Colorado Non-Compete Law Blog : Denver Non-Compete Lawyer & Attorney : Dan Warden : Bond & Morris Law Firm : Adams County, Brighton, Aurora, Bow Mar, Lakeside

We are often contacted by potential clients who have already researched the non-compete or other issue in dispute. These potential clients already understand, for example,  that Colorado has adopted a statute that sets forth when a non-compete may be enforced. In addition, they have used the internet to look at recent decisions from Colorado and other states.  

Sometimes, however, a little information can be a dangerous thing. A recent post in another blog is a good example. In that blog post, the author reported that, at least in South Carolina, a non-compete could not be enforced when the only consideration provided for the execution of the non-compete was continuing at-will employment. That is, that a non-compete, signed by an employee after he had started his job, was not enforceable unless the employer provided the employee with some benefit ( e.g. a bonus, a promotion) other than continuing employment.

That may be the law in South Carolina. We don't practice there and we wouldn't profess to know. But this issue is not so easily resolved in Colorado. 

In Colorado, a non-compete, like any other contractual obligation, must be supported by consideration. The employer, in other words, must provide the employee with some benefit. It isn't as clear, however, whether an employee's continuing employment is sufficient to support the non-compete obligation (that is, an explicit or implicit threat that the employee would be terminated unless he signs the non-compete). Colorado courts have held, for example, that continuing employment can be sufficient consideration to bind an employer to a promise in a employee handbook. Those cases imply that continuing employment is sufficient to support a non-compete obligation. 

As a practical matter, cautious employers will combine any request to sign a non-compete with a bonus or some other benefit. That added benefit will assist the employer in showing that consideration existed for the non-compete.

More importantly, however, an employee should not rely on a blog post about the law in another state in making a decision about whether his non-compete in Colorado is enforceable. The law on non-competes varies widely across the United States. Do not assume that Colorado will follow the approach adopted in other states. 

• Email This
• Print
• Comments
• Trackbacks

There are times when employees take information with them when their employment is terminated. Employees often believe that this information, whether it be customer lists or technical information, will assist them when they are looking for a new job or after they find a new job. 

When their former employer files a lawsuit or sends a threatening letter, however, these employees often panic. They rush to purge the stolen information  from their computer to hide evidence of the stolen information.  

These efforts often fail. There are many computer forensic companies, and they actively market their services to companies in connection with the issues raised by terminated employees.  Once a company files a lawsuit against the former employee, these companies assist the company in developing evidence that demonstrates that information was stolen. Alternatively, these companies can develop evidence to show that information was purged or wiped from the former employee's computer. That evidence can lead to dire consequences for the former employee, as a recent case demonstrates.    

In Telequest International v. Dedicated Business Systems, a March 11, 2009 decision from the federal district court in New Jersey, the defendant formed a new company and began competing with his former employer, Telequest, shortly after his employment terminated.  Telequest's Complaint alleged that the defendant had stolen a list of customers and vendors that it had taken Telequest fifteen years to develop. The Court ordered that the defendant produce his computers for a forensic examination. When the computers were produced, however, Telequest discovered that "defrag" and "wiping" programs had been run on the computers.  

As a result, Telequest sought a default judgment against the defendant for the destruction or "spoliation" of evidence. The Court declined to enter the default judgment but did order that an adverse instruction should be given to the trier of fact based on the efforts to purge information from the computer. That is, an instruction that the defendant had destroyed evidence "out of the well-founded fear that the contents would harm him".  This instruction would permit the fact finder to conclude that the former employee had breached any non-compete or stolen trade secrets. 

Litigants have an affirmative obligation to preserve evidence. Lawyers may debate the scope and timing of this obligation but there is no question that the obligation arises under the proper circumstances. 

• Email This
• Print
• Comments
• Trackbacks

Laid off or terminated employees commonly take confidential company information, according to media reports covering a recent study released by the Ponemon Institute, an Arizona based research company. 

Nearly sixty percent of departing employees steal proprietary company data. Employees took this information in different ways. Most employees take documents (paper) with the information. But employees also admitted that they downloaded information onto a disc  or sent information as attachments to personal emails. Of the nearly sixty percent of the employees that took information, seventy nine percent admitted that they did so even though they knew that their former employer had forbidden them from taking the information. 

In perhaps its most intriguing finding, the survey reports that approximately twenty five percent of the employees said that they were able to access data on a company's network even after they had been terminated or quit.

