Post-Employment Restrictive Covenants – Illinois Law Basics

In Northwest Podiatry Center, Ltd. v. Ochwat (2013 IL App (1st) 120458), the First District reversed key elements of a trial court’s preliminary injunction order in a lawsuit filed by a podiatry center against two former doctor employees.  The plaintiffs – the podiatry firm and its founder – sued two former podiatrists who left to form a competing firm and who took some employees with them and tampered with an exclusive contract between plaintiffs and one of their key referral sources.

The trial court granted the plaintiff’s preliminary injunction petition and enforced the non-competes against the two doctor defendants. ¶¶ 13-14.  The doctors appealed.

The First District gutted much of the trial court’s injunction. In doing so, the Court applied the main rules that control when a post-employment non-compete is enforceable:

– A restrictive covenant must be reasonable and necessary to protect a legitimate employer business;


– The factors considered include: (a) hardship to employee; (b) effect on general public; (c) geographic (distance) and temporal (duration) scope and (d) activities restricted;


– Non-compete provisions are strictly construed and any ambiguities are resolved in the employee’s favor;


– A restrictive covenant ancillary to an employment contract must be reasonable;


– A non-compete is reasonable where (i) its scope is no greater than necessary to protect the employer’s interest; (ii) it doesn’t impose an undue hardship on the employee; and (iii) the non-compete is not injurious to the public;


– the party seeking to enforce a restrictive covenant must show the restriction is necessary to protect its business needs;


– restrictive covenants should be narrowly tailored to only curtail employee conduct that threatens the employer’s interests;


– a court can “blue pencil” a restrictive covenant: if the restriction is too broad, the court can narrow it.
¶¶ 38-39, 46, 56.

Applying these rules, the First District held: (1) the trial court’s “privileges restriction” injunction (requiring one doctor to cede many of his hospital privileges) was overbroad as it lacked any temporal limit; (2) the injunction activity restriction was too broad because it enjoined defendants from conduct that was never agreed to in the employment contracts; and (3) the trial court properly enjoined  defendants from doing business with plaintiffs’ main referral source since Plaintiff had an issue exclusive contractual relationship with it and defendants clearly tampered with that arrangement.

The Court also weighed in on what a departing employee can and can’t do in connection with laying the ground-work to outfit and join a competitor.  Employees can plan, form and equip a competing corporation while working for their employment, but may not begin competition.

Employees can also freely compete with a former employer and solicit former customers of the employer as long as they wait until after they’ve stopped working for the employer and don’t violate a valid non-compete or steal a customer list. ¶ 60.  Corporate officers, though, are held to a higher standard: they owe fiduciary duties of loyalty to their employer and can be held liable for transactions that began, or for information learned while the officer was still with the employer.

The Court upheld the trial court’s finding that one of the defendants breached his fiduciary duties by actively exploiting the maniaged care firm (plaintiffs’ exclusive referral partner) for his personal gain by undercutting plaintiffs’ pricing. ¶¶ 61-62.

Conclusion:

As employment law practitioners know well, careful drafting of employment contract restrictive covenants is paramount.  Non-compete provisions should be reasonable in terms of time and space, and non-disclosure and non-solicitation clauses should be specific and clear.  Northwest Podiatry provides a good summary of Illinois law governing injunctions, the enforceability of employment restrictive covenants, and a corporate officer’s fiduciary duties to a former corporate employer.

Liquidated Damages Provisions in Illinois: Specific Amount for Specific Breach = Good; Optional or Penalty = Bad

imageLiquidated damages clauses appear frequently in a variety of commercial contracts and similar agreements. Several Illinois cases – some old and some very recent – examine liquidated damages clauses in multiple factual settings.

Here are some bullet-point liquidated damages rules, gleaned from the caselaw:

– Liquidated damages clauses are enforceable where:  (1) the parties intended to agree in advance to the settlement of damages that might arise from a breach;(2) the amount provided as liquidated damages was reasonable at the time of contracting, bearing some relation to the damages which might be sustained; and (3) the actual damages would be uncertain in amount and difficult to prove

– Damages must be in a specific amount for a specific breach – they may not be a penalty to punish nonperformance or a threat to secure performance:

– The key issue is whether the liquidated damages amount is a reasonable forecast of possible loss at the time of contracting.  Parties are not required to make the “best” damages estimate, just one that is reasonable.

Recent cases in which liquidated damages provisions were upheld:

Dallas v. Chicago Teachers Union 408 Ill.App.3d 420, 424 (1st Dist. 2011)(held: liquidated damages clause setting $100K as minimum damages if either party breached a confidential settlement agreement was valid.  $100K was reasonable figure based on plaintiff’s pre-settlement agreement salary history and desire for future employment with Chicago Teachers Union)

Karimi v. 401 N. Wabash Venture, LLC, 2011 IL App (1st) 102670; and Burke v. 401 N. Wabash Venture, LLC, 2013 WL 1442280 (7th Cir. 2013).

