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Over last week, two seemingly unconnected events happened that impact restrictive covenant and labor law. First, the National Labor Relations Board’s General Counsel, Jennifer Abruzzo, issued a memorandum opining that certain non-compete agreements may violate the National Labor Relation Act by suppressing workers’ ability to engage in protected concerted activity. Second, the Supreme Court issued the Glacier Northwest, Inc. v. Teamsters decision, where it held that allegedly intentional property destruction by a union was not covered by Garmon preemption, a preemption rule that restricts state courts from adjudicating state law claims that actually or arguably constitute an unfair labor practice. But in that ruling, a majority of the justices confirmed Garmon remains good law.

So putting the two together, does this mean that all non-compete litigation is preempted? After all, if a non-compete “reasonably chills” an employee’s ability to engage in protected concerted activity, and Garmon still operates to prevent state law claims that actually or arguably impede on the NLRB’s jurisdiction to adjudicate unfair labor practices, then a lawsuit to enforce a non-compete should be preempted, right?

Well, probably not. The reasoning in the General Counsel’s memo would not extend to statutory supervisors, and there is minimal existing legal support for the NLRB’s continued annexation of matters traditionally within state jurisdiction.

The General Counsel’s Memo

My colleagues previously posted about the General Counsel’s memo here. In short, the NLRB’s General Counsel released a memo theorizing that non-competes could impair an employee’s right to engage in concerted activity protected by Section 7 of the National Labor Relations Act. While the General Counsel seems intent on creating penumbra Section 7 rights that remain after employment ends, that position exists only in theory at this point. But even potential action by the NLRB creates potential preemption challenges to restrictive covenants. 

A Brief Overview on Garmon

The NLRB is meant to be the first and primary forum to adjudicate matters invoking federal labor policy. To provide the Board with space to cultivate labor law free from state interference, Garmon preemption carves out from state regulation activity that is both actually and arguably prohibited by the NLRA.

Section 7 of the NLRA guarantees employees “the right to self-organization, to form, join, or assist labor organizations, to bargain collectively through representatives of their own choosing, and to engage in other concerted activities for the purpose of collective bargaining or other mutual aid or protection.” Section 8, in turn, makes it an unfair labor practice for an employer “to interfere with, restrain, or coerce employees in the exercise of the rights guaranteed in” Section 7.

When a controversy is actually or arguably preempted by Garmon, a reviewing court should instead defer to the NLRB’s primary jurisdiction to avoid “the specter that state law will say one thing about the conduct underlying the dispute while the NLRA says another.” The animating rationale for preemption is that the NRLB—not states—should set federal labor policy and define the contours for what qualifies as an unfair labor practice and collective activity.

The Potential Impact on Restrictive Covenant Litigation

The General Counsel’s position, if it were actually adopted, threatens to create a procedural mess in restrictive covenant litigation. If the General Counsel got her wish and a non-compete agreement could, in fact, constitute an unfair labor practice by unduly restricting an employee’s ability to engage in protected concerted activity, then a court would arguably be unable to enforce the agreement or even determine whether it was enforceable. That question would first go to the Board. Employees could potentially complicate an action to enforce the agreement further by preemptively filing an unfair labor practice charge against the employer, thus creating a potential retaliation claim against the employer if the employer proceeded with filing a lawsuit.

Of course, this risk is theoretical without further evidence that the NLRB would adopt the position taken by the General Counsel. And the General Counsel’s memo, even if adopted, would only cover statutory “employees” under the NLRA, because generally only statutory employees under the NLRA have a right to exercise Section 7 rights. A statutory “supervisor” under the NLRA—meaning an employee who acts in the interest of an employer and whose position involves the exercise of independent judgment[1]—does not have the right to engage in concerted action. Without some theoretical impingement on Section 7 rights, the NLRB lacks any arguable basis to take action involving a statutory supervisor’s restrictive covenants.

But seasoned restrictive covenant litigators should understand this memo has the potential to create a lot of mischief in employee departure litigation. It will be critical to have counsel experienced in both restrictive covenant litigation and NLRB proceedings. Fortunately, Seyfarth fits the bill on both fronts.

