Noncompete Agreements—A Basic Guide of the Do’s and Don’ts

LEGAL MATTERS

Noncompete Agreements — A Basic Guide of the Do’s and Don’ts

Jeffrey W. King Legal Counsel for the WFCA Jeffrey King has more than 35 years’ experience in complex litigation with a focus on contracts, employment, construction, antitrust, intellectual property and health care. He serves as legal counsel for WFCA and other trade associations, and is a LEED Accredited Professional. For more information, contact him at (561) 278-0035 or jeffw@jkingesq.com.

Your office manager, that you trained for two years, has just quit to join a competitor. They convinced one of your salespersons to join them, and now they are recruiting some of your other employees. It is not just that you lost the investment in training these former employees, they are now following up on leads developed while they worked for you. What can the flooring retailer and contractor do to protect itself?

Many companies ask an employee to sign employment contracts that include a noncompete clause to protect their legitimate business interests. Other companies may have employees sign a separate noncompete agreement. The problem is that many states seek to limit the enforceability of a noncompete agreement. Overbroad or vague agreements are often rejected by the court. There is no perfect noncompete agreement that can always be enforced. There are, however, steps and precautions the flooring retailer or contractor can take to maximize their protection. So, what are the limits, what should a noncompete agreement include, and can they be enforced?

What Are the Limits on Noncompete Clauses?

Noncompete agreements can make it difficult for employees to find work after quitting or being let go. Noncompete agreements often prevent employees from working in the same industry as their former companies. If they have spent their entire careers developing their expertise and skills in that particular industry, then such employees will be effectively foreclosed from finding any comparable work on similar pay. Accordingly, they are “disfavored” by the courts so they are strictly construed and, as explained below, are subject to key limitations.

1. Legitimate Interests: A court will usually assess whether a noncompete clause protects legitimate interests of the employer. This includes protecting the confidentiality of trade secrets, preserving customers’ goodwill, and protecting the investment in training and development. For example, a court might consider whether the employee was a key employee, whether the employee possessed significant confidential information, or whether the employer invested significant expense or resources in providing education or training to the employee. These are the kinds of things that employers need to be able to show when justifying that a clause serves to protect legitimate interests rather than simply restrict competition.

2. Scope: A noncompete agreement cannot be too broad. A prohibition for working for another local flooring retailer may be permitted, but prohibiting working for any retail in construction supply business may be too broad. Similarly, prohibiting an employee from working in the flooring industry would likely be too broad and unenforceable.

3. Duration: The duration of a noncompete must be only as long as needed to protect the legitimate interest of the employer. Some states have specific period of restriction, usually one or two years, that will be found reasonable. Even without such a law, most courts will consider a one-year noncompete as within the realm of reason, while a three-year or longer period often will be considered unreasonable.

4. Location: The geographic area covered in a noncompete agreement must not be larger than is reasonably necessary to protect the employer. There is no rule that necessarily defines a reasonable geographic limitation in terms of numbers of miles or borders. Whether a geographic limitation is reasonable will depend on where its potential clients or customers are located as well as on the locations where the employer is doing business. Generally, most courts will not enforce a noncompete that covers an area where the employer has no clients or business interests.

5. Consideration: To be enforceable, the employee must have received something of value in exchange for agreeing to the noncompete obligation. In some states, that value can be simply the continuation of the employee’s employment. In other states, it needs to be something more substantial. For example, to be considered supported by consideration in Minnesota, a noncompete clause generally must be agreed to at the beginning of the employment relationship. If not, then the employee must actually have received an increased benefit (like an increase in pay or new position) in exchange for the noncompete. The problem is that many states seek to limit the enforceability of a noncompete agreement. Overbroad or vague agreements are often rejected by the court. There is no perfect noncompete agreement that can always be enforced.

It is critical to ensure that these types of employment contracts are well-written and comprehensive. While there are no standard noncompete clauses, consider including these minimal requirements.

Scope: As explained above, a noncompete agreement should clearly and comprehensively identify what the former employee can and cannot do, and is necessary to protect a legitimate business interest. A noncompete clause should not be used to simply prevent an employee from competing in general. The agreements should aim to prevent an employee from soliciting information, sharing confidential information, taking clients or valuable employees from the business, or working for a key competitor. Restricting a former employee from working for direct competitors is generally reasonable; but preventing the former employee working in the general field, such as the flooring industry, will not likely withstand scrutiny. Similarly, a noncompete clause is more likely to be enforced if the employee is prohibited from solicitating clients that the employee has serviced or had direct important information about while employed.

Time Frame: The duration of the agreement should be specified. If it is longer than one or two years, the agreement needs to state why the longer period is needed. It is common to set the duration as the length of employment plus six months up to two years.

Geographic Area: The geographic area covered in the agreement should be specified. Often the area is defined as a number of miles from the employer’s location or locations, by a geographic area such as cities, counties, or states. The key is to ensure the area is reasonable.

Soliciting Customers and Employees: A noncompete agreement should include a prohibition on soliciting customers and recruiting other employees. Non-solicitation provision may be enforceable even if the other restrictions are not. Caution needs to be observed. The employer may not have a legitimate interest to protect if the employee had a pre-existing relationship with a customer before coming to work for the company.

