What Anesthesiologists Need to Know About Enforcement of Non-Compete Agreements
Amanda K. Jester, JD
Waller Lansden Dortch & Davis, LLP, Austin, TX
Ashleigh VanLandingham, JD
Waller Lansden Dortsch & Davis, LLP, Nashville, TN
On May 5, 2016, the White House issued a report citing a variety of issues with the use of non-compete agreements advocating for non-compete reform at the state and federal level.1 According to the White House report, with respect to healthcare services (i.e., physicians, nurses, psychologists, social workers and other medical professionals), noncompetes have the potential to interfere with the quality of care by restricting consumer choice.
The report acknowledged, however, that for physicians, it is plausible that there may be “legitimate business interests” that hospitals and service providers seek to protect. At the same time, many states have recently proposed or implemented legislation limiting the enforceability of non-competes, including some limitations specific to physicians and other healthcare providers. In this article, we will discuss the enforcement of noncompetes generally, enforcement against physicians in the context of employment or in connection with the sale of a business and recent state legislation specific to the enforcement of non-competes against physicians.
Enforcement of Non-Competes
Non-competes are generally disfavored as a matter of law and public policy. The enforceability of non-competes varies widely from state to state. In some states, such as California and North Dakota,2 non-competes are void and unenforceable except in certain limited circumstances (such as in connection with a sale of a business). Even in states that do typically enforce non-competes, certain criteria must be met in order for the noncompete to be enforceable. Broadly, in order to be enforceable, a non-compete agreement must be: (a) entered into in exchange for adequate consideration; (b) necessary to protect a legitimate business interest; and (c) reasonable in scope with regard to restricted activity, restricted time and geographic radius of restricted area. State statutes and case law vary as to how these standards are interpreted within their jurisdiction, but generally the following principles apply:
As a basic principle of contract law, an agreement is not binding unless it is supported by adequate consideration. Consideration is an exchange of value, meaning that in the context of a noncompete, the party seeking to enforce the non-compete must give something of value in exchange for the individual’s agreement not to compete. That exchange of value may be a monetary payment (e.g., a signing bonus in the case of employment or the purchase price in the case of a sale of a business) or an initial offer of employment (although some state courts, such as Illinois,3 require that the new employee remain employed for a certain amount of time in order for the non-compete to be enforceable). Once the employment relationship has commenced, states are split as to whether a mere offer of continued employment is sufficient consideration to support enforcement of a non-compete without a corresponding additional benefit to the employee.4
Legitimate Business Interest
Most states will not enforce a non-compete against an individual beyond what is necessary to protect the covenant holder’s legitimate business interests. What constitutes a legitimate business interest varies from state-to-state and may be defined by statute (as in Florida)5 or by case law. In the context of physician practices, the following have been recognized as legitimate business interests:
- Patient referral bases and substantial relationships with patients;
- Confidential business information (for example, patient lists);
- Patient good will associated with a professional practice within a certain geographic location or practice specialty;
- Return of investment on training,6 particularly extraordinary or specialized training.
While the value of direct patient relationships is generally recognized as a legitimate business interest, specialty practices, such as anesthesiology and emergency medicine, that provide staffing services to hospitals and other facilities, derive much of their value from these contracts with third party “customers.” In that case, establishing a legitimate business interest in protecting these third party relationships may prove to be more difficult. In one Florida case, the court found that a hematology and oncology practice that purported to have an “exclusive contract” with two area hospitals did not have a legitimate business interest in protecting those hospital relationships because they were not, in fact, exclusive.7 In that case, practitioners within the same specialty area were granted privileges and worked at the two hospitals in question.
The same Florida statute that defines a “legitimate business interest” also provides that in determining the enforceability of non-compete, a court may consider as a defense the fact that the person seeking enforcement (i.e., the former employer) no longer continues in business in the area or line of business that is the subject of the restrictive covenant. Similar state statutes or case law that follow this reasoning present another challenge for practices that seek to protect valuable staffing arrangements. If the contract with the hospital is terminated, arguably the practice is no longer engaged in that particular line of business and may not have a legitimate business interest in restricting its former employee’s interaction with that hospital.
This scenario is particularly concerning for hospital-based physician practices, as arguably the hospital could terminate the contract with the practice, and then seek to employ the physicians itself, leaving the practice with no protectable business interest. To help protect against this scenario, a common practice is to include a liquidated damages provision in the agreement with the hospital and/or the physician employment agreement, acknowledging the value of the physicians’ covenant not to compete and setting significant liquidated damages (that would likely be paid by the future employer). At a minimum, this strategy requires the future employer to make a significant investment in order to employ the physicians, and could serve as a deterrent.
