Saturday, January 29, 2011

The New Georgia Noncompete Law: Was Amendment 1 to the Georgia Constitution Legal?

Georgia voters recently voted overwhelmingly to pass an amendment to the State's Consitution that gives the courts the duty to enforce most restrictive covenants on employees departing a company.  Lately, a lot of political rhetoric has been thrown around recently at the federal level about the United States Constitution.  The House of Representatives actually read the US Constitution on the Floor of the House as a symbolic gesture to those who believe that the actual wording of the Constitution is not being followed by legislators.  All of this has raised a question for me to which I must admit I do not know the answer (I hate when that happens).  How could the language of the recent Amendment possibly be legally tied to the actual law that had already been passed?  The Amendment said: 

"Shall the Constitution of Georgia be amended so as to make Georgia more economically competitive by authorizing legislation to uphold reasonable competitive agreements?"

The backdrop is that for years many Georgia lawyers and companies have been upset about what they saw as always shifting sands about how to draft restrictive covenants that would be able to legally tie down employees, business partners, shareholders, and franchisees from taking away business if things did not work out and they got a "corporate divorce."  Georgia became perceived as a state where it was hard if not impossible to enforce these restrictions on people, and other states around the South had laws that seemingly made it easier to draft an enforceable covenant, and if a bad lawyer drafted a bad covenant in those states, the judge could simply rewrite the restriction and water it down to where it was legal. 

That way, you see, the lawyer and client could never really screw up and get in big trouble for writing an unenforceable covenant.  If the lawyer went too far, the judge could reign her and the business in and change the language of the deal.  In Georgia it was all or nothing, if any of the language of the deal was wrong, the restriction was totally worthless and the dearly departed were free to do as they wished.  Two things to understand are that (1) lawyers really hate being wrong, moreso than most folks, and (2) lawyers have a big influence on what the laws are.  Of course, it was frustrating to try to write a restrictive covenant that was enforceable only to find out later that it did not pass muster. 

In 1990 a law was passed by the Georgia legislature to make restrictive covenants easier to enforce and to try to clarify what was a good covenant and what was a bad covenant.  However, based on one of the rights in the Georgia Constitution (which is not contained in the US Constituion) the courts struck down the new law as unconsitutional.  So, in order for the Georgia Legislature to get its way, it had to get the voters to amend the Constitution.  Supposedly, that happened last Novemenber.  What many may not have known was that the Legislature had already passed a law that was waiting in the wings to go "live" once the votes on the Amendment were counted.  That law makes it easier to enforec a covenant because if the lawyers screw up the judge can take out the bad language and enforce the part that works.  Laywers call that "blue pencilling."  (Why blue?  Who knows.  I edit with a red pen just like all my teachers did).

Still, did the Georgia voters know what they were voting on?  After all, as you can see below, none of the words that would have been a "heads up" to voters about what was really at stake in the Amendment appeared in the text.  The Amendment was about what lawyers call "restrictive covenants" that come in the form of "noncompetes," "nonsolicitations," "confidentiality agreements" "trade secret agreements" and the like.  They are called restrictive because that is what they do, they restrict someone from doing anything that might take value away from the old business.  However, as you can see for yourself, the words I just listed above, namely "noncompete" or "restrictive covenant" did not appear on the ballot.  Popular Libertarian radio personality Neil Boortz himself pointed out the vague and misleading language that was contained in the Amendment.

What is obvious is that the authors of the statute made their own policy choice that the law was good for Georgia, but they feared that if they "kept it real" and used the customery terms lawyers had used for the deals, the Georgia voters might not pass the Amendment to the Constitution necessary to legalize the law they had already passed.  So, restrictive covenants, noncompetes, nonsolicitations, confidentiality agreements, and the like became "competitive agreements."  Well, who in the world is against competitive agreements?  That sounds a lot more patriotic than "restrictive covenant" does it not?    