In Karimi and Burke, the First District and Seventh Circuit (Burke was a diversity case) respectively, enforced liquidated damages clauses in Trump Tower condo purchase contracts which stated that if buyer breached, seller’s remedy was retention of the buyer’s earnest money deposit – 15% of the condo unit’s sale price.  The courts held that this amount was both specific and reasonable enough to be enforced against the breaching buyer.

Three cases with  unenforceable liquidated damages clauses:

Med+Plus Neck & Back Pain Center v. Noffsinger, 311 Ill.App.3d 853 (2000).

 – liquidated damages clause in two-year employment contract invalid where (a) it’s a penalty to secure performance and (b) damages bore no relationship to possible damages if employee prematurely breached.  Evidence of the penal nature of the provision was the fact that employer’s damages decreased the longer the defendant employee worked for employer and increased the earlier employee breached).  

Grossinger Motorcorp, Inc. v. American National Bank & Trust Co., 240 Ill.App.3d 737 (1992)

– liquidated damages clause in a real estate contract struck down due to its optional nature: plaintiff could either (a) recover liquidated damages (keep the earnest money) or (b) at plaintiffs option, exercise other remedies.

H&M Driver Leasing v. Champion, 181 Ill.App.3d 28 (1st Dist. 1989)

– liquidated damages clause in truck driver services contract clearly a penalty to secure performance where contract provides for baseline liquidated damage amount AND actual damages:

Now What??

– If you are trying to enforce a contractual liquidated damages provision (LDP) in the Illinois courts, Karimi, Burke and Dallas should prove useful.  If you’re opposing and trying to defeat an LDP, you should try to analogize your case’s facts to those of the Med+Plus, Grossinger and H&M Driver Leasing cases.

– If a contract sets forth a specific amount for a specific breach, and it’s a reasonable forecast of possible damages (based on objective data to support the liquidated amount – see Dallas – plaintiff’s salary history provided a quantifiable basis to support minimum damage figure), the liquidated damages term will likely be enforced.

– But, if the provision contains indicators of a penalty or threat to secure performance or is optional (contains the word “option” or gives the non-breaching party the option of pursuing actual damages OR liquidated damages), it will likely be struck down.

 

Illinois Contract Law: Parol Evidence Rule, ‘No Damages for Delay’ Clauses

In Asset Recovery vs. Walsh Construction, 2012 IL App (1st) 101226, the First District affirmed  a bench trial judgment for a general contractor sued by a demolition subcontractor for breach of contract and quantum meruit.  The lawsuit stemmed from numerous delays over the course of a multi-million dollar demolition subcontract in connection with the redevelopment of the Palmolive Building, a high profile building on Michigan Avenue, Chicago.

In affirming the trial court, the First District held that all the delays sued upon by the plaintiff were within the contemplation of the parties and also enforced a “no damages for delay” clause contained in both the subcontract (between plaintiff and defendant) and the prime contract (between defendant and building owner).  In the lengthy opinion, the Asset Recovery Court – citing Illinois precedent – provides a good synopsis of several legal principles which commonly crop up in breach of contract litigation.

The key contract formation, interpretation and damages propositions cited in Asset Recovery include:

– Illinois applies the “four corners rule” and looks to the language of the contract to determine its meaning;

– Contractual ambiguity exists if the contract language is susceptible to more than one meaning; 

– If an ambiguity is present, parol evidence may be admitted to aid the court in resolving the ambiguity;

– If the contract is unambiguous, extrinsic evidence isn’t provisionally admitted to show an external ambiguity;

– Where a contract is signed after its effective date, it relates back to the effective date;

– A party can accept a contract by course of conduct, but it must be clear that the conduct relates to the specific contract in question;

– the parol evidence rule precludes (a) the admissibility of evidence to alter, vary or contradict a written agreement and (b) bars evidence of understandings not reflected in the contract reached before or at the time of execution that vary or modify the contract terms;

– the parol evidence rule does not preclude a contracting party from offering proof of terms (such as an oral agreement to change in schedule) that supplement rather than contradict the contract; 

– Contracting parties may waive delays in performance by words or conduct;

– In such a case, the court may extend the term of a contract for a “reasonable time”;

– “No damages for delay” clauses are enforceable but are construed strictly against the party seeking the provision’s benefit;

– Exceptions to “no damages for delay” clauses include (1) bad faith delay; (2) delay “not within the contemplation of the parties”; (3) delay of unreasonable duration; and (4) delay attributable to inexcusable ignorance or incompetence;

– Under waiver and estoppel rules, a party to a contract may not lull another party into false belief that strict compliance isn’t required and then sue for noncompliance. 

The Asset Recovery case contains detailed facts and an exhaustive chronology. The case illustrates the interplay between prime contracts and subcontracts – the latter of which often mirror the prime contract terms.  The opinion serves as an excellent resource for quick bullet-point research on contract formation, construction and enforceability issues; particularly in the construction law context.

PBP