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by Kurt A. Miller, Esq., Thorp Reed & Armstrong, LLP | March 10, 2009

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In 1998, a Pittsburgh food-processing company hired a 25-year old man for an entry-level sales position. The company proceeded to train the employee, and provided him with a company car, expense account, and complete benefits package. Two years later, a rival food company from Dayton, Ohio, approached the employee. With hopes of profiting, not only from the employee's training, but also from his customer contacts, the competitor offered the man a substantial raise in salary and a signing bonus. He accepted, and in his new position, managed to convince many of his old customers to divert their business to his Dayton employer. As a result, the Pittsburgh company not only lost a valuable employee, but also suffered a serious decline in sales.

Sound familiar? Unfortunately, it's an all-too-common situation in American business. Many employers even regard this kind of loss as an inevitable consequence of free enterprise. But does it have to be? Is there anything employers can do to protect themselves?

While most companies wouldn't consider doing business without insuring their assets against damage or loss, their true business assets--their customers and customer goodwill--remain vulnerable. There is a solution, and it's remarkably easy to implement. In the example above, the Pittsburgh company could have prevented or at least deterred its Dayton competitor from hiring the employee by utilizing one simple document--an employment non-competition agreement.

Get it in writing

In an employment non-competition agreement, an employee agrees not to compete with the employer, within a defined geographic territory, for a specified period of time after the employee leaves the employment of the employer. A non-competition agreement is typically obtained at the beginning of the employment relationship, although it may be secured at any time. Employment non-competition agreements are also called "restrictive covenants" and "covenants-not-to-compete."

Be reasonable

State law determines specific steps that an employer must take in order to obtain a valid employment non-competition agreement. Under the law of most states, including Pennsylvania, an employment non-competition agreement is enforceable if it is (1) ancillary to an employment relationship, (2) supported by adequate consideration, and (3) reasonably limited in time and geographic scope. ~

The first requirement is easy to satisfy. A non-competition agreement that an employee enters into with his employer is, by its nature, ancillary to an employment relationship.

An employer can meet the second requirement--that the agreement be supported by adequate consideration--by requiring the employee to enter into the agreement at the time of hire. The employer's agreement to hire the employee is adequate consideration to support a non-competition agreement. On the other hand, in many states, including Pennsylvania, an employee's mere continued employment is not adequate consideration to support a non-competition agreement. Accordingly, if a non-competition agreement has not been obtained at the time of hire, the employer must provide the employee with a pay increase, promotion, new employment benefit or some other improvement, in order to obtain a valid non-competition agreement from the employee.

Don't Hang on Too Long

The third prerequisite for a non-competition agreement--that the covenant be reasonably limited in time and geographic scope--poses the greatest challenge for employers. The law provides no definitive guidance concerning what is a reasonable period of time for a non-competition agreement to remain in effect; the law similarly provides no definitive guidance concerning what is a reasonable geographic territory in which a non-competition agreement may apply. Instead, the law suggests that the reasonableness of a non-competition agreement is to be determined on a case-by-case basis, and that a number of factors affect whether the agreement will be found to be reasonable. Of those factors, the principal one is what restrictions in time and territory are reasonably necessary to protect the employer's legitimate business interests. Other factors include the nature of the employer's business, the position the employee holds, the training provided by the employer, the employee's access to customers and confidential business information, the length of employment, the geographic area in which the employee works, and the geographic area in which the employer does business.

Courts generally will find that non-competition agreements lasting one year or less are reasonably limited in time. Agreements lasting between one and five years may be found to be reasonable or unreasonable, depending on the circumstances. Courts generally will find that non-competition agreements lasting for more than five years are not reasonably limited in time. ~

Non-competition agreements that are limited to the geographic area in which the employee actually performed services for the employer generally will be found to be reasonably limited in geographic scope. Courts typically will not enforce worldwide or nationwide covenants, or covenants that cover a geographic territory broader than the area in which the employee performed services for the employer.

