Restrictive Covenants – How Effective are Non-Competes and Non-Solicits in the Health Care Industry?
Restrictive covenants, including covenants not to compete and non-solicitation agreements, are common contractual provisions in many industries. The health care industry is no exception. But how effective are these restrictive covenants?
Like many legal questions facing employers, the simple answer is: “it depends.” Restrictive covenants -- such as covenants not to compete and non-solicitation agreements -- are governed by state law. In the employment context, some states expressly permit restrictive covenants so long as they are reasonable as to time and geography (e.g., Florida); some states purport to “abhor” restrictive covenants, but will enforce them if the restrictions are reasonable (e.g., Illinois); and a few states expressly prohibit most restrictive covenants in most employment circumstances (e.g., California). Restrictive covenants are generally enforceable in other circumstances, such as an acquisition of a professional practice or a professional corporation. This distinction stems from the consideration paid by the buyer to the seller for the sale of the business. Courts have generally agreed with purchasers that the restrictive covenants were part of the purchase price, ensuring that the seller could not accept the purchase consideration and then open a competing business. Non-solicit provisions prohibiting the solicitation of customers, patients, and/or employees are viewed more favorably (or, in some states, with less disfavor) than non-compete provisions. Non-solicitation covenants are more tolerable than non-competition covenants because they do not prohibit the individual from practicing his or her profession. Even so, state law and the factual circumstances may differ as to how broadly a non-solicitation covenant may be enforced. For example, one recurring question is whether an entity may permissibly prohibit an individual from soliciting the entity’s entire customer or patient base, or only those customers or patients with which the individual had contact. The former may be appropriate for a smaller practice, but not for a larger, regional practice.
But what about the health care industry specifically – are the rules any different or more specialized than in the general employment context? Again, unfortunately, definitive answers are elusive, because enforceability in the health care industry also varies state to state. Narrow rules apply to health care professionals in most (but not all) states based on a public policy argument that the public should not be prevented from having access to a health care professional. This is particularly true for certain physician specialists in particular geographic areas underserved by that specialty. Other important considerations include whether professional services are involved, and whether the company trying to enforce a restrictive covenant is a corporation authorized under state law to provide professional services.
Restrictions on the corporate practice of medicine (“CPOM”), or the employment of certain licensed professions (such as physicians) by a general business corporation, must also be considered. The CPOM prohibition exists in certain states for dentists, optometrists, psychologists, veterinarians, and physical therapists. In some states (e.g., New York), the CPOM prohibition applies to nearly all licensed professionals. As a result, health care management companies are often created to provide business services to health care providers, who then provide all of the clinical services. Many states prohibit or will not enforce restrictive covenants by a management company against a health professional based on the management company’s CPOM prohibition. The theory is that it is impossible for the management company and the licensed professional to compete because the management company is prohibited by law from performing professional services. Courts, however, have enforced restrictive covenants that prohibited the licensed professional from performing management services that competed with the management company.
Restrictive covenants are an important tool in protecting a company’s interest in its customers, patients, employees, and information. Enforceability of restrictive covenants varies from state to state, and is subject to particular scrutiny across numerous issues in the health care industry. Health care entities looking to enter into restrictive covenants should carefully review state law with counsel familiar with these unique matters.