Non-Competition Agreements

Non-competition agreements are restrictive contracts between employers and employees that 1) prohibit workers from revealing proprietary information about the company to competitors or other outsiders, or 2) forbid workers from themselves competing with their ex-employer for a certain period of time after leaving the company. Non-competition agreements often appear as clauses within a larger employment agreement. Such agreements are a tool that small business owners may use to try and ensure that key personnel do not walk off with company secrets or clients in order to start their own competing business or join an existing competitor in the area. Non-competition agreements have significant deterrent value in many situations, but they may also alienate some potential employees. It is important that their application within a firm is seen to be fair and equitable. Most firms that employe non-competition agreements do so to safeguard sensitive proprietary company information. Sensitive proprietary company information may cover any aspect of a business's operation, including production formulas, processes, and methods; business and marketing plans; pricing strategies; salary structure; customer lists, contracts; intellectual property; and computer systems.

These agreements are also called confidentiality or nondisclosure agreements or, simply, non-compete agreements, and they typically define confidential information, identify ownership rights, and detail employee obligations to ensure that confidentiality is maintained. But there are definite limits on the scope and duration of such covenants. Employers generally cannot use non-compete agreements to keep employees from practicing their trade or profession indefinitely. This is particularly true if the former employees were experienced in the specified occupation before they were hired. But while employees generally have every right to make use of skills and experiences gained in one company when they set off on the next stage of their lives, it is illegal for them to make off with trade secrets of their former place of employment.

Nonetheless, business owners do not always win court cases against ex-employees who pilfer in this area. In some cases, they lose for the simple reason that the business owner never identified the company's confidential or trade secret information. An ex-employee does not have the right to steal company confidential information or trade secrets that are identified as such. However, the ownership of information developed through company procedures must clearly differentiate between what belongs to the employee and what belongs to the company.

More often, however, courts throw out non-competition agreements out of concerns that such clauses constitute restraints of trade or that they force prospective employees to choose between signing or continuing their job search elsewhere. In deciding whether to enforce a non-compete agreement, courts generally focus on two things. First, whether the covenant is ancillary to a valid employment contract. Second, whether the agreement imposes reasonable restrictions in terms of time and geography.

Enforcing Non-Competition Agreements

Non-competition covenants are usually enforced by the courts if they are reasonable with respect to time and place and do not unreasonably restrict the former employee's right to employment. Of course, different parties have different conceptions of what constitutes a "reasonable" restriction. Legal experts contend that the courts are far more likely to side with the business owner if he or she does not go overboard on imposing restrictions in the following areas:

• Nature of prohibition—Restrictive covenants often are shaped with an eye toward the type of position that was held by the employee. Companies are more likely to target high-level managers or executives for stringent non-compete measures than programmers, writers, architects or other staffers with specialized skills who have less overall knowledge of the company.
• Duration of agreement—Non-competition agreements are less likely to be enforced if they go beyond one year or so. In addition, according to Susan Gaylord Willis in an aricle in HRMagazine, businesses should consider establishing relatively short timeframes if the agreement stipulates a wide geographical scope "because the courts are unlikely to sustain a provision that leaves former employees with no way to earn a living in the field in which they are most experienced."
• Geographic area—It is generally recognized that small business owners have a right to request competition protection from ex-employees in the immediate area in which they operate. Agreements, however, that attempt to forbid ex-workers from setting up a similar business in some distant geographic area or region are likely to be overturned unless the company conducts business in a multi-state area or nationally.
• Restrictions on Solicitation—Who is the employee prohibited from soliciting? This is a question the answer to which should be covered. Is it customers whom the employee personally acquired or any of the company's customers? The narrower the restriction, the more likely a court will enforce it.
• Restrictions on contacting other employees—The courts generally consider it unfair competition for one company to induce employees of another company who have acquired unique technical skills and secret knowledge during their employment to terminate their employment and use their skills and knowledge for the benefit of the competing firm. In such a case the plaintiff company could seek an injunction to prevent its former employees and the competing company from using the proprietary information.

Business owners should keep in mind, however, that attitudes toward non-competition agreements vary considerably from jurisdiction to jurisdiction. No federal statutes exist to regulate these types of agreements with former employees, unless the restrictions violate existing anti-discrimination laws. Instead, each state has its own unique state contract laws. Some courts adhere to a "blue pencil" rule, meaning that they have the authority to edit unduly restrictive agreements so that the scope and/or duration of the agreement is lessened without throwing out the entire contract. Jurisdictions without such options in place, however, typically uphold the agreement in its entirety or strike it down entirely, leaving the employee free to pursue any course he/she wants. Consequently, it is important, when drawing up non-compete agreements, to be sure and investigate the related laws prevalent in the state (or states) in which the company conducts its business.

