October 5, 2018

Employment Relationships & The Employee’s Duty of Loyalty

By. William Heaton

There’s a saying in business that in time your employees will either become your partners or your competitors. Employers, of necessity, often place good, capable employees in positions of responsibility which require that the employee be given access to confidential, proprietary and even trade secret information, and that the employee develop and maintain personal contacts and relationships with vendors, customers and other co-workers who are essential to the success of the employer’s business. It is not uncommon for such employees, over time, to begin to feel they are primary reasons for the success of the employer’s business, or that they are capable of running the employer’s business better than the employer. If such an employee subsequently makes preparations to leave the employment relationship—particularly if the employee is leaving to take a position with a competitor or to start a competing business—it can be easy to rationalize the use of knowledge and information gained and associations made in the course of the prior employment relationship (i.e. confidential information and relationships with the former employer’s venders, clientele and/or other employees) to further personal interests in the new employment relationship or business that is engaged in competition with the employee’s former employer. Similarly, when confronted with the departure of a former trusted employee who is going to work for a competitor or has started a new business to compete the former employer’s business, it can be easy for the employer to believe and assert (rightly or wrongly) that the former employee has misappropriated and is using confidential information obtained in the course of employment with the former employer to unfairly compete with the former employer’s business interests.

We’ve been asked on several occasions to assist and provide legal counsel in situations where one or more trusted employees were alleged to have used knowledge, information and personal relationships that they obtained in the course of their employment to take and misappropriate some or all of their employer’s business or clientele. In such situations, the facts are seldom clear and undisputed, while the consequences are both real and severe. Serious loss and damage to the employer’s business can result if proprietary information or essential business relationships are misappropriated and usurped. On the other hand, the employee can also face significant costs of defense and liability if it is alleged or established that the employee acted inappropriately and in violation of duties owed to the employer.

It is important for all parties to an employment relationship to know and understand that, under both Nevada and Utah law, employees owe a fiduciary or heightened duty of loyalty to their employers as long as the employment relationship continues. See White Cap Indus., Inc. v. Ruppert, 119 Nev. 126, 67 P.3d 318 (2003), and Prince, Yeates & Geldzahler v. Young, 94 P.3d 179 (Utah 2004). That fiduciary duty of loyalty arises under common law and is separate from and independent of any duty, obligation, limitation or restriction imposed by contract (i.e. in non-compete or non-solicitation covenants in agreements between the parties). The essence of common law rule is succinctly summarized in the Restatement, Second, of Agency (1958) § 393 which states:

Unless otherwise agreed, an agent is subject to a duty not to compete with the principal concerning the subject matter of his agency.

Comment e to § 393 provides a more detailed explanation of the effect of the employee‘s fiduciary duty of loyalty in the context of competing with his or her employer. The Comment states in part:

e. … After the termination of his agency, in the absence of a restrictive agreement, the agent (employee) can properly compete with his principal (employer) as to matters for which he has been employed…. Even before the termination of the agency, he is entitled to make arrangement to compete, except that he cannot properly use confidential information peculiar to his employer’s business and acquired therein. Thus, before the end of his employment, he can properly purchase a rival business and upon termination of employment immediately compete. He is not, however, entitled to solicit customers for such rival business before the end of his employment nor can he properly do other similar acts in direct competition with the employer’s business. (Explanation added.)

Wise and prudent employers will take steps to place specific limitations on actions that employees can take during the employment relationship and after it comes to an end by way of (i) covenants in employment agreements and/or (ii) provisions in non-compete/non-solicitation agreements that the employee is required to sign as a condition to employment or continued employment. Similarly, wise and prudent employees will take great care to ensure that they (i) fully adhere to and comply with any applicable non-compete and non-solicitation covenants and agreements, (ii) do not misappropriate or use their former employer’s confidential or trade secret protected information, and (iii) do not commit acts of disloyalty to their employer or engage in competition with their employer’s business while the employment relationship between the employee and the employer continues.

If we can assist you to be wise and prudent in managing your personnel and employment related matters and relationships, give us a call.

William H. Heaton

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James Fontano is serving as the Probate Commissioner at the Eighth Judicial District Court and is no longer practicing with the firm.