Companies grow by investing time and money in various resources, including their employees. Yet business owners are often anxious about losing their investment, i.e., the time they spend training new hires and the confidential information they share with their new employees. Once confidential information is shared, there is a risk that an employee will leak the company’s trade secrets to a competitor, or quit and create a competing business using the confidential information. To help guard against this, many companies have employees sign a noncompete agreement when they are hired.
A noncompete agreement (sometimes also called a noncompetition agreement) is a contract between an employer and employee that sets forth limitations on the employee’s ability to work in the same field or industry as the employer after the employee leaves the company. Generally, the agreement prohibits the employee from working for a business that competes directly with the employer in a particular geographic area for a specified number of months or years. Here are a few key provisions typically found in noncompete agreements:
1. Duration and geographical restrictions. Noncompete agreements must describe in detail how long the restrictions will be enforced and the specific geographic area where the employee will be restricted from competing with the former employer. A typical agreement is effective for six months to three years following termination of employment. The employer must be reasonable in setting the duration, as it cannot inhibit the employee’s ability to find work or advance the employee’s career. The geographic restrictions must also be reasonable, which is an industry-specific determination. For some industries, limiting the geographic restriction to a particular city or region of town is appropriate; for niche businesses, a broader geographic restriction may be necessary. State laws vary as to what duration and geographic restriction is reasonable. A court is more likely to enforce a noncompete agreement if it applies only to a limited geographic region where competition would seriously disrupt the employer’s business. Courts also tend to uphold noncompete agreements with shorter durations (less than a few years). It is important to research your state’s laws and consult an experienced business attorney before asking an employee to sign an agreement that a court could potentially find unenforceable.
2. Scope. The agreement must detail the nature of the employee’s work and the particular services or products that the employee is restricted from offering. However, the scope must not be so broad that the employee cannot find work in the future. The agreement often specifies the employer’s competitors, if not by name, by the type of business that an employee is precluded from seeking employment with. Specifying the work, activities, services, and products that the employee is precluded from engaging in or offering after termination of employment prevents ambiguity in the event it becomes necessary to enforce the agreement. It also helps the employee know what work the employee can and cannot engage in after employment. Further, if the employee seeks work with a possible competitor, the agreement clarifies for the new employer whether the employee is free to work for that employer.
3. Confidential information and trade secrets. Every business has unique information that it has developed and relies on to attract customers, sell products or services, and succeed in the market. The agreement should detail the types of information covered by the agreement. In addition, the agreement should specify that the employee is prevented from disclosing trade secrets, intellectual property, confidential information, client lists, and customer relationships. The agreement should state that this information is crucial to the business and that disclosure of this information would damage the business. Additionally, the employer should require that the employee return all sensitive information and company materials to the employer upon termination of the employment.
4. Consideration and penalties. The employer wants to prevent the employee from competing with the employer in the future. Before giving up the right to compete, the employee must be given something in return. In the law, this is called consideration. If the employee has not yet been hired, the consideration might be the employment itself. If, however, the employee has already been hired, the employer must offer something new to the employee as consideration for the noncompete, such as a promotion, raise, or other benefits. In addition to including the consideration in the agreement, any penalties or money damages for breaking the agreement should also be specified.
While this list is not exhaustive, it covers the basic elements of noncompete agreements. The best noncompete agreements are precise—vague or overbroad agreements are less likely to be enforced by a court. Some states strictly enforce noncompete agreements, while others only enforce them if they are reasonable in scope and length. A few states refuse to enforce any noncompete agreement. Since the laws regarding enforceability of noncompete agreements vary by state, you should seek the expertise of an attorney if you are considering drafting and implementing one.