Noncompetition agreements are an increasing part of the employment landscape. Once considered unusual and only for C-suite employees, they are routinely required of entry-level employees. These types of agreements are highly technical and must clear several legal hurdles to be enforceable. The result is that they are poorly understood and implemented. I’m going to discuss several of the common mistakes made in drafting and implementing noncompetition agreements by employers.
Some common employer mistakes are:
- Surprising existing employees without compensation. Noncompetition agreements are contracts; all contracts require ‘consideration’ – that is, both parties must get something in return for agreeing to the terms of the contract. In Pennsylvania, ‘continued employment’ is not consideration. Therefore, the agreement will be unenforceable. Just as dangerous will be the effect on employee morale. Existing employees who have never been told they’d need to sign a noncompete will take this as an aggressive move by the employer, setting up a ‘me vs. them’ mentality that will cause employees to begin thinking about leaving.
- Letting fear drive the language. Noncompetes are drafted to require an employee not to compete with an employer–but what is competition? In fear that an employee will compete, employers can get overbroad, stating they are providing goods and services they do not yet provide, to markets they do not yet serve, in geographic areas they have not yet reached. Many courts will refuse to enforce an overbroad noncompete instead of ‘blue penciling’ it to reduce the overbroad language.
- Not tailoring the document. Having one noncompetition agreement template that your HR department uses for each new hire is inviting disaster. Noncompetition agreements need to be tailored to the individual employee. Templates do not take into account changing business and operational concerns, nor the specific issues relevant to an employee. Templates can easily be overbroad or too narrow, missing the specific concerns an employer may have with a new employee.
- Being afraid of competition and not protecting relationships. “Noncompetition” agreements are badly named. Generally, restrictions on competition are illegal – we live in a free market capitalist society – competition is the crux of our economy and courts protect it. What noncompetition agreements really protect are relationships – relationships between an employee and key customers, key data or key investments. More often than not, what the employer really needs is a ‘nonsolicitation’ agreement, which prohibits the employee from soliciting or doing business with the customers (and even key business partners) that the employee was exposed to during employment. I’ve found nonsolicitation agreements far more enforceable than noncompetition agreements. Judges and juries like the narrower restriction, the restriction is much more focused on what the employer really needs, and the employee cannot complain that they can’t work in their chosen profession due to a nonsolicitation agreement.
- Not keeping up with the times. Noncompetition agreements are dependent on both the law and the facts of the employee’s work with the employer. Both the law and the facts change over time. An annual review of the law to see if existing noncompetition agreements are becoming unenforceable is basic good sense. What is even more important, however, is determining whether the details of the employee’s work have changed such that the agreement needs to be changed. This happens most frequently with rock star employees who are quickly promoted and moved through different divisions. The language of their entry-level noncompetition agreement doesn’t match their eventual position, and risks the creation of loopholes or gaps in enforceability.
- Lack of assignment. This is a frequent problem with startup/emerging growth employers. The goal of these companies is to be acquired; many times, this is through an asset purchase. If the noncompetition agreement doesn’t specifically say it is assignable, then it won’t transfer to the buyer. Since most buyers want the team as well as the product, this is a serious problem and can hold up settlement.
- Silence on law and venue. Choosing the law that governs the noncompetition agreement, as well as where the parties can sue and be sued, is critical. While noncompetition law is substantially similar from state to state, there are many technical quirks that each state has – such as Pennsylvania’s ‘continued employment’ is not consideration’ rule. Picking the best state law is important. Further, you don’t want to have to chase the former employee down many states away. Employers should ensure that their local county or federal court is the required venue, to make it easier to pursue their rights.
Noncompetition and nonsolicitation agreements are a necessary part of doing business today. Employees are more mobile, relationships and trade secrets are far more portable than they have ever been, and a company’s value is more dependent on intellectual property and market position. This means that these agreements are an integral part of an employer’s long-term strategy, and should be treated as such. Tailoring them to the necessary employees, looking at them annually to ensure they meet your needs and determining how they will fit into future mergers and acquisitions is critical. It’s worth taking the time to do it right rather than hoping a basic agreement template will stand up to legal scrutiny years later.
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