January 21, 2014 Articles

Covenant Conundrum

Economic analysis brings new insights into familiar problems such as employee covenants not to compete.

By Charles Diamond and Edward McDonough

Every so often, even in well-trodden areas of litigation, engaging an expert to study the facts in a case, analyze relevant data, and render an opinion may produce insights into familiar problems. One example of this is the introduction of an economist and economic thinking to what may seem well-settled litigation: employee covenants not to compete (CNC). Typically, if the terms of a CNC are reasonable in the eyes of a court, an employee who leaves an employer to work for a rival company must adhere to the letter and spirit of agreements made in the CNC. Often CNCs accompany deferred compensation packages as well as multiple-year contract renewals. Employing an economist may better enable the trier of fact to balance the positive and negative benefits of an employee's separation and estimate the net value to the plaintiff employer and any warranted compensation for lost profits.

An expert with sound economics training may posit that flagrant violations of a CNC need not result in real economic damages justifying compensation to repair an injury to an employer. It is possible that in certain circumstances, violations of CNCs by employees and counteractions taken by employers are manifestations of economic forces at work. We discuss here how employers will treat client relationships as shared property between them and the rainmaker while the employment agreement exists but, once separation takes place, will attempt to seize the relationship as their sole property.

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