[1] A statutory supervisor is “any individual having authority, in the interest of the employer, to hire, transfer, suspend, lay off, recall, promote, discharge, assign, reward, or discipline other employees, or responsibly to direct them, or to adjust their grievances, or effectively to recommend such action, if in connection with the foregoing the exercise of such authority is not of a merely routine or clerical nature, but requires the use of independent judgment.” 29 U.S.C. § 152(11).

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The FTC is not alone in taking aim at non-competes. Yesterday, the NLRB’s General Counsel Jennifer Abruzzo issued a memo to all regional directors, officers-in-charge, and resident officers at the NLRB stating that non-competes in employment agreements and severance agreements violate the National Labor Relations Act except in rare circumstances. Specifically, Ms. Abruzzo claims that such covenants interfere with workers’ rights under Section 7 of the Act, which protects employees’ right to self-organize, join labor organizations, bargain collectively, and “engage in other concerted activities for the purpose of collective bargaining or other mutual aid or protection.” Thus, Ms. Abruzzo concluded, non-competes typically violate Section 8(a)(1) of the Act, which makes it an unfair labor practice for an employer to interfere with an employee’s Section 7 rights.

The Memo’s (Dubious) Reasoning

Ms. Abruzzo’s rationale for her determination is similar to the FTC’s: the memo claims (with scant support, we would add) that non-competes “are overbroad,” and can be construed by employees as “deny[ing] them the ability to quit or change jobs by cutting off their access to other employment opportunities that they are qualified for based on their experience, aptitudes, and preferences as to type and location of work.” While some non-competes used by employers may be overbroad, Ms. Abruzzo treats it as a foregone conclusion that all non-competes are overbroad—notably without citing to any support for this statement. And this determination ignores state law, which typically requires that a non-compete be no broader than necessary to protect an employer’s legitimate business interests.

Ms. Abruzzo also infers—again, without support—that non-competes chill protected activity, because employees who perceive that they cannot seek new employment may be discouraged from threatening to resign en masse (although the memo concedes that there is not a recognized Section 7 right to “concertedly resign from employment”), concertedly seeking to join a competitor, and more. While primarily focused on non-competes, the memo potentially spells trouble for other restrictive covenants as well, including non-solicits; Ms. Abruzzo claims that agreements prohibiting employees from soliciting their former colleagues could run afoul of Section 7 rights, as well. And while the memo does not explicitly mention non-disclosure agreements, query whether the NLRB would scrutinize such agreements as potentially chilling employees’ desires to seek new employment, too (similar to the FTC’s proposed “de facto” test to determine whether an agreement includes a supposedly unlawful non-compete).

Ms. Abruzzo acknowledges that non-competes may be permissible, if they are “narrowly tailored to special circumstances justifying the infringement on employee rights,” which does not include a covenant whose only purpose is the employer’s “desire to avoid competition.” But again, this ignores that courts have agreed for centuries that competition is permitted—unfair competition is not. While Ms. Abruzzo points to low-wage and “middle-wage” employees with no access to trade secrets being bound by overbroad non-competes, she conspicuously avoids discussing the dozen states that have enacted wage thresholds for non-competes (see here, here, and here) and even non-solicits in some states, and the four state legislatures that have banned non-competes entirely (including most recently Minnesota).

As for the circumstances in which Ms. Abruzzo believes non-competes may be permissible? Like the FTC’s proposal, they are extremely limited. She only mentions restrictions on an individual’s “managerial or ownership interests” in a competing business, and “true independent-contractor relationships” (although she does concede that there may be other circumstances in which a narrowly tailored covenant is “justified by special circumstances,” but notably declines to give examples of such circumstances).

In the memo’s final paragraph, Ms. Abruzzo encourages NLRB employees to “seek make-whole relief” for employees who believe they have lost employment opportunities based on their employer’s non-compete, “even absent additional conduct by the employer to enforce the provision” (emphasis added).

Don’t Panic—But Do Be Prepared

While the foregoing sounds alarming, a few words of caution before abandoning the use of non-competes. Ms. Abruzzo’s interpretation of the Act is not binding or precedential. Instead, cases seeking “make-whole relief” as urged by the memo will first be brought by Regional Directors, who issue complaints of unfair labor practices, and are then decided by Administrative Law Judges. An ALJ decision comes with a recommended order which can then be appealed to the full NLRB in Washington, D.C. If no exceptions are filed to the ALJ’s decision, the judge’s order becomes the order of the NLRB. But an ALJ’s decision is not binding legal precedent in other cases unless it has been adopted by the NLRB on review of exceptions. Moreover, if adopted by the NLRB, the matter can then be appealed to the D.C. Court of Appeals or the Court of Appeals where the employer does business. In other words, it may be an uphill battle for the NLRB to successfully challenge and invalidate an employer’s use of non-competes.

