By David C. Henderson and Christopher H. Lindstrom
Non-competition agreements (NCAs) cut both ways for Human Resources professionals. They can help us maintain our own workforce. But they also can impede our efforts to expand our workforce. On either side of this coin, it frequently is Human Resources that has to make (or obtain) a timely determination of the NCA's likely reach and enforceability.
And there usually is little time to be lost. Defects in our own NCA with an employee cannot be fixed after the employee departs. Likewise, when we are hiring, we have to know right away if a prospective employee has conflicting contractual commitments elsewhere. Ignoring non-competition obligations to another employer can result in not only a breach of contract claim against the individual but also a wrongful interference claim against the new employer. These lawsuits seldom are occasions of joy.
Consequently, when executing an NCA with a new or existing employee, or when analyzing an NCA signed elsewhere by a prospective employee, it is useful to keep in mind the following eight points:
1. A non-competition agreement must protect a legitimate business interest. It is generally well known that, even in jurisdictions that enforce NCAs, the NCAs will be strictly construed against the employer. It is impermissible to use an NCA merely to prevent ordinary business competition. The NCA instead must protect a specific business interest that is recognized by the law. Examples of protectable business interests are an employer's good will, its trade secrets, or its confidential information.
2. A non-competition agreement must be reasonable in scope. A court will enforce an NCA only if it is reasonably limited in time and geography. Depending on the facts of the particular situation, an NCA with a duration of two years or less may be reasonable. The reasonableness of the geographic restriction may be dependent on the nature of the employer's business, the nature of the competition, and the responsibilities assigned to the individual employee.
3. An otherwise enforceable non-competition agreement may become unenforceable because of a material change in the employment relationship. This is a developing area of the law. Some courts recently have voided NCAs when the underlying employment relationship underwent a material change after the NCA was executed. Material changes may occur when the employee signs a superseding employment contract, when the employee's job title or responsibilities change, or when the employer itself undergoes a corporate change.
4. A non-competition agreement is enforceable only when the employee receives consideration for it. It may be advisable to have the employee sign the NCA at the inception of the employment relationship, when there is no question that undertaking this particular contractual commitment is a condition of obtaining the job. But employers often decide that an NCA is necessary (or that it should be modified) after the employee already has been working for some time. Some courts deem the implicit offer of continued employment to be sufficient consideration for this type of post-hiring NCA. But other courts ask whether something more in the form of consideration (e.g., a promotion, an incentive payment, a salary increase, etc.) also is required.
5. An otherwise reasonable non-competition agreement may become unenforceable as a result of an employer's misconduct. When the employer breaches the employment agreement, unlawfully terminates the employee, or otherwise acts unfairly, an otherwise reasonable NCA may become void.
6. Public policy may render a non-competition agreement unenforceable. An NCA may be contrary to the public interest if it leaves the employee with no viable employment alternative. Also, certain types of employers (e.g., in certain work involving nurses, physicians, attorneys, or broadcasting industry personnel) may be subject to special rules limiting the use of NCAs. In addition, even when the employer is in a jurisdiction that will enforce NCAs, the fact that the employee is working in a state that is particularly hostile to NCAs (e.g., California or Wisconsin) may render an otherwise reasonable NCA unenforceable.
7. Information must actually be confidential to be a legitimate business interest worthy of protection through a non-competition agreement. An employer takes a risk when it "labels" certain information as confidential or as a trade secret and then fails to treat the information as confidential. The ability to protect information can be lost when the employer casually discloses it to third parties or the general public, when the employer fails to communicate to its own employees that the information is confidential, or when the employer otherwise does not adequately protect the information's secrecy.
8. An employer's actions with one employee may impact the enforceability of non-competition agreements with other employees. Failing to enforce an NCA with one employee may be a signal to other employees or to competitors (or to a court) that, notwithstanding formalities, there really is no reason to enforce the NCA with anyone. In a seemingly isolated case, the temptation not to enforce an NCA may be substantial. After all, enforcement litigation is unpleasant. Perhaps the loss of this particular employee to a competitor seems relatively harmless. But when the same employer later looks to enjoin some other, similarly situated employee from violating his NCA, the employer may have difficulty showing that a preliminary injunction is needed to avoid immediate harm. And if a preliminary injunction cannot be obtained, the litigation may be even more prolonged. For this reason, an employer may want to reconsider how it identifies the limited number of employees who actually do need to sign NCAs. In any event, an employer always must consider the "larger picture" involving all employees covered by its NCAs, not just the "smaller picture" involving the one individual who happens to be leaving to take a job with a competitor.
The law relating to NCAs is complex and ever-changing, and the difficulty of predicting a precise outcome in any upcoming situation can be further complicated by the variety of factual circumstances presented in the court cases already reported. But understanding these eight points should help employers avoid the most common mistakes.
David Henderson is a partner in the Litigation Department of Nutter McClennen & Fish, LLP. Christopher Lindstrom is an associate in the Litigation Department of Nutter McClennen & Fish, LLP.
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