By Tom Cushing
Silicon Valley’s Very Own 'Reserve Clause'Uploaded: Mar 30, 2014
"Play Ball!" will be the cry heard 'round Major League Baseball this week, as teams contest the first games of the new season. Silicon Valley being forever ahead of the curve, Judge Lucy Koh quick-pitched all of them last week in her San Jose courtroom.
Judge Koh presides over a class action lawsuit brought on behalf of thousands of workers, who allege that seven tech company titans Adobe, Apple, Google, Intel, Intuit, Lucasfilm, and Pixar (the '62 Yankees had nothing on this star-studded line-up), conspired together to hold down spiraling wages for capable talent. They did it by agreeing not to recruit or hire each other's employees. Judge Koh ruled against those defendants' pre-trial Summary Judgment Motion, meaning the case goes "Batter-up!" in May.
It's important to understand here that California law is either progressively or awfully employee-centric, depending on your perspective. In most states, for example, employers can enforce limits on employee rights upon termination: so-called 'non-compete clauses' in their agreements may forbid former employees from doing similar jobs, for competing companies, within a several-hundred mile territory, for a "reasonable" period of time usually 6 months or more. Non-Competes are a major Gotcha, because they dramatically raise the 'switching costs' for employees to leave: they must move, sit-out, or do a different kind of job than their current one, for a good long while.
By Business and Professions Code Sec. 16600, our fair state refuses to enforce such provisions within California (and sometimes beyond state boundaries). Thus, employers must pay the immediate going-rate for talent. There is also some inevitable leakage of trade secrets, despite best legal efforts at prevention. For many years, employers have tried mightily to overturn or negate the effects of that law, each time ending-up bolstering its status as a bedrock principle of the state's jurisprudence.
Moreover, while some believe that Silicon Valley grew-up here because of the weather or Stanford's proximity, I'd argue that a crucial factor is precisely the free flow of genius And that trade secret leakage. They create a churning, mobile critical mass of knowledge and talent that can form up, work real tech magic and then re-form elsewhere that new digital alchemy is rewarded. Each individual employer hates Section 16600, but its effects on the overall system are positive for everyone outside the boardrooms.
The other background issue you need to understand is the Sherman Antitrust Act. Passed in 1890 to combat monopoly practices in basic industries like oil, steel, and gun powder, it outlaws "contracts, combinations and conspiracies in restraint of trade" (among other kinds of commercial chicanery). That constitutionally broad language has kept it current, and it doesn't hurt that continuing relevance that the goals of business buccaneering are much the same in the New Economy as they were in the olden days of Adam Smith.*
Our present-day privateers thought they had innovated a solution to the expense and risk posed by the free flow of genius on the peninsula. They agreed with each other, and with many other non-defendant companies (so far), not to hire each other's people. The combined payroll of all involved companies exceeds a million workers. By its terms, the suit covers a class of workers with some 2400 job titles, numbering up to 100,000 individuals.
In typically graceless fashion, Apple's Steve Jobs, American hero, threatened dire consequences against Google for violating their agreement: "… if you hire any one of them, that means war." He later threatened Palm with pulling Apple's patent licenses unless that much smaller rival (now part of HP) got in line with his preferred view of the world. He said in an email:
"This is not satisfactory to Apple…. I'm sure you realize the asymmetry in the financial resources of our respective companies … My advice is to take a look at our patent portfolio before you make a final decision [on the wage-suppression agreement here."
Not that real threats were actually necessary in the clubby executive suites of the Valley. A simple complaint from EBay's Meg Whitman sent Google CEO Eric Schmidt on an internal search-and-destroy enforcement mission. He ordered HR to lop the head of his own in-house recruiter who had called an EBay engineer, and make her a public example. Also in an email to his staff, referring to Whitman: "This was a rough call from a good friend. We need to get this fixed." Don't be evil?**
In summary, this web of agreements had the effect of limiting the opportunities of the thousands of covered workers, and, by implication, holding down their pay. Instead of competing in the market for tech talent, these companies essentially agreed to a 'group boycott' of each other's workers. Regardless of your trade or profession, imagine all the companies in your industry agreeing to limit your mobility and promotion prospects by refusing to entertain your candidacy for new opportunities.
This is essentially how baseball's infamous Reserve Clause bound players to their teams, in the pre free-agency era before the 1970s. We all know what has happened to baseball wages thereafter, and Major League Baseball even enjoys a kind of odd, shaky exemption from antitrust.
As Judge Koh concluded in her opinion setting the case for trial, plaintiffs have brought forward ample evidence of Sherman Act collusion among the defendant companies:
"The similarities in the various agreements, the small number of intertwining high-level executives who entered into and enforced the agreements, Defendants' knowledge about the other agreements, the sharing and benchmarking of confidential compensation information among Defendants and even between firms that did not have bilateral anti-solicitation agreements, along with Defendants' expansion and attempted expansion of the anti-solicitation agreements constitutes evidence, viewed in the light most favorable to Plaintiffs, that tends to exclude the possibility that defendants acted independently, such that the question of whether there was an overarching conspiracy must be resolved by a jury."
To be sure, the plaintiffs still have to convince a jury of those facts and conclusions. They also face the thorny issue of determining how the many class members were injured, and by how much. The defense did its expensive best to discredit the plaintiffs' expert on damages, Dr. Robert Leamer, a statistics and economics professor from UCLA. He has filed a 120-page report detailing his modeling of likely damages to the affected employees. He will be allowed to testify at trial. Defendants will also trot out their own experts, and maybe try to dig-up Ayn Rand.
The tech engineers and other workers victimized by these agreements are already typically well-paid, but that's not the point if they were paid less than the free-market going rate in California, then they were wronged. The Sherman Act calls for tripling the damages, the better to deter these behaviors that are difficult and expensive to calculate and prove. Three of the defendants: Lucasfilm, Pixar and Intuit, have agreed to settle for a combined $20 million. Intuit ($11 million) indicates that it employed fewer than 5% of the eligible class members. We are clearly talking $hundreds of millions in potential damages.
The first pitch will be flung on May 27, unless the case is settled before then. Stock-up on those peanuts and cracker jacks!
* In 1776, the father of modern economics famously wrote: "People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices." (The Wealth of Nations)
** As an aside, where (Oh Where!) were the in-house attorneys for these defendants during all of these shenanigans? Coming from old economy experience in companies where the top lawyer always reported to the CEO, I have wondered about the tech industry model of slotting the General Counsel in below others on the Executive Committee as in reporting to Finance or Business Development. There were other options for the companies to address their cost increases like contracts for terms-certain (as in pro sports). There are also times when the General Counsel simply has to say "no" when the legal risk is simply unacceptable. This is one of the fascinating backstories that has yet to be written.