A Primer on Noncompetition Agreements: Ten Questions You Should Answer

For many medical technology companies, particularly startup companies, whether and how to institute noncompetition agreements can be threshold personnel issues. Noncompetition agreements prevent departing employees from accepting work with a competitor or otherwise engaging in competitive activities for a period of time following their termination of employment.

Noncompetition agreements have become commonplace in the industry because they are useful in deterring defections and protecting customer goodwill and intellectual property. However, if not carefully developed and implemented, noncompetition agreements can become expensive, morale-busting and ineffective.

Before implementing or restructuring internal processes regarding such agreements, businesses should answer the following important questions.

What Is the Purpose?

While noncompetition agreements serve to deter employees from engaging in competitive employment following their termination of employment, they will not be enforceable unless a court is satisfied they are narrowly designed to safeguard a legally protectable interest of the employer. Legally protectable interests include customer goodwill relationships, trade secrets, and other confidential and proprietary information. Simply preventing employees from leaving to work for a competitor or protecting your "investment" in an employee are not, in and of themselves, legally protectable interests.

Are You Prepared to Make the Investment?

Noncompetition agreements require a significant investment of time and money. Unless the agreements are entered into as a condition of new employment or a promotion, employers typically must provide special consideration in the form of a signing payment. While courts have found payments as low as $500 to be acceptable consideration, such an amount becomes far more significant when multiplied by a significant number of employees.

The investment required of employers goes far beyond the consideration paid to signatories. Employers must be prepared to make the investment to ensure that agreements are properly drafted and, once drafted, periodically reviewed and revised in the event of changes in the applicable law. Internal commitments must be made to ensure that agreements are properly administered and documented, and that regular communications are issued to remind employees of their contractual obligations. Employers also must be prepared to act diligently in following up on suspected violations of such agreements. Finally, employers must be prepared to enforce noncompetition agreements in the event of a violation, up to and including litigation. Failure to do so undermines the deterrent effect of such agreements and will make an employer vulnerable to arguments of future opposing counsel that the company has chosen to selectively enforce its agreements, thereby calling into question their legal validity.

Can You Afford Not to Make the Investment?

Businesses intent on ensuring that their trade secrets remain protected may conclude they have no choice but to implement noncompetition agreements for those employees who have access to those trade secrets. To ensure trade secrets remain protected, employers must be able to demonstrate they have instituted "reasonable measures" to safeguard their secrecy. Noncompetition agreements are among such "reasonable measures" available to employers and typically provide greater protection than mere reliance on a nondisclosure agreement. In particular, upon finding that a former employee has disclosed the trade secrets of his former employer in violation of a non-disclosure agreement, most courts will simply award damages; they will not prohibit the employee from continued employment with his new employer absent particularly egregious circumstances. Noncompetition agreements therefore afford greater protection and security.

Are There Other Effective Alternatives?

There are, of course, other alternatives to safeguard your intellectual property or customer goodwill relationships and to prevent good employees from leaving your employment. Such alternatives include:

• Ensuring that outstanding employees are well-compensated
• Ensuring that more than one employee develops goodwill relationships with important customers
• Entering into employment agreements that provide guaranteed terms
• Entering into non-disclosure agreements
• Entering into narrower, more limited noncompetition agreements or non-solicitation agreements that allow a former employee to work for a competitor as long as the former employee does not solicit your clients or employees
• Imposing noncompetition clauses within significant stock option or other incentive compensation arrangements, requiring employees to forfeit such compensation in the event they commence employment with a competitor

Who Should Sign?

Noncompetition agreements should be narrowly tailored to a select group of employees. Often, employers limit such agreements to salespeople, technical personnel (e.g., engineers and scientists) and top executives. Agreements also should be tailored to the specific protectable interest at issue with each job category, and all persons within a specific job category should be required to sign the noncompete.

What Is the Proper Temporal Scope?

The proper temporal scope for a noncompetition agreement will vary depending on the applicable state law and the particular circumstances of the protectable interest at issue. Generally speaking, however, a one-year restriction will be enforceable in most states. Restrictions in excess of two years are high risk unless within the context of a sale-of-business agreement.

What Is the Proper Geographic Scope?

The proper geographic scope for a noncompetition agreement also will vary depending on the applicable state law and the particular circumstances of the protectable interest at issue. For scientists, engineers and others with access to critical trade secrets or business plan information for companies that compete globally, courts have enforced global noncompetes. For salespeople, a restriction specific to those customers with whom the salesperson has developed or sought to develop a goodwill relationship is advisable.

Is Shorter Really Sweeter?

Shorter is not always sweeter in the context of noncompetition agreements. It is important that the agreement articulate fully the reason for the agreement and the protectable interests at issue. Similarly, it is important that the agreement articulate all of the consideration being paid, including consideration in addition to employment or a lump sum payment (e.g., access to confidential information, access to customers, etc.).

Provisions that define which state's law shall control in settling any disputes regarding the agreement's enforcement, the state or federal court(s) in which any disputes will be heard, and whether and how the agreement may be assigned to other companies (e.g., acquiring companies) often serve to avoid disputes that typically arise in noncompete litigation. Finally, it is important that the agreement leaves no ambiguity for opposing counsel to seize upon in the event of a litigated dispute. For all these reasons, a more fulsome agreement tends to be in the enforcing employer's best interests.

Are You Prepared to Make Hard Decisions?

Noncompetition agreements likely will not be enforced if an employer is not consistent in mandating that all similarly situated employees sign them. If an employer has concluded that all persons hired into a certain job must sign such an agreement, the employer must be prepared to refuse employment to persons who refuse to sign.

Do You Have Reasonable Expectations?

In the event of litigation, fasten your seat belt. Noncompete litigation often occurs on a very expedited basis, can be very expensive, and outcomes are not often clear even in the best of circumstances. Many judges struggle in balancing the law (enforcement of a clear contract) with the perceived inequity of forcing a person from working in his or her chosen profession and putting food on their table.

This perceived inequity often is compounded by the perception that the contract was never negotiated at arm's-length to begin with or that the former employee really did not have a choice in deciding whether to sign. This struggle between what is legal and what is equitable becomes less of an issue where there is evidence that the employee has engaged in misconduct (theft of documents or data, dishonesty, etc.) or when the former employee does not stand to lose compensation if prevented from working for the new employer (e.g., where the new employer has committed to paying the employee's salary regardless of the outcome of any dispute).

For all these reasons, it is important for employers to view their case as objectively as possible and consider whether there are creative solutions in the event of a contractual breach short of protracted litigation.