If the Terms of Employment Change, Employees May Need to Sign New Non-Competition Agreements

A case decided last month in the Massachusetts Superior Court Business Litigation Session shows once again how material changes in the conditions of an employee’s employment can void a previously signed restrictive covenant, especially when the employer gives the employee a new non-competition agreement but the employee never signs it.   

The lawsuit was brought by a software management consulting firm, Grace Hunt IT Solutions, LLC (“Grace Hunt”), against two of its former employees. Grace Hunt was created from an acquisition of Grace Hunt, LLC, the company that was party to non-competition and non-solicitation agreements the employees had signed. After the acquisition occurred, Grace Hunt’s manager announced that Grace Hunt would be implementing a different compensation structure and would be imposing certain other new employment conditions on the former employees of Grace Hunt, LLC. As part of these changes, each of the defendant employees received an offer letter explaining that they each would be required to sign an enclosed “Non-Competition and Confidentiality Agreement.” The employees signed the offer letters, but none of them signed the non-competition agreements.

Later that month, one of the employees was solicited by a competing software consulting company to form a Boston office for that company, and he forwarded that solicitation on to another employee. Both employees subsequently resigned from Grace Hunt effective December 23, 2011 to join the competing company.

Shortly thereafter, Grace Hunt filed a lawsuit against the defendants and moved for a preliminary injunction to enforce the older non-competition and non-solicitation agreements. It alleged that, while still employed by Grace Hunt and afterwards, the employees solicited—in some cases successfully—Grace Hunt clients for the competing company. 

Judge Peter M. Lauriat denied the motion for a preliminary injunction for several reasons. First, Judge Lauriat determined that the mere acquisition of Grace Hunt, LLC to create Grace Hunt IT Solutions, LLC did not void the older non-competition agreements. He concluded that Grace Hunt IT Solutions, LLC was not a “materially different entity” from Grace Hunt, LLC such that the acquisition would change the scope of the non-competition provisions of the older agreements. 

Judge Lauriat did rule, however, that material terms of the employment relationships had changed with the acquisition.  Especially significant was the fact that Grace Hunt sought to have the employees sign new non-competition agreements. This was an implicit acknowledgement by Grace Hunt that the employment relationships had materially changed after the acquisition. In particular, the compensation structure was changed to include a 20% cut in base pay. Although additional compensation was available through bonuses based on the employees’ billable hours, there was insufficient work for the employees to receive a bonus; they accordingly would receive less compensation under the new compensation structure. The employees also were required to sign the new non-competition agreements, which they did not do. Grace Hunt argued that the employees’ fringe benefits were better than before the acquisition, but Judge Lauriat ruled that “it is the existence of a material change in the relationship that voids the prior non-compete agreement, not the nature of the change.” He concluded by stating that no case applying Massachusetts law has upheld a restrictive covenant executed prior to a material change in employment terms after an employee has refused to sign a new covenant at the employer’s request. Mike previously discussed other cases dealing with the “material change” issue here.

This case serves as a warning to employers to be mindful of two things when making significant changes to employment relationships with employees subject to restrictive covenants. First, an employee’s old restrictive covenant might be unenforceable, so the employee should sign a new non-competition agreement. Second, an employer should make sure that the employee actually signs the new non-competition agreement. As this case shows, small oversights can have big consequences.

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