Maintaining Employment Noncompete Agreements in a Global Marketplace

Presented by: Mark Zelek, Partner, Miami Walter Ahrens, Partner, Frankfurt Rodrigo Dominguez Sotomayor, Partner, Houston Motoi Fujii, Partner (TMI Associates), Tokyo Matthew Howse, Partner, London François Vergne, Partner, Paris May 16, 2013 #MLTech www.morganlewis.com

The Global Context • Noncompete and postemployment restrictions – An important challenge for general counsel who have to enforce these agreements in a globalized and competitive business environment • A need for the protection of the business • Uniformity is desirable – is it achievable? • A difficult part of global HR policies [getting a clear view of covenants used in the various jurisdictions where the company/group does business: due diligence] • Be aware of changing laws

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The Global Context • America, Asia, and EU perspectives – Common threads – Legitimate business interests – Duration – Geographic scope – Whether payment is required for duration of restriction – Varies by jurisdiction: from state to state/member state to member state – Sale of business vs. employment – Laws developed on similar themes – generally, but the devil is in the domestic details © Morgan, Lewis & Bockius LLP

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The Global Context • No EU legislation in noncompete covenant but, • Most European jurisdictions apply a four-stage test – Limited in geographic scope – Limited in duration – Legitimate business interest – Ongoing compensation during the noncompete period

• But the amount of compensation in the last factor varies among countries and is not necessary at all in the UK, the Netherlands, Luxembourg, Greece, or Switzerland © Morgan, Lewis & Bockius LLP

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UK General Principles • Void as a restraint of trade • Contrary to public policy • Unless – Legitimate business interest to protect – Protection is reasonable

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UK General Principles • Well-drafted restrictive covenants are crucial – Reasonable scope – Appropriate to type of business and role of employee

• Restrictive covenants should be reviewed throughout employment relationship

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Types of Restrictive Covenants • Nonsolicitation of business – Customers or clients

• Nonsolicitation of employees or consultants • Nonengagement of employees or consultants • Nondealing – Customers or clients – Suppliers

• Noncompetition

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Scope of Restrictive Covenants • Courts will not widen or narrow scope • Limited definitions – Restricted business – Key employees and consultants – Customers or clients – Suppliers

• Length of restrictions – 12 months for most senior employees – 6 months for noncompetition

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Garden Leave • Garden leave clause in employment contract – If not, does employee have right to work?

• Employment continues during garden leave – Salary and benefits payable – Employee continues to owe all duties to employer

• Length of garden leave • Restrictive covenants – Consider reducing length of restrictions by time spent on garden leave

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France • Noncompete covenants are valid if agreed upon in writing [in the employment agreement or in an amendment thereto] • Criteria of validity: The following conditions must be met [the collective bargaining agreement that applies to the company may detail or set up additional conditions of validity]: 1. The noncompete covenant must be justified by the protection of the employer’s legitimate interest [“window cleaner” case law] © Morgan, Lewis & Bockius LLP

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France 2. The noncompete covenant must not prevent the employee from working in his/her area of expertise [absence of obstacle to the “employee’s freedom of work”] “Sleeping” restrictive covenants are not valid under French law 3. The noncompete clause must be limited in two respects: • in time (two years is generally a maximum) • regarding its scope (defined area, territory)

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France 4. The noncompete obligation must give rise to a financial compensation to be paid by the employer throughout the application of the noncompete covenant • A collective bargaining agreement (CBA) often sets out the minimum amount of such financial compensation • If the CBA is silent, the amount is negotiated between the parties (case law specifies that the financial compensation must not be “derisory”) [one-third of the employee’s salary is usual]

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France • Release: The employer may release the employee from the noncompete obligation – Proper notice – often subject to CBA conditions. – The possibility of releasing the employee must be set out in writing in the noncompete clause.

• Sanctions: If the four criteria for validity stated above are not met: – The noncompete covenant is not valid. – The employer may not enforce the clause. – Pursuant to case law, an employee may obtain damages if he/she has respected an invalid noncompete clause.