And that is before you consider that—like the FTC—this is a new tactic without historical support. In the nearly 90 years since the NLRB was created and the Act became law, this is the first time that the agency has declared that non-competes violate the Act. In fact, prior NLRB cases have held that the conduct of employees acting in concert to become competitors or to undermine their employer’s relationship with other employees is not protected by the Act,[1] and employers who terminate employees for engaging in such conduct do not violate the Act.[2] In fact, the NLRB’s Division of Advice held in 2012 that a confidentiality and non-solicitation agreement (the latter of which, as noted above, is tackled in Ms. Abruzzo’s memo) did not violate the Act, and in making this determination, noted that the agreement did not explicitly restrict an employee’s Section 7 rights, was not adopted in response to Section 7 activity, and employees would not reasonably construe the agreement to interfere with Section 7 rights.[3] While conceivably there may be some non-competes implemented in order to interfere with Section 7 rights, the vast majority are not, and we suspect the NLRB will face challenges demonstrating such an alleged motive.

Where To Go From Here?

It remains to be seen if the NLRB will in fact bring cases to invalidate non-competes, and if so, whether it will see any success given past decisions. That said, as always, employers should take measures to ensure that their agreements are narrowly tailored, compliant with relevant law, and only applied to employees that pose a legitimate competitive threat. In that vein, employers should consider the risk in even asking non-exempt, low-wage, or mid-wage employees to execute agreements containing non-competes. Even if employers have no intent of enforcing non-competes against such employees, various state laws already prohibit merely entering into or maintaining non-competes with such employees, and some allow employees to recoup their attorneys’ fees from employers in declaratory judgment suits seeking to invalidate such covenants. Various enforcement agencies appear poised to target the use of such agreements as well, even without employers’ attempts to enforce them through litigation.

We encourage you to reach out to Seyfarth’s Trade Secrets, Computer Fraud, & Non-Competes team to review and update your agreements and provide tips on implementing them with your workforce.

[1] See, e.g., National Express Corp., d/b/a ATC/Forsythe & Assocs., Inc., 341 NLRB 501 (2004); Clinton Corn Processing Co., 194 NLRB 184 (1971).

[2] See, e.g., Kenai Helicopters, 235 NLRB 931 (1978); Associated Advertising Specialists, Inc., 232 NLRB 50 (1977).

[3] Charles Schwab Corp., 28-CA-084931 (Sept. 14, 2012) (Adv. Mem.).

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Minnesota is joining the growing list of state legislatures targeting non-compete agreements, and doing so with one of the most aggressive laws in the nation on the subject. Included as part of the Senate Jobs and Economic Development and Labor Omnibus Budget Bill (S.F. 3035), the newly-enacted Minn. Stat. Section 181.988 (“Section 181.988”) categorically bans non-compete agreements with Minnesota workers subject to a few narrow exceptions. Section 181.988 also takes the approach adopted by Colorado and Washington in prohibiting out-of-state choice of law and forum provisions in employment agreements containing non-compete provisions. The omnibus bill passed the legislature on May 15, 2023, was signed by Governor Tim Walz on May 24, 2023, and will become effective on July 1, 2023. While Section 181.988’s ban on non-compete provisions is not retroactive, any company with employees or independent contractors in Minnesota has just over a month to ensure that their agreements comply with the sweeping provisions of the new law.

Nearly a dozen states have passed laws prohibiting non-compete agreements below certain income thresholds or subject to other limitations, but Section 181.988 has Minnesota join California, North Dakota, and Oklahoma as one of the few jurisdictions with an outright ban on non-compete restrictions. Section 181.988 applies to both employees and independent contractors, with just two narrow exceptions for non-competes in connection with the sale of a business, or in anticipation of dissolution of a business. Beyond those two narrow exceptions, the new law entirely prohibits any provision in an agreement by which an individual is restricted from “(1) work for another employer for a specified period of time; (2) work in a specified geographical area; or (3) work for another employer in a capacity that is similar to the employee’s work for the employer that is party to the agreement.” (emphasis added).