I have not really formed an opinion whether the new law is really good for business in Georgia, although I discussed some of the pros and cons in an earlier post.  I have been on both sides of these cases representing the companies in some cases and the not so dearly departed in others.  There are two sides to the debate and whether they are good depends on which side you are on in a corporate divorce.  Superlawyer and mensch Ben Fink discussed whether the new law is really good for business thoroughly in his recent blog post.  However, the way this Amendment went down raises a red flag in the libertarian in me.  I never followed the debate over the law, and I did not pay much attention to the politics surrounding it.  I saw the Amendment for the first time right before the election.  When I saw it, a red flag went up immediately in my mind.

The bottom line is that, other than in the Leglislature (And who follows that boring noise? Could you pass the sports page, please?), it seems like there really was no robust and public debate on whether this new law really was about "competitive agreements" or "agreements lowering salaries for salesmen" or "agreements making it harder to start a new company."  I still have not heard anyone explain how it was legal to pass the new law making noncompetes and nonsolicitation agreements much more enforceable based on the language of the Amendment Georgia voters had to pass last November.  How could the new law, called the Restrictive Covenant Act, come into law without the Amendment containing the words "restrictive covenant?" How could it pass without the words "noncompete," "nonsolicitation" and other words of customery usage that define the subject matter of the Amendment?  How could a constitutional amendment about the right to bear arms be passed without the word "gun" or "weapon" in it?  After all, Georgia courts for a century have labeled these agreements as impediments to the freedom of the people of Georgia to do what they want with their life, regardless of what their boss thinks. 

I am no scholar on constitutional law but in the legal world there is a concept in ruling on statutes that is called "void for vagueness."  Sometimes is a court decides that the way a law is written is too vague to figure out what it really wants people to do or not do.  So the court will strike down the law as void for vagueness.  It appears to me that this Amendment should be subject to a challenge as being void for vagueness.  If that happened the voters would have to go to the polls and vote on a more clear amendment that explained what the new law was about.  From this perch, that seems like the right thing to do.  What happened in November smacks of elitism -- a lack of trust in the Georgia people to make their own decisions based on reality.  Would Georgia's Founding Fathers countenance such a thing?  I do not think so. 

You may be wondering at this point why lawyers would support such a law if it might restrict them from the freedom to practice law as they see fit.  Well, the secret is that the new law does not apply to lawyers.  There is another law for lawyers, that says that it is illegal for lawyers to enter into noncompetes or nonsolicitations.  Pretty clever, aren't we?

"Perfect freedom is reserved for the man who lives by his own work and in that work does what he wants to do."

Samuel Taylor Coleridge

"The first sign of corruption in a society that is still alive is that the end justifies the means. "

Geroges Bernanos

Tuesday, January 4, 2011

The New Georgia Restrictive Covenant Act -- Does It Apply To Lawyers?

Something New, Something Blue

Georgia's business and legal community is abuzz with discussion about the new law on restrictive covenants passed by that very vaguely worded Constitutional Amendment the voters approved on election day in November.  The amendment's language was something along the lines of "Should Georgia reject socialism?"  Of course, the constitutional amendment was necessary due to Georgia cases that made it necessary to make a change to the Georgia Constitution to tighten the law on restrictive covenants.  The law now allows "blue penciling" of contracts, which means the judge can take out the part of the deal that is too broad and enforce the rest. 

A Very Tricky, Perhaps Lying, Ballot Proposal for the Amendment

When I read the amendment that was put on the ballot my first thought was "This cannot be legal, can it?"  After all, the amendment said nothing about restrictive covenants at all.  The actual language (I was slightly exaggerating above) was "Shall the Constitution of Georgia be amended so as to make Georgia more economically competitive by authorizing legislation to uphold reasonable competitive agreements?"   As set forth below, it is debatable whether the new law does make Georgia more or less competitive.  Moreover, "competitive agreements" does not exactly explain the issue.  People who say they know what they are talking about, however, tell me that apparently it is legal to put a misleading amendment on the ballot that is tied to a law that might actually do the opposite of what the amendment calls for. 

Is This Really A Good Thing?

