Labor and Employment

Non-Compete Contracts: Uses and Abuses

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Business can be a dog-eat-dog world. Often, there's stiff competition between companies. They compete for things like market share, selling more of their goods to the public than a competitor or maybe for government contract work.

How does a business keep its edge against the competition? It's common for employers to require their employees to sign a non-compete contract. In fact, you may have signed one when you were hired, or when took a promotion. There may have been one in your severance package. If you're being laid off or changing jobs, you should know if you have non-compete and what it means.

What They Do

Often, businesses have trade secrets, which can be a formula, pattern or process. Think of it as a special way of doing or making something that gives your employer an edge in the market place. Good examples are a recipe for a hamburger, a customer list or special coding and programming for computer software.

Are you a specialized, key employee, like a research chemist for a pharmaceutical company or a sales person with business contacts and customers in your assigned territory? Maybe you're a top executive with a lot of experience in making businesses grow and be successful?

A non-competition agreement may come into play in both cases - trade secrets and key employees. It can stop you from sharing trade secrets with your employer's competitors after you've been laid off or otherwise leave. Or, it can prevent you from working for those competitors after you've been laid off. It even may stop you from starting your own business and competing with your old employer.

Is Yours Valid and Enforceable?

The laws on non-compete contracts vary from state to state. In most states, they'll be enforced if various tests are met. In some states, like California, non-competes generally aren't enforceable at all with respect to preventing you from competing with your old employer. However, it's perfectly legal for your employer to make you sign a confidentiality or non-disclosure agreement. These are meant to stop you from sharing trade secrets with competitors.

In most states, a covenant not to compete must satisfy several requirements before it will be enforced against you. Generally, a non-compete must be:

  • Reasonable, meaning that the contract has to be designed to protect your employer's legitimate business interests without overly restricting your ability to find a job in your field that doesn't compete with the employer
  • Given by you in exchange for something. In some states, a non-compete agreement is valid if you sign at the beginning of your employment because the employer is giving you something (a job) in exchange for your agreement. In other states, your employer must give you something more in exchange for the contract, such as a promotion or bonus
  • Limited in its length of time. Generally, a non-compete contract can't bar you from competing with your old employer "forever." Time periods of six months to two years are usually enforceable. Longer periods may make an agreement invalid because it may be seen as too restrictive on your ability to find meaningful work
  • Limited in its geographic scope, that is, a non-compete agreement usually can't bar your from competing with your former employer anywhere in the country or the world. Specific market areas may be protected, however. For example, if your employer sells or distributes its goods or services throughout a 25-mile radius of the business, you probably can be barred from competing with the employer within that limited area

In some states, if a non-compete contract doesn't meet one of these requirements and is too restrictive on your ability to find a job, a court can change the contract and make it less restrictive and enforce it. For example, a contract that bars you from working in your field anywhere in the state may be changed to restrict the area to the city where your old employer is based.

This isn't the practice everywhere, however. In some states, the courts can't change the contract. In these states, the contract will either be enforced, as written, or ignored completely, leaving you to compete with the employer.

Possible Penalties

A non-compete agreement is a contract, and if you break or "breach" it, you may have to pay damages. It can be costly for you, your new employer, or both. Your old employer may file a lawsuit against you alone because you started working for a competitor, or started your own business that competes with your old employer. Or, your former employer may file a lawsuit against you and your new employer, especially if you share trade secrets with your new employer.

In such suits, you may have to pay your old employer for revenue it lost because of your breach, such as lost sales. Sometimes you may have to pay the old employer any profits you made by using its trade secrets. These types of damages, however, are often difficult for your old employer to prove. So, many non-compete contracts require you to pay:

  • Liquidated damages, which usually is a specific dollar amount stated in the contract that you agree to pay if you breach the non-competition agreement. Sometimes, however, the amount of liquidated damages may be a percentage of profits you make from competing with your former employer
  • Your old employer's attorney's fees and court costs that it had to pay because of your breach of the non-compete

Questions for Your Attorney

  • A company wants to hire me away from my current employer, and it's offering to pay any damages that may arise if my current employer tries to enforce a non-compete agreement I signed. Should I do this?
  • When I was hired I was given a stack of papers to sign, and I had no idea that one was a non-compete agreement. Can it be enforced against me?
  • I'm a salesman for a company based in Arizona. A California employer is offering me a job. Is the non-compete agreement I signed with my current employer enforceable against me in California?

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