Beyond the ban on non-competes, Section 181.988 takes a similar approach to that used in Washington state by prohibiting out-of-state choice-of-forum and choice-of-law provisions in agreements with non-compete provisions. As of July 1st, employers may not require an individual who primarily lives and work in Minnesota, as a condition of employment, (1) to agree to adjudicate a claim arising in Minnesota anywhere outside of that state (whether through litigation or arbitration), or (2) to agree to a provision that would deprive the employee of the substantive protections of Minnesota law, again for any claim arising in Minnesota. While some outlets have reported that this prohibition on out-of-state choice-of-forum and choice-of-law provisions applies to all employment agreements, even those without non-compete provisions, that does not appear to be the case—earlier versions of the omnibus bill passed by the Minnesota house would have done just that, but the Minnesota legislature added language specifying that the requirements for Minnesota forum and law only apply to “claims arising under this section” in the final version of the bill. That being said, the language of the statute is less than clear on the matter, and some employees may argue that the Minnesota law and forum provisions apply to all employment agreements rather than just those with non-compete provisions.

The lone bright spots for affected employers may be that Section 181.988 specifically excludes confidentiality agreements, agreements for the protection of trade secrets, and non-solicit restrictions, and that it contains broad severability language that means other provisions of an employment contact remain enforceable. That being said, anyone with employees in Minnesota should take steps now to ensure that their agreements account for the new restrictive covenant landscape in Minnesota, particularly considering that Section 181.988 allows employees to seek injunctive relief voiding agreements that violate the new law, and potentially be awarded their attorneys’ fees in doing so.

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Recently, Seyfarth Partner Jesse Coleman had the opportunity to present an American Intellectual Property Law Association (“AIPLA”) webinar titled “Working with Experts and Recent Developments in Trade Secrets Damages.” Together with Brent Bersin of FTI Consulting and Attorneys Lawrence Pockers and Jennifer Kenedy, the webinar shed light on the intricacies of trade secrets damages and provided valuable insights into the evolving landscape of this critical area of trade secrets litigation. In this blog post, Jesse shares some of the key takeaways from the webinar, highlighting the significant points discussed by the experts.

When to Hire a Damages Expert

One of the primary takeaways from the webinar was the emphasis on the role of damages expert in trade secrets cases. Retaining damages expert early in the process may often end up being more efficient from a time and fee perspective than waiting towards the end of fact discovery. It may also allow counsel and clients to take full advantage of insights and experiences from a damages expert that can assist in achieving success. Experts play a crucial part in establishing and quantifying the damages caused by misappropriation. They assist in determining the value of the trade secret, analyzing the economic impact on the plaintiff, and providing credible evidence to support the damages claim. The webinar emphasized the need for attorneys to effectively collaborate with expert witnesses to strengthen their case and enhance the chances of success.

Selection of Damages Measures in Litigation

The webinar delved into the methodologies used to calculate selections of trade secrets damages. The selection of damages measures in trade secrets litigation requires careful consideration and analysis. By considering multiple damages measures, tailoring the approach to the case, accounting for the defendant’s profits, assessing the impact on the plaintiff, and staying abreast of legal developments, attorneys can strengthen their damages claims. Collaborating with experts who have experience in trade secrets damages can further enhance the effectiveness of the damages calculation, ultimately leading to more favorable outcomes in trade secrets litigation.

Use of Damages Expert to Help Establish Causation

The panelists also discussed the how the use of damages experts in trade secrets litigation may be instrumental in addressing causation and highlighting the link between trade secret misappropriation and the alleged economic harm suffered by the plaintiff. An expert’s ability to evaluate economic harm, utilize economic modeling techniques, consider alternative explanations, collaborate with industry experts, and persuasively communicate through expert testimony are all valuable assets in building a strong case. By working closely with damages experts, attorneys can enhance their ability to establish (or rebut) causation and increase the likelihood of a successful outcome in trade secrets litigation.

Recovery for Extraterritorial Damages

In addition to the technical aspects of damages calculations, the webinar included discussion on recovering extraterritorial damages in trade secrets litigation.  By working closely with damages experts, attorneys can enhance their ability to recover or defend against extraterritorial damages.

