Court Deems Restrictive Covenant Unenforceable on Its Face: What Employers Should Learn From The Decision

Melinda A. Bialzik
mbialzik@kmksc.com
(414) 962-5110

When a company invests substantial time and resources training employees, and then provides those employees access to its confidential and proprietary business information, the company naturally wants to protect those investments and information. One means of doing so is to include restrictive covenants in employment agreements, most typically non-compete, non-solicitation, non-disclosure and confidentiality covenants. Wisconsin courts have identified two generally acceptable business interests that support enforceability of such covenants: (1) preventing an employee from exploiting the goodwill developed with customers at the company’s expense (which the customers may associate with the employee personally rather than the company); and (2) preventing an employee from using the company’s confidential information and trade secrets to compete unfairly with his or her former employer. Even with that recognition, however, Wisconsin courts have historically viewed those covenants with skepticism. Caselaw is clear that restrictive covenants are “disfavored” and will be construed in favor of the employee, and if any part of the covenant is unreasonable, the entire covenant is unenforceable. A recent court of appeals decision has highlighted some of the dangers in drafting overly broad covenants and clarified Wisconsin’s approach to analyzing those covenants.

When Carlos Godina was hired by Diamond Assets in a sales position, he signed a contract that contained two restrictive covenants: a non-compete and a confidentiality covenant. After he terminated his employment and went to work for a customer, Diamond sought to enforce the covenants. The case came up to the court of appeals on a motion to dismiss filed by Godina, and the court ultimately affirmed dismissal of the confidentiality clause because it was overbroad on its face.

The non-compete clause restricted Godina, for a period of two years after ending employment, from engaging in activities that were:

(1) similar to activities performed for Diamond in the year preceding termination of employment,

(2) competitive to Diamond, and

(3) performed on behalf of actual customers of Diamond or performed on behalf of potential customers to whom Diamond had provided a written service proposal within 12 months preceding termination and to whom Godina had been personally introduced as the one who would possibly perform the services.

Although Godina argued that a restraint as to potential customers is per se unreasonable, the court disagreed and found that Diamond could conceivably produce evidence that it had a protectable vulnerability created by Godina being able to solicit those customers, and that actual application of the restriction was limited so that it was not unreasonable (for example, only 2 of 20 written proposals were made to entities who did not become actual clients).

The court, however, was not as generous in its analysis of the confidentiality clause. That clause relied on a definition of “Confidential Information” as “all data and information relating to the business and management” of Diamond Assets, and further defined “Business Operations” to include “all manner and methods of conducting [Diamond]’s business.” Those definitions, the court reasoned, could apply the restriction to any detail of Diamond’s operations – even “the most mundane minutia” (e.g., the brand of coffee Diamond served in its break room). The court held that this constitutes an unreasonable restraint. Because the governing Wisconsin statute provides that if a restrictive covenant is overbroad in any respect, it is wholly unenforceable, the court found the entire covenant was per se unenforceable and upheld dismissal of Diamond’s claims to enforce that clause. Wis. Stat. § 103.465.

In affirming dismissal of claims based on the confidentiality clause, the court noted that restrictive covenants are typically analyzed by considering the totality of the circumstances, including extrinsic evidence regarding the nature of the business and facts about the employee’s job. Such analysis usually requires a developed factual record, which means enforceability is generally decided at summary judgment or trial. However, the court noted that the analysis begins with the language of the covenant, and where the language alone can be read so broadly that the covenant is per se unenforceable, claims based on that covenant can be dismissed on the pleadings and contract language alone. The court went on to note that analysis of covenants necessarily includes considering hypothetical applications of the covenant, not just the specific facts and circumstances of a specifically alleged breach. If any possible application imposes an unreasonable restraint, the covenant fails and is wholly unenforceable.

What does this mean for employers? First, extreme care must be exercised in drafting restrictive covenants for Wisconsin workers. The Godina case underscores how easy it is to cross the line. Second, the Godina case is important because the matter was resolved at the pleading stage, before any discovery (document productions, depositions, etc.) was taken. Normally the totality of circumstances test requires that some discovery occur before the enforceability of the covenant is resolved. The Godina case established that when a covenant is overbroad on its face, it is possible to achieve a dismissal without engaging in expensive discovery.

The bottom line is that restrictive covenants, while a useful tool, should be drafted as narrowly as possible to protect a company’s legitimate business interests or it runs the risk that the covenants will not be enforced. If you want to review your employment agreements or discuss your options regarding restrictive covenants, contact KMK Attorney Melinda A. Bialzik at (414) 962-5110 or mbialzik@kmksc.com.