What is a Non-Compete Agreement?
A Non-Compete Agreement, sometimes within a broader non-competition agreement, is an agreement made between an employer and employee where the employee agrees not to enter into competition with the employer for a period of time after the employment relationship has ended. Whether the agreement is enforceable depends on the circumstances. A non-compete agreement is a restriction on trade or restrictions on employee mobility. It is not a common law restraint of trade such as a contract of sale or contract of agency because it is not a restraint by one party on another. Rather, both parties agree to the terms of the contract.
It’s not unusual for a non-compete clause to be included in a longer employment agreement. The agreement will typically provide that the employee will not compete against the employer for a certain period of time after the employment with the employer terminates . Depending on the terms of the agreement, some examples of what the employee might not be allowed to do post-termination might be: An employer will often ask for a non-compete agreement where it believes it has valuable information that does not want its competitors to have. Having a non-competition agreement in place may increase the value of the business you are selling because the buyer may have certainty that the vendor will not compete with it for a period of time into the future. If the agreement is not fair or reasonable, a court may refuse to enforce it. Accordingly, how long the agreement is in place and the geographical scope will be examined by the court in a determination if the agreement is fair and reasonable.
All About Non-Solicitation Agreements
A non-solicitation agreement is an agreement between an employee and their employer that the employee will not solicit the former employer’s money or business or an existing customer who is currently a customer of the former employer. A non-solicitation agreement is a restriction on the employee’s ability to (1) cause the former employer’s current clients to terminate or reduce the amount of business conducted with the former employer, or (2) induce other employees of the former employer to end or reduce their employment with the former employer. Unlike a non-compete agreement, it does not prevent employees from working in different industries or for competitors as long as the employees do not define the scope of those jobs too restrictingly.
A non-solicitation agreement may be used during or after employment. In the latter case, they are often referred to as "covenants not to compete." Non-solicitation agreements are required by law to be reasonable in scope and duration, just like a non-compete. If you are an employee with a non-solicitation agreement and know which client relationships or employees are protected, you should have no problem becoming hired by a competitor, forming your own business, or soliciting other businesses as long as you do not disturb customers or employees protected by your non-solicitation agreement. However, if an employee does advise customers that the employee is going to work for a competitor, the employer can cancel the employee’s commissions.
A non-solicitation agreement limits and protects the employer’s current money or business. The employer’s business might be greatly diminished by the solicitation of its money or business or the solicitation of its employees. A damaging loss of current customers or employees is a hit that most businesses would be unable to survive. That said, there are many instances when an employee who has taken no secret information or confidential information and committed no tortious interference may be able to use a non-solicitation or knowledge agreement to free themselves from an overly restrictive non-solicitation or non-competition agreement.
The Key Differences Between Non-Compete and Non-Solicitation
Both as a matter of practice and theory, non-compete agreements cover a broad range of conduct by employees, while non-solicitation agreements have a much narrower focus. More specifically, non-compete agreements prohibit employees from competing with their former employers for a period of time within a specified geographic territory. On the other hand, non-solicitation agreements prohibit employees during or after their employment from soliciting for hire or hiring employees (their own or their former employer’s) or soliciting or dealing with customers.
In addition to these expansive use restrictions, non-compete agreements typically cover a more extensive period of time both following cessation of an employer-employee relationship and in the geographic restraints, which are often confined to the market areas in which the employer conducts its business as opposed to the area where the employee performs his or her job responsibilities.
For example, it is not uncommon for a surgeon’s non-compete not to be enforced for a particular geographic region if he or she does not perform surgery within a particular distance from the hospital or practice in that region. And while many well-drafted non-compete agreements frequently have duration periods ranging from three to five years, the duration periods for non-compete agreements are often in excess of five years.
In addition to the geographic and duration differences, there is also a significant difference in the manner in which more specific restrictions are formulated. For instance, while non-compete agreements often expressly restrict employees from competing with their former employers in the employer’s line of business, non-solicitation agreements often contain very broad definitions of what a former employee is not permitted to do and, also, what prospective employees he or she is prohibited from soliciting. This broader approach to the formation of non-compete agreements results in a blurring of the line separating non-compete agreements from non-solicitation agreements, and leads to more litigation, which supports the argument that non-compete agreements are subjected to more careful/strict judicial scrutiny than non-solicitation agreements.
However, recent case law suggests that the courts will closely analyze the restrictions imposed by non-compete agreements where the offending competition is actually solicitation of employees and customers.