In states that prohibit the corporate practice of medicine, certain entities may not be permitted to enforce a physician non-compete due to lack of a legitimate business purpose. For example, the Virginia Supreme Court has held that because a corporation could not engage in the practice of medicine, it did not have a legitimate business interest in enforcing a covenant not to compete in an employment contract with a physician.8 Similarly, the Illinois Supreme Court has found that where an employment agreement between a physician and a corporate employer violated the prohibition against the corporate practice of medicine, the entire agreement, including non-compete restrictions, was “void, unenforceable, and unassignable from its inception.”9 This issue can be avoided by structuring relationships between physicians and corporate partners in a manner that complies with the applicable corporate practice of medicine doctrine.
Non-compete restrictions must be reasonable in scope with regard to restricted activity, restricted time and geographic radius of restricted area.
Restricted Activity. Non-compete restrictions that unreasonably impair the ability of an individual to make a living are likely to be deemed overbroad and unenforceable. Generally, the restricted activity must be reasonable in the context of an employee’s duties and activities on behalf of the employer. In the context of the sale of the business, courts generally look to the nature of the business at the time of the sale. In determining reasonableness of the restricted activity with respect to physicians, most courts look to the “particular specialty” at issue.10 If a non-compete precludes any type of practice, even in fields that do not compete with the party seeking to enforce the covenant, the restriction is likely to be deemed too broad.
In New York, however, broad prohibitions on the “practice of medicine” have been upheld including “all employment that involved treating patients, managing patients’ illnesses, admitting patients to a hospital and teaching at a hospital.”11 Such broad restrictions on a physician’s right to practice medicine are prohibited by statute in several states, including Colorado,12 Delaware13 and Massachusetts.14
Beyond the specific field of practice, non-compete clauses often contain a lengthy list of restricted activities, such as soliciting employees and customers, working or providing coverage, staffing or other services to competitors, directly or indirectly owning, managing, advising or consulting with a competitor, being employed by or having a financial relationship with a competitor or engaging in the same or similar business as the party seeking to enforce the covenant. Such a broad array of restricted activities may not be enforceable. In Oklahoma, for example, a former employee must be permitted to engage in the same or similar business as that conducted by the former employer as long as the former employee does not “directly solicit the sale of goods, services or a combination of goods and services from the established customers of the former employer.”15 Thus, in one Oklahoma case seeking to enforce a noncompete against a certified registered nurse anesthetist, the court dismissed the complaint in part because the list of prohibited activities was overly broad.16
Restricted Time. The amount of time for which an individual is prohibited from engaging in the restricted activities must be reasonable. Some states have statutory presumptions regarding the reasonableness of the restricted time. In Florida, for example, any employmentrelated restraint of six months or less is presumed reasonable, and any restraint more than two years in duration is presumed unreasonable.17 In the context of the sale of a business in Florida, however, the acceptable time frames are longer: Three years or less in duration is presumed reasonable, and any restraint more than seven years in duration is presumed unreasonable.18 These statutory presumptions are consistent with trends across the country. An employmentrelated non-compete must be more limited in duration (e.g., one to three years) than a non-compete entered into in connection with the ownership or sale of a practice (in which three-to-five-year terms are more likely to be enforceable).
Geographic Radius. A non-compete must also be reasonable in terms of its geographic limitations. With respect to physicians, the reasonableness of the geographic limitation may be analyzed in connection with the scope of the limited activity. For example, a blanket prohibition on the practice of medicine may only be enforceable within a small radius (e.g., five miles),19 while a restriction limited to a particular specialty practice may be enforceable across a broader geographic area (e.g., five counties).20 Generally, courts look to see where a practice’s patients or referral sources are located when evaluating the reasonableness of the geographic scope. In one Wisconsin case, the court invalidated a non-compete prohibiting a cardiologist from engaging in the practice of thoracic medicine or heart surgery within a 30-mile radius of three specified cities because the geographic scope was overly broad as compared to the physical location of the employer’s referral sources.21
Some states require that the geographic scope be defined in a specific manner. For example, a Louisiana statute requires that a non-compete agreement identify the covered parish, county or municipality.22 In Kimball v. Anesthesia Specialists,23 an anesthesiologist who was a former employee and shareholder successfully challenged a non-compete provision in his employment agreement which stated that the geographic scope was “any health care facility regularly serviced by the [employer].” The Louisiana court invalidated the non-compete because it failed to adequately identify the geographic scope in accordance with the statute.
