What happens when disagreements arise about restrictive covenants?

By Chris Wrecza and Matthew Doffing

No one wants banks and their employees to end up in disagreements over restrictive covenants. But, what happens when disagreements do arise? And, how do the courts handle these cases?

This is second installment of my article series on retention and restrictive covenants. I am again interviewing Ansis Viksnins, shareholder at law firm Monroe Moxness Berg, Minneapolis. In our first interview, Ansis answers six common questions about non-disclosure, non-solicit, and non-compete agreements, read it here.

Q. We closed the first part of our conversation with a question about the options available to employees who are job searching but who have signed a non-compete agreement. You explained that new employers will commonly carve out restricted activity from the duties of their new job until the agreement becomes inactive.

What happens when the previous employer thinks the employee is still violating the agreement?  

Ansis Viksnins: The first step is that the employer will call me and I will send the employee a cease and desist letter, when appropriate. Generally speaking, such a letter will create discussion between the parties and things get worked out. However, if the activity continues after the letter without the parties reaching an agreement, the old employer has to decide if it is worth the time, money, and effort to enforce the agreement in court.

These types of suits can involve the new employer as well. If the new employer knows about the restrictive covenant and they choose the ignore it, then there can be an interference with contract claim made by the old employer. However, in order for the old employer to bring a case against the new employer, it would need show that new the new employer knew of the agreement, that they encouraged the employee to violate it, or that they turned a blind eye to violations of the agreement. In case where the old employer can prove these things, the court will probably come down pretty hard on the employee and their new employer.

Banks can avoid being pulled into such disagreements by asking to see candidates’ restrictive agreements. If they do hire the individual, they could then avoid the restricted activity.

Q. How much financial protection does a non-solicit or non-compete provide?

If the old employer successfully makes a claim that the employee has violated their agreement and that the new employer interfered with the agreement, the measure of loss is the lost profits from lost accounts. An aggressive past employer could argue they have lost the customer forever and that they have been deprived of a 10-year stream of income. The new employer’s counter argument is that after a year, they would have left anyway.

Sometimes these numbers can get pretty big.

Q. How do these types of disagreements play out in court?

Minnesota laws says restrictive covenants are enforceable but they are disfavored and to be narrowly construed. Can employers win these cases? Yes, they do all the time. But, the courts look for ways to avoid a harsh result for the employee. Because of this, though employers do win all the time, it is not always the result they were originally looking for.

In Minnesota, a judge has the ability to “blue pencil” the agreement i.e. they can rewrite the agreement. They can say, for example, that it isn’t necessary to completely bar an employee from working for a particular bank for 12 months. But, the employee did have a hold on three specific customers. So, I am going issue an order that the employee is not barred from working the industry but the employee cannot call on or work with those customers for the term of the agreement. This is a common result for these court cases.

In that case, previous employees and employers can offend save money by coming to this kind of agreement between them. You might as well use your own blue pencil. Good lawyers will be able to craft something to allow the employee to work but that also give the old employer some protection.

Restrictive covenant laws are state by state. In the upper Midwest – Minnesota, Wisconsin, Iowa, North Dakota and South Dakota –  we have varied treatment of restrictive covenant. Minnesota and Iowa are relatively similar.

In Wisconsin, the court doesn’t have a blue pencil. The agreement will either be enforceable or it’s not; you win or lose. In Wisconsin, that forces employers to be more measured in the scope of the agreement. There is no way for the court to save you by scaling the agreement back to make it more reasonable.

South Dakota has a statue about restrictive covenants. They cannot be longer than two years. They must state a specific geographic area like a county or a city that is subject to the restriction.

North Dakota will not enforce restrictive covenants; their law says these covenants restrict free trade. You cannot have a non-compete in North Dakota.

Examining restrictive covenants from both sides of the job offer

By Chris Wrecza and Matthew Doffing

We’ve all heard of non-disclosure, non-solicit, and non-compete agreements – known to attorneys as “restrictive covenants” – but what exactly do they do, and what distinguishes one from the other?

I recently had an interesting conversation with Ansis Viksnins, shareholder at law firm Monroe Moxness Berg, Minneapolis, who helped me find much greater clarity about restrictive covenants. I've broken down Ansis' insights into two parts.

