A restrictive covenant is an agreement that prevents an employee from taking actions that could harm his or her current employer both during and after employment.
Restrictive covenants for physicians, which often include non-competition and non-solicitation clauses, protect the confidential information of a health care entity, including patient lists, pricing, or other information that took time and money to develop and allows for the entity to be profitable.
How do restrictive covenants impact employers and employees?
As most health care executives know well, restrictive covenants are crucial to the business development plans of health care entities. With the assurance that employees may not take patient contacts and other information with them when they depart, health care entities can safely invest in expanding their practices, develop proprietary business techniques, and spend resources on training, knowing that the products of this work cannot be shared to the benefit of another organization.
Though they have come to expect restrictive covenants as standard, physicians may view them as anti-competitive, particularly if they are very broad in scope and impose many limitations. New doctors with little bargaining power may have little to no leverage to impact the terms of these agreements, and, if the employment ends, face hurdles such as being forced to move outside the geographic area or living without income for a period of time. But more established doctors, unlike some other categories of employees, have the resources to challenge these agreements—and they often do.
What happens if a restrictive covenant is challenged?
Though an employee may have signed a restrictive covenant, the real test of the document’s enforceability comes when the employment relationship ends, and the former employee challenges the agreement’s terms. This can be a costly event for both the employer and employee. In addition to the general legal costs associated with a challenge, some restrictive covenants include a fee-shifting provision, which requires the losing party to cover the court costs, and/or an arbitration provision, which may mean the dispute will take place on two fronts: in arbitration to determine damages and in court to seek injunctive relief.
Not all restrictive covenants will hold up in court, and a court’s ruling is primarily based on state law, which varies across the country. But in general, when courts consider whether to enforce restrictive covenants, they look to see 1) whether the employer has a legitimate business interest in preventing physicians from working at a new employer and can show that the limits in place do not go beyond what is reasonable and necessary to protect that legitimate business interest; and 2) whether the employee received adequate consideration (something of value) in exchange for agreeing to the covenant.
Because courts are very practical and seek protect an employee’s right to practice his or her trade, they will assess whether the terms of the agreement are sufficiently narrow across several categories:
Length of term
A court will seek to determine whether or not the length of time for the restriction in the noncompete is reasonable and necessary to protect the business interest at issue. This determination is largely fact based. Additionally, if a former employer agrees to payments to its former employee during the period of the noncompete, a court may be more inclined to enforce an agreement of a longer duration.
Geographic scope
The geographic limitations also must reasonably balance the employer’s need to protect its interests and the employee’s need to practice his or her trade. This determination varies widely depending on whether the employer/health care entity is located in an urban, rural, or suburban area, and how widely distributed the patient base is across the region. The geographic restriction can be as narrow as a couple of streets or, in rare instances, as broad as the entire world.
Specialty
Courts will be more likely to enforce a restrictive covenant agreement that is tailored in terms of practice specialty, leaving the door open for a physician to practice in a specialty that does not compete with his or her former employer. The agreement also can name specific entities, such as a particular hospital system that the employee is restricted from working for, but this can be complicated as the landscape is continually in flux, and it is difficult to impossible to amend the agreements to reflect these changes.
Public policy
Sometimes, even if an employer/health care entity can prove that there is a legitimate business interest to justify the restrictive covenant, a court may refuse to uphold the agreement if it determines there would be a negative impact on the public interest. For example, some areas of the country have a shortage of physicians overall or in a given specialty, and enforcing restrictive covenants might exacerbate this issue. In these cases, a court might determine that the public policy of access to health care outweighs the employer’s business interests.
When should an employer introduce a restrictive covenant?
In addition to understanding how restrictive covenants are viewed by the courts and how an employer can be proactive in drafting an agreement that is likely to be enforceable, it is also important to consider the pros and cons of initiating the agreement at various points in the employment life cycle.
You’ve found the perfect candidate—but can she accept the offer?
An employer interviewing a physician must ask whether he or she signed a restrictive covenant with a former employer. Many employers fail to inquire about this and unintentionally hire in violation of an existing agreement. While the newly hired physician is responsible for breaking a non-compete or confidentiality agreement, employers could be liable as well based on a theory of tortious interference with the physician’s agreement. Hiring in violation of a restrictive covenant agreement could be a costly mistake in terms of both time and money, and potentially put at risk the valuable pieces of your business you set out to protect.
Make a solid start.
It is in the best interest of both employers and employees to execute a restrictive covenant at the beginning of an employment relationship. It is also important for both parties to understand the statutes and case law that shape the enforceability of these agreements in this initial period of employment, which vary from state to state. In Illinois, for instance, courts will not enforce restrictive covenants unless the employee worked for the employer for at least two years or if the employer offered some other valuable consideration that is tied specifically to the covenant. In other states, however, merely the fact of employment is enough to satisfy the court that the restrictive covenant is reasonable and should be enforced.
The physicians you employ will be thinking carefully about what they are agreeing to, and if the scope of the agreement feels too broad, may push back. After all, they have to earn a living. They will be asking themselves what they would need in order to survive during the term the restriction was enforced and whether they could afford to sit on the sidelines for that long. It isn’t just lost income they will be thinking of but also access to their patients. A restriction that is too lengthy could destroy their practice permanently, and courts will consider that impact when they decide whether to enforce the agreement.
At the time of separation
Entering into a noncompete at the time the physician leaves the practice can be done in conjunction with a release to protect trade secrets, proprietary information, and any other information that is valuable to your practice.
The downside to making the agreement at this stage is that the employee is under no obligation to sign it in order to be released from employment, and the employer may need to offer additional considerations to incentivize a departing employee to agree to the restrictions.
Restrictive covenants are an essential tool to protect your hospital or practice group from unfair competition. But these agreements are most effective if the terms are fair to both parties and should be carefully drafted to ensure enforceability and to survive a challenge in court.
Margo Wolf O’Donnell is Co-Chair of Benesch’s Labor & Employment Group. She focuses her practice on employment-related litigation and counseling, helping clients manage risk and prevent disputes.