New England Biz Law Update
You’ve been at your current in-house position for some time. When you took the job, or perhaps sometime during your employment, you were required to sign a variety of restrictive covenants that included at least one of the following: a non-competition agreement, a nondisclosure agreement, a forfeiture agreement, a no-raid agreement and an assignment of inventions agreement.
You’ve just been offered a great position at a direct competitor and would like to bring your paralegal. But that would violate your non-compete, could result in disclosure of confidential information in violation of your nondisclosure agreement, and would trigger your forfeiture agreement and violate your no-raid agreement.
Can you do it anyway? Maybe.
The guiding principles
All New England states (indeed, all but three states nationally) will enforce reasonable restrictive covenants arising from an employment relationship. Exceptions exist. In particular, in virtually all states, lawyers at law firms are exempt from non-compete agreements.
The basis for this near-universal exemption is Rule 5.6 of the Rules of Professional Conduct (and DR 2-108 of the Cannons of Ethics). It states in pertinent part:
“A lawyer shall not participate in offering or making: (a) a partnership or employment agreement that restricts the right of a lawyer to practice after termination of the relationship … .” (Emphasis added. Although the Massachusetts Rules of Professional Conduct are quoted, the relevant rules are, for purposes of this analysis, essentially the same.)
The comments to Rule 5.6 add the following:
“An agreement restricting the right of partners or associates to practice after leaving a firm not only limits their professional autonomy but also limits the freedom of clients to choose a lawyer.”
Although lawyer autonomy is sometimes given short shrift, the protection of client choice is accorded extreme significance.
Given the language of the comment — speaking to the rights of “partners and associates” — some have questioned whether the prohibitions of Rule 5.6 apply to in-house counsel, who are neither partners nor associates (in the usual sense, at least).
Other reasons to question application of Rule 5.6 to in-house counsel include, for example, the fact that the principal effect of Rule 5.6 on in-house lawyers is more about where they can work than which clients they serve (although, plainly, at least the one client, i.e., the employer, could be adversely affected if the exception did not apply).
Or, that in-house counsel wear two different hats (the legal hat and the business hat) and, therefore, should not the business aspects of in-house counsel’s job be subject to the restrictions just as they would if performed by a non-lawyer?
Despite those questions, the American Bar Association has determined that Rule 5.6 applies not just to outside lawyers, but to in-house counsel as well.
And, as the New Jersey Advisory Committee on Professional Ethics (relying on Virginia, Illinois, Connecticut, Washington and Philadelphia bar opinions, as well as cases involving outside counsel) assayed, “the overwhelming majority of jurisdictions in the United States follow the ABA’s approach and hold that restrictive covenants affecting lawyers, whether employed by corporations or private law firms, generally violate state ethical standards.”
Thus, as the New Jersey Advisory Committee concluded, “the fact that the restrictive covenant agreement in question arises in the corporate context, rather than within a law firm, is of no moment.”
Nevertheless, while application of Rule 5.6 to in-house counsel can be reasonably presumed, the full extent of the prohibitions on restrictive covenants for in-house counsel is far from settled.
So, what restrictive covenants can in-house counsel be bound to and what restrictive covenants are likely verboten?
Non-competes
There is little doubt that, in New England at least, in-house counsel are free from non-competition agreements that would, in any respect, restrict their functioning in their legal capacity.
Accordingly, a non-compete that prevents in-house counsel from moving to a different in-house position at a competitor can likely be assumed void under Rule 5.6.
In contrast, it is only when the non-compete prohibits in-house counsel from taking a purely business role that the agreement would likely be enforceable.
Thus, for example, a non-compete that prevents in-house counsel from going to a competitor as a COO would likely be enforceable.
The rationale for that exception to the exception is that the individual’s status as a lawyer is irrelevant to the role and, therefore, client choice for legal services is not at issue.
Although there is no direct authority for such an approach, the Advisory Committee on Professional Ethics to the New Jersey Supreme Court expressly left the issue open.
Non-compete substitutes
Perhaps not surprisingly, because of the focus on client choice, most states have interpreted Rule 5.6 broadly. As a result, it is generally accepted that Rule 5.6 prohibits not only garden-variety non-compete agreements, but any agreements that impinge on a lawyer’s ability or willingness to serve a client.
