the company’s customers, confidential and proprietary information
It should be no surprise that
“business governance” is not just about the relationship between the business
owners. It also includes the employment relationships including the
relationship between the company and its consultants. Employment relationships
are typically documented in the following types of agreements: basic employment
agreement, executive level employment agreements, indemnification agreements,
independent manager agreements, non-compete agreements, non-solicitation
agreements, and employee handbooks.
Remember that from a tax perspective
failing to properly treat an individual as an employee (and instead treating
them as an independent contractor) can have dire consequences. The I.R.S.
follows a 20-part test (see appendix “a”), for determining whether one should
be considered an employee or a contractor. If they’re deemed an employee you
may be subject to numerous state and federal tax filings, penalties, and other
fees from agencies such as the I.R.S., Department of Labor, and Worker’s Compensation
For instance, I had a client who hired
someone as an independent contractor. That contractor was driving a company
vehicle when he got into a car accident that totaled the vehicle as well as
injuring the contractor. The injured contractor filed a claim with the worker’s
comp. Board which triggered an audit of my client’s company. The worker’s comp
board fined my client $18,000 for not having workers compensation insurance (required
if you have employees), and as I write this we’re battling with the Worker’s Compensation
Board over whether the injured worked is indeed a contractor or whether he
should be deemed an employee and therefore covered under Worker’s Compensation
Insurance. Because my client’s company does not have Worker’s compensation
insurance, if the individual is deemed an employee, my client, not just his
company, might be personally responsible for paying the fines and other fees
associated with this legal battle.
Some factors courts will consider in
determining if an individual is a true independent contractor vs. an employee
are: (1) does the individual have control over their own schedule (2) are they
getting paid a flat fee or an hourly fee (3) the level of autonomy in how the
individual performs the work. It sounds like a simple test but it requires very
However, documenting the employment
relationship isn’t just about the potential tax and financial consequences.
It’s also most certainly about protecting the company from the employee. For
instance, one could argue that a company’s intellectual/proprietary property
walks out the door every day when its employees leave the building. The
information that is entrusted to a company’s employees is its lifeblood. All
too often, however, start-up companies do not do enough to protect their own
intellectual property or customer goodwill after their employees leave the
company, or even leave the building.
Unfortunately, some companies take a
superficial approach to this critical issue. Many emerging companies use a
standardized offer letter and intellectual property agreement, focused on
non-disclosure of information, assignment of inventions, and, in some
instances, non-competition and non-solicitation restrictions. As a starting
point, this may suffice, but planning and vigilance are necessary to ensure
that companies are in an optimal position to enforce such agreements down the
Companies should give careful thought
to tailoring restrictive agreements to particular employees or job classes,
rather than using a boilerplate agreement provided to many categories of
employees, as a more focused, narrowly tailored agreement is more likely to be
enforced in court. In short, one size does not fit all.
Companies should also consider
defining what they consider to be “competitive” activity rather than simply
barring employees from joining any employer that “competes” with the company.
Being more specific, especially in the context of restrictive covenants, will
only benefit you as an employer.
Companies should also give careful
thought to defining what they consider to be confidential, proprietary
information, beyond the typical (and important) boilerplate about “inventions
and developments, customer lists, business plans, etc.” For the same reasons as
above, specific is terrific.
Companies should be mindful of using a
“one-size fits all” strategy when they have locations, employees, or
independent contractors in different states. Non-compete agreements for California
employees will not be enforced to the same extent as non-compete agreements for
New York employees. State law can vary significantly with respect to these
matters. As a result, companies must consider using agreements tailored to the
specific laws of the states in which they have employees. This tends to concern
many of my clients because they view the non-compete agreement as their only
recourse in the event an employee steals confidential information, solicits
customers, or does anything else to that effect post-employment.
But there are numerous other remedies
available. If a high-level employee leaves your company and then starts a
competing business using stolen or proprietary company information, you could
still have claims for unjust enrichment, unfair trade practices, conversion
(stealing), in addition to a breach of contract claim.
Companies should also be careful about
the process by which these agreements are signed. For instance, when a company
fails to have a new hire sign a non-compete agreement at the time the employee
is hired, then there is a significant argument that the non-compete agreement
is not enforceable because of lack of consideration. This can be true even where
an employee signs the non-compete agreement just a week after being hired! When
imposing a restrictive agreement such as a non-compete agreement, upon the
employee, you want to make sure that there is sufficient consideration paid to
the employee so that such an agreement is deemed enforceable.