Apportioning Damages by Trade Secrets

The webinar concluded by discussing the case law addressing whether damages need to be apportioned by trade secret.  The case law is mixed on this point, with various courts and jurisdictions taking different positions, based the facts of the cases.  A thorough knowledge and appreciation of what particular courts have said on this topic will be helpful in determining the need for apportionment in a given case.

Conclusion

The takeaways from the webinar highlighted the importance of expert testimony, various methodologies for calculating damages, recent legal developments, and strategic considerations for employers and in-house counsel. By understanding these key points, legal professionals can enhance their ability to handle trade secrets damages cases effectively. Staying informed about the latest developments in trade secrets law and working collaboratively with experts will undoubtedly contribute to successful outcomes in such cases.

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The UK government has announced that it will bring in legislation to restrict the post-employment non-compete restraints to three months. This is a significant proposal as currently non-compete restrictions in the UK are generally capable of being enforced for a period up to 12 months (if they are “no more restrictive than is reasonably necessary to protect the employer’s legitimate business interests’’). Whilst this means a 12 month period will usually only be appropriate for very senior employees, in practice non-competes are commonly expressed to apply for six or nine months post-termination.

The announcement comes following a government consultation, in which they had proposed either requiring payment for the duration of a non-compete in order for it to be valid (as is the case in many European countries), or limiting the use of non-competes. The expectation was that either no changes would be made, or would there be a requirement for extra payment. This new cap on the length of non-competes was not expected.

The government announcement came as part of a series of regulatory reform proposals intended to reduce regulation for businesses post-Brexit. It is brief, but references some further details on the new statutory three month limit, including that:

  • Employers will still be able to restrict activities during (paid) garden leave or notice periods, during which employees are still employed and on payroll – the three month limit will only apply to post-termination non-competes;
  • Confidentiality provisions and other types of post-employment restrictive covenants, such as non-solicit and non-dealing restraints, will not be affected by the new statutory limit;
  • The reforms will not be extended to cover non-competes in other types of contracts, such as shareholders’ and partnership agreements – however, in practice these are often part of an employment relationship, so this might not be such a simple distinction to make.

There are a number of important details missing and questions left unanswered in the announcement. Significantly, it is currently unclear how the new statutory limit will apply to existing non-competes that exceed three months – will they now be unenforceable, amended down to apply for three months only or judged under the rules applicable at the time the contract was signed? Given recommended UK practice in offer letters is to offset garden leave against non-competes, this could leave employers with no post-termination protections where an employee has a three-month notice period, as is often the case for senior employees. What about restraints for which an employees has received a significant payment or benefit, for example in an LTIP or RSU agreement? And when will the new legislation be introduced, if at all? The announcement says this will be “when parliamentary time allows” which might well not be before the next election, with no guarantees as to whether a new government would take this forward.

In the meantime, there is significant uncertainly as to what employers should be doing – both in terms of whether they need to amend existing employees’ covenants, and also offers to new hires. For now, we recommend that companies continue to include non-competes where they feel other restrictions do not give enough protection, but include these within a fuller set of protections. These could include non-dealing and non-interference restraints, non-solicits, longer notice periods which could be used to enforce garden leave and tailored confidentiality restrictions. And we already see a trend towards building retention arrangements, such as RSUs, which may offer a potentially safer ‘home’ for a non-compete restriction for senior employees.

Please contact any of the London employment team for any questions on your UK, or International, business protection strategy.

SG - J.Coleman Speaking Engagement

Jesse Coleman, a Partner in Seyfarth’s Commercial Litigation practice group, will present at American Intellectual Property Law Association’s “Working with Experts and Recent Developments In Trade Secrets Damages” webinar on Wednesday, May 17, 2023 at 12:30 p.m. ET.

Jesse will be presenting alongside other leading practitioners in the area, including Brent Bersin (FTI), Lawrence Pockers (Duane Morris) and Jennifer Kenedy (Locke Lord). The roundtable of presenters will discuss recent development in trade secrets, and offer insight on how to effectively work with damage experts in trade secrets litigation. The webinar will address the following topics:

  • When to hire a damages expert
  • Selection of damages measure(s) in litigation
  • Use of damages expert to help establish causation
  • Recovery for extraterritorial damages
  • Apportionment of damages across multiple trade secrets
  • Recent challenges to expert testimony

For more information and to register, click here.

