Everything You Need to Know About Employee Non-Compete and Non-Disclosure Agreements

Update, Inc., a provider of legal staffing services, sued a former employee for breaching a non-compete agreement [Update Inc. v. Samilow]. The Eastern District of Virginia ruled against Update’s former chief customer officer, Lawrence Samilow, in what could have been a loss for the company.

Soon after leaving Update, Samilow started a competing business nearby and began soliciting Update’s customers, some of whom were his former clients. These actions, however, forced the court to rule against him.

In short, Samilow lost the case on a three-count violation of the non-compete agreement by:

1. Starting a business as a direct competitor in less than a year after leaving Update
2. Soliciting the company’s customers and his former clients, and
3. Choosing a location for his business within a 50-mile radius of Update’s location

How protective are non-compete and non-disclosure agreements for employers and should small and medium-sized businesses have them? For the answers, Workest asked Timothy J. Ford, Esq., a member of the Employment Law, Commercial Litigation and Closely Held Business Law Departments at Einhorn Barbarito.

What are these agreements for and why do employers believe they need them?

“Often, non-compete agreements also seek to restrain an employee/former employee from sharing confidential information and soliciting employees and clients.”

Ford: Non-compete agreements are agreements, or a provision in an employment contract, that seeks to preclude an employee from competing with his or her prior employer following separation from employment. Although non-compete agreements are still enforceable in many states, they have begun to become disfavored.

In fact, several states have enacted legislation to substantially limit them or outlaw them altogether. In states where they are enforceable, they need to be narrowly tailored to protect the legitimate interests of the employer.

Generally, the non-compete must be limited in scope (type of competition prohibited), duration (length of time), and geographic scope (depending on the industry – but it sometimes has a mileage restriction or specific geographic area).

Often, non-compete agreements also seek to restrain an employee/former employee from sharing confidential information and soliciting employees and clients. Employers often require these agreements to prevent employees from going to work for competitors and taking with them the knowledge, skills, and information that may make the employee able to more successfully compete against the employer. Employers invest time and resources to train employees and want to preclude employees from using this training for competitive purposes.

Do all employers need these agreements?

Ford: No, many employers do not require non-compete agreements.

In certain industries, they may not be enforceable for a variety of reasons. Often, employers in highly specialized industries will require non-compete agreements. In addition, they are more prevalent and more likely to be enforced for higher wage earning employees. If an employee has unique skills and has acquired unique knowledge, training or [gained] proprietary information about your product or service, [you] should strongly consider requiring the employee to execute a non-compete.

What essential elements should these agreements include?

Ford: These agreements should be prepared by counsel familiar with the law where you operate. These agreements need to be narrowly tailored to protect your business’s legitimate interests. Often, employers get into trouble by drafting them too broadly. These agreements should define the nature and type of competition that you seek to prohibit. They should define the geographic scope of the restriction, if any, and the duration of the non-compete. Generally, courts will enforce restrictions for 1 or 2 years.

Sometimes, lengthier agreements will be enforceable, particularly if connected to the sale of a business or combined with pay during the restricted time period. Often, they include a non-solicitation provision, precluding employees during the course of and following termination of employment from soliciting customers, vendors, suppliers or employees. In addition, non-compete agreements are often accompanied by a confidentiality provision.

What are the consequences that these agreements sometimes bring? 

Ford: There are pros and cons to non-compete agreements for the employer.

One of the pros is to limit the ability of the employee to leave his or her employ and compete against your company. [Agreements] also preclude employees from soliciting customers and employees and divulging confidential information.

As for the negatives, it may be more challenging to recruit new employees if you require a non-compete. However, most of the “consequences” for the employer will be favorable to the employer. One of the consequences for a poorly drafted non-compete is that it may be rendered unenforceable.

What should employers do when or if employees or potential hires refuse to sign these agreements?

Ford: In most jurisdictions, if an employee refuses to sign the agreement, you can terminate his or her employment. Alternatively, you can alter his or her job responsibilities to limit exposure to clients or confidential information. If a prospective employee refuses to sign, you can withdraw the offer of employment or offer him or her a different position.

How can or should employers handle breaches when they occur?

Ford: Breaches of these agreements often will first result in a cease and desist letter. In that letter, the employer reminds the former employee of his/her obligations under the agreement and demands that the former employee refrain from breaching the agreement. Often, the letter is sent to both the former employee and his/her new employer.

If the former employee refuses to cease engaging in conduct that violates the agreement, you can file a lawsuit or demand for arbitration. Often, employers will be seeking emergent relief and will file an application for a preliminary injunction. If granted, a preliminary injunction issued by a Judge or Arbitrator may enjoin the former employee from working for his/her new employer. In certain circumstances, the injunction can limit the job functions that the former employee may perform for his/her new employer. Frequently, the former employee and his/her new employer are defendants in the litigation. In addition to an injunction, employers can seek damages from the former employee and/or from the former employee’s new employer.

The purpose of non-disclosure agreements

Like non-compete agreements, non-disclosure agreements (NDAs) are designed to protect your company’s ability to compete in the marketplace. Their purpose is to create a confidential relationship between parties engaged in business or related transactions.

Information that’s shared with an industry competitor, for instance, could:

• Be used to ruin the rollout of a company’s new product, service, or idea
• Taint its brand

By signing an NDA contract, employees promise to keep proprietary information they’re aware of or have access to confidential while employed. NDAs give employers the right to take legal action against employees who wrongly disclose company secrets.

More recently, businesses have been publicly exposed and criticized for using NDAs to cover up their wrongdoings or alleged misconduct by high-level company officials.

By signing an NDA contract, employees promise to keep proprietary information they’re aware of or have access to confidential while employed. NDAs give employers the right to take legal action against employees who wrongly disclose company secrets.

Protection against independent contractors

You may want to hire an independent contractor for a one-time project. Or you may choose to avoid hiring a full-time, permanent employee to save on the costs of benefits and other employment-related expenses. Although non-compete agreements serve to protect your company, you may want to think twice before having a third party like a contractor sign one.

HG.org, a legal resources website, offers these warnings about non-compete agreements for independent contractors:

• As owners of their own business, independent contractors may work for multiple companies. Signing a non-compete or disclosure agreement would force them to forfeit their own profits for the sake of working for one company. Under this circumstance, an agreement could be unenforceable. Caveat: A “covenant not to compete” could be enforced if a contractor set up a business that competes with yours.
• An independent contractor could be classified as a company’s employee by signing a non-compete agreement because it may establish an employment relationship between the parties. The contractor could claim eligibility for benefits and other employee privileges in a lawsuit. This could make you liable for overtime pay, unemployment insurance, workers’ compensation coverage, and penalties. The U.S. Department of Labor offers guidelines on classifying employee versus independent contractors.

HG.org recommends non-disclosure agreements for contractors as a safer alternative to non-compete agreements.