Ultimately, when attempting to enforce
a restrictive agreement in court, the company will be arguing that its
confidential information is at risk based on the former employee’s actions;
agreements should be drafted to maximize the likelihood that this argument will
So, other than the points noted above,
what are some things a company can do to ensure enforcement of restrictive
covenants and protecting valuable proprietary or confidential information? Here
are a few steps you as a business owner can take:
dissemination of a confidentiality policy,
dissemination of updates to employee handbooks.
and training of employees on intellectual property issues,
access (via passwords, locks, etc.) To sensitive information to those employees
who need such access,
confidential documents (both hard copy and electronic),
an exit process (a termination process) such as the consistent use of a
termination checklist that reminds workers of their obligations under existing
policies and agreement.
an exit process that ensures the company immediately collects company property
such as laptops, storage media (discs, drives) and hard copies of documents. If
the company has any suspicions about the outgoing employee’s conduct and/or
intentions, immediate consideration should be given to actually investigating
the employee’s computer-related activities prior to his or her departure.
many instances, retention of a third-party data recovery expert may be
advisable both because of the technical challenges involved in investigating
electronic activity and because of the need to preserve evidence of that
implementing an ip protection process such as communicating to your former
employee and his or her new employer about the existence and continued
applicability of the employee’s restrictive covenants and the company’s
expectations about compliance with those promises.
Taking all of these steps will
significantly improve a company’s chances of protecting its
intellectual/proprietary property especially following a valued employee’s
an employment protocol
Generally, most employees are
employees-at-will meaning they can be fired for any reason or no reason at all
so long as those reasons aren’t discriminatory. However, problems arise
when the employer’s reasons for firing an employee are not properly documented
and the employee later returns as a disgruntled employee using one of the big
law firms as the method of squeezing out a few (or much more than a few)
dollars from you the employer under the fair labor standards act (FLSA) and
other similar statutory bodies of law.
I have a client who purchased a
business and then months after purchasing the business fired an older (70 year
old) independent contractor. The former contractor brought an age
discrimination claim against my client’s company under New Jersey law (which
even permits age discrimination claims from independent contractors). In
hindsight my client should have offered a severance agreement, paying the
independent contractor in exchange for what is basically a “do not sue the
company” agreement. My client’s arbitration fees will be at least $20,000.00 based
on the American Arbitration Association fee schedule.
The solution to creating strong
employment contracts is not as difficult as most business owners think and it
is always worth it. Yes, it requires some organization and some systematization
in your employee monitoring, hiring and firing processes, but the results mean
less chance of being exposed to a baseless or frivolous lawsuit that will cost
you tens of thousands of dollars and the risk of a possible judgment. We get
into some of these processes in greater depth in the sections below.
your employee’s performance
Documenting your employee’s
performance on a monthly or quarterly basis is a simple process. It means
keeping a record of the positive and negative things that stand out in the employee’s
performance, recommendations for improvement, and even making note of certain
goals you want the employee to achieve with respect to his or her performance.
There is no specific format. Rather, the key is being systematic about your
process and making sure that your employees are aware that they are subject to
performance reviews which can effect their (1) hours (2) compensation or (3)
employment status – both positively or negatively.
Making your employees aware that they
are subject to a performance review on a monthly or quarterly basis can also
lead to more positive result in their performance. For instance, implementing
an employee review process that otherwise effects their bonuses or other forms
of compensation is an incentive for them to improve themselves and become a
more valued employee for your organization.
In addition, having a process where
you keep track of employee performance helps you as the employer identify who
your most valued employees are or whether they are objectively entitled to
receive bonuses, increased compensation or promotions. More often than not,
small business owners make decisions about their employees from an emotional or
sympathetic viewpoint rather than one based strictly on a quantifiable and
documented process. It’s not about emotions, it’s about business and creating a
productive and rewarding culture for your employees within your business.
your employee’s time
When you’re dealing with worker’s
compensation claims or overtime hours claims, the key to a successful defense
is documenting your employee’s time to the minute. It’s not a difficult problem
to solve. Use time cards, and make sure your employees sign their time cards at
the end of each day. And to any business owner “sharing employees”
with another business they own, I especially caution you against doing that.
If your employees work remotely, have
them log in at the end of each day in an easy to integrate time-tracking system
or have them email your manager at the end of each day with a log as to where
they were, during what time periods, and when they ended the day. Overtime claims
are an incredibly easy claim to defend if you have the proper documentation. Unfortunately,
many employers neglect simple documentation procedures which can save them tens
of thousands of dollars in litigation costs.
and memorialize your employee’s termination
Finally, when you are making the
dreadful (or relieving decision) to terminate an employee, regardless of the
level of their employment, you want to make sure you do and have the following:
1. Have a proper termination/exit
interview with a proper managerial witness from your staff (if possible)
outlining the reason for the termination or suspension
2. Have the employee sign a release
and severance agreement
3. Provide a termination letter to the
employee outlining in simple terms the basis for the termination and the next
The above tasks may on some level
sound mundane, however if they mean saving you 10, 20 or 100,000 dollars, then
why not make it a part of your day to day practices?