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This post was originally published to Seyfarth’s Gadgets, Gigabytes & Goodwill blog.

Last week, a joint statement was issued by four federal agencies expressing their apprehension regarding the use of AI for discriminatory or anticompetitive purposes and outlining their plans for regulation. This comes on the heels of Elon Musk requesting a “pause” in AI development and meeting with Senator Chuck Schumer to guide the statutory framework of AI management. It also comes as China and the EU unveiled their own proposed laws surrounding the regulation of AI. How will governments across the globe respond to this pivotal technology? And for the United States, how will our government respond?

1. Joint Statement

The Consumer Financial Protection Bureau (CFPB), the Justice Department’s Civil Rights Division, the Equal Employment Opportunity Commission (EEOC), and the Federal Trade Commission (FTC) released a Joint Statement on Enforcement Efforts Against Discrimination and Bias in Automated Systems (“Joint Statement,” found here). The Joint Statement expressed the collective concern that AI would be used for discriminatory or anticompetitive purposes.

  • The CFPB is concerned about the discriminatory use of AI in lending decisions. “[T]he fact that the technology used to make a credit decision is too complex, opaque, or new is not a defense for violating these laws.”
  • The EEOC similarly cautioned against the use of AI “to make employment-related decisions about job applicants and employees” and made clear that there is no technology exception to its rules.
  • The Civil Rights Division followed suit, explaining “the Fair Housing Act applies to algorithm-based tenant screening services.”
  • The FTC predictably focused on the potentially anticompetitive impact of AI and “warned market participants that it may violate the FTC Act to use automated tools that have discriminatory impacts, to make claims about AI that are not substantiated, or to deploy AI before taking steps to assess and mitigate risks.”

This is all to say that one cannot outsource its liability to AI. In the realm of decision-making and data-driven solutions, pleading ignorance to the ways in which AI is utilized is not, nor will it ever be, an adequate defense, whether presently or in the future. Many AI algorithms are a black box to the user, so the views of the Joint Statement will be difficult to mesh with the practical use of artificial intelligence tools.

2. International AI Laws

Countries across the globe are rushing to institute their own regulation of AI in response to how it is implemented in their societies. China’s law would require AI models to pass a security assessment before the tool is publicly released. This development is in response to the recent unveiling of numerous generative AI tools by large Chinese companies, which have the capability to simulate human speech and generate text and image-based content.

The EU AI Act would assign three categories to AI tools based on their risk level. The most egregious tools are assigned “unacceptable risk, such as government-run social scoring of the type used in China.” These would be outright banned. Less egregious tools would be deemed “high-risk applications, such as a CV-scanning tool that ranks job applicants” and such tools would be regulated, but not per se banned. Those models not falling within either category would be “largely left unregulated,” whatever that means.

3. What will the United States do?

The Joint Statement makes clear that there is no AI exception to current regulatory rules. It also implies the regulatory agencies believe its framework is already set. For example, using an AI tool to discriminate on the basis of gender or race is illegal—just as it always has been. Anticompetition is anticompetition—AI or not. It appears the agencies are awaiting congressional action for more aggressive oversight on AI.

How Congress reacts will be interesting to watch. The stakes could not be higher and legislation will certainly take time. It is helpful that Congress is seeking guidance from the private sector and understanding the ways in which this revolutionary technology is being used. Perhaps they should seek guidance from AI itself?

4. What AI Has to Say About…Regulation of AI

I had the following exchange with ChatGPT to see what it felt would be effective AI regulation in the financial lending industry:

Pat: I work for the government. We are concerned that artificial intelligence may cause financial firms to discriminate in their lending. We are also concerned that companies will use artificial intelligence to gain an anticompetitive advantage. What are some policies that may prevent such abuses of artificial intelligence?

