December 2024

Arizona employer cannot exclude settlement communications from former employee’s retaliation complaint

In Flores v. Rafi Law Group PLLC, the plaintiff accused her law firm employer of retaliating against her by (i) firing her for reporting alleged sexual harassment to human resources and (ii) threatening her with counterclaims after she notified her employer that she intended to file claims with the U.S. Equal Employment Opportunity Commission.  In support of her second retaliation claim, the employee described in her complaint the parties’ pre-suit settlement negotiations and attached settlement discussions as exhibits.

The defendant firm moved to strike the settlement discussions from the complaint, but the presiding Arizona federal court denied the motion.  Though the Federal Rules of Evidence prohibit using settlement-related communications as evidence to “prove or disprove the validity…of a disputed claim,” the court recognized an exception where settlement discussions are “used to establish an independent violation (here, retaliation) unrelated to the underlying claim which was the subject of the correspondence[.]”

S&K Take: This case reminds that presumably confidential settlement discussions may, in certain circumstances, become public and even potentially admissible in court proceedings.  It also cautions employers to take care that their stated legal positions cannot be construed as retaliatory.

Ninth Circuit holds that arbitrator’s award can effectively preclude SOX claim

Pursuant to statute, claims brought under the Sarbanes-Oxley Act (“SOX”) cannot be subject to mandatory arbitration.  However, in Hansen v. Elon Musk, et al., a divided panel of the Ninth Circuit Court of Appeals nevertheless affirmed the dismissal of a former employee’s whistleblower retaliation claims under SOX, holding that certain factual issues that had been decided in prior arbitration were case dispositive.

The plaintiff’s claims in Hansen included tortious interference with contract and SOX whistleblower retaliation.  The SOX claim was based on the employee’s alleged termination for reporting purported criminal activity at a Tesla factory to management and to the Securities and Exchange Commission (“SEC”).  On defendants’ motion, the presiding district court sent all the plaintiff’s claims except the SOX claim to arbitration pursuant to an arbitration agreement.

The arbitration went forward, and the defendants prevailed.  Among other things, the arbitrator held that the plaintiff did not engage in protected whistleblowing because he lacked an objectively reasonable belief that his complaint to the SEC related to a violation of securities laws.  The defendants then moved the district court not only to confirm the arbitration award, but also to dismiss the SOX claim, arguing that this factual finding was dispositive of the SOX claim and precluded the plaintiff from relitigating the same issues on his SOX claim even though it could not be arbitrated.

A majority of the appellate panel held that while an arbitrator’s decision cannot preclude a SOX claim, “a confirmed arbitral award can sometimes preclude relitigation of the issues underlying such a claim.”  The majority found that relitigation of the fundamental issues of the plaintiff’s SOX claim were precluded by the arbitrator’s factual finding that the plaintiff did not reasonably believe that he reported to the SEC a violation of securities laws.

S&K Take: This is an important decision holding that an arbitrator’s factual findings can have the effect of precluding a claim that is nonarbitrable by statute.  Notably, the panel was not moved by the plaintiff’s argument that its holding would circumvent SOX’s prohibition of mandatory arbitration, observing that a plaintiff can “avoid a preclusive arbitral award by declining to plead arbitrable claims along with a SOX claim, where the arbitration might resolve issues necessary for a SOX claim’s success.”  In a partial dissent, Judge Daniel Collins asserted that the plaintiff’s SOX claim should proceed under a line of United States Supreme Court cases holding that an arbitral award cannot bar litigation of a statutory claim when the arbitration was not authorized to resolve the claim.

Delaware Supreme Court declines to enforce or modify restrictive covenants

We previously reported that a Delaware Court of Chancery in Sunder Energy, LLC v. Jackson, et al. denied an employer’s motion for a preliminary injunction to enforce non-compete and employee non-solicit covenants contained in an LLC agreement.  In particular, the court found that the covenants were overly broad and declined to “blue pencil,” or modify, them.  The employer then appealed, but only as to the court’s decision not to blue pencil the covenants.

On December 10, 2024, the Delaware Supreme Court affirmed the Chancery Court’s decision, holding that it properly exercised its direction by refusing to blue pencil the covenants.  Looking to precedent, the Court found compelling that the factual record showed that (i) the parties did not negotiate the covenants, (ii) the employee was sent the agreement on New Year’s Eve and encouraged to sign it “before midnight,” and (iii) the employee received minimal-to-no separate compensation in exchange for his agreement to be bound by the covenants.  The Court also found the covenants “exceptionally broad” in scope, which also weighed against blue penciling.

The Court also rejected the employer’s argument that the covenants should have been enforced despite their scope because the employee’s actions were “so blatantly competitive” they would have breached even a narrow non-compete.  The Court found this argument “turn[ed] the analysis on its head” and “create[d] perverse incentives for employers drafting restrictive covenants.”  The Court reiterated that whether to blue pencil a covenant turns on the covenants themselves and the circumstances surrounding their adoption, not on the employee’s conduct.  The Court declined, however, to articulate a bright-line rule as to when blue penciling is appropriate.

S&K Take: This decision is the latest in a growing trend of hostility toward restrictive covenants by Delaware courts.  Employers should be mindful to ensure restrictive covenants are narrowly tailored to protect legitimate business interests.