Non-compete Contracts: the Employer Perspective

A non-compete contract is an agreement signed by an employee or contractor where he/she agrees that they will not engage in certain employment within a certain geographic area for a certain period of time after they quit or are fired. A non-solicitation contract is an agreement signed by an employee or contractor where he/she agrees that they will not contact and/or solicit an employer's customers and/or remaining employees for a certain period of time after they quit or are fired.

Both of these contracts can only be totally understood when you look at them from both the perspectives of the employer and the employee separately. Right now, I shall deal with the non-compete and non-solicitation agreements from teh employer's point of view.

In 1987, the Michigan Legislature passed Section 4(a) of the Anti-Trust Reform Act, which declared that it is the public policy in the State of Michigan to enforce reasonable non-competition and non-solicitation provisions in employment contracts. Prior to this statute, non-compete and non-solicitation agreements were generally disfavored in the State of Michigan by Michigan courts. Judges viewed them as generally non-competitive and potentially as anti-trust violations in that they restricted free trade. Since 1987, Judges have been instructed by legislators to enforce reasonable non-compete agreements. Courts usually make decisions regarding the "reasonable" nature of these agreements in terms of geography, scope, duration, among other terms.

The most important thing for any employer to know is that they cannot simply have people sign these agreements for the sole purpose of stopping them from obtaining other employment, even with a direct competitor. It is well settled that the only concerns that merit a non-compete agreement are those of a legitimate business interest.

If the sole purpose of a non-compete agreement is to avoid ordinary competition, it is unreasonable and unenforceable because of its attack upon free-trade. If the agreement is ever challenged in court, the most important question, which will be posed from the Judge to the employer, is "What is the legitimate business purpose that is served by this non-compete agreement?"

So what is a legitimate business purpose? A legitimate business purpose can be any number of things ranging from:

1. Protecting legitimate trade secrets. This is information held by a company which is not generally known or available to the public, provides a strategic advantage in the market and is actively protected by the company;

2. Protecting confidential information. This is information which may not reach trade secret status but is still protected at a significant level by the company and which gives the company a competitive advantage. Confidential information might include company strategy information, internal communications concerning pricing or market strategy, long term plans of the company in the areas of marketing, pricing, deployment, development or other issues;

3. Protecting an investment in an employee or consultant in terms of special training or development. If a company sends an employee to special training, or provides internal training which represents a cost to the company, courts are often willing to protect that investment by enforcing non-compete contracts; and

4. Protecting other business interests such as loss of clients, good will, reputation, seeing that contracts with clients continue, and referral sources.

What is clear from court decisions is that non-compete agreements are more enforceable when the employee comes from higher up in the hierarchy of the company. This is because upper level employees are typically exposed to more confidential, trade secret, strategic and other information that gives a company a competitive advantage in the market place. Because the "lower level" employee is less likely to come in contact with important trade secrets and other strategic information, a court is less likley to enforce non-compete and non-solicitation terms for these employees.

It should also be noted that courts are very willing to enforce broad and comprehensive non-compete terms on company owners who sell their company to a new owner. This is often because courts recognize that part of the consideration of a company purchase is to preclude the prior owner from then directly competing against the new owner in the marketplace.

Other factors which affect a court’s willingness to enforce a non-compete include whether or not additional consideration was provided to the employee as part of the non-compete arrangement. While additional money is not required by courts in order to make non-competes enforceable, I typically advise companies who are very serious about their non-compete agreements to do something by way of additional consideration in order to increase the likelihood that the non-compete will be enforced.

If a former employee or consultant challenges a non-compete in court, the employer should be very proactive in providing the detail necessary in order to show the court that a legitimate business purpose is being protected. This is because this information will help the court define revised terms of the contract, as,following the 1987 statute, they are unlikely to totally strike the non-compete contract if it is found to be too broad in geographic area or time frame.

The same statute referenced above requires the court to, in effect, re-draft the non-compete to a scope, which is, in fact, reasonable in terms of scope, duration, and geographic region. While some employers draft extremely broad non-competes on the premise that the worst that can happen is that the court will re-draft the document to a more reasonable scope, I typically advise employers to avoid this approach. If your non-compete is ever attacked in court, you may draw the Judge’s ire if you have forced a clearly unreasonable non-compete onto an employee who had little or no choice but to sign. Employers who draft extremely broad and unreasonable non-compete provisions sometimes find themselves with less protection once the court has re-drafted the contract, then if they had simply taken a more reasonable approach on the front end.

Perhaps the most common question I receive from employers is whether they can force a current employee to sign a non-compete. The answer is that Michigan courts will typically enforce non-compete agreements signed by employees, even if the only consideration is continued employment. Thus, at any point during the employer/consultant relationship, an employer may request or even demand that an employee sign a non-compete agreement in order to keep their job.

One of the most important things for any employer to consider in developing a non-compete or non-solicitation program for their employee base is that they cannot selectively enforce those agreements once signed. One of the most common defenses by employees who have signed non-compete agreements is that the employer never enforced those contracts against the other employees who left. Any employer that is serious about its non-compete program, must be vigilant as employees leave the company and make sure that they are sending threat letters and taking judicial action if the contract provisions are being violated.

Some employers don’t feel comfortable in asking their employees to sign non-compete provisions and, quite honestly, some employees have the leverage to avoid signing them altogether. For this class of employers, I almost always recommend that they at least obtain a non-solicitation agreement, which will preclude an employee from raiding the company’s best remaining employees and customers if they should leave.