Earlier this year, I presented a seminar at the Small Business Expo in New York on the top ten mistakes commonly made by start-up founders. Mistake #3 on my list was not paying enough attention to the issues that arise when an entrepreneur starts working on a start-up while still being employed somewhere else. Since these issues continue to come up in my practice frequently, I decided to summarize them in this blog post.
In short, in the absence of an agreement with your employer that contains restrictive covenants (such as non-compete, non-solicit, invention assignment, confidentiality), much depends on two factors: (1) whether the entrepreneur intends to start a competing or a non-competing venture and (2) the entrepreneur’s position with the company. Key employees (such as managers, company officers, directors, group leaders) owe fiduciary duty to the company and its stockholders (see my earlier posts about fiduciary duties: duty of care and duty of loyalty). The duty of loyalty prevents them from taking the company’s opportunities, competing with the company, and soliciting its employees. They have to always act in the best interests of the company and cannot deliberately harm it. So, starting a competing business while still in the company’s employment is out of question. It is likely that skilled employees (such as software engineers or other kind of specialists) owe similar duties. On the other hand, the unskilled employees’ duties to the company are limited to the time when they are actually working. Their off-hours activities are not restricted unless of course their activities are detrimental to the company.
Further, employees (regardless of their position with the company) cannot misappropriate the company’s trade secrets and disclose or use the company’s confidential information during and after the employment. This applies even when there is no confidentiality agreement in place. According to the Uniform Trade Secrets Act, a trade secret is information that has economic value, is not easily ascertainable (means that the information cannot be obtained legally, for example, by searching for it online) and is subject to reasonable efforts to maintain its secrecy.
Finally, even when there is no written invention assignment agreement with the employer, according to the copyright law, all copyrightable material created by an employee for the employer within the scope of employment is deemed to be “work made for hire” and is owned by the employer. So, it is likely that an employee who is writing software code for his new competing venture during regular work hours on the company’s computer at the company’s office does not own the intellectual property rights to it. Some states have limited the application of invention assignments. For example, California’s law limits the employer’s claim on the inventions made during the employee’s own time, not using company equipment and if the invention does not relate to the business of the company and does not result from work for the company.
In addition to these duties and restrictions, employers often ask the employees to sign confidentiality and invention assignment agreements. Typical restrictive covenants found in such agreements are a covenant not to compete and a covenant not to solicit the company’s employees and customers. There may also be a no-moonlighting clause (no outside activities) and a covenant prohibiting any disparaging statements about the company and its customers. Again, several states, such as California, limit the validity of such restrictive covenants.
In conclusion, my general advice for the entrepreneurs who have started working on their new venture while still being employed elsewhere is to (1) review all signed agreements with their present employer; (2) not compete with the employer, (3) not use the employer’s confidential information; (4) avoid working on the new venture during business hours, on the employer’s premises and using employer’s equipment; and (5) if possible (and this depends on the particular circumstances), disclose the new venture to the employer and negotiate the applicability of restrictive covenants, if any. Who knows, the employer may become the new venture’s first investor.
This article is not a legal advice, and was written for general informational purposes only. If you have questions or comments about the article or are interested in learning more about this topic, feel free to contact its author, Arina Shulga. Ms. Shulga is the founder of Shulga Law Firm, P.C., a New York-based boutique law firm specializing in advising individual and corporate clients on aspects of business, corporate, securities, and intellectual property law.