ChatGPT: There are several policies that could help prevent discrimination in lending and anticompetitive behavior resulting from the use of artificial intelligence (AI):

  1. Algorithmic transparency: Requiring financial firms to disclose the data, models, and algorithms used in their lending decisions would make it easier to detect and address discriminatory practices.
  2. Ethical guidelines: Developing ethical guidelines for the use of AI in financial services could help ensure that algorithms are designed and implemented in a way that is fair and non-discriminatory.
  3. Oversight and regulation: Government agencies could establish oversight and regulation to ensure that AI applications in financial services comply with ethical and legal standards, and do not lead to unfair market practices.
  4. Anti-discrimination laws: Enforcing anti-discrimination laws can help prevent lending decisions based on factors such as race, gender, or religion, even if those factors are indirectly inferred from other data.
  5. Competitive safeguards: Promoting competition by preventing the accumulation of market power by large firms could help prevent anticompetitive practices enabled by the use of AI.
  6. Data protection and privacy: Ensuring the protection of customer data and privacy rights could also help prevent discriminatory and anticompetitive practices enabled by AI.

It will be interesting to see how government responds and who—or what—they listen to. We will certainly keep you updated as developments arise.

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In Direct Biologics L.L.C. v. McQueen, et al., the U.S. Court of Appeals for the Fifth Circuit vacated a lower court’s dismissal of a trade secret and restrictive covenants suit, but nonetheless stressed the need for movants seeking a preliminary injunction in trade secrets cases to provide specific evidence of the irreparable harm caused by both actual and potential disclosures of trade secrets, and also to prove the difficulty in quantifying damages in order to obtain injunctive relief.

On April 3, 2023, the Fifth Circuit, in a unanimous decision, vacated and remanded a lower court’s decision to deny the request by biotechnology company Direct Biologics, LLC for a preliminary injunction against its former senior executive Adam McQueen for misappropriation of the company’s most vital trade secrets for his current employer Vivex Biologics, Inc.

Direct Biologics is a biotechnology company which manufactures two pharmaceutical products, AmnioWrap, an allograft skin substitute for tissue repair, and ExoFlo, a proprietary extracellular vesicle (“EV”) used in treatment of severe COVID-19. At the time of briefing to the Fifth Circuit, ExoFlo was undergoing the final phase of clinical trials to become the first of its kind EV to receive FDA approval for use in the United States. McQueen served as Executive Vice President for Direct Biologics during the development of ExoFlo and later joined Vivex, a direct competitor to Direct Biologics that also sells and markets allograft products and develops EV products. As alleged by Direct Biologics, “McQueen, as a high-level executive, was one of only a handful of individuals at [Direct Biologics] intimately involved with both the AmnioWrap and ExoFlo product lines, and who knows [Direct Biologics]’s most closely guarded secret: the formula and product specifications for its flagship technology, ExoFlo.”

Direct Biologics filed suit against McQueen for breach of his non-compete and non-disclosure agreements, and trade secret misappropriation under state and federal trade secrets law against both McQueen and Vivex. Direct Biologics then moved for a preliminary injunction to compel McQueen to comply with his non-compete agreement, preventing his employment with Vivex, and to prevent him from using any confidential and trade secret information that he had acquired from Direct Biologics. The Western District of Texas denied the preliminary injunction, finding that Direct Biologics had not demonstrated that it would suffer irreparable harm if injunctive relief was not granted. In doing so, the Court also refused to apply a presumption of irreparable harm under Texas law where a “highly trained employee is continuing to breach a non-competition covenant.” The lower court then dismissed the remainder of Direct Biologics’ suit, finding that the remaining claims were subject to arbitration, and entered a final judgment disposing of the suit in its entirety.

The Fifth Circuit reversed the lower court’s order on appeal. The Court reviewed the presumption of irreparable harm under Texas law, and explained that in the absence of independent proof of harm, courts have discretion in declining to apply a presumption of irreparable harm. Next, the appellate court examined whether the lower court erred in finding that Direct Biologics had not presented sufficient evidence of irreparable harm when it demonstrated that McQueen had previously disclosed trade secret information to Vivex.

The Fifth Circuit found that the lower court failed to make an individualized assessment of whether disclosure was likely to occur during the pendency of the lawsuit, and failed to properly consider whether money damages would be easy or difficult to quantify. Therefore, the Fifth Circuit vacated the lower court’s order denying the preliminary injunction, and remanded the case with instructions to make particularized findings whether harm was likely to occur and whether money damages would be difficult to quantify.

In addition to vacating the order denying the preliminary injunction, the Fifth Circuit also vacated the lower court’s dismissal of Direct Biologics’ claims subject to arbitration. The Court noted that although there was no dispute that the claims must ultimately be submitted to arbitration, a potential preliminary injunction cannot be entered unless the final judgment dismissing the claims was also vacated.