These results were based on a survey of approximately 950 employees who were laid off, fired or lost jobs in the last twelve months. 

According to a recent article in the Washington Post, the Ponemon Institute's founder suggested that employees took this information because they believed that they were entitled to information that they had helped create. Another expert made the practical suggestion that the information was taken to assist employees locate a new position or improve their performance once they obtained a new position. 

Not surprisingly, computer forensics companies have used this report to promote their services. These companies sell their ability to prove that a former employee stole information. 

Employees, who are preparing to leave an employer, should take note of the survey. Employers frequently file suit against former employees for the theft of confidential information. As employers become more educated about the risk presented by departing employees, more effort will be expended to prove an employee's theft. 

Employers, on the other hand, also need to be vigilant. To the extent that information is readily accessible by former employees or if a company knows and does not prevent employees from taking information, a court may be reluctant to find that the information is confidential or proprietary.  

• Email This
• Print
• Comments
• Trackbacks

Employees sometimes are lulled into a false sense of security when they haven't been asked to sign a non-compete (or after they conclude that their non-compete is not enforceable). These employees think that they can do almost anything in anticipation of competing with their employer after they quit their jobs. That's not true and a March 5, 2009 Colorado Court of Appeals decision in Harris Group, Inc. v. Robinson demonstrates how an employee's pre-termination conduct can result in liability.

The facts in Harris Group are worth considering because they provide a lesson on what an employee should not do when preparing to compete with his employer. 

Prior to quitting their jobs, the employees began to make plans to form a new business to compete with their employer. They copied company files and emailed or saved files for use with their new company. The original files were deleted after they were copied. The employees developed a website stating that one of the employees had left the company and taken along the company's entire consulting team. Five employees then quit and gave their employer one day notice. Once they quit, the five employees offered jobs in a new company to five of the seven employees who remained in their department. During the new company's first week, the former employees contacted the company's clients and and told them that the new company could take over their projects. As a result of the employees' promotional efforts, the new company was able to transfer seventeen of the twenty-none active projects from the old employer to the new company. 

Prior to the jury verdict, the company's claims for computer fraud and abuse, for defamation, and for civil theft and misappropriation were dismissed. At trial, the former employer sought to recover damages and lost profits. 

 A Denver District Court jury found that the company had proved its claims against the new business for intentional interference with contract, conversion and unjust enrichment. The jury also found that the company had proved its claims against the former employees for breach of confidentiality agreements, breach of fiduciary duty, intentional interference with contract, conversion; and unjust enrichment. Actual damages of over  $1.9 million were awarded against the former employees and the new company. The jury also awarded punitive damages of over $600,000. 

The Court of Appeals' opinion does not include any surprises. The Court held that the case should be remanded because pre-judgment interest had been improperly calculated and held that damages should not have been awarded for unjust enrichment. The remaining challenges were rejected.

There are a number of lessons to be drawn from Harris Group.  Employees face many economic challenges when they leave a company to form a competing business. Nonetheless, employees should not engage in conduct prior to terminating their employment that will expose them to liability to their former employer. Employers can and will use computer forensics to determine what an employee did before his employment was terminated. An employee should assume that his former employer will be able to determine what the employee did to prepare to engage in competition. Any effort to copy or email computer files will be discovered and may form the basis for claims against the employee.   

• Email This
• Print
• Comments
• Trackbacks

In cases filed to enforce non-compete agreements, employers often include a claim against a former employee under the Computer Fraud and Abuse Act.

In a typical claim, the employer asserts that the employee accessed confidential business information on a work computer, emailed the information to a personal computer and then used the information in connection with the employee's new job. Based on these allegations, the employer asserts a claim under (a)(4) or (a)(5) of the Act.

Section (a)(4) of the Act states that a violation occurs when an individual who "knowingly and with intent to defraud, accesses a protected computer without authorization, or exceeds authorized access, and by means of such conduct furthers the intended fraud and obtains anything of value".  A key issue is whether the employee's actions were authorized by the employer.

Employers have had mixed success with these claims. Some courts have adopted an expansive construction of the Act in recognizing that employers have stated claims under the Act. These courts have concluded that, while an employee may have been authorized to access information, that access was terminated when the employee accessed and appropriated the information for their own personal gain and against the interest of their employer.

Last month, a Nebraska federal district court in Ervin & Ervin Smith Advertising v. Ervin joined those courts which have sided with employers in adopting a liberal construction of the Act. In Ervin, the defendants were former executives who emailed documents to their home computers when they were preparing to compete with the company. There was no dispute that the computer access was done prior to the end of employment. Based on these facts, the court denied the employee's motion to dismiss the claim under the Act. 

