Noncompetition agreements are a common fact of life for many of the mid- and senior-level executives I represent in estate planning, and for business owner clients with employees.
Because noncompetes are such important features of the life cycle estate and financial planning landscape, I sat down with my colleague Rebecca Weis to learn more about them.
- The more senior you are, or the more client-facing your role is, the more likely your employer is to present you with a noncompete.
- The more senior you are, the more latitude you tend to have to negotiate specific terms of your noncompete.
- If you’re less senior, agreements tend to be less negotiable, but also less enforceable.
Noncompete-only agreements are becoming somewhat less common, but non-disclosure and non-solicitation agreements are becoming more common, as their enforcement is viewed more favorably than noncompetes.
To be enforceable, noncompetes need to reasonable as to the scope of prohibited activities, and the duration of restrictions. A longer period of employment makes enforcement of longer duration restrictions more likely.
If an agreement is overbroad on scope or duration, in Kentucky a court can “blue pencil” the agreement, and enforce a narrower scope or shorter duration.
To be enforceable, noncompetes must be supported by consideration. (“Consideration” is a familiar terms for lawyers, but translated away from jargon, it means that a benefit has been given, and a burden undertaken.)
Continued employment alone is not sufficient consideration. Examples of what is sufficient consideration include:
- Getting the job (after signing the agreement at the start of employment)
- Receiving a bonus, or additional vacation
While Kentucky courts do not apply a proportionality test about whether the scope of restrictions was commensurate with the value of consideration to the employee, de minimis consideration is not enough to support enforcement, and the employee must actually receive the consideration.
Noncompetes are usually enforced by the employer sending a demand letter, and then seeking an injunction and restraining order against the departing employee, along with a declaratory judgment for payment of damages.
Unless the noncompete includes a fee-shifting provision, each party pays its own costs in the litigation. Costs to each side in the litigation tend to be at least $10,000 to $20,000 (and can be much more, depending on whether settlement is reached, and if so, when).
If you are an employee subject to a noncompete and leave for a competitor, factors that make it more likely your former employer will sue you include:
- You take substantial business or clients with you
- You take employer information (such as a client list) with you
- You left on confrontational terms with your boss(es) – never underestimate the “human factor”!
- You are in a competitive industry
- Your employer has the legal budget to fund a lawsuit against you
Several factors (some rather obvious) can make a lawsuit against a departing employee less likely:
- You don’t take employer information with you
- When leaving, you pay attention to keeping relationships positive
- You don’t begin competitive activities (such as starting a new entity, or contacting potential customers) until after you’ve left
If you’re a business owner or employer using noncompetes with employees, Rebecca agreed with me that an interesting alternative might work well: providing severance contingent on non-competition, instead of up-front consideration.
I think that for motivated high performers intent on leaving, the amount of severance required to incent non-competition would be large, but the costs overall might be less.
Rather than paying consideration to all employees (even the ones who turn out not to leave), compensation spending can be directed only at the times and to the situations where it will produce needed results.
I think noncompete issues matter very much to employees focused on building wealth by maximizing the value of their careers.
That’s because being subject to a noncompete makes you less attractive to other employers, which lowers the amount your current employer needs to pay to retain you.
Options for defending against this threat to your earning power include:
- Developing skills that can’t be restricted by a non-compete. For instance, you could earn additional certifications, or obtain an advanced degree.
- Developing contacts that can’t be restricted by a non-compete. For instance, it’s wise to develop contacts for a “lateral move” to a somewhat different industry that still allows you to use your skills (and maybe even your same contacts).
While you are employed but subject to a noncompete (or before you’re subjected to one), you should build savings.
You’ll need them to fund lifestyle expenses while you “cool off” between jobs and wait for the noncompete to expire.
To make yourself a less lucrative litigation target, you can include elements in your estate plan through which you can build asset-protected savings. (We’ve covered some options for that here and here.)
One way or another, noncompetes are a key variable shaping the landscape on which you build wealth. It’s wise to take them seriously, and plan responsively.
Photo credit above: Boat washed ashore during Hurricane Ivan’s landfall, Fort Walton Beach, Florida. State Archives of Florida, Florida Memory, http://floridamemory.com/items/show/17287. Photo by Chris Duval.