Even though the Fifth Circuit ultimately gave the plaintiff another shot at proving its claims, the Direct Biologics ruling is a reminder than when seeking a preliminary injunction or any injunctive relief, plaintiffs should put forth specific evidence of the harm that has already occurred and also the potential for injury during the pendency of the lawsuit. Equally important, a plaintiff must be able to show with specific evidence that, should disclosures of trade secrets happen, money damages would be difficult or impossible to quantify.

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The California legislature is considering new legislation that proposes, among other things, penalties for an employer’s use of restrictive covenants as well as for attorneys who assist with their enforcement.

Assembly Bill 747 was introduced in February 2023 and, if passed, would make the following changes:

  • The existing exception for restrictive covenants that are part of the sale of a business would be narrowed. Presently, any person who sells the goodwill of a business or who disposes of their ownership interest or other specified assets in a business may agree with the buyer to refrain from competing in the geographic area in which the sale occurred. AB 747 would modify the definition of “ownership interest” to require that the interest be more than a 10% interest in a total partnership or total membership or in the total shares of the entity’s ownership, perhaps in a nod to the FTC’s proposed rule that would ban non-competes (although the FTC’s proposal would set a threshold of 25%).
  • The definition of void contracts under Business & Professions Code § 16600 (contracts that restrain employees “from engaging in a lawful profession, trade, or business of any kind”) would be expanded to include contracts that require debtors to pay for a debt if the debtor’s employment or work relationship with a specific employer is terminated.
  • Employers would be prohibited from imposing any penalties or costs on employees or independent contractors for terminating the employment relationship.
  • Employers would be penalized for presenting a restrictive covenant as a term of employment or attempting to enforce a restrictive covenant. In the event of a violation, employers would be liable for actual damages and an additional penalty of $5,000 per employee or potential employee. Employees would be able to bring actions for injunctive relief, damages, and penalties, for which they could recover costs and attorney’s fees. The Attorney General would be required to investigate any allegations of a violation of this provision and would be authorized to bring an enforcement action in cooperation with the Labor Commissioner if any were discovered.
  • A new section would be added to the chapter of the Business and Professions Code governing attorneys, making it cause for “suspension, disbarment, or other discipline” for an attorney to enter into or attempt to enforce any contract that restrains an employee “from engaging in a lawful profession, trade, or business of any kind” (see Cal. Bus. & Prof. Code § 16600).
  • Finally, the bill would narrow an existing exception to the prohibition on employers requiring employees who reside and work in the state to adjudicate employment claims outside the state. Currently, this prohibition does not apply to employees individually represented by counsel in negotiating the terms of the agreement that designates the venue, forum, or choice of law of any employment claims. Under AB 747, employees would not only have to be represented by individual counsel but individual counsel could not be paid for by or even selected upon the suggestion of the employer.

AB 747 is one of several restrictive covenant bills pending before the California legislature.  Another bill, AB 1076, would formally make the use of restrictive covenants unfair competition subject to California’s Unfair Competition Law (Business and Professions Code § 17200 et seq.).  A third bill, Senate Bill 699, would tweak the voiding of restrictive covenants (found at California’s Business and Professions Code § 16600) to make its language even clearer.

While California’s hostility to restrictive covenants is far from new, AB 747 gives the state’s prohibition rather sharp teeth for both employers and their counsel. The bill has been re-referred to the Committee on Judiciary and set for hearing today, April 25. We’ll keep you updated on any progress the bill makes.

Tuesday, May 2, 2023
12:00 p.m. to 1:00 p.m. Central
11:00 a.m. to 12:00 p.m. Mountain
10:00 a.m. to 11:00 a.m. Pacific
1:00 p.m. to 2:00 p.m. Eastern

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About the Program

Join us for a program that will dive into the issues surrounding non-competes in the health care industry. Seyfarth attorneys will engage in a lively panel discussion featuring in-house counsel leads in the industry.

Speakers

Chris DeMeo, Partner, Seyfarth Shaw LLP
Alex Meier, Partner, Seyfarth Shaw LLP
Mark Easterly, Vice President, Legal Services, Houston Methodist Hospital
Cynthia Adjain, Assistant General Counsel, Community Health Choice

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If you have any questions, please contact Christian Pourreau at cpourreua@seyfarth.com and reference this event.