Attached to that very vague amendment was a very long and detailed statute that had already been passed and was to become law upon the passage of the amendment in November (except that the legislature screwed up because the amendment did not become effective until January 1, 2011.  Get it?).  Georgia had become famous as being a very difficult state in which to make restrictions on employment enforceable.  Whether this was bad for business was debatable.  On the one hand, because it was hard to enforce noncompetes, it was hard to keep salespeople and other top workers from jumping ship for a better offer elsewhere.  The argument goes that companies would be hesitant to locate here because they might lose key people in Georgia's business environment.  On the other hand, it seems to be common sense that the salaries and income for these free agent salepeople and other key employees will go down as a result of the vastly easier ways to restrict employees from engaging in their field upon departure.  Also, it will be much more difficult for key employees to leave and start their own and perhaps better business.  The law clearly impedes start-up companies, because it is harder to leave and compete with your old company and is harder to come into town and hire salespeople and other key folks from existing competition. 

Have Lawyers Made Themselves Exempt from This Controversy

All of this, however, raises the question -- what about lawyers?  Does any of this affect this sacred profession?  According to at least one corporate lawyer, many of the partnership agreements for Atlanta's law firms contain  provisions that penalize departing partners in different ways for leaving and taking clients with them, even if these agreements do not expressly forbid competition.  The reason there are no straightforward noncompetes that prohibit practicing at all is because of Georgia Rule of Professional Conduct 5.6.  This Rule, which is quasi-statutory in nature (because the Georgia Supreme Court has the authority to govern the legal profession), states: 

Rule 5.6 -- 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, except an agreement concerning benefits upon retirement;

[1] 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. Paragraph (a) prohibits such agreements except for restrictions incident to provisions concerning retirement benefits for service with the firm.

