April 6, 2022  |  Articles

Hawai‘i Supreme Court Issues Landmark Decision Regarding Enforceability of Non-Compete and Non-Solicitation Clauses

Zoom In On Pen Signing Contract

On February 17, 2022, Hawai‘i’s Supreme Court established guidelines for employers to follow to ensure enforceable non-competition and non-solicitation agreements in Hawai‘i. In Prudential Locations, LLC v. Lorna Gagnon and Prestige Realty Group, LLC, SCWC-16-0000890, a real estate sales coach left her employer to form her own real estate brokerage firm and her former employer sued to enforce the employee’s non-compete and non-solicitation agreement. Hawai‘i’s Supreme Court upheld the trial court’s invalidation of the employer’s non-compete agreement because the employer could not provide a legitimate purpose for the restriction. Hawai‘i’s high court also held that a violation of a non-solicitation clause requires active initiation of contact.

Employer Can Protect Confidential and Proprietary Information

In 2008, Lorna Gagnon moved from New Hampshire to Hawai‘i to work as a sales coach at Oahu-based real estate brokerage firm Prudential Locations. Prior to moving to Hawai‘i, Gagnon owned and operated a franchise of a large American international real estate company.

When Gagnon started her employment with Prudential, she signed a “Confidentiality and Non-Competition Agreement” (Gagnon’s “Agreement”). The non-compete provision in Gagnon’s Agreement generally prohibited Gagnon from performing any services that were similar to Prudential’s services in the State of Hawai‘i for a period of one year after she left Prudential. Her Agreement, however, permitted Gagnon to work independently or become an employee of an existing real estate brokerage company, but prohibited her from starting her own real estate brokerage firm. Her Agreement also contained a non-solicitation clause, which prohibited Gagnon from soliciting Prudential employees or persons affiliated with Prudential.

In June 2013, Gagnon terminated her employment with Prudential and opened a new real estate brokerage firm in Hawai‘i registered as RE/MAX Prestige Realty Group (“Prestige”). Around the same time, some of Prudential’s real estate agents also left Prudential and joined Gagnon in opening Prestige. Thereafter, Prudential sued Gagnon alleging she breached her Agreement because she established Prestige and solicited Prudential’s agents.

Gagnon Wins at the Trial Court Level

In the trial court proceedings, Prudential filed a motion for summary judgment which asked the court to enforce Gagnon’s Agreement. Prudential argued that its Agreement was tailored to meet its legitimate business interests of (1) protecting its confidential business information, (2) preventing its personnel from forming competing brokerage firms, and (3) preventing former employees from poaching Prudential’s agents. Prudential also argued that its Agreement was reasonable because it did not prohibit Gagnon from working at an existing real estate firm and only prevented Gagnon from starting a new competing real estate firm. Finally, Prudential argued that Gagnon violated the Agreement’s non-solicitation clause based on allegations that Gagnon had conversations with Prudential’s agents during which she encouraged them to leave Prudential.

Gagnon opposed the motion and filed her own motion for summary judgment arguing that Prudential’s Non-Compete Agreement was unenforceable because its sole purpose was to restrict competition. Gagnon pointed to deposition testimony from Prudential’s executives which admitted that the purpose of Prudential’s Agreement was to stop employees from forming competing companies. Furthermore, Gagnon pointed out that the statutory exception to Hawai‘i’s anti-trust restrictions was only available if the employer took steps to protect the confidential information and trade secrets it claims its non-competition agreement was necessary to protect. Gagnon showed that Prudential did not take steps to protect its information, because it only required non-compete agreements from some of its sales coaches and other Prudential executives were not bound by any non-compete clause. Since these individuals had similar or more access to the confidential information, Gagnon argued that Prudential could not have a legitimate confidentiality interest which justified the restrictions in her non-compete agreement. Gagnon also argued that she did not violate the non-solicitation clause because Prudential’s agents were independent contractors, and not “employees” or “persons affiliated” with Prudential under the clause.

The trial court agreed with Gagnon, holding that Prudential’s Agreement was invalid and unenforceable. The court highlighted Prudential’s executives’ deposition testimony, which established that the primary purpose of Prudential’s Agreement was to prevent competition. Even if Prudential had a legitimate interest justifying its non-compete provision, the court held the Agreement was unreasonable because it was greater than required to protect Prudential’s interests, it imposed an undue hardship on Gagnon, and any benefit to Prudential was outweighed by the injury to the public in the real estate salesperson market. The trial court also found that the non-solicitation clause was unreasonable and an illegal restraint on trade and commerce under Hawai‘i’s unfair competition law.

A Non-Compete Clause Must Be Ancillary to a Legitimate Purpose

The primary issue before Hawai‘i’s Supreme Court was whether Prudential had a legitimate purpose for its Agreement. The Court was also asked to consider whether the Agreement’s non-compete provision was reasonable.