Protect your investment Almost any employer has a legitimate business interest in preventing recently departed employees from competing. Employees may have access to business information that reasonably can be regarded as confidential. An employee who leaves to go to work for a competitor may intentionally use that confidential business information. Alternatively, the nature of the former employee's new position may be such that he cannot avoid using the information in performing his new duties. Naturally, a company has a legitimate business interest in preventing its former employees from engaging in competitive employment that may result in their revealing or using confidential information.

Most employers make significant investments in their employees. Employers may invest in employee training, and may pay expenses that enable employees to develop customer relationships and industry knowledge. In many cases, a competitor gains an unfair competitive advantage if it is able to divert the dividends of these investments by hiring the employer's personnel. A company has a legitimate business interest in preventing others from gaining this unfair competitive advantage.

Why Not Keep It Confidential?

An employer may utilize confidentiality agreements and confidentiality policies in an effort to protect its proprietary commercial information. In reality, however, these agreements are of limited value in preventing the harm caused by a former employee's competitive activities. It generally is difficult for an employer to detect--and even harder to prove--a violation of a confidentiality agreement or policy. Employees who have gone to work for a competitor will not call their former employer to report that they are using the employer's trade secrets. Moreover, even if the employer were able to prove that a former employee has violated a confidentiality agreement or policy, the only sanction a court would likely impose would be an order requiring the employee to return all confidential information and not to utilize that information further. Confidentiality agreements and policies thus afford little protection to employers. ~

Discourage Job Jumping

Non-competition agreements, on the other hand, afford employers significant protection. An employee who has entered into a non-competition agreement may be disinclined to seek out employment with a competitor, either out of a desire to abide by his agreement or out of fear of the consequences. A non-competition agreement thus may deter an employee from even applying for employment with a competitor.

A non-competition agreement may also deter a competitor from recruiting or hiring an employee who is bound by that agreement. Whenever possible, businesses usually attempt to avoid the trouble and considerable expense of litigation. During the interview process, a company generally will ask a prospective employee whether he has signed a non-competition agreement. If the employee has, the company typically will think twice before hiring him. The company may very much desire to hire the employee, but may not want to become embroiled in litigation with the individual's employer. So even in cases where a non-competition agreement doesn't deter an employee from seeking out employment with a competitor, the agreement may deter the competitor from hiring the employee.

Nothing to lose

The benefits of deterrence come at little cost to an employer. An employer can reap these benefits simply by requiring employees to sign non-competition agreements at the time of hire. The benefits of deterrence accrue without the employer's having to endure the cost and inconvenience of litigation.

Non-competition agreements also protect employers from unfair competition in a second significant way. They provide employers with a means to enjoin unfair competition through court proceedings. Contrary to a common misperception, courts will enforce non-competition agreements, provided that the agreements satisfy the three prerequisites set forth above. Moreover, in Pennsylvania, even if a court should find that a non-competition agreement is unreasonably broad in time or geographic scope, the court has the ability to modify the time or geographic restriction and to enforce the non-competition agreement as so modified. A court typically enforces a non-competition agreement by issuing an injunction, restraining the employee from continuing to work for the competitor. Thus, even if the existence of a non-competition agreement does not have the desired effect of deterring an employee from applying for employment with a competitor or of deterring the competitor from hiring the employee, the agreement provides the employer with a mechanism to stop the unfair competition. ~

An ounce of prevention

Confidential business information, customer relationships, and customer goodwill are important assets to any company. As with other corporate assets, a company should insure against potential damage to these important assets. Employment non-competition agreements constitute insurance that is inexpensive and relatively easy to obtain. Employers should take advantage of this insurance by securing non-competition agreements from their key employees.

Mr. Miller is a partner with law firm, Thorp Reed & Armstrong, LLP, http://www.thorpreed.com. His primary area of concentration is the representation of management in employment litigation. He can be reached via phone at (412) 394-2363 and via email at "mailto:kmiller@thorpreed.com" kmiller@thorpreed.com.

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Filed Under: Workplace Issues

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