Many states strongly disfavor non-compete agreements, enforcing the narrowest of provisions and leaving employers in some jurisdictions with limited options for protecting their investments in intangible assets such as goodwill and customer relationships.
A recent Fourth Circuit decision, Allegis Group Inc. v. Jordan, 951 F.3d 203 (4th Cir. 2020), offers guidance for using post-employment payouts as a means of navigating around judicial and/or legislative barriers to the enforcement of non-competes. The Allegis decision suggests that a non-compete provision is more likely to be enforced, and can be broader in scope if it meets the following criteria:
- The provision is separate and apart from the terms and conditions of employment;
- The provision provides consideration post-employment incentive payments that are independent of salary and benefits earned during employment;
- Participation is voluntary, in the sense that employees may decline the incentive payments and thereby avoid the non-compete obligation; and
- The provision is characterized as a condition precedent to receipt of incentive payments, as opposed to a restrictive covenant.
Relying on these criteria, the Fourth Circuit determined that the non-compete at issue was enforceable even though it applied broadly to defendants’ former employer and its parent company and subsidiaries. The Court reasoned that qualified, highly compensated individuals who elected to participate in the “incentive investment plan” could only receive the benefits if they complied with the non-compete condition precedent.
Allegis Group Inc. (Allegis) offered an “incentive investment plan” (the Plan) to qualified, highly compensated employees. Under the Plan, qualified employees were offered incentive payments to be paid over thirty (30) months from their resignation, in exchange for their loyalty and support for the economic growth of Allegis and its subsidiaries for the same period. Qualified employees could, during their employment, earn “Units,” which were economically equivalent to the fair market value of one share of Allegis common stock (plus the excess of dividends, if any, over the cash distributions made for one Unit). Although the Units were awarded annually, they had no value other than as a “potentiality of income” that could be earned in accordance with the terms of the Plan. The Plan provided that in order to earn and become entitled to receive payment for the Units, participating former employees had to refrain from competing with and soliciting the customers and employees of Allegis or any of its subsidiaries for the thirty (30) month payment period.
Defendants in the case were all high-level employees who elected to participate in the incentive investment plan. The highest-ranking, a former regional vice president, left first and within the thirty-month period formed two competing companies. He had been paid $1.4 million under the Plan. He also recruited the three other defendants within the thirty-month period (though they were hired after). Two of the three other defendants also received payments, though more modest. Allegis sued all of them, asserting breach of the Plan. The trial court granted summary judgment in favor of Allegis, ordering defendants to repay, with interest, the incentive payments received from Allegis.
The Court’s Decision
On appeal, a divided Fourth Circuit panel applied Maryland law, and the majority held that the former employees who started a competing business had to return, with interest, payments received pursuant to the Plan. In reaching this result, the majority first analyzed the text of the Plan, emphasizing that the incentive payments were offered “subject to conditions” (namely the non-compete and non-solicit provisions). On that basis, the majority determined that the restrictions constituted conditions precedent and, therefore, were not subject to the “reasonable under the circumstances” standard applicable to restrictive covenants under Maryland law. (The majority also distinguished the Plan from restrictions on a pension plan, which must comply with the reasonableness standard pursuant to Food Fair Stores, Inc. v. Greeley, 264 Md. 105, 285 A.2d 632, 638 (1972). The majority explained that “the threat of a loss of earned pension benefits to a former grocery store manager was coercive, whereas the loss of benefits under the Incentive Plan is, in the circumstances, better seen as elective.”)
Going further, the majority held that even if the reasonableness standard applied, the non-compete at issue was nevertheless enforceable because it was appropriately tailored to legitimate business interests and imposed no undue hardship. Rejecting the defendants’ argument that the restrictions were overbroad because they applied to not only competition with their former direct employer, but also its parent company and subsidiaries, the majority distinguished the Plan from an employment agreement. The Plan: (1) was a contract between Defendants and Allegis, the parent company of their former employer; (2) was directly tied to the performance of the parent company (as measured by its stock value); and (3) had a stated intent of promoting the business interests of Allegis and its subsidiaries. Because competing with any subsidiary would impact the overall financial performance of Allegis, the incentive plan reasonably prohibited competition with any of the companies in the group. The majority also found no undue hardship, explaining that because participation in the incentive plan was voluntary, defendants could weigh the benefits of abiding by the restrictions and receiving payments versus forming a competing company.
Central to the majority’s holding was its view that declining to enforce the non-compete would discourage employers from offering such incentive plans to their employees. It explained: “Highly compensated employees like the defendants might well prefer to refrain from competing temporarily in exchange for post-employment payments — payments which they would not otherwise be owed and which do not constitute general benefits of employment. But companies in highly competitive industries might not offer these plans if they were themselves unable to fully benefit from such contractual arrangements.”
The Allegis decision tells us that courts will recognize an Employer’s ability to contract for broader non-compete provisions than those permitted as a general term of employment. Specifically, the Allegis decision equates the post-employment payment of incentive plan benefits in this case with consideration for post-employment services. It does so even though the Units on which the payments are based are awarded annually. Careful drafting of incentive plans can achieve the dual objective of recognizing performance and securing post-employment commitments to broadly preserve the company’s business interests from highly compensated employees.