Non-Compete Agreements: Should I sign?

Non-Compete Agreements: Should I sign?

You probably have signed non-compete agreements or agreed on non-compete clauses in 99% of the agreements you have executed in the normal course of your business. Well, as common as they are, non-compete agreements and/or clauses (“Non-Competes”) have always been disfavored by courts for the apparent restraints they impose on employees, especially in competitive and time-sensitive industries. Many jurisdictions go the distance in passing statutory conditions through which such laws can control the use of non-competes in response to overreach by some employers.

Traditionally, Non-Competes were only required by highly-skilled employees or employees with knowledge of the company’s confidential and/or material information. The enforceability of non-competes was justified by the fact that the restriction imposed by them could be balanced.

However, in 2022, 30% of employees subject to a non-compete in the U.S. made less than $13/hour. Such overreach by employers drew the attention of lawmakers.

Non-competes as contract clauses have a deep history in common law. That history always favored reasonable terms, weighing them against the public policy, employment mobility, and free competition, even among employers looking for employees.

First Things First: What is a Non-Compete?

A non-compete is a legal agreement or clause in an agreement prohibiting a contracting party whether an employee, contractor, partner or shareholder from competing with the other contracting party after the expiration of the term of the agreement. Non-Competes sometimes prohibit the party from revealing company-related material information to third parties under the term of the agreement or even for a certain period of time after it. Non-Competes allocate a certain period after the end of the employment where the employee is not allowed to work for a competitor.

The validity and ways of enforcing a non-compete vary with jurisdiction, type of agreement, and even industry. Certain Non-Competes require the employer to continue paying the ex-employee their base salary during the non-compete period.

You find non-compete agreements mostly in financial services industry, corporate management, manufacturing, and information technology.

Non-Compete Clauses

Generally, non-competes are not standardized, but many share the same elements in terms of restrictions. Certain components you might see in several non-compete agreements are:

• Duration: the duration of non-compete may vary on a case-by-case basis and as previously mentioned it varies from an industry to another. Most non-competes vary from 6 months to one year and the court may not force it if the duration is seen too long. Long-term non-competes are unlawful in many jurisdictions and frowned-upon in most, since they restrict employees’ freedom of choice and minimize their chances of finding work after they end their past employment.
• Territory: some non-competes prohibiting an ex-employee from working in a specific territory to prevent a high-level competition.
• Scope: all Non-Competes must specify the scope of non-compete. Which means the type of services that an ex-party cannot provide. Such specification must be indictive of as much detail as possible to avoid scrutiny, including but not limited to information, techniques, procedures, and practices that are unique or material.
• Competitors: The concerned party does not need to list all the competitions, but he must define it thoroughly and adequately in a way that the leaving party has at least a general idea of the industry and types of businesses he is agreeing not to not work in.
• Damages: Employers define the damages they are entitled to if an employee breaches the non-compete.

The FTC Rule

On a more recent note, in January 2023, the Biden Administration in the United States of America issued an executive order to the Federal Trade Commission (“FTC”) whereby the FTC proposed a rule (“Rule”) that would invalidate existing non-competes and prohibit future non-competes. As the FTC proposed the Rule in January 2023, the deadline for public comments is extended to April 19, 2023. It is likely to face legal challenges, so its potential effective date is unclear.

What does the Rule entail?

Broad wording: the Rule defines a “worker” as a “natural person who works, whether paid or unpaid, for an employer” including but not limited to “an employee, individual classified as an independent contractor, extern, intern, volunteer, apprentice, or sole proprietor who provides a service to a client or customer.” Such broad wording widens the scope of the rule and includes more people underneath its application.

Prohibiting de facto non-competes and implied non-competes: the Rule considers a non-compete any provision that has “the effect of prohibiting the worker from seeking or accepting employment with a person or operating a business after the conclusion of the worker’s employment with the employer.” Such text provides two examples of a de facto non-compete; either a non-disclosure agreement so vague that it prevents the worker from working in the same field, or a provision that requires a worker to pay the employer a harsh amount representing their training costs.

The exception is narrow: the exceptions to the Rule are narrow and would not apply in an ordinary employer-employee relationship. The exception would not apply when an employee and a worker enter into a non-compete provision in the course of selling a business as long as the worker is a “substantial owner,” “substantial member,” or “substantial partner” of the business. A person is a “substantial” owner or member or partner if he holds “at least a 25% of ownership.”

Employers must notify workers: the Rule states that employer must provide individual notice to affected employees notifying them that the non-compete provision is no longer effective.

Whether you are an employee, a board member, a service provider, a shareholder or any type of contracting party, be aware of non-compete clauses and non-compete agreements.

Reach out to our legal team at adimassi@dimassilawfirm so we can help you draft such agreements/clauses or consult us before signing in order to prevent you from any unplanned consequences.