The Court explained that under Hawai‘i Revised Statutes, Section 480-4(a), contracts that restrict trade and commerce are generally illegal. To be enforceable, employers must have a “legitimate purpose” for entering into non-compete and non-solicitation agreements. Non-compete and non-solicitation clauses are not enforceable if their sole purpose is to prevent competition. In addition to having a legitimate purpose, non-compete provisions must also be reasonable under the circumstances. A non-compete clause is not reasonable if (1) it is greater than required to protect the employer; (2) it imposes undue hardship on the person restricted; and (3) the benefit of the non-compete provision is outweighed by injury to the public.

Prudential’s Not So Confidential Business Information

The Court held that Prudential’s non-compete provision was unenforceable and rejected Prudential’s two proffered purposes for the clause. The Court agreed with the trial court, finding that Prudential’s actions were inconsistent with its first claim that its protected information was confidential or trade secrets. Prudential argued that the non-compete clause was necessary to prevent Gagnon from using Prudential’s proprietary information that Gagnon obtained as a sales coach. However, the Court found that while many Prudential employees had access to Prudential’s claimed confidential information, not all Prudential employees and managers had signed similar Confidentiality and Non-compete Agreements. Furthermore, the Court observed that the non-compete clause did not prohibit Gagnon from working for an existing Hawai‘i real estate firm, where her use and disclosure of Prudential’s allegedly confidential information was unrestricted.

Relatedly, the Court noted that this was not a case where Prudential was asserting any trade secrets violations. The Court cited to Hawai‘i’s Uniform Trade Secrets Act, which defines a “trade secret” as information that (1) derives independent economic value from not being generally known or readily ascertainable by those who can obtain economic value from its disclosure or use and (2) is subject to reasonable efforts to maintain its secrecy.

The Court rejected Prudential’s second argument, that the Agreement was necessary to prevent competition, finding that Prudential’s purpose to prevent competition could not be a legitimate purpose because Hawai‘i’s antitrust laws prevent restrictions on trade and commerce. Because the sole purpose of Prudential’s Agreement was to restrict competition, the agreement had no legitimate purpose that allowed an exception from Hawai‘i’s anti-trust statute. Therefore, it was not enforceable under Hawai‘i law.

Solicitation Requires Active Initiation of Contact

The Court then turned to the Agreement’s non-solicitation provision. Like non-compete provisions, solicitation clauses are disfavored restraints on trade or commerce that require a legitimate ancillary purpose to be enforceable. In this regard, the Court noted that workforce stability and maintaining customer relationships can be legitimate ancillary interests for non-solicitation agreements.

The Court then examined whether Gagnon had actually violated Prudential’s non-solicitation clause and established a new test. As a matter of first impression, the Court held that a violation of a non-solicitation agreement requires the perpetrator to have actively initiated contact with the employee or customer. Mere encouragement was not enough to establish a violation of a non-solicitation clause because employees may be encouraged by family and friends to switch employers for any number of reasons. The Court concluded that Gagnon, except possibly for one person, did not solicit former Prudential employees who left to join her at Prestige because there was no evidence that Gagnon actively initiated contact with those employees. For the one possibly solicited employee, the record disclosed that Gagnon invited the employee to lunch where Gagnon told the employee about her plans to open her new real estate brokerage firm and expressed interest to the employee on possibly becoming her partner. The Court, therefore, sent the case back to the circuit court to decide the sole remaining issue of whether Gagnon violated the non-solicitation agreement with respect to this employee.

Bottom Line

Hawai‘i’s Supreme Court’s Gagnon decision provides several key lessons for employers who ask their employees to sign non-compete and non-solicitation agreements. First, employers must have and clearly state the legitimate purpose for their non-compete and non-solicitation agreements. Second, employers must ensure they implement consistent policies and procedures to protect confidential information. Here, Prudential failed to provide a legitimate reason for its non-compete provision in the Agreement and Prudential’s executives could not explain the legitimate purpose through their testimony. Those factors led the courts to find that the managers did not understand the standards for when a non-compete clause could be enforceable. Furthermore, although Prudential’s Agreement contained sections describing its confidential and proprietary information, Prudential failed to specify in the agreement that the purpose of the non-compete provision was to prevent former employees from using Prudential’s confidential information to compete with the company in an unfair manner.

If an employer’s purpose for a non-compete clause is to protect confidential information, the employer should ensure that it subjects all employees and managers with access to confidential information to a non-compete clause, i.e., takes steps to protect its confidential information. Moreover, employers should carefully evaluate whether their non-compete clause actually protects the company from former employees using its confidential information. For example, the Gagnon court observed that the agreement did not prohibit the employee from working for an existing company and using the company’s information in that capacity after she left Prudential.

Lastly, employers should understand that a violation of a non-solicitation clause requires evidence that the perpetrator actively initiated contact with an individual. Merely encouraging an employee or customer to switch companies is not enough. Employers should carefully document all communications by any former employee to existing employees or clients and ensure they have actual proof of solicitations before seeking to enforce a non-solicitation agreement.

Prudential Locations, LLC v. Gagnon, No. SCWC-16-0000890, 2022 WL 482601 (Haw. Feb. 17, 2022)