Wisconsin Court of Appeals Signals Broader Application of Non-Compete Statute

If your organization relies on post-employment restrictions contained in compensation plans, equity awards, or deal documents the Wisconsin Court of Appeals’ decision in Steffes v. Fond du Lac Regional Clinic deserves your attention.

Wisconsin law has had two analytical frameworks in determining whether restrictive covenant agreements are enforceable: (a) restrictive covenants related to employment and (b) restrictive covenants related to the sale of a business.

Employment-based covenants are governed by Wis. Stat. § 103.465 and receive close scrutiny with no allowance for any blue penciling or judicial reformation to fix overbroad provisions. 

By contrast, restrictive covenants arising incidental to the “sale of a business” are analyzed under a more flexible common-law standard of reasonability that affords more deference to business needs and allowed judicial revision of otherwise unenforceable provisions (the “sale of business rules”).

Cases like Reiman Associates and Selmer supported this distinction. In fact, the 2010 Wisconsin Court of Appeals decision in Selmer gave employers a clear rule: “where it appears that a covenant cannot be separated from the employment relationship—either because the covenant is a condition of employment, or because the employer possess an unfair bargaining advantage vis-à-vis the employee—the covenant receives the exacting scrutiny mandated by § 103.465.” The Selmer court then applied the “sale of business rules” to the enforcement of a non-compete in a stock purchasing agreement since the agreement was not conditioned on the employee’s employment, and the employee was free to reject the offer with no effect to his employment.

Selmer allowed employers to use tools like stock options agreements, deferred compensation agreements, or forfeiture provisions that were not conditioned on an Employee’s employment to incentivize non-competition under the “sale of business rules” without triggering § 103.465. 

However, Steffes has now signaled a change to Wisconsin’s analytical framework.

In Steffes, a physician participated in a supplemental retirement plan that conditioned benefits on compliance with post-employment competition restrictions. After leaving and opening a competing practice within a restricted area, he was denied benefits.

The Court of Appeals held that Wisconsin’s non-compete statute applied because the plan provision restrained post-employment competition within a defined time and territory, the two definitional characteristics provided by statute. The fact that the restriction appeared in a compensation plan—not an employment agreement—did not change the analysis. The court held the restriction unenforceable in its entirety because the Court determined it violated Wisconsin public policy.

Significantly, the court in Steffes largely sets aside the contextual distinctions noted in Selmer and focuses on function, not form. Its message read practically is: if the provision looks and acts like a post-employment non-compete of an employee, expect a court to treat it as one under Wis. Stat. § 103.465.

Wisconsin now has two divergent court of appeals decisions in Steffes and Selmer begging for clarity from the Wisconsin Supreme court, if and when appealed.

A key takeaway from Steffes is the court’s emphasis on the text and effect of the restraint, rather than the form of the agreement. The decision can be read as asking a single threshold question: does the provision restrict an employee’s ability to compete after termination?  If so, § 103.465 may apply, regardless of where the restriction appears in an any agreement.

Given the decision in Steffes, agreements that were drafted under the broader “sale of business” rules under Selmer/Reimer should be reviewed to determine compliance with Wis. Stat. §103.465. Agreements requiring such scrutiny would include: equity plans, deferred compensation or retention plans, incentive or bonus arrangements or other agreements with employees containing post- employment restrictions.

Of particular concern with Steffes is the impact the decision may have on transaction agreements.  Steffes raises concerns about the continued strength of the “benefit of the bargain” rationale in sale-of-business transactions where the former owners of a company stay on to work for the new company that acquired them. If courts apply § 103.465 based solely on the existence of a post transaction restraint affecting an employee, covenants negotiated to protect goodwill and transaction value may be subject to strict scrutiny and complete invalidation under Wis Stat. §  103.465. And while, historically, these arrangements have been structured to fall outside § 103.465, Steffes suggests they may instead be treated as employee restraints subject to the statute where they function as post-employment non-competes. As a result, particular attention should be given to transactions in which sellers remain employed following closing. In those scenarios, restrictive covenants that have historically been analyzed under the sale-of-business framework may instead be characterized as restraints on an employee and evaluated under § 103.465, creating a risk of complete invalidation if the restriction is found to be overbroad.