June 14, 2016

Successfully enforcing non-competition agreements

Posted in Commercial Litigation, Employment Law by Gene Killian |

Not long ago, I read a New York Times bestseller called “Extreme Ownership.”  The book was written by two ex-Navy SEALs, and uses some of the management lessons that they learned while serving in Iraq to teach better practices in the business world. It’s engaging and enlightening, but, of course, books that compare military experiences to the marketplace generally involve a bit of a stretch. For one thing, no one typically is going to get killed (literally) in a business deal. For another, for the most part, members of the military are highly motivated and loyal. That’s not always the case in business, which can be fairly mercenary.

Hence, noncompetition agreements. If you’re in any sort of professional services or technology business especially, I’m sure you’ve run across these agreements, which generally seek to prevent executives from leaving their employer, and then unfairly competing by using confidential or customer information gained during while working at the employer’s shop. Sometimes noncompetition agreements contain a time limit, usually two years, and sometimes they’re limited to a specified geographic area. Generally, these types of employment contracts will impose a duty of confidentiality upon the employee, with respect to proprietary information learned during the course of employment (such as marketing strategies and financial information).

When it comes to enforcing noncompetes, here are ten quick tips to think about:

  1. Going to Court to enforce non-competes can be a very expensive proposition. Because you’re trying to prevent irreparable harm to your company, typically you’re asking for expedited disposition by the Court, which can compress what normally would be months or years of litigation activity into weeks. It’s not unusual to burn through $50K or even $100K very quickly. So, before you get involved in this type of litigation, it’s important to ask yourself whether, given the range of potential results, it’s going to be worth it. Sometimes, of course, you have no choice, because the potential damage is devastating.  But talk with your lawyers about a budget. 
  1. Was there adequate “consideration” for the agreement? One of the most common reasons that Courts refuse to enforce non-competes is that employers make the mistake of obtaining the agreement from an already-hired employee without providing the employee with anything of value in return. For non-competes obtained from newly hired employees, usually the agreement only needs to state that the employer’s willingness to hire the employee is the value exchanged for the employee’s agreement not to compete. For existing employees, however, additional consideration might be needed to make an agreement enforceable. Additional consideration could be more money, new job responsibilities and titles, new benefits, or a change from “at-will” to “contract-employee” status.  You don’t have to give the employee a million bucks, but you do have to give the employee something of value that the employee would not otherwise have. 
  1. What’s the length of the agreement? Judges tend to view non-competes with suspicion, because judges generally don’t want to prevent people from earning a living.  Courts won’t enforce agreements that go on for too long (like forever).  Depending on the industry, a restriction from six months to two years is more likely to be upheld. The general rule is that the duration of the agreement shouldn’t exceed the time reasonably necessary to protect the employer’s legitimate business interests. 
  1. What’s the territorial reach of the agreement? Sometimes judges reject non-competes because the language, construed literally, would prevent the employee from working from here to Mars. The law requires the geographic scope of a restriction to be reasonable. While agreements that restrict employees from competing within a few miles of the employer’s headquarters are often enforceable, agreements that prohibit an employee from competing anywhere in the world often aren’t. Agreements that are specifically tailored to your business, industry, and circumstances can be extremely valuable in determining the appropriate restricted territory.  (Of course, with a lot of business moving from “shoe leather” to cyber-world, the acceptable territorial reach of a non-compete agreement may become wider.) 
  1. Did you obtain noncompetition protection when you bought a business? Sometimes an acquirer buys a business without securing a non-compete from the selling company’s owners or key personnel, only to find it’s competing with the same people shortly after the acquisition. If the sellers of a business possess valuable customer relationships, know-how, or skills, the buyer should insist on a non-compete from the owners and key personnel.  
  1. Can the agreement can be assigned? Some courts won’t permit the seller of a business to transfer its non-competes to the buyer unless the affected employees consent to the assignment.   
  1. What law applies? California law, for example, can be brutal on non-competes.  Some courts will “blue pencil” an overbroad non-compete, to make it more acceptable; others won’t.  Non-competes can be easier to enforce when you include a choice-of-law provision specifying the law of a “friendly” state that has some connection to your business. 
  1. Have you properly updated your agreements from time to time? The circumstances of your business and the laws governing non-competes tend to evolve. If your agreements aren’t updated or reviewed periodically, they risk becoming irrelevant to the changing needs of your business.   
  1. Are you relying too much on non-competes? No employment contract is a substitute for proper controls and practices at your company. The key is to treat your people right so they generally don’t want to leave. Remember, employees can always choose to disregard a non-compete and risk the legal consequences. A non-compete is only one tool, and a last resort.  
  1. Do you even have non-competes? We recently were able to obtain restraints against a former employee who started competing against our client while he was still employed there, using our client’s tools and materials, and pocketing payments from our client’s customers. (Chutzpah!) Our client in that case (a plumbing business) didn’t have a non-compete agreement, but the facts were so egregious, we didn’t need one. That’s the exception, not the rule. Many businesses that could benefit from obtaining non-competes from their employees don’t do so, for a variety of reasons. They may overestimate the loyalty of their employees. Or they may fail to appreciate the value of protecting their confidential information and customer relationships. (Hey, we’re all in this together, right?)  Bottom line: If you’re not obtaining non-competes, you may be taking an unnecessary risk.