Covenants not to compete are a popular tool to prevent employees from doing harm after their employment has ended. Too often, however, companies head to court when an employee violates the agreement, only to have the court refuse to enforce it. Here are some ways you can increase the chance your covenants will be enforced.
1. Know your covenants. Courts and businesses sometimes use imprecise terms when referring to post-employment restraints on an employee. There can be different legal standards that apply to each type of restraint, so know your covenants before you start drafting.
- A true non-compete covenant will prevent an ex-employee from competing with your company for a set amount of time in a particular geographic area (a territory-based non-compete covenant) or with respect to certain customers (a customer-based non-compete covenant).
- A customer non-solicitation covenant prohibits the former employee from soliciting business from (as opposed to performing any services for) your company’s customers.
- An employee non-solicitation covenant prohibits the former employee from soliciting your company’s other employees to quit and work for the employee’s new company. If the covenant also prohibits hiring unsolicited employees, it is a no-hire covenant.
- A non-disclosure agreement prohibits former employees from using or disclosing confidential company information. Although these covenants do not expressly prohibit competition, some states analyze them under the same standards as non-competes.
- An inventions and assignment of rights agreement deals with the employer’s ownership of intellectual property developed by the employee. A number of states have statutes requiring specific language in these agreements, and federal law comes into play as well.
2. Choose your covenants wisely. Not every type of covenant is appropriate for every type of business or employee. In fact, some types of covenants are actually illegal in certain circumstances.
- Let the company’s legitimate business interests be your guide. Even where restrictive covenants are allowed, courts will require you to show why the restriction on employment is necessary to protect a legitimate business interest. Therefore, make sure you know what you need to protect, and then craft the restriction accordingly.
- Draft to the employee at issue. One-size-fits-all restrictions are nice, but they cause problems in enforcement. In most situations, you will be hard-pressed to articulate a legitimate business interest in keeping your receptionist from working for a competitor. Non-compete, nondisclosure and invention assignment clauses, however, will be important for a key employee working in research and development. For a typical outside salesperson without access to specialized company information, non-disclosure and customer non-solicitation provisions may suffice.
- Do not be unreasonable. Judges will want to see that your restrictions are not broader than what is necessary to protect your legitimate business interests. Thus, for example, consider limiting a customer-based non-compete covenant to the customers and prospective customers with whom the employee had direct contact or about whom the employee had significant confidential information because of her employment. Some states require similar limitations for employee non-solicitation clauses and no-hire agreements.
- Separate your covenants. Restrictions in clearly separate paragraphs have a better chance of being enforced if a court decides not to enforce one of your covenants.
3. Know the law. Before requiring the covenant, make sure that it complies with the law of the state in which the employee is working and the law of the state that governs the agreement. States vary widely in their willingness to enforce post-employment restrictions. For example, in California, it is generally illegal for an employer to impose a post-employment non-compete covenant on an employee (with certain exceptions). In New York, a non-compete can be unenforceable if the employee is terminated without cause. Some states will rewrite overbroad covenants and enforce them as reasonable, and other states will strike down all restrictions in the same section or agreement if one restriction is overbroad. Not all courts will honor the agreement’s choice of law.
4. Have the right process for obtaining non-competes. Courts will only enforce agreements when they are supported by adequate consideration. In most states, a court will uphold a covenant restricting competition only if it is in writing and signed by the employee. Your process for obtaining the covenants should address all factors required for enforceable covenants.
- Make sure that the types of covenants and their scope are appropriate in light of the employee’s duties for your company.
- When making an employment offer, inform the applicant that a non-compete is a condition of employment and outline the restrictions. The best practice is to provide the applicant a copy of the non-compete agreement along with the offer (a practice now required in New Hampshire).
- If you are seeking a non-compete from an existing employee, make sure you give sufficient consideration. In some states, continued employment is sufficient. In others, you may need to offer additional consideration (promotion, additional pay, guaranteed term of employment, guaranteed severance pay, etc.).
- Make sure the employee actually signs the agreement. In some states, the employee needs to sign before starting work.
- Only revise the covenant after considering the consequences. Without adequate contract language to the contrary, a court may see a change as a new contract negating the old contract. If the new contract did not have adequate consideration, you may end up with no covenant.