Squire Patton Boggs Summer Associate Jacob Williams details how new legislation in Colorado will impact employers’ use of non-competition covenants in the Centennial State.
Adding to a growing nationwide trend placing restrictions on the use of non-competition agreements in employment contracts, Colorado is the most recent state to adopt exacting restrictions on employers’ use of post-termination restrictive covenants. Set to take effect on August 10, 2022, the recently-signed House Bill 22-1317 dramatically amends Colorado’s non-compete statute, Colo. Rev. Stat. § 8-2-113, in the following ways:
- Income Threshold: Covenants not to compete entered into after August 10 will only be enforced against “highly compensated” employees, according to thresholds set by the state’s Department of Labor and scaled for inflation, which for now means those earning at least $101,250 per year. This rigid, bright-line income threshold replaces the statute’s prior test, which limited enforcement to agreements with executives, officers, certain management and professional employees, and those with access to trade secrets, without regard for earnings. The income threshold applies at the time the covenant is entered and at the time the covenant is enforced. Since many workers will be employed by a new employer at the time of enforcement, this requirement presents a vexing conundrum to employers who lack visibility into an employee’s new income, and which threshold could be defeated by the new employer deferring some part of the worker’s compensation.
- Narrowing of Legitimate Protectable Interests: In addition to the income threshold, covenants not to compete will only be enforced where necessary for the protection of trade secrets, and only if the restriction is no broader than necessary to protect such trade secrets. The definition of “trade secrets” is unchanged by the amendment. Examples of verified trade secrets in Colorado include detailed customer information, client lists, customer contracts, pricing information, detailed debtor information, and customer log-in codes, among other items, where the employer takes reasonable steps to keep the information secret.
- Advance Notice: Employers must inform applicants of their intention to require a covenant not to compete prior to the applicant accepting the offer of employment and provide a summary of the restriction’s terms with the notice. Current employees must be provided at least 14 days’ notice before the earlier of (i) the effective date of the covenant, or (ii) the additional consideration to be provided to the worker in exchange for the covenant. The notice itself also must be signed by the employee. The restriction must be in a standalone agreement and not included as a term in an employment or stock option agreement or included within an employee handbook.
- Choice of Forum/Choice of Law: The amendment invalidates out-of-state choice-of-forum selection clauses – provisions that specify where disputes will be heard – if the worker primarily worked or resided in Colorado at the time of termination of employment. Similarly, the amendment renders unenforceable a foreign choice-of-law provision – a provision that establishes which state’s laws govern the interpretation of the agreement – if the worker primarily resided and worked in Colorado at the time of termination. This amendment will be particularly impactful on employers who now, post-pandemic, employ employees on a remote basis.
- Penalties: In the event an employer fails to adhere to these requirements, not only will the restriction be void, but the employer may be held liable for an employee’s actual damages and subject to a civil penalty of $5,000 per worker or prospective worker harmed by the employer’s violation. The penalty is discretionary, and may be avoided in whole or in part if the employer can show that it acted in good faith and had reasonable grounds for believing it was not acting in violation of the statute.
- Criminal Consequences: Colorado is the first state to tie criminal consequences to a violation of its non-compete statute. A violation of the newly-adopted non-compete law is classified as a Class 2 misdemeanor if the employer is shown to have used intimidation to prevent conduct inconsistent with an unenforceable non-compete agreement.
These harsh restrictions apply to true covenants not to compete, i.e., agreements that restrict employees from working in their chosen field for a period of time after termination, that are signed or renewed after August 10, 2022 and not signed in connection with the sale of a business. Most of these requirements (e.g., advance notice, transparency/separate agreement, penalties) also apply to customer non-solicitation agreements; provided, however, that an employee from whom a customer non-solicitation covenant is sought is only required to earn at least 60% of the applicable highly compensated employee threshold (which initially will be $60,750 annually) at the time of execution and enforcement.
Notwithstanding the statutory amendment, reasonably tailored confidentiality/non-disclosure agreements will continue to be enforced in Colorado. However, a purported confidentiality agreement will not be enforced if it is only aimed at protecting information that arises from a worker’s general training, knowledge, skill or experience; information that is readily ascertainable to the public; or information that a worker has a right to disclose as legally protected conduct. Covenants prohibiting employees from soliciting other employees to leave their employer also remain lawful and do not require payment of a specific salary to be enforceable. Finally, the amendment does not have retroactive effect, so it will not automatically invalidate covenants entered into before August 10, 2022 if they were enforceable under then-current law when executed.
The amendment codifies Colorado’s hostility toward covenants not to compete generally, and its intent to punish employers that impose onerous restrictions on workers, particularly low-wage workers. After August 10, Colorado employers are encouraged to consider less restrictive measures for protecting their confidential information and employee investment, such as only requiring confidentiality agreements and, when appropriate, customer non-solicitation covenants, rather than outright bans on post-termination competition. In addition, the Colorado Uniform Trade Secrets Act and federal Defend Trade Secrets Act provide potent remedies when employees defect with protectable trade secrets, providing for recovery of damages, statutory penalties, injunctive relief, fees, and costs. After August 10, 2022, the default in Colorado will be that non-competes are unenforceable, except in very limited scenarios. To ensure Colorado employers comply with the amended statute, employers should consult counsel before issuing new, or renewing existing, restrictive covenant agreements after August 10, and before seeking to enforce restrictive covenants.