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One More Victory For Employers In The Non-Compete Agreement Realm

July 22, 2010

On July 13, 2010, the Wisconsin Court of Appeals, in The Selmer Co. v. Rinn, Appeal No. 2009AP1353, handed employers yet another victory in the realm of non-compete agreements. Just one year ago, the Wisconsin Supreme Court interpreted Wisconsin's restrictive covenant statute, Wis. Stat. § 103.465, in a manner favorable to employers. Star Direct, Inc. v. Dal Pra, 2009 WI 76. (See "Enforcing Non-Compete Agreements Just Got A Little Bit Easier"). The court of appeals followed the Supreme Court's pro-employer decision of a year ago with a decision that Wisconsin's non-compete statute does not apply to restrictive covenants contained in stock option agreements that are not inextricably tied to the employment relationship. Rather than subjecting these agreements to the scrutiny of Wisconsin's non-compete statute, the court of appeals held that the common law's rule of reason governs the restrictive covenants contained in such agreements.

Summary of the Case
The Selmer Company learned that Timothy Rinn, a former employee, had breached his contractual agreement not to solicit Selmer's customers. As Selmer's vice president of sales and marketing for approximately ten years, Rinn interacted with all of Selmer's clients, including prospective clients. As a provider of services, Selmer depends heavily on the relationships its employees build with customers and the resulting goodwill.

Selmer did not require Rinn to sign a restrictive covenant agreement at the inception of his employment. In his leadership role, however, Selmer considered Rinn a key employee and eventually offered him, as it had done with other key employees, the opportunity to purchase stock in Selmer's parent company at a discounted price through the exercise of stock options. Selmer did not condition Rinn's continued employment on his acceptance of the offer. Additionally, Rinn's employment status with Selmer would not have changed in any way, regardless of whether he accepted or declined the offer of stock options.

Rinn accepted Selmer's offer and signed the stock option agreement. The stock option agreement contained a customer non-solicitation provision and a non-disclosure provision addressing Selmer's confidential information. The customer non-solicitation provision prohibited Rinn, during employment and for one year following termination, from interfering with Selmer's business and from soliciting any past, present or future Selmer customers, including past, present and prospective customers. The non-disclosure provision did not have a time limitation and prohibited Rinn from disclosing any of Selmer's confidential information to anyone.

Rinn notified Selmer of his intention to end his employment in August 2007. On September 11, 2007, Ganther Construction, Inc., Rinn's new employer and a defendant in the case, offered Rinn the position of director of business development. Rinn began working for Ganther on October 1, 2007, and he eventually sold his shares of Selmer's company stock in December 2007.

Soon after Rinn began working for Ganther, he contacted several of Selmer's former and prospective customers and eventually succeeded in persuading some of them to take their business from Selmer to Ganther. Obviously unhappy with Rinn's activities, Selmer sued him and Ganther in February 2008. The trial court granted Selmer injunctive relief and compensatory damages, in addition to dismissing Rinn's counterclaims for unpaid commissions.

Inapplicability of Wisconsin's Non-Compete Statute to Certain Stock Option Agreements
As drafted, the non-solicitation and non-disclosure provisions in Rinn's agreement would have been subjected to strict scrutiny under Wisconsin's non-compete statute and might have been deemed unenforceable. The issue, then, became whether Wisconsin's non-compete statute even applied to the document that Rinn signed.

The court of appeals held that the legislative rationale for passing Wisconsin's non-compete statute did not apply to Rinn's relationship with Selmer. The court explained that the stock option agreement did not affect Rinn's employment status at all. Rinn could have refused to sign the stock option agreement without any consequences to his employment. Had he refused to accept the offer and sign the agreement, he would have remained employed without any change in his employment status. The court pointed out that this case did not represent the typical scenario in which the employee faces a "sign it or look for employment elsewhere" conundrum. As a result, the court held that Selmer did not have a bargaining advantage over Rinn.

Persuaded in part because of the profit Rinn realized when he sold his stock, the court also compared Rinn's acceptance of the agreement to a "bargained-for-exchange" usually found in the context of a sale of a business - a context in which the court has held that Wisconsin's non-compete statute does not apply. Since Rinn's acceptance of the stock option agreement did not implicate any of the legislature's motivations for passing Wisconsin's non-compete statute, the court held that the statute's restrictions did not apply in this context. As a result, the court of appeals applied the more forgiving common law rules to its interpretation of the stock option restrictive covenants and found them enforceable against Rinn.

What Does Rinn Mean for You?
Rinn or Ganther could appeal the decision to the Wisconsin Supreme Court, the composition of which has not changed since it issued the Dal Pra decision. Given this Supreme Court's prior decision in Del Pra, the court of appeals' decision may stand even if appealed.

In the meantime, employers who have legitimate protectable interests should continue to use restrictive covenant agreements that conform to the requirements of Wisconsin's non-compete statute, preferably at the inception of the employment relationship. Employers who offer stock option agreements with restrictive covenants post-employment should also review these agreements to maximize the potential benefits of Rinn.

Employers should also take note of five key issues raised by the Rinn decision:

  1. Selmer did not offer Rinn the opportunity to purchase stock in its parent company with the intention of forcing Rinn to accept the agreement or face termination. The fact that Rinn could have refused the offer without losing his job removed any bargaining advantage Selmer would otherwise have. For this reason, courts will likely continue to subject agreements that require acceptance of restrictive covenants as a condition of employment to the requirements of Wisconsin's non-compete statute.
  2. The court may have been more willing to enforce the stock option agreement because of Rinn's status as a key employee. Although it is possible to offer stock option agreements containing restrictive covenants to all employees, employers should consider the scope of restrictive covenants in such agreements as they apply to lower-level employees. To the extent possible, employers should tailor the restrictive covenants so that they are not overly burdensome for lower-level employees.
  3. The court also focused on the fact that the stock option agreement did not restrict Rinn's ability to work with Selmer's competitors, but it did not rule out the possibility of incorporating such a restriction into a similar agreement. Before including such a restriction into a post-employment stock option agreement, employers should carefully weigh the risks of doing so and possibly not complying with requirements of Wisconsin's non-compete statute.
  4. The court of appeals did not address the fact that the non-disclosure provision had no time limitation, but it appears to have enforced the provision despite the absence of such a limitation. It is also unclear from the opinion whether Rinn or Ganther raised that issue in the trial court or on appeal. Restrictive covenant agreements, at least those subject to Wisconsin's non-compete statute, must contain reasonable time limitations for all types of restrictions, including non-disclosure provisions. Despite the court's willingness to uphold this particular provision, it is still appropriate to include a reasonable time limitation for non-disclosure provisions, even if they are part of a stock option agreement. Employers should consult with an attorney to determine the appropriate time limitations for any particular situation.
  5. Finally, employers should also not mistake Rinn to stand for the proposition that they can simply offer an employee one share of company stock to avoid the strict requirements of § 103.465. In response to this argument by Rinn, the court stated that restrictive covenants, even those outside of the scope of § 103.465, are always analyzed under the totality of the circumstances standard and must be supported by adequate consideration. Consequently, employers should carefully consider the circumstances under which they offer restrictive covenants to each employee and the adequacy of the consideration provided for accepting the restrictions.

If you need advice or assistance with regard to your restrictive covenant agreements, please contact a member of the Godfrey & Kahn Labor and Employment Law Team.

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