Neither the tenth circuit, nor Colorado's federal district courts have provided much guidance on the Act. The tenth circuit or Colorado's federal district courts may adopt the approach in Ervin which favors employers. As a result, any employee who transfers company information from his work computer to his personal computer for use in his future employment incurs the risk that a claim may be asserted under the Act. An employer also may be able to assert additional state law claims for breach of the employee's duty of loyalty or breach of the employee's agreement to maintain the confidentiality of information. 

• Email This
• Print
• Comments
• Trackbacks

American Family's efforts to obtain a temporary restraining order against a former employee recently were rebuffed when Judge Krieger from the federal district court ruled that American Family had failed to sustain its burden.  

In American Family v. Gustafson, 2008 WL 5377969, American Family alleged that a former agent had retained customer lists and other information after he had resigned. And that the agent had used that information to solicit American Family's customers to cancel their policies and purchase new policies from another company. Claims were alleged under the Computer Fraud and Abuse Act, the Colorado Trade Secret Act and the Colorado Consumer Protection Act.

In support of its motion for a temporary restraining order, American Family submitted a single affidavit. Judge Krieger concluded, however, that the affidavit was insufficient for a number of reasons.

Most importantly, she ruled that the affidavit failed to demonstrate that American Family would suffer immediate injury absent an injunction. According to American Family's own affidavit, nearly six months had passed since the agent had engaged in the allegedly wrongful conduct. Judge Krieger also concluded that American Family had not demonstrated why the motion needed to be heard before the agent could be heard in opposition.

There are a number of obvious lessons in this decision. In non-compete, computer fraud and trade secret cases, plaintiffs often believe that they must move immediately for a temporary restraining order. Courts may be skeptical, however, of granting that relief, however, if a substantial amount of time has passed since the defendant initially engaged in the wrongful conduct. Temporary restraining orders, by definition, are limited to a brief period of time. There may be no reason to grant this relief if the plaintiff has sat on his rights.

It is also noteworthy that Judge Krieger was generally skeptical about the affidavit. She questioned, for example, whether the assertions in the affidavit were truly based on the personal knowledge of the company representative who signed the affidavit. 

• Email This
• Print
• Comments
• Trackbacks

In a November 2008 decision, TruGreen Companies v. Mower Brothers, the Utah Supreme Court ruled that lost profits is the appropriate measure of damages for breach of a contractual non-compete provision. 

In TrueGreen, TruGreen Companies had argued that an unjust enrichment or restitution measure of damages should be used. TruGreen sought to recover the economic benefit realized by its employees' breach of their non-compete agreements. The Utah Supreme Court rejected this argument  as it expressly held that restitution or unjust enrichment was not an appropriate measure in non-compete actions. The court reasoned that restitution and unjust enrichment  should only be used when no express contract is present. The use of these equitable remedies would "punish" the breaching party, according to the TruGreen court, and would be inconsistent with the basic rule of contract damages that the non-breaching party should be placed in the position that it would have enjoyed if the contract had been performed. 

In reaching its decision, the court in TruGreen relied heavily on the 2007 decision by the Idaho Supreme Court in Trilogy Network Systems v. Johnson. The TruGreen court approved of the ruling in Trilogy that a plaintiff could "examine" the defendant's profits in an attempt to assess it own economic loss. A plaintiff can not rely solely on the defendant's gains to prove its lost profits, however, and must submit proof of its own costs and profits. Because the plaintiff in Trilogy had failed to introduce evidence about its own costs and profits, the Idaho Supreme Court declined to award damages because the plaintiff had failed to "to take the measure of its damages out of the realm of speculation". 

In rejecting the use of restitution as a measure of damages for breach of non-compete provisions, Utah joins not only Idaho, but also a number of other states, including Wyoming, Alaska and Connecticut. 

For those with non-competes governed by Colorado law, it is worth noting that Utah has not adopted a statute governing non-competes comparable to Colorado's. In that sense, Utah is generally more favorably inclined to enforce non-competes. It is also worth noting that the Utah Supreme Court's decision was limited to the question of the appropriate measure of damages for breach of a non-compete. Any employer seeking to recover damages in a non-compete case may face additional hurdles. 

• Email This
• Print
• Comments
• Trackbacks

Many non-compete agreements include provisions that state that the employer is entitled to recover any attorneys fees and costs incurred in connection with an action to enforce the non-compete. These provisions are unilateral or one-sided; they allow the employer to recover its attorneys fees but not the employee.

