Non-compete agreements work for the employer. They don’t really make the employee’s life easier.
I understand the rationale. The employer invests heavily in a new recruit. This individual will be a loss-leader for a while. The employer built the practice. The employer believes he built the employee’s practice. And showed the employee all the tricks needed to be successful.
It would be maddening for this employee to leave after 9 months, set up shop across the street, and take all those new patients with him.
Still, there are two sides to this story.
Imagine the employee has worked diligently for many years at this practice. Initially, he was told he would make partner in three years. Three years came and went. Now, it’s six years, and no change appears in sight.
This employee owns a house. Is the sole bread winner for the family. And has two kids in a private high school. No one wants to move. Can you blame them?
This employee wants to open his independent practice a few miles away. This would butt heads with the employment contract he signed years ago. It says no competition for two years within 25 miles of the office.
Is he screwed?
Maybe not.
If he practices in California, such restrictive covenants are unenforceable. But in most states, restrictive covenants, while disfavored, can be enforced if they protect a legitimate business interest, are reasonable in geographic scope and length of the restriction. Some states, such as Texas, have amended laws related to non-compete agreements limiting the geographic restriction to five miles.
Suppose this vignette occurred in North Carolina.
North Carolina courts have a long history of scrutinizing covenants that prevent an employee from competing with his or her former employer. As a general rule, judges in North Carolina have disfavored enforcing restrictive covenants unless they are thoughtfully crafted to meet certain requirements. For restrictive covenants to be enforceable, must be (1) in writing, (2) made part of a contract of employment, (3) based on valuable consideration, (4) reasonable both as to time and territory and (5) not against public policy.
If one is hiring a new employee, the mere offering of the job is considered “valuable consideration.”
If the employer wants to impose a non-compete on an employee who already has a job there, then they must do more. They must give something of value – perhaps some extra pay or more time off. But something.
Which brings me to American Air Filter Company v. Samuel C. Price, Jr. and Camfil USA, Inc., a case that was heard in a NC Business Court.
What, pray tell, is a Business Court?
[D]ecisions of the North Carolina Business Court — a special Superior Court designed for complex business disputes – are not binding on other state trial courts unless and until the North Carolina appellate courts (the Court of Appeals or the Supreme Court) adopt the Business Court’s reasoning. That being said, the Business Court is the arbiter of many of the state’s employment disputes and North Carolina’s trial and appellate courts often rely upon the Business Court’s decisions for guidance in cases involving restrictive covenants.
In this case, the employee was asked to sign an employment contract 17 years after he became an employee. This agreement included a non-compete provision. And he was paid a bit more for executing the new agreement. So, he was given valuable consideration for the updated agreement with the non-competition clause.
This agreement had a one year term, and renewed automatically annually.
Many years later, the employee took a job with a competitor.
His now former-employer filed suit, alleging breach of the non-compete provision.
The Business Court concluded that while the employee was given valuable consideration for executing the contract initially, this contract had a term of one year. It renewed automatically. But, in essence, it was a new agreement year after year. And each “new agreement” would require additional valuable consideration to keep the non-competition term enforceable.
“…the employer failed to allege it had provided additional consideration each time the contract automatically renewed. As a result, the Business Court held that “[a]ny failure to provide consideration for a given year’s renewal would break the ‘chain’ and render the [original employment agreement] unenforceable as to subsequent years.”
Many employment agreements define the term of the agreement as lasting one year, renewable annually, with an onerous non-competition clause. In the case of this North Carolina employment agreement, failure to draft that agreement without new consideration annually (to keep the restrictive covenant alive) rendered that clause unenforceable. There were likely other ways to manage this puzzle vis-à-vis drafting. In any event, the employee found a home with another employer.
What do you think?
Having lived through such arrangements on both sides, and having viewed the law in different states, judges will not permit a non compete agreement to stand if it is unreasonable in terms of time and distance.
While I have seen, in the distant past agreements that went out to five years, those were not enforceable. Often two years was considered excessive. One year was the acceptable term. Then, the non compete clause had to be reasonable in terms of distance. Five miles in NYC is not reasonable. An agreement there might only be allowed for one mile. But in a rural area where the small towns are spread out 30 miles apart, 25 miles might be all that is permitted.
The scenario mentioned with an employee going to work for another employer is not generally the type of competition that non compete agreements are designed to protect against.
They are designed to protect the employer, from having the employee leave employment and immediately start poaching the employer’s clients directly. Switching employers doesn’t meet that test.
Non compete renewable annually? That seems far fetched and likely unenforceable on the reasonable protection of the employer from the employee. Any reasonable employee would be looking for a new job rather than continuing to work for an employer that thinks so little of them, that they want to bind them in this way. It doesn’t seem reasonable. I think the Business Court’s ruling is flawed because whether the non compete is enforceable or not and whether it is reasonable or not, has absolutely nothing to do with compensation.
The other aspect of these agreements, is what is the penalty for breaching a non compete, that is reasonable in terms of time and distance. There should be a liquidated damages clause, perhaps $25,000 to $50,000 to let the employee know that is what they will be responsible for paying if the non compete is breached. That tells them up front, what they would owe, if they go and compete directly against their former employer. It acts as a deterrent for the damages caused to the employer.
It may not stop them, but it may deter them from soliciting the former employer’s clients.
Another situation occurs when a family member, like an adult child is “welcomed” into the successful family business, but is treated unprofessionally, like a hired vassal.
It is not surprising that this would lead to a sharp disagreement and termination of “employment.”
Family members who leave under a cloud of resentment for disrespect may be unwilling to leave the general area or “respect” the borderline of taking over clients.
Perhaps the message for family business is two-fold: Perhaps it is better to just sell the business, or at least be understanding and respectful to your employed children who enter your family business.
Michael M. Rosenblatt, DPM
I saw a situation twenty years ago where a physician left a group and opened a practice literally across the street from the group, and to be fair, he did so out of spite.
But he also did so because he felt the restrictive covenant was too restrictive. It was in a northeast state, and the covenant said that the individual could not practice in any county within which the group held hospital privileges. This functionally would have been about a 60-mile radius covenant. It was for two years in length. Needless to say, the group sued – and he counter-sued. In the end, it cost them both about $200,000 or more in legal fees. The judge did indeed rule that the covenant was unenforceable. The physician was allowed to maintain his practice across the street from his old group. And they never spoke to one another again – despite working in the same hospitals. Both sides told me if they had to do it all over again, they would have hired a mediator to settle on a workable agreement for about 1/4th the cost and a whole lot less anger and animosity.