This is part one of the series. Part two will look at what happens when disagreements over restrictive covenants arise.

Q: As a bank recruiter, I field questions from bankers about restrictive covenants. Can you explain what they are and how they differ?

Ansis Viksnins: A nondisclosure, or NDA, is an agreement in which the employee agrees not to disclose certain information. They usually state that, while you are an employee at a specific bank, you will not use information that is defined as confidential for purposes other than it was intended.

NDAs can be outlined in an employee handbook. Many have no specific time limit and remain in force as long as the information covered by the agreement remains confidential and proprietary.

For a non-solicitation agreement, or NSA, the employee agrees not to seek business from the employer’s customers or clients once the employee leaves. Typically, the employee may not induce customers with whom they have worked to leave for a competing business for one year. An NSA might even prohibit employees from accepting business from the clients of their previous employer.

Covenants not to compete, known as non-competes, restrict an employee from working in a line of business, or “space,” be it financial services, dental care or construction. I’ve seen dog grooming as restricted space for a non-compete. These boil down to telling the employee that once he or she leaves, they cannot do for others what they did for us.

Q: What is an enforceable “space” and how is it defined?

A.V.: A non-compete agreement has to be reasonable in terms of length and geographic scope under the law. In some states, the cases are clear that a one-year restriction is viewed as reasonable while a two-year restriction might be reasonable under certain circumstances.

Anything longer than two years would likely be viewed as suspect, except in a case such as the sale of a business, where I have seen five-year restrictions for exiting executives and ownership.

In terms of geography, a reasonable restriction would be the immediate area in which the business operates. In a metropolitan area, an agreement could restrict an employee from providing banking services within a 10-mile radius as the crow flies. A typical non-compete might restrict the employee from competing within a certain radius of any bank branch, therefore it would not limit the restriction to the branch where the employee worked or to the headquarters of the organization. 

Q: Which restrictive agreement is most popular among banks?

A.V.: Non-solicitation agreements are more common than they were 10 years to 15 years ago, because the courts have become more receptive to NSAs than to non-compete agreements. The courts see it as a fairness issue. The idea is that a bank’s customer belongs to the bank and an employee should not exploit a relationship he or she built for the employer. To tell an employee he or she cannot compete in an entire industry, by contrast, seems harsh and unnecessary given what the employer should really want to protect, which is its customer base.

Q: What are some best practices for banks and bank employees when it comes to restrictive agreements?

A.V.: Laws vary by state. It’s best to disclose the restrictive agreement at the time a job offer is extended. You want to put a prospect on notice about the restrictive agreement before they quit their old job. The best way to do this is to attach a disclosure about the restrictive covenant to the job offer. Be transparent. Either describe the agreement or provide a copy of it. If an employer wants an employee to sign a restrictive agreement after their employment has begun, then it must give something new of value in exchange for signing it.

Also, a new job is no longer legitimate consideration after the employee has given notice at their old job. There have been cases where courts have refused to enforce restrictive covenants because an employer took unfair advantage of the employee. If an employer comes around months or years after hiring an employee and asks them to sign an agreement, it is not enforceable. The same applies in M&A situations where the buyer wants key employees to sign an agreement without giving consideration.

Q: Can employees negotiate their restrictive agreement?

A.V.: Yes. The best time to do so is after receiving an offer letter but prior to giving notice. Employers’ willingness to negotiate can be all over the map. It depends on the level of the positions and on the candidate.

Anecdotally, I would say at least 50 percent of the banks I have dealt with use some form of restrictive covenant. I have seen employees, especially for executive positions, negotiate the scope of the agreements to shorten the time frame. I’ve also seen an executive agree to a 12-month non-solicitation period in exchange for severance. Banks will agree to that depending on the situation.

Q: With a restrictive agreement in place, what are the options when employees want to change jobs?

A.V.: Assuming their previous employer followed best practices, employees don’t have much leverage. That said, many times people do have an argument that a new job will not violate the agreement because the work they will do is different in some substantial way or is outside the restricted space of their non-compete. I have seen subtle arguments such as, “I was in construction lending at my old job but now I am overseeing consumer lending.” I’ve also seen employees argue that their new employer does different things and therefore their new job will not violate the agreement.