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France •

Frequent issues/difficulties: – In connection with a new hire: is the candidate bound by a (valid) noncompete clause in favor of his/her prior employer? – Are our noncompete covenants valid and enforceable in France? – Drafting precautions: • Highlight the company’s interests in having a noncompete clause. • Include wording showing that the four criteria of validity are met. • Precisely define the limits: restricted activities [avoid soft wording or concepts that are not clear]. • Pay attention to the starting point of the noncompete obligation (date of notice of termination?/end of the notice period contract?). • Provide for a possibility for the employer to release the employee from his/her noncompete covenant (and therefore avoid the burden of financial compensation). • Penalty clauses [deterrents?]. • Keep in mind that the labor court has exclusive jurisdiction over employment noncompete clauses.

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Germany • Restrictive covenants post-termination – Covenants not to compete • A written agreement is required; otherwise, they are void • The employer must hand over to the employee a signed document with the noncompete; otherwise, they are unenforceable • The agreement must provide for compensation at a rate of at least 50% of the employee’s most recent contractual remuneration (pay and certain benefits) for the term of the noncompete; otherwise, they are unenforceable (void if no compensation) – Noncompetes are used only for key employees

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Germany • Maximum term of two years • May include group companies of the employer • Unenforceable to the extent that it is not justified by the employer’s legitimate business interests or makes the employee’s professional career unreasonably difficult – Noncompetes that are too broad are not entirely unenforceable but upheld to the extent they are enforceable

• The employee may elect during employment or following termination to enforce unenforceable noncompete (but not void noncompete) – The employer is obliged to pay agreed compensation – No statutory minimum compensation © Morgan, Lewis & Bockius LLP

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Germany • An employer may waive a noncompete in writing prior to an employee’s termination – The employee may compete following his/her termination – The obligation to pay compensation ends once one year has expired from the receipt of the written waiver by the employee

• An enforceable noncompete may be rendered unenforceable in certain termination scenarios – Ordinary termination by the employee » Not affected

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Germany – Ordinary termination by the employer » The employee may elect in writing within one month from receiving the termination notice that he/she will not be bound by the noncompete, unless: » The termination is justified under the Termination Protection Statute by reasons relating to the employee’s person or conduct » The employer, when giving notice, offers to pay 100% of the employee’s most recent contractual remuneration for the term of the noncompete – Extraordinary termination for an important reason with immediate effect » The terminating party may elect within one month from termination that it will not be bound by the noncompete © Morgan, Lewis & Bockius LLP

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Germany – Covenants not to solicit customers • Limited noncompete; noncompete rules apply

– Covenants not to solicit employees • Noncompete rules apply to the extent that the nonsolicit prohibits solicitation of employees for the business of the employee bound by the covenant • Noncompete rules do not apply otherwise – No compensation necessary

– Covenants not to hire employees • Unenforceable © Morgan, Lewis & Bockius LLP

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Germany • Post-termination restrictive covenants in transactions – Stock sale • Agreements on restrictive covenants continue to apply between the employer (target) and the employee • Scope of restrictive covenants may change – Different group companies

– Asset sale • Agreements on restrictive covenants apply between the employee and the purchaser (transfer of undertaking)

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Germany • Agreements on restrictive covenants cease to apply between the employee and the seller – Separate agreement possible

• Scope of restrictive covenants may change – Purchaser’s business different from seller’s business – Different group companies

– Impact on restrictive covenants for key employees should be explored and addressed prior to the sale

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Latin America • As a general rule, all Latin American jurisdictions are protectionists of employees and freedom of employment. In some jurisdictions, freedom of employment is a nonwaivable right protected by the Federal Constitution. • Such rules make noncompete agreements by individuals extremely hard to enforce. • These constitutional rights may only be restricted by court order.