One way in which the business owner can minimize the danger of having a non-compete agreement overturned in court is to create unique non-competition agreements for each employee affected. A company that performs services locally, such as a diaper service or a carpet cleaning company, may need protection against pirating of customers in its area of operation. In that case, the company would want a covenant that would be of long duration, maybe two years, but limited geographically to the city, county, or metropolitan area. On the other hand, a company in a fast-moving field that sells nationally or internationally, like a software publisher, may prefer a worldwide non-compete of shorter duration. With fast-moving businesses, the chances are the any proprietary information gleaned from the employer would be public knowledge and/or obsolete within six months, and its disclosure after that would no longer pose a threat.

POTENTIAL NEGATIVES

Although a useful tool in securing trade secrets, the non-compete agreement or clause may also complicate the development of loyalty with key employees. Many, when asked to sign such an agreement will feel like the less affluent partner in a couple planning to marry when the richer partner brings up the subject of a prenuptial agreement. Very small businesses have few employees and it is important that each one feel that he or she is a part of the whole, and that the loyalty that they offer is reciprocated.

As Jeffrey Gitomer explains rather colorfully in an article he wrote for Long Island Business News, "This single clause alienates and threatens every single salesperson in a manner that they begin their term of employment with a negative feeling toward the employer. 'This guy doesn't trust me and I haven't even stepped foot inside his building.' This feeling of animosity deepens when some form of employment termination occurs. Other lawyers begin huddling as to the enforceability of the non-compete clause and business once again reduces itself to the low-life challenge, 'My lawyer can beat up your lawyer.'"

Small business owners must judge for themselves, and on a case-by-case basis, the value that having non-compete agreements has for their operations.

see also Employment Contracts

BIBLIOGRAPHY

Fellman, David. "Non-Compete Agreements: Can protect your business." Wide-Format Imaging. November, 2005.

Gitomer, Jeffrey. "When You Leave, Hands Off Former Employers Clients." Long Island Business News. 11 April 2003.

Orr, Joel N. "The Employment Contract." Computer-Aided Engineering. May 2000.

Sidime, Aissitou. "Non-Compete Agreements Are Not Ironclad." San Antonio Express-News. 21 November 2005.

Willis, Susan Gaylord. "Protect Your Firm Against Former Employees' Actions." HRMagazine. August 1997.

                                Hillstrom, Northern Lights

                                 updated by Magee, ECDI

NONCOMPETE AGREEMENT

A contract limiting a party from competing with a business after termination of employment or completion of a business sale.

Found in some business contracts, noncompete agreements are designed to protect a business owner's investment by restricting potential competition. Generally, businesses pursue these agreements in two instances: when hiring new employees, or when purchasing an established business. The noncompete agreement is a form of restrictive covenant, a clause that adds limitations to the employment or sale contract. These agreements protect the business by restricting the other party from performing similar work for a specific period of time within a certain geographical area. First used in the nineteenth century, and common today in certain professions, noncompete agreements sometimes have an uncertain legal status. Courts do not always uphold them. Generally, courts evaluate such clauses for their reasonableness to determine whether they constitute an unfair restraint on trade.

The rationale behind noncompete agreements is an employer's self-interest. Typically, companies invest heavily in the training of their employees. Similarly, they have an interest in protecting their customer base, trade secrets, and other information vital to their success. The noncompete agreement is a form of protection against losses. The company does not wish to invest in an employee only to see the employee take the skills acquired, or the company's customers, to another employer. Thus, when hiring a new employee, the company may make her sign a noncompete agreement as part of a condition of employment. Likewise, the prospective purchaser of an established business may only buy it if the current owner is willing to sign a noncompete agreement.

In practice, such agreements are very specific in several respects. Usually the agreement will define a length of time, geographic radius in miles, and type of activity in which the employee promises to refrain from working after leaving her or his job. This is often the case in businesses that depend on an established group of customers. A hair salon, for example, may require its stylists to agree not to compete against it in neighboring hair salons. Noncompete agreements are also well established in fields where an individual is associated with a product or service. High-profile positions in the media typically require them. A television anchorwoman, for example, will typically be contractually bound not to work for a competing news channel in the same market for a period of time following the termination of her contract.

In legal challenges courts use a standard of reasonableness in deciding whether to uphold a noncompete agreement. Most states use a three-part test: the agreement must be reasonable in terms of length of time, size of geographical territory included, and the business's necessity for the agreement. Covenants restricting the sellers of businesses typically receive a lower level of scrutiny, whereas restrictions on the behavior of former employees are closely scrutinized.

Courts are primarily concerned with preventing unfair restraints on trade. In a free market, most businesses cannot reasonably assert a need to restrict competition. Many states will evaluate each separate part of an agreement using the so-called blue pencil doctrine of severability, under which certain parts of the agreement can be upheld as enforceable and others can be found unenforceable. A few states, however, throw out an entire agreement if any part of it is found to be an unfair restraint on trade.

further readings

Jordan, Thomas E. 1990. "The Application of Contract Law to Georgia Noncompete Agreements: Have We Been Overlooking Something Obvious?" Mercer Law Review 41 (winter).

cross-references

Restraint of Trade.