Nondisclosure: Similarly, an employer may want to include a nondisclosure clause in the noncompete agreement to prevent the disclosure or use of confidential information and trade secrets by employees. Nondisclosure clauses may be enforceable even if the other provisions in the noncompete agreement are deemed too broad.

The bottom line is that enforceable clauses need to be drafted with all of these variables in mind and with attention to the law in the particular states where the restrictions will apply.

A non-compete clause should not be used to simply prevent an employee from competing in general. The agreements should aim to prevent an employee from soliciting information, sharing confidential information, taking clients or valuable employees from the business, or working for a key competitor.

Forty-seven states permit noncompete agreements to be used to some extent. Four states (California, North Dakota, Montana, and Oklahoma) and the District of Columbia largely ban noncompete agreements. For example, noncompete clauses are not enforceable under California law, while North Dakota, Montana allow noncompete agreements only with the sale or dissolution of a business or partnership. Some states (Illinois, Maine, Massachusetts, New Hampshire, Rhode Island, and Washington) prohibit noncompete agreements for low-wage workers. Illinois, for example, recently passed legislation that prohibits noncompete agreements with employees who earn less than $75,000 annually. Even where allowed, the noncompete must be reasonably limited in scope, duration and geographic coverage.

Noncomplete agreements are increasingly being challenged, with state legislatures looking to limit them and courts increasingly restricting their applications. While noncompete agreements are normally regulated under state law, President Biden has stated he wants to limit noncompete agreements. On July 9, 2021, President Joe Biden issued a wide-ranging Executive Order that encourages the Federal Trade Commission (FTC) to “curtail the unfair use of noncompete clauses and other clauses or agreements that may unfairly limit worker mobility.” The Order does not impact current law regulating noncompete and similar restrictive covenants, but it may encourage further limits by state legislatures and courts on these agreements. Noncomplete agreements are increasingly being challenged, with state legislatures looking to limit them and courts increasingly restricting their applications. While noncompete agreements are normally regulated under state law, President Biden has stated he wants to limit non-compete agreements.

What Should a Flooring Retailer and Contractor Do?

Employers who have or are considering having noncompete agreements may want to evaluate their practice. Here are some examples of issues businesses may want to consider when reviewing their use of noncompete and similar post-employment restrictive covenants:

● First and foremost, every employer should check what their state laws allow and what is prohibited. It would serve no purpose to have a noncompete for two years only to find the whole agreement is void because the state law limits such agreements to one year. It is also key to periodically check any new limits or prohibitions.

● Determine and identify what needs to be protected, such as customer lists and unique operating systems. A noncompete agreement needs to protect these items and not information that is generally known in the industry.

● Review the agreements to make sure the activities restricted by the noncompete are narrowly written so they impose no greater restraints than is necessary to protect the business interests identified by the company.

● The company should also review for which employees noncompete agreements are necessary. For example, a noncompete agreement for employees without contact with customers may be unnecessary or should be limited. For a noncompete to be enforceable, the employer must show it was needed to protect a legitimate interest.

● The duration and geographic scope of the agreement should be reviewed and ensure the restrictions are reasonable and comply with state law. ● Consider an exception for customers that the employee had a pre-existing relationship before coming to work for the company. An overbroad restriction could void the whole agreement.

● Consider including in the agreement alternative provisions regarding confidentiality, non-solicitation that would provide protection even if the other provisions are not enforceable.

Sample Noncompete Clause

Noncompete clauses can be as specific or brief for the particular types of employment relevant to the situation. While the noncompete clause example below may not fit every situation, it will help you understand the basics of what should be included in employment contracts.

Noncompete Clause: Employee acknowledges that the relationship with the Company includes the disclosure of trade secrets, customer lists, operating procedure, and other proprietary information. The Employee agrees, for two (2) years following the resignation or termination of employment, shall not, without the employer’s prior written consent:

1. Engage yourself on behalf of any other person or business enterprise in the flooring industry, which distributes or sells products or provides services similar to those distributed, sold, or provided by the Company, that is within ____ mile radius of the Company offices and any of the Company’s retail locations;

2. Directly or indirectly solicit, take away, or attempt to call on, solicit, or take away any customer of the Company on whom you have called or with whom you became acquainted directly or indirectly during the term of your employment with the Company;

3. Directly or indirectly, disclose to any person, firm or corporation the names or addresses of any of the customers or clients of the Company or any other proprietary information; and

4. Directly or indirectly solicit any employee or independent contractor of the Company on behalf of any other business enterprise, nor shall you induce any employee or independent contractor associated with the Company to terminate or breach an employment, contractual or other relationship with the Company.

The clause provided above is generic, and should not be used without first consulting legal counsel.

Conclusion

The law in this area is changing as noncompete agreements fall out of favor with state legislatures and courts. It is therefore important that flooring retailers and contractors review the need for noncompete agreements and ensure the agreements are reasonable and meet state limits. Given the complexity of the issues raised, it is recommended that competent legal counsel be consulted regarding any noncompete agreement or clause. ■

The information contained in this article is abridged from legislation, court decisions, and administrative rulings, should not be construed as legal advice or opinion, and is not a substitute for the advice of counsel.

First and foremost, every employer should check what their state laws allow and what is prohibited. It would serve no purpose to have a noncompete for two years only to find the whole agreement is void because the state law limits such agreements to one year.