreements set forth that the Individual Defendants will then take a ‘Sabbatical Year,’ during which LDiscovery will ‘not request and the [Individual Defendants] will not provide, any work, information, or services purported to be restricted by the [Employment Agreements].’ Following the Sabbatical Year, the Individual Defendants will begin employment at LDiscovery in or around January 2018.”

Regarding misappropriation of trade secrets, “DTI contends that the Individual Defendants have disclosed ‘confidential information’ to LDiscovery concerning DTI’s ‘business development efforts and strategies’ by requesting, as part of their employment negotiations, that LDiscovery open document review centers in Washington, D.C. and Canada.” However, the court found that “there is nothing ‘confidential’ about the fact that Canada and Washington, D.C. have law firms and corporate legal departments requiring document review services, so that they are obvious markets. DTI does not have a monopoly on entire geographic regions, and cannot prevent competition in such areas by twisting the contours of trade secrets law.”

With respect to the claim that the Individual Defendants breached their non-disclosure covenants by improperly copying and retaining DTI’s proprietary information, the court concluded, “that this was inadvertent rather than the result of a conspiracy.” Additionally, although one of the Individual Defendants had obtained an invoice spreadsheet from DTI, the court determined that “DTI voluntarily forwarded the spreadsheet” to him to verify the accuracy of his commission checks. While one of the Individual Defendants forwarded it on to the other Individual Defendants, the court determined that there was no evidence that they had distributed it to any third parties, including LDiscovery.

The court then turned to DTI’s contention that the Individual Defendants violated the terms of their non-competition covenants by executing employment agreements with LDiscovery and engaging in several preparatory activities for their employment. Although they prepared and circulated a rudimentary spreadsheet containing the names, locations, contacts, and revenue estimates for some DTI clients, “there is no evidence that the Individual Defendants inappropriately solicited any of DTI’s clients during the non-competition period, nor is there evidence that the Individual Defendants turned over this spreadsheet (or any other document containing DTI’s client information) to LDiscovery.” Thus, “there was nothing improper about the Individual Defendants’ preparing spreadsheets of non-protectable client information and discussing their future employment at LDiscovery.”

DTI next claimed that the Individual Defendants breached their employee non-solicitation clauses by jointly searching for new employment and by allegedly soliciting two other DTI employees. However, the Southern District stated that the non-solicitation clause was “unenforceable insofar as it purports to prohibit at-will employees, who have yet to accept an offer of new employment, from ‘inducing’ or even ‘encouraging’ their co-workers to leave their present employer.” According to the court, “if DTI desires to prevent its employees from coordinating their resignations, it is free to hire them pursuant to term employment agreements. DTI, however, cannot use restrictive covenants to supply itself all the benefits of term agreements while simultaneously retaining the right to lay off its personnel whenever it so desires. This is not a proper purpose for such a restraint on free market competition.”

“In sum, DTI’s motion for a preliminary injunction fails as to the facts and the law. On the facts, DTI mistakenly portrays what is in actuality innocuous or otherwise legitimate acts by LDiscovery and the Individual Defendants as part of a conjectural (but unsupported) scheme to misappropriate DTI’s trade secrets and improperly compete for its clients and employees. On the law, DTI’s expansive view of its trade secrets and the restrictive covenants in its employment agreements is at odds with New York law and the testimony elicited during Court’s three-day evidentiary hearing, and DTI has failed to show a likelihood of success on the merits or imminent and irreparable harm.”

If you have any questions concerning the enforceability of the restrictive covenants contained in your employment agreement, it is always smart to consult with a New York City employment attorney.