Enforcement Against Physicians in Context of Sale of a Practice
Non-competes entered into in connection with the sale of a business are generally viewed more favorably than non-competes solely in the employment context. Even states that prohibit noncompetes in the employment context, such as California, will enforce reasonable non-competes in the context of the sale of a medical practice (provided statutory criteria are met).24
In addition to specific enforcement of the non-compete, other remedies may be available to the buyer in connection with the sale of a practice. For example, the purchase agreement for the acquisition of a practice may provide that the buyer may “claw back” all or a portion of the purchase price if the non-compete restriction is violated as liquidated damages. Generally, the amount of liquidated damages must be a reasonable forecast of the damage likely to occur and may not simply act as a penalty.
In a recent Indiana case, the Court of Appeals found that the liquidated damages clause that required the selling physician to repay the exact amount the buyer paid for the practice “made sense as an estimate of damages because [the buyer] paid not just for the tangible property of the Practice but also for [the seller’s] personal good will. [If the seller opened a practice within the restricted area], the good will that the community associates with his name will follow him, and the value of [the buyer’s] purchase will likely suffer. Thus, the liquidated damages clause here places [the buyer] in the position it occupied before it executed the purchase agreement.”25 The court went even further, however, finding that the liquidated damages provision did not prevent the buyer from also seeking an injunction to enforce the non-compete.
Acquisition-related non-competes are not always enforceable, however, and may be subject to additional scrutiny at the federal level. In one notable case, In the Matter of Renown Health, the Federal Trade Commission (FTC) invalidated the non-compete clauses of 10 cardiologists following Renown Health’s acquisition of two competing cardiologist practices in the Reno, Nevada market. As a result of the acquisitions, Renown Health employed approximately 97 percent of the physicians providing cardiology services for adults in the Reno area at one time and approximately 88 percent at the time the FTC consent order was finalized.26
Pursuant to the FTC consent order, 10 of the 32 cardiologists who were employed by Renown Health following the acquisition of their respective practices were permitted to join competing cardiology practices in the Reno area. The FTC cited several market factors in support of its complaint against Renown Health, including (a) significant barriers to entry in the market due to the cardiologists’ high degree of specialization and subspecialization; (b) the dominance of Renown Health as the largest hospital system in the area; and (c) increased ability of the merged entity to unilaterally raise prices for cardiology services and demand higher rates from healthcare plans in the market.27 Similar concerns may be relevant in other specialty physician practices in concentrated or consolidating markets, including the anesthesia market.
Several states have recently enacted or proposed legislation limiting the enforceability of non-competes against physicians.
New Hampshire. On June 6, 2016, the New Hampshire governor signed into law Senate Bill 417. The new law renders void and unenforceable any agreement with respect to partnership, employment or any other form of professional relationship with a physician, which includes any restriction to the right of such physician to also practice medicine in any geographic area for any period of time during or after the termination of such partnership, employment or professional relationship. The law applies to new contracts or renewals of contracts entered into on or after August 5, 2016.
Connecticut. On June 2, 2016, the Connecticut governor signed Public Act No. 16-95.28 The new law, which applies to physician non-compete agreements entered into, amended, extended or renewed on or after July 1, 2016, limits restrictions on a physician’s competitive activities to (i) no more than one year, and (ii) in a geographic region no more than fifteen miles from the primary site where the physician practices. The law also limits the enforceability of non-competes upon the expiration, non-renewal or termination of a physician’s employment, other than in connection with a physician’s voluntary non-renewal or the termination of employment by the employer for cause.
Missouri. House Bill No. 1660 (as amended),29 introduced in December 2015, sought to ban covenants not to compete between physicians and any “private, nonprofit health care entity or governmental health care entity.” The bill also provided for physician access to patient lists and patient medical records after termination of employment. The bill failed in the Health and Mental Health Policy Committee in March 2016.
Washington. House Bill 1173, which was reintroduced in the Washington State 2016 legislative session, would ban physician non-competes. The proposed bill provides that “A provision in an employment or other professional agreement that restricts the right of a person licensed [to practice osteopathic medicine or to practice medicine] in a geographic area for a period of time after the termination of the contract is void and unenforceable.” The proposed bill did not pass the Washington House before the legislative deadline in February, so will not proceed this year.
New York. New York Senate Bill S4447A (and its companion in the Assembly, A2147A) attempts to “clarify” New York law. The bill acknowledges that “learned professionals” such as physicians have always been permitted to enforce non-compete agreements against departing physicians, but would prohibit the enforcement of a non-compete against a physician if “such learned professional was involuntarily terminated or discharged for reasons other than misconduct.” The bill was amended and recommitted to the Labor Committee as of January 15, 2016.
