Restrictive Covenant Agreements: Five Reasons Why Your Non-Compete Agreement May Be Unenforceable
When employers are burned by a former employee who starts a competitive business, solicits key customers, and/or uses confidential information gained from the former employment, they may seek resolve by requiring their employees to sign restrictive covenant agreements (commonly known as “non-compete agreements”). These agreements are often drafted, signed, and then filed away in the employee’s personnel file. When the agreement is needed years later in a post-employment competition situation, the employer seeks our assistance in enforcing these agreements against the restricted employee. However, restrictive covenant agreements must comply with strict legal requirements to be enforceable under Wisconsin law. This blog article discusses five common reasons why the non-compete agreement you put in place to protect you may end up being unenforceable under Wisconsin law.
I. Failing to Include a Reasonable Time and Territorial Limit.
To be enforceable, a restrictive covenant must contain both a time limit and territorial limit that are reasonably necessary to protect the business. Two years is the maximum duration allowed in an employment context under Wisconsin law. Geographic restrictions may vary. However, the fact that a two-year duration or a thirty-mile territorial limit may be found to be permissible in some situations does not mean that it will be found to be reasonable in your particular business situation. You will need to analyze your particular business situation and needs to determine the duration and territorial scope that is reasonably necessary to protect your business interests. For example, if all of your customers tend to come from a ten-mile radius of your business, a thirty-mile restriction would not be reasonably necessary. Likewise, if the employee has only worked at your business for a month, a two-year time restriction may also not be reasonable. The employer has the burden of proving the reasonableness of the restrictions in enforcement litigation, so performing this analysis up-front at the time of drafting, and at any time the agreement is updated, is essential for ultimate enforceability of these agreements.
II. Not Tying Restrictions to the Employee’s Activities.
To be enforceable, all restrictions should be tied to the activities of the employee and the competitive risk he or she poses to your business. Services restricted in the new employment should be services of the same type or nature as the services the employee provided within the last year or so of his/her employment with your company. Restricted customers should be limited to those customers with whom the employee had recent contact or dealings, about whom the employee learned confidential information, or with whom the employee developed a business relationship during employment with your company. And the territorial reach of the restrictions should reflect the territory or customers serviced by the employee prior to his/her separation. Restrictions that go beyond the services, customers or territory serviced by the employee will likely be determined to go beyond what is reasonably necessary to protect your company’s interests.
III. Co-mingling Restrictions.
The typical non-compete agreement contains several different restrictions aimed at separate protectable interests of the employer. For example, the typical agreement contains: (1) a provision restricting competition by the employee within a defined geographic area or as to specified customers; (2) a provision restricting the employee from soliciting restricted customers for competitive purposes; and (3) a restriction protecting the employer’s confidential information from competitive use or disclosure by the employee. There are still agreements being used today that throw all of these restrictions into a single paragraph of the agreement. Drafting the agreement this way may save on paper, but it also significantly increases the risk that some part of the restriction will be found to be overbroad in some respect, resulting in the invalidity of the whole mix, and leaving you with no protection whatsoever. For this reason, each restriction should be drafted as an independent stand-alone provision set forth in a separate paragraph that is divisible from the others. There should be no overlap or comingling between the restrictive paragraphs. If drafted this way, the court will review each restriction separately and can enforce the restrictions determined to be reasonable, even if another independent restriction is determined to be overbroad and invalid.
IV. Failing to Regularly Review and Timely Update.
Businesses change, positions change, territories change, and the law changes. An agreement drafted several years ago may no longer reflect the current nature of your business or your employee’s current position or assigned territory. Moreover, your agreement may not be drafted to incorporate the recent legal developments in this area of the law, including many developments favorable to the employer. It is important that you regularly review your existing agreements with legal counsel to ensure that the agreement continues to reflect the employee’s activities, your business interests, and current law. (If amending a non-compete agreement, however, be careful to give something to the employee in exchange for signing it, or the new agreement may not be enforceable. Courts have determined that continued employment can be considered enough to give the employee in exchange for signing a non-compete, but, in that case, you’ll need to show that the employee would not have kept their job if they hadn’t signed the agreement. If continued employment is all you’re offering, allowing some employees to refuse to sign will likely undermine your argument on this point. Given that, sometimes a small bonus is the safest way to go.)
V. Using an Agreement Drafted to Comply with Another State’s Law or Drafted for Another Employer’s Business.
The legality of restrictive covenants is a matter that is governed by state law. Wisconsin cases indicate a strong public policy favoring application of Wisconsin law to agreements between employers and employees working in this state. Wisconsin restrictive covenant law is very different from (and in many respects more restrictive than) the law of other states. Moreover, each restriction needs to be tied to the employer’s particular business needs and interests to be enforceable. Thus, borrowing an agreement that was drafted to comply with another state’s law and/or to protect a different employer’s business needs and interests will likely result in an invalid and unenforceable agreement as applied to your business under Wisconsin law.
If you have been considering putting a non-compete agreement in place for your business, or you have an existing agreement that has not been reviewed in some time, the attorneys at McCarty Law are experienced in this area of law and can assist you.
Rebecca L. Kent
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