Non-Competition Agreement

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What Is a Non-Competition Agreement?

A non-competition agreement is a contract between an employer and an employee. In this type of legal contract, the employee agrees that they will not compete with the employer during their employment or after their employment ends. Non-competition agreements prevent employees from entering professions or markets that the employer considers to be in direct competition with their business.

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Employers may also wish to create non-competition agreements to prevent former employees from revealing sensitive information or secrets about:

  • Clients
  • Customers
  • Formulas
  • Future projects
  • Ideas
  • Methods and practices
  • Operations
  • Public relations/marketing plans
  • Pricing
  • Salary
  • Strategy

You may also hear non-competition agreements referred to as:

  • Covenant not to compete
  • Non-competition clause or non-compete clause
  • Non-compete covenant
  • Non-compete agreement

Who Can Sign a Non-Competition Agreement?

Employers may ask employees to sign non-competition agreements to keep their place in a market. Those asked to sign non-compete agreements can include:

  • Employees
  • Consultants
  • Contractors

A non-competition agreement typically prohibits an employee from becoming a competitor or working for a competitor for a certain duration of time. Independent contractors and consultants may also be subject to a non-compete clause in their employment contract that seeks to avoid competition after they terminate a relationship and separate from the company.

Industries That Use Non-Competition Agreements

Non-competition agreements are commonly used in the corporate world in general. These agreements are also common in certain industries. Examples of industries that often use non-compete agreements include:

  • The financial industry
  • Information technology (IT)
  • Manufacturing
  • Media

How Does a Non-Competition Agreement Work?

Any non-compete contract must be both equitable and fair for all parties involved in the agreement. To be considered enforceable, a non-competition agreement must include certain information, such as:

  • Names and addresses of the individuals signing the agreement; this should include:
    • The protected party (the party that requests the agreement).
    • The noncompeting party (the party prohibited from working for a competitor).
  • A reason to enact the agreement
  • The effective date, or date on which the agreement begins
  • The location/geographic area covered by the non-compete agreement
  • Specific dates during which an employee cannot work in a competitive sense (duration of the agreement)
  • Details about how the non-competing party will be compensated if they agree to the contract's terms; this is called compensation or "consideration."

Legalities of Non-Competition Agreements

A valid non-competition agreement must be reasonable in both scope and duration. A non-competition agreement also must protect a legitimate business interest for it to stand up in court.

When Are Non-Competition Agreements Enforced?

A non-competition agreement will be enforced when the relationship between employer and employee ends, if the employer wants to prevent that employee from competing against them in their new position. Things considered competition can include:

  • Working for a competitor within the same market
  • Starting a new business in the same field
  • Recruiting the previous company's workers to leave with them

However, non-competition agreements must meet certain criteria to be enforceable. Legal counsel should review any non-competition agreement to make sure it isn't overly harmful or restrictive to the employee.

Additionally, enforceability of non-compete agreements can vary from state to state. The legal status of these agreements is a matter of state jurisdiction in the United States. Recognition and enforcement of non-compete agreements varies significantly between states; some states will not enforce them at all.

A Non-Competition Agreement Must Be Reasonable

Most states that do allow for non-competition agreements have some kind of standard regarding reasonable restrictions on:

  • Ability of a worker to find employment
  • Geographic scope
  • Length of time

An employer can set non-competition agreements only within realistic timeframes. You cannot prevent your former employees from permanently furthering careers in your field. You should always determine the effective dates of an agreement in advance and work with a lawyer to make sure your agreement will be considered reasonable.

Additionally, jurisdictions can vary widely in how they interpret what terms of a non-competition agreement could be considered overly restrictive or onerous for an employee.

The Importance of Consideration

A non-competition agreement will not be enforceable if there is no consideration. Consideration is a legal term that refers to an exchange of value.

Consideration for an employee who is newly hired might just be stating in the agreement that the willingness to hire the employee is the value the employer is exchanging for the new employee's agreement not to compete. However, if you are creating a non-competition agreement for an existing employee, there must be additional consideration for an agreement to be enforceable.

While consideration does not need to have huge value, it must be a real benefit that the employee could not otherwise receive. Examples of additional consideration for an existing employee includes:

  • Change in status from "at-will" to "contract-employee."
  • Higher salary
  • New benefits
  • New job title and/or responsibilities

Benefits of Non-Competition Agreements

The use of non-competition agreements has various benefits. These advantages include:

  • Giving employers incentive to provide training: A company may not want to provide costly training if employees will just take skills learned to another company. A non-compete agreement reduces the risk of an employee learning skills via training and then leaving the company.
  • Protecting trade secrets: Non-competition agreements may prevent an employee from taking sensitive information to a company's competitors.
  • Reducing turnover: If an employee has a lesser desire to keep changing jobs, they may be a good fit for a company that uses an employment non-compete clause.

Drawbacks of Non-Competition Agreements

Non-competition agreements also come with certain drawbacks. For example, they may reduce a potential employee's bargaining power. If an employee is asked to sign an agreement after they first begin work, they may have little leverage.

Non-competition agreements can also have an adverse effect on the general workforce. These agreements may prevent top talent from using their experience and skills, causing them to leave the field entirely.

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Tips for Writing a Non-Competition Agreement

If you are considering writing a non-competition agreement for your business, there are certain tips to consider to make your agreements more successful. These include:

  • Follow your state's laws: It's important to know the laws of your state in particular. Some states, such as Texas and California, often don't enforce these kinds of agreements, and they won't support employers if there are disputes.
  • Let employees and competitors know about your policy: This is better than keeping your policy a secret.
  • Make sure your agreement isn't too restrictive: Non-competition agreements that put too many restrictions on an employee are more often rendered unenforceable. To make sure you don't create too many restrictions but still protect essential information, you should:
    • Define what you want to protect.
    • Determine specific restrictions that will help you accomplish that goal.
    • Relate how those specific restrictions help you to protect business interests.
  • Remind employees of the agreement: If an employee leaves your company, remind them that they signed a non-compete agreement previously and that they should review the document to avoid potential problems.
  • Write non-competition agreements for key employees: General agreements that all employees must sign when joining a company typically do not hold up in court. Consider writing agreements for specific, key employees.

Non-Competition Agreements vs. Non-Disclosure Agreements

Non-competition agreements are not the same thing as non-disclosure agreements, or NDAs. A typical NDA will not stop an employee from taking a job with a competitor. NDAs are designed to prevent employees from revealing or sharing information an employer deems confidential or proprietary.

Here's an article where you can learn more about non-disclosure agreements.

Types of information non-disclosure agreements may cover include:

  • Client lists
  • Information about products in development
  • Underlying technology

A non-competition agreement can be a useful tool for employers. It's important to work with a trusted lawyer who understands the intricacies of this type of agreement in the state where you do business.

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