Enforceability and Defenses
Enforceability and Legal Challenges
Non-compete agreements for both employees and contractors require consideration of several factors regarding time and geography. The reason being, the courts have become quite picky in recent years, and have overturned many non-competes for being overly onerous – meaning, too restrictive without a compelling business reason justifying its restriction. So, the practice has been to ensure the agreement does not go beyond what is deemed reasonable by the applicable jurisdiction – whether by way of time or geographic jurisdiction. As for the former, six months is deemed reasonable for most positions, while 12 months is acceptable for more senior employee positions, albeit may be challenged in court . In the context of geography, the area of restriction should be consistent with market-area of the business, noting that depending on your business, that’s not always an easy task to determine. You’ll also need to keep in mind "jurisdiction" is undefined, so to avoid undue hardship, we recommend that if you sell throughout Canada, you restrict all of Canada, having no more broad/geographical restrictions for outside of the province in which the work is performed (which usually is no less than 100 kms). As for non-solicitation agreements, you’ll need to ensure that the employees or clients being solicited were ‘personally’ dealt with by the solicitor, as there’s a difference from contacting them via a passive-approach (i.e., email or letters), or active-approach (i.e., telephoning). Passive-approach doesn’t necessarily mean not soliciting – just means less directly approaching those people.
Effective Drafting
The enforceability of non-compete and non-solicitation agreements often comes down to how the agreement is drafted. Employers should be familiar with these best practices for drafting effective agreements.
- Be clear. Ambiguity in a non-compete or non-solicitation agreement creates uncertainty regarding the employer’s legitimate business interest or the scope of prohibited activity. An employer should clearly identify its legitimate business interests (which the employer must be able to articulate at the time of litigation) and the scope of prohibited activity relating to those interests. An agreement that clearly identifies the relevant provisions can improve the employer’s chance of success should it be challenged in court. A good way to evaluate whether a restriction is too broadly written is to review how a judge may choose to read the language. Avoid words or phrases that may have different meanings to different groups, such as "limiting," "leading," or "seeking," especially in industries where these words have technical meanings.
- Tailor the scope of the restriction to the particular position of the employee being asked to sign the agreement. Courts consider an employee’s general employment status and not a specific position within the company. Many states view a salespeople position has the last position that the employee held at the time of the termination. Moreover, if the employer has a policy of asking all employees at every position, even low-level workers, to sign these agreements, the enforcement of it against a low-level employee will be weak. The provision must be tailored to the employee’s position.
- Review the restrictions within the context of the entire agreement. Employers should take care to review all of the restrictions contained within the entire agreement when evaluated or modifying only a single provision. Modifying one provision may render other provisions to be unenforceable. Rather than making piecemeal revisions to a single provision, review the entire agreement.
- Consider the timing and method of providing the agreement to the employee. When amending an existing agreement, employers should take care to provide notice of the anticipated change in advance of the change. Notify an employee of a modification in writing in advance of the implementation of a new non-compete or non-solicitation agreement. If an agreement is only to be provided to an existing employee at the time of a promotion or acquisition, be sure to provide sufficient notice of the agreement to the employee. When starting employment, give clear advance notice to the applicant in writing.
- Review to comply with the law in each state. Keep in mind that the enforceability of a non-compete or non-solicitation agreement will vary by state. In some states, non-solicitation agreements are not enforced. In others, the duration or scope of the geographical limitation may not comply with the applicable law.
Current Trends and Developments
The future of non-compete and non-solicitation restrictions as a tool to protect employers’ interests is cloudy. Increasingly states are enacting statutes that reverse the common law freedom of employers to use non-compete covenants in order to protect their interests in human capital and business goodwill. At the same time, non-competes have come to be seen as a barrier to the free movement of workers, with attendant detrimental impacts on economic activity including diminished competition. Some experts assert that non-compete restrictions inhibit employee mobility and drive up labor costs without resulting in significant countervailing benefits to employers or society.
Legislative and judicial action has been prominent in several states. While non-competes are disfavored under the law of most states, few courts will refuse to enforce them. In New York, for example, enforcement via injunction is virtually guaranteed, but enforcement stops there because New York law does not allow for an award of damages for violation of a covenant not to compete. Nonetheless, the New York legislature has formed a task force to evaluate the efficacy of non-competes and consequently, limit their use. At the same time in Montana, which has historically been generally permissive of non-competes, the law was recently changed to prohibit the enforcement of non-competes for employees paid at or near the minimum wage rate . Meanwhile, in Washington State, the governor signed a bill prohibiting non-compete agreements exceeding 18 months duration, and recently clarified that in Washington, anti-competitive "non-disclosure" covenants are void. The California legislature has also, though for the moment, within certain limits, prohibited covenants not to compete, for example, by also prohibiting the enforcement of "non-poaching" agreements.
Interestingly, while Congress has not acted, in 2020, the U.S. House of Representatives passed, by unanimous consent, a bill that prohibits the use of non-competes with low wage earners.
The policy questions underlying these developments are deceptively simple: do employer protections for (or restrictions on) departing employees serve the public good or do they create an unwarranted disincentive for workers to seek the best opportunities available? While a healthy debate is likely to ensue, the ultimate answer is likely to turn on two related questions: (1) whether there exists a significant imbalance between proteges and protectors in the market place or whether there exists a normal competitive balance allowing for both workers and businesses to move freely as circumstances warrant; and (2) whether legislation, enshrined in civil law, is the preferred way to balance these competing public interests and values or whether it should be left to the marketplace to regulate appropriate balances.