This provision has been held in countless jurisdictions (most of them have the same language from the Model Code) to forbid noncompetes against lawyers, based on the public policy that clients must be allowed to choose their lawyer.  In arbitration when I argued that Rule 5.6 applied to a provision I was asked by the arbitrator "So are you saying we are special?"  I replied, "Well, I am not saying that, but the Supreme Court is saying that."  In fact, the courts say “[t]he history behind [Rule 5.6] and its precursors reveals that it's underlying purpose is to ensure the freedom of clients to select counsel of their choice, despite its wording in terms of the lawyer's right to practice. The RPC is thus designed to serve the public interest in maximum access to lawyers and to preclude commercial arrangements that interfere with that goal.”  Jacob v. Norris, 128 N.J. 10, 18 (N.J. 1992).  There is no case law in Georgia, and no Georgia Bar advisory opinion setting forth that Rule 5.6 prohibits such noncompetes in Georgia, however, every other state that has considered it has held that it does create such a prohibition, either in case law or through a bar opinion. 
In light of the rulings that Rule 5.6 prohibits "pure" noncompetes, law firms around the country have tried to chip away at the law by coming up with certain forfeitures that are incurred by departing partners rather than  total noncompetition clauses.  The most common term of these agreements calls for the departing partner to forfeit their capital contribution if she leaves and takes clients, or states that the departing partner loses compensation that would otherwise be due as a percentage of collections for time billed before the departure.  Almost every state has also ruled that these types of forfeiture provisions are illegal because they provide a financial disincentive against a departing partner from keeping clients when he leaves, which hampers the public policy of free choice of lawyers. 
The rationale behind the majority view is clear. "The purpose of [Rule 5.6] is to protect the public's right to select the attorney of their choice.” Lampert, Hausler & Rodman, P.C. v. Gallant, 19 Mass. L. Rep. 283 (Mass. Super. Ct. 2005), citing Anderson, 461 N.W.2d at 601; Jacob, 607 A.2d at 148; Cohen, 550 N.E.2d at 411; Spiegel, 811 S.W.2d at 530; see 2 Geoffrey C. Hazard, Jr. & W. William Hodes, The Law of Lawyering § 5.6:101 (1990). "Indirect financial disincentives may interfere with this right just as much as direct covenants not to compete. A provision offering financial disincentives may force lawyers to give up their clients, thereby interfering with the client's freedom of choice." Anderson, 461 N.W.2d at 601;  Jacob, 607 A.2d at 148; Cohen, 550 N.E.2d at 411; Spiegel, 811 S.W.2d at 530; Hillman, supra, §, at 32. This violates both the language and spirit of [5.6] by restricting the practice of law." Id.
What If Anything Does the New Restrictive Covenant Act Do for Law Firms Against Departing Partners?
Has anything in the new law addressed lawyers at all?  Not expressly.  Nothing in the law talks about lawyers specifically.  One could argue therefore, that the new law has no intent regarding lawyers because the law before it never mentioned lawyers, and Rule 5.6 has existed all along.  Nothing in the new law purports to amend, withdraw, or otherwise change Rule 5.6, so perhaps the law has remained exactly the same with respect to lawyers.  Of course, partnerships for doctors and accountants have been subject to restrictive covenants for a long time, falling into a "middle tier" of scrutiny between an employment contract and a contract for the sale of a business.  On the other hand, no case law exists construing Rule 5.6 and its interplay with other law on restrictive covenants.
Simply looking at the plain language in a vacuum, there is some language in the new law that changes the old law that arguably could apply to some lawyers.  For example, in the definitions related to limits on a sale of business, "Affiliate" is defined to include a "partner" of an entity that owns a controlling interest of an entity, defined as (1) 25% or more of that entity or (2) an interest being bought for $500,000 or more.  Thus, one could argue that the new law permits reasonable restraints on departing partners of a law firm if the partner owns at least 25% of the firm or is getting $500,000 or more for his or her shares.  This assumes that a departing partner is "selling" shares, however "sale" is very broadly defined.   
More ominous, the section related to post-employment nonsolicitation clauses defines "Employer" to include a partnership.  It defines "employee" to include any person "in possession of selective or specialized skills, learning, or abiliteis or customer contacts, customer information, or confidential information who ... has obtained such skills, learning, abilities, contacts or information by reason of having worked for an employer."  The law also applies to "key employees" which defines employees using similar language, among other things.  The law goes on to make nonsolicitations far more enforceable than the case law developed in Georgia, and allows the court to blue pencil away problematic terms of nonsolicitation clauses.  However, it does not explicitly define as an "employee" a partner of a partnership.  Therefore, a strong argument can be made that an equity partner of a law firm is not an employee.  On the other hand, non-equity partners, counsel, associates and other non-equity workers would clearly be employees of the partnership, and based on its language alone, subject to the law. 
Conclusion:  Lawyers Are Probably Still Immune to Restrictive Covenants
Overall, standing alone, the plain language of the new statute would clearly apply to partners who own more than 25% of the firm that are departing and thus transferring back to their old firm the regarding nonsolicitation agreements applies to any nonequity lawyers, and does not explicitly exclude equity partners.  Nevertheless, the statute does not expressly overturn Georgia Rule of Professional Conduct 5.6.  Moreover, the governance of the legal profession has traditionally been deemed to have been "turned over" to the Georgia Supreme Court, which raises the argument that the legislature would have to "take back" regulation of the legal profession in order to be able to modify, amend or overturn the Rule 5.6 that the Supreme Court has promulgated.  Nonetheless, although commentatore refer to the Rules of Conduct as a species of quasi-legislation, I could not find in a brief search anything that clearly gave this legislative authority away to the Supreme CourtFinally, if the legislature could repeal or amend Rule 5.6 and intended to do so, it could have made that clear by addressing it head on.  It did not attempt to do that.  Thus, a strong argument can be made that the new law does not apply to lawyers at all and that the law regarding restrictive covenants on lawyers in Georgia, such as it is, without any case law or bar opinions, remains the same as it was prior to the passage of the amendment and the statute.  On the other hand, no case law exists construing Rule 5.6 before or after the new law went into effect.  Firms seeking to enforce restrictive covenants will no doubt point to the new law in attempts to enforce these provisions in their partnership agreements.