By including these provisions in the agreement, employers seek to discourage employees from challenging the enforceability of the non-compete. An employees must be concerned that, if their former employer prevails, the employee will be liable for not only his own attorneys fees, but also the fees incurred by the employer. Those fees can be substantial. 

Some states have adopted legislation that amends any unilateral fee shifting provision to make it bilateral. (That is, to allow either party to recover fees). Utah has adopted a statute, for example, that states that a court may award costs and attorneys fees to either party that prevails in an action when the provisions of a promissory note, written contract or other writing allow one party to recover its attorneys fees. Washington and California have adopted similar statutes. 

In a December 2008 decision that didn't involve a non-compete,  Morris v. Belfor USA Group, the Colorado Court of Appeals ruled, however, that unilateral fee shifting provisions are enforceable in Colorado under the proper circumstances. In Morris, the plaintiff argued that the attorneys fee provision should be interpreted to mutually benefit both parties. The Court of Appeals rejected this argument as it held that a fee-shifting provision did not need to be mutual to be enforceable. 

The Court of Appeals left open the possibility that a unilateral fee shifting provision could be stricken or reformed under the proper circumstances. The court noted that the trial court had not made any findings about whether the fee shifting provision was unconscionable or void as against public policy. The plaintiff apparently never argued at the trial court that the fee-shifting provision was unconscionable or void. 

It may be significant that the fee shifting provision in Morris did not arise from a non-compete agreement. Colorado has long had a public policy that disfavors the enforcement of non-competes. Trial courts may perceive unilateral fee shifting provisions in non-compete agreements as an attempt to undermine this public policy.

In any case, both employees and employers need to be careful in addressing attorneys fees in any non-compete agreement. If the employee has the ability to negotiate changes in a proposed non-compete, the employee should insist that any attorneys fee provision should be bilateral or mutual (that is, that the prevailing party, employer or employee, recovers fees). Employers, on the other hand, need to be careful not to impose a unilateral fee-shifting provision on employees under circumstances that could cause a trial court to decline to enforce the provision because it is unconscionable. Or because such a provision is inconsistent with Colorado's public policy governing non-competes. 

• Email This
• Print
• Comments
• Trackbacks

The prior post begs the question most frequently asked by clients: what is a reasonable restraint? That is, what kinds of geographic and temporal restraints will be enforced by Colorado courts -- assuming that the non-compete falls within one of the four exceptions set for in C.R.S. 8-2-113(2)? 

The best, but perhaps the most frustrating, answer is that it depends. As the tenth circuit noted in 1999, "The reasonableness of  restraint in a restrictive covenant is determined on a case-by-case basis, taking into account the particular facts and circumstances surrounding the case and the subject covenant." 

Because the particular facts of a case are so important, there is a great range in the restraints that have been enforced. On the one hand, for example, a Colorado federal district court has enforced a nation-wide restriction as being reasonable in geographic scope. Another decision even suggested that a world-wide restraint might be reasonable under the proper circumstances. On the other hand, Colorado courts have limited the geographic scope of other non-competes to a particular city or town in Colorado. 

It is true that Colorado courts have consistently applied some general rules about how broad restraints may be. The Colorado Court of Appeals as recently as 2006, for example, noted that covenants not to compete for terms up to five years and within distances of 100 miles are commonly upheld. 

Many of those decisions enforcing these broad restraints, however, arise from non-competes in agreements for the sale of businesses. Many decisions outside of Colorado have held that a non-compete ancillary to the sale of a business may be enforceable even when a covenant of similar breadth incident to employment would not be. (And Colorado courts have noted that trend). Accordingly, to the extent that other decisions provide guidance about the reasonableness of any restraint, it is important to consider a decision that relies on similar facts for the enforcement of the non-compete. Sale of business decisions don't necessarily provide guidance for cases in which a non-compete's enforcement relies upon the employee's status as a manager or executive.

It also may be wise to be skeptical about the guidance provided by older decisions because technological innovations have altered the way in which businesses operate. Many businesses now serve far broader areas. Those businesses now may be able to argue that the geographic reach of any non-compete should be broader. On the other hand, technological innovations may lead certain companies, particularly high tech companies, to change their business model much more quickly than before. These changes may lead courts to limit the duration of any non-compete tied to the companies. 

• Email This
• Print
• Comments
• Trackbacks