New Mexico. Effective in July 2015, New Mexico imposed a ban on non-compete provisions restricting healthcare practitioners, including: (1) dentists; (2) osteopathic physicians; (3) physicians; (4) podiatrists; and (5) certified registered nurse anesthetists. The ban does not apply to agreements between healthcare practitioners who are shareholders, owners, partners or directors of a healthcare practice. In addition, other types of restrictive covenants are explicitly permitted under the statute, including non-disclosure restrictions for confidential information, and trade secrets and non-solicitation provisions with respect to patients and employees for a one-year period or less.30
Because an anesthesia practice’s success is highly dependent on two assets—the relationship with the hospital and the relationship with its physicians—its covenants not to compete with its physicians are crucial to securing the value of the practice. Failure of the covenant to meet technical elements for enforceability can be fatal. It is important to regularly review developments in applicable state statutes and case law, and adjust the covenants and the practice’s strategy generally in order to ensure that the covenants remain enforceable.
2 Cal. Bus. & Prof. Code §§ 16600-6607; N.D. Cent. Code § 9-08-06.
3 Prairie Rheumatology Associates, S.C. v. Maria Francis, D.O., 2014 IL App. (3d) 140338.
4 Compare, e.g. Charles T. Creech, Inc. v. Brown, 433 S.W.3d 345 (Ky. 2014) holding that continued employment was not sufficient; with Standard Register v. Keala, Civ. No. 14-00291 JMS-RLP (D. Haw., June 8, 2015) holding that continued at-will employment was sufficient consideration for a non-compete.
5 Fla. Stat. Ann. § 542.335(1)(b).
6 Community Hosp. Group, Inc. v. More, 869 A.2d 884, 897 (N.J. 2005)
7 Fla. Hematology & Oncology Specialists v. Tummala, 927 So. 2d 135 (Fla. 5th DCA 2006)
8 Parikh v. Family Care Ctr., Inc. 641 S.E.2d 98 (2007).
9 Carter-Shields v. Alton Health Inst., 777 N.E.2d 948, 955 (Ill. 2002)
10 Valley Med. Specialists v. Farber, 982 P.2d 1277, 1284 (Ariz. 1999).
11 Gismondi, Paglia, Sherling, M.D., P.C. v. Franco, 104 F. Supp. 2d 223, 232 (S.D.N.Y. 2000)
12 Colo. Rev. Stat. Ann. § 8-2-113(3).
13 Del. Code Ann. tit. 6, § 2707
14 Mass. Gen. Laws ch. 112, § 12X
15 Okla. Stat. § 2012(B)(6).
17 Fla. Stat. Ann. § 542.335(1)(d)(1).
18 Fla. Stat. Ann. § 542.335(1)(d)(3).
19 Mohanty v. St. John Heart Clinic, S.C., 866 N.E.2d 85 (Ill. 2006)
20 Karpinski v. Ingrasci, 320 N.Y.S.2d 1 (1971)
21 Fox Valley Thoracic Surgical Associates, S.C. v. Ferrante, 2008 WL 425648 (Wis. Ct. App. February 19, 2008
22 Section 23:921(C) of the Louisiana Revised Statutes.
23 809 So. 2d 405, 413 (La. Ct. App. 2001).
24 Hill Med. Corp. v. Wycoff, 86 Cal. App. 4th 895, 901 (2001).
25 Pinnacle Healthcare, LLC, and Patrick J. Sheets, M.D., Inc., v. Patrick J. Sheets, 17 N.E.3d 947 (Ind. Ct. App. 2014
26 https://www.ftc.gov/sites/default/files/documents/cases/2012/08/120806renownhealthcmpt.pdf, at page 2.
29 http://www.house.mo.gov/billtracking/bills161/billpdf/intro/HB1660I.PDF; http://www.house.mo.gov/billtracking/bills161/amendpdf/4639H01.02H.pdf.
30 https://www.nmlegis.gov/Sessions/15%20Regular/final/SB0325.pdf; N.M. Stat. Ann. §§ 24-1i-1 to 24-1i-5
Amanda K. Jester, JD is an attorney with Waller Lansden Dortch & Davis, LLP in Austin, TX, where she represents physician practices, hospitals, health systems and healthcare investors in complex transactional matters and associated regulatory issues. She can be reached at Amanda.Jester@wallerlaw.com.
Ashleigh VanLandingham, JD is an attorney with Waller Lansden Dortch & Davis, LLP in Nashville, TN, where she represents specialty physician practices and other healthcare providers in strategic acquisitions and joint ventures as well as divestitures. She can be reached at AshleighVanLandingham@wallerlaw.com.