Courts are divided on the enforceability by an assignee of a non-compete covenant relating to personal services where the covenant does not state whether it is assignable and the employee does not consent to the assignment.
Status of the case. A non-compete agreement signed by an employee of TSG, Inc., purported to be effective for two years after his termination and to be applicable to the whole of North America. Subsequently, TSG, Inc. was adjudicated a bankrupt. The trustee in bankruptcy assigned the agreement to TSG Finishing, a solvent, wholly-owned operating subsidiary of TSG, Inc., and the employee went to work for the subsidiary. He had the same job title, and performed essentially the same tasks, as before. Two years later, he resigned and accepted a similar position with a competitor. The subsidiary sued him and moved for entry of a preliminary injunction. The motion was denied, but the appellate tribunal reversed, remanded, and directed the trial court to enter the injunction. TSG Finishing, LLC v. Bollinger, Case No. COA140623 (N.C. Court of Appeals, Dec. 31, 2014).
The assignor, the assignee, and the employee. TSG, Inc. and its wholly-owned, operating subsidiary TSG Finishing, were in the business of “fabric finishing,” applying chemical coatings to textiles in order to provide customers with, for example, the desired color, stiffness, and abrasion resistance. The fabric finishing process was complex and involved trade secrets.
Bollinger was a long-time employee of TSG, Inc. He signed the covenants in 2007 in exchange for a salary increase and a signing bonus.
In 2009, TSG, Inc. filed a Ch. 11 bankruptcy petition. Two years later, the bankruptcy trustee assigned a number of TSG, Inc.’s assets, including the covenants, to TSG Finishing which became Bollinger’s employer. His title with each company was Quality Control Manager, and his duties were substantially the same. TSG Finishing was headquartered in Pennsylvania. He worked at a plant in North Carolina. In 2013, he quit TSG Finishing and was employed by a nearby competitor and was given a similar job assignment.
The non-compete. The covenant was silent with regard to assignability. It included a Pennsylvania choice-of-law provision.
Courts are split regarding the enforceability of personal service non-compete covenants assigned without the employee’s consent, courts cite the following factors:
1. A covenant assigned simply by operation of law — for example, where the assignor corporation merely changed its state of incorporation or just converted to an LLC — usually is enforced. See, e.g., Ochsner v. Relco Unisystems Corp., Case No. A13-2399 (Minn. Court of Appeals, Oct. 6, 2014), p. 6.
2. The employee may be deemed to have given implied consent if the covenant states that it is binding on the parties’ “successors and assigns.” If the covenant contains no such words, but the employment agreement of which it is a part contains that language, judicial rulings are not uniform.
3. Courts are divided as to whether enforceability is impacted by the form of the assignment, for example, (a) a transfer to the assignee of all of the assignor’s assets, as opposed to (b) all of the assignor’s stock. In either event, enforcement may be less likely if the assignor was not an operating business on the date of the transfer. See, e.g., Cronimet Holdings, Inc., v. Keywell Metals, LLC, Case No. 14 C 3503 (N.D.Ill., Nov. 7, 2014) (slip opin. at 11-12).
4. If the assignee and the assignor are virtually identical, and particularly if they are closely affiliated, courts seem less hesitant to enforce assigned covenants. The same is true if the employee’s job title, duties and responsibilities are no different after the assignment, especially if the employee received valuable consideration for signing.
5. Judges tend to be sympathetic to employees who may be unable to earn a living if the covenant is enforced. However, judges also sympathize with assignees whose good will, confidential information, and investment would be at substantial risk in the absence of enforcement.
The rulings here.
The trial court concluded that the assignee was unlikely to succeed on the merits. Among the primary factors which seem to have led to this result were the absence of a covenant provision permitting assignment, the enormous breadth of the covenant’s geographic scope, and the court’s view that a leading Pennsylvania case, Hess v. Gebhard & Co., 808 A.2d 912, 922 (Pa. 2002) — which involved a sale of the assignor’s assets and held that the assignee could not enforce the covenant — was analogous.
On review, the opposite result seems to have been reached primarily because of the extensive amount of time, effort, and expense the assignee (and the assignor) incurred in developing and protecting the trade secrets which were critical to the assignee’s business. In the absence of enforcement, the competitor would be able to use that confidential information without making a similar investment. In addition, the appellate judges deemed the Hess case to be distinguishable. Also, the covenant did not have a provision prohibiting assignment, the assignor demonstrated that there were jobs the employee could perform even if the covenant was enforced, and substantial consideration was given for the covenant at signing.
Takeaways. There can be no certainty regarding the enforceability of a personal services non-compete assigned without the employee’s permission. But consent may be inferred by, for example, a “successors and assigns” clause or if the nature of the employment immediately after the assignment is little different from what it was before. If prejudice to the assignee resulting from not enforcing the covenant greatly outweighs the harm to the employee if it is, enforcement is likely.