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Latin America • However, many Latin American jurisdictions have adopted noncompete agreements similar to those used in the United States. These agreements, however, are practically impossible to enforce for the reasons above. • Different approach to noncompetes by companies in the transactional context.

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Latin America • Corporate noncompetes: requirements for validity: i.

Reasonable time;

ii.

Specific location – must be reasonable in light of the circumstances;

iii. Limited to the company's line of business; and iv. The company has to be financially compensated for the noncompete.

• Similar factors as in the United States.

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Latin America • Alternatives: – Financial incentives for a former employee to abide by bargained-for postemployment restrictions (i.e., forfeiture of stock options or deferred compensation). – Nonsolicitation of clients and employees is generally permitted. Confidentiality of commercial databases or other protected trade secrets is allowed.

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Japan • The enforceability of noncompete clauses is determined upon considering the balance between their necessity for the employer’s legitimate benefit (in most cases, protecting trade secrets) and the employee’s constitutional right to freedom of choice in employment. • It is very difficult to persuade the court to prioritize the employer’s benefit over that of the employee.

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Japan • In determining the enforceability of noncompete clause, the courts consider the following factors: – the employee’s position; – the scope of business to be restricted; – the duration of the noncompete obligation; – the geographical area applicable to the restriction; – the amount of compensation for the noncompete obligation; and – other relevant facts. © Morgan, Lewis & Bockius LLP

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Japan • Employee’s position – The target of the noncompete obligation should be limited only to employees who have access to confidential information. – This will include employees in high positions, such as directors, officers, and division heads. – The court will not admit the enforceability of a noncompete clause if it purports to bind employees in lower positions.

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Japan • Scope of business – If the scope of business to be restricted can be limited, this will increase the chances of the noncompete clause being enforceable. – The clearest way of restricting the scope of business is to list competing companies for which the employee cannot work based on the noncompete clause. – In practice, most employers try to restrict “any business which may compete with the company,” but this wording will make it difficult to enforce the noncompete clause. © Morgan, Lewis & Bockius LLP

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Japan • Duration – Based on precedents, the maximum duration that courts will be willing to enforce is two years. – The shorter the duration, the higher the possibility of the noncompete clause being enforceable.

• Geographical area – It may be difficult to limit the geographical area to be restricted by the noncompete clause. – The narrower the area, the higher the possibility of enforceability. © Morgan, Lewis & Bockius LLP

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Japan • Amount of compensation – This is a very important factor, since courts will be highly reluctant to admit the enforceability of a noncompete clause if the employee will be unable to receive enough compensation to make a living. – The higher the compensation, the greater the possibility of the noncompete clause being enforceable.

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Japan • Some possible options depending on the exact purpose of the noncompete clause: – No compensation payable at the employee’s termination; – Compensation payable at the beginning of the noncompete term; – Compensation payable at the end of the noncompete term if the company can confirm the employee’s compliance with the noncompete obligation; or – Full (or partial) salary to be paid every month during the noncompete period (similar to “garden leave”). © Morgan, Lewis & Bockius LLP

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Japan • Summary – The necessity and cost of the noncompete clause should be fully examined and carefully determined before imposing a noncompete obligation on employees, because both the employees and the employer may be involved in the disputes. – The level of compensation under the noncompete clause is very important. – The noncompete obligation should be made clearer, narrower, and shorter. © Morgan, Lewis & Bockius LLP

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Questions? • Mark Zelek • Motoi Fujii 305.415.3303 +81 3 6438 5511 [email protected] [email protected] • Walter Ahrens • Matthew Howse +49 69 71 40 07 66 +44 0 20 3201 5670 [email protected] [email protected] • Rodrigo Dominguez Sotomayor • François Vergne 713.890.5155 +33 1 53 30 44 40 [email protected] [email protected] For additional information on Morgan Lewis’s Technology Series, visit www.morganlewis.com/topics/technology or join the conversation on Twitter using #MLTech. © Morgan, Lewis & Bockius LLP

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