Illinois Supreme Court Settles Employment Covenants Not to Compete Debate: Refutes Marginalization of the Legitimate Business Interest Prong

It is fairly common for companies to include a non-compete clause in their employee documents, which generally prohibits individuals from competing against the company during the course of their employment. However, this does not prevent some employees from violating these covenants not to compete. The recent Illinois Supreme Court case of Reliable Fire Equipment Co. v. Arredondo, 2011 IL 111871, clarifies the legal analysis regarding violations of non-compete clauses.

Reliable Fire Equipment is an Illinois company that sells, installs, and services fire prevention and alarm systems. The defendant, Rene Garcia, began working for Reliable in 1992, at which time he signed a covenant not to compete as part of his employee agreement. The co-defendant, Arnold Arredondo, signed a similar agreement when he began working for Reliable in 1998. Under this agreement, both employees agreed not to compete with Reliable both for the duration of their employment and one year following their termination. The covenant further specified that employees were specifically prohibited from competing in Illinois and the surrounding bordering states of Indiana and Wisconsin.

The business litigation issue in Reliable arose under claims that both defendants violated this agreement during the course of their employment. While still working for Reliable, Arrendondo founded High Rise Security Systems, LLC, a company dedicated to selling fire alarm systems in the Chicagoland area. Soon thereafter, Garcia signed an operating agreement with High Rise; he was also still employed by Reliable.

Once High Rise was up fully established, Arredondo resigned from Reliabele and began working at the competing High Rise full-time. Soon thereafter, Garcia was fired from Reliable for his association with High Rise. Reliable took the additional step of filing the business lawsuit against Arredondo, Garcia, and High Rise for violating Reliable’s covenant not to compete.

In response, the defendants filed a counterclaim against Reliable, alleging that its covenant not to compete was unenforceable. The basis for their commercial litigation claim was that Reliable had not clearly established the existence of a legitimate business interest that required the courts to enforce the covenants. The trial court held a bench trial in which it reviewed the case facts and all parties’ arguments. It ruled in favor of the defendants on the basis that a legitimate business interest had not been established. The plaintiff appealed this decision, which was then affirmed by the appellate court.

In its decision, the appellate court applied a two-prong test to determine whether Reliable’s covenant not to compete was reasonable. In doing so, the court relied on Sunbelt Rentals, Inc. v. Ehlers, 394 Ill. App. 3d 421, 915 N.E.2d 862 (4th D. 2009) , which held that only time and territory should be considered when determining whether a restrictive covenant not to compete is reasonable. Using these two determinants, the appellate court held that Reliable’s test was not reasonable and dismissed its claims.

However, the Illinois Supreme Court held a different view. While the appellate court had only applied a two-prong test, the Supreme Court maintained that a three-prong tests was required to determine reasonableness:

(1) Restraint must be necessary to protect the legitimate business interest of the promisee;
(2) Restraint must not impose an undue hardship on the promisor or the public; and
(3) The scope of the restraint must be otherwise reasonable.

The appellate court had refrained from applying the legitimate business interest test on its understanding that the Supreme Court had never formally adopted that test. However, the Supreme Court clarified in its review of Reliable that it had in fact adopted the three-prong test and that all prongs must be applied when determining the reasonableness of a covenant not to compete.

Because the trial judge and appellate court had only applied the two-prong test, the Supreme Court remanded the case for reconsideration. It instructed the court that it needed to look at the totality of the case circumstances when making its determination as to all the elements of the reasonableness test. Therefore, all parties should be allowed to present further evidence to allow the trial court to analyze Reliable’s covenant not to compete using the three-prong test.

Kreisman Law Offices has been handling Illinois business litigation matters for over 35 years, serving clients in and around Chicago, Cook County, and surrounding areas, including Alsip, Lake Bluff, Naperville, and Schaumburg.