Thus, agreements that impose financial disincentives on lawyers for competing with their prior law firm are generally considered impermissible restrictions on client choice and, therefore, violative of Rule 5.6.
Examples of such agreements are forfeiture-for-competition agreements (i.e., agreements that require a lawyer to forfeit uncollected fees, capital contributions, unvested options, or other benefits if he competes with his prior firm) and compensation-for-competition agreements (agreements that require a lawyer to pay over to his old firm a portion of the fees he receives for competitive legal services).
Given the general view that Rule 5.6 applies to in-house counsel, and that Rule 5.6 has been used to reject these agreements, there is no reason to believe that it would be applied any differently to such agreements concerning in-house counsel.
In contrast, some states (Massachusetts included, see Pierce v. Morrison Mahoney LLP, 452 Mass. 718 (2008)) permit law firm attorneys to be bound by “straight” forfeiture agreements (i.e., the trigger for the forfeiture is the departure from the firm, rather than whether the lawyer thereafter competes with his former firm). The rationale is that such agreements affect only lawyer mobility, not client choice, and because Rule 5.6 is designed to protect client choice, it does not apply.
Of course, such an approach effectively ignores both that forfeiture agreements can be used as de facto non-competes (i.e., the forfeiture is enforced when a lawyer competes and waived when a lawyer does not compete) and that the other purpose of Rule 5.6 is lawyer autonomy (which, presumably, would include the lawyer deciding where to practice).
Such issues aside, there are additional reasons that a court might not take the same permissive approach when it comes to in-house counsel. As noted above, the primary impact of a forfeiture agreement is to discourage a lawyer from leaving his then-current job.
For outside counsel, it does not prevent them from representing their clients, given that the services can be provided through the old firm or the new one. The adverse financial impact is unrelated to what client is represented.
But for in-house counsel, there is a direct impact on client choice. Specifically, the only way for in-house counsel to represent the new client (i.e., his new employer) would be for him to leave his old job and take the new job, which would trigger the forfeiture.
As a consequence, there is a strong argument that forfeiture agreements disincentivize in-house counsel from representing clients of their choosing, and, as such, they are unenforceable.
Less restrictive restrictive covenants
When other, less restrictive restrictive covenants are considered, the question becomes a bit more complicated, and it’s no longer as simple as merely looking at Rule 5.6. Rather, two additional rules apply: 1.6 (confidential information) and 1.9 (conflicts of interest).
For example, last year, the New York State Bar Association considered whether in-house counsel could be bound by nondisclosure agreements.
The association concluded that “[i]f the proposed confidentiality agreement protects more information than Rules 1.6(a) and 1.9(c), a … lawyer who enforces the agreement after an in-house legal employee terminates employment may be violating Rule 5.6(a)(1) by restricting the former in-house lawyer’s practice of law.”
The bar association went on to observe, however, that “as a practical matter, because the definition of confidential information in Rule 1.6 is so broad, most contractual confidentiality provisions are not likely to exceed the scope of a … lawyer’s confidentiality obligations under the Rules.”
Instructively, the few existing authorities appear to agree that nondisclosure agreements (and presumably other restrictive covenants) with “savings clauses” that limit the scope of the restrictions to coincide with the applicable rules of conduct, will not be deemed to violate applicable ethical rules.
One must then wonder, of course, why there would even be a need to have the restrictive covenant if the rules of professional conduct imposed the very same restrictions. Thus, it is perhaps not surprising that some jurisdictions have found such agreements to be superfluous.
The same rules apply to other restrictive covenants. And, while there is a dearth of commentary on the enforceability of no-raid agreements (agreements by which someone agrees not to attempt to hire former colleagues) and assignments of inventions, the former are likely unenforceable, while the latter likely are enforceable. The rationale is that no-raid agreements impact a lawyer’s ability to best serve his client, while the assignment of inventions has nothing to do with the provision of legal services.
So, while you are almost certainly free to move from in-house job to in-house job, and to bring legal support staff of your choosing, you are not free from all restrictions. Confidentiality and conflicts rules and certain restrictive covenants will govern your transition.
Russell Beck is a litigator and founding partner of Beck, Reed, Riden in Boston. He teaches trade secrets and restrictive covenants at Boston University School of Law and authored a book on non-competition agreements and related restrictive covenants. He can be contacted at [email protected].
