Monday, August 27, 2012

Employers Can Prevent Doomsday Scenario with Restrictive Covenants

Q:       How can I prevent my employees from leaving and starting a competing business with my clients?
A:        The best way a business can protect itself from this scenario is through the use of employee non-competition, non-solicitation and non-disclosure agreements (often referred to collectively as “restrictive covenants”).
When used together, restrictive covenants can effectively prevent a doomsday-type scenario where a key employee abruptly leaves a company and begins doing business with the former company’s clients.

Q:       What are the different types of restrictive covenants?
A:        (1) A non-competition agreement is a contract that prohibits an ex-employee from competing against a former employer for a specific period of time and within a specific geographic territory. 
(2) A non-solicitation agreement prohibits an ex-employee from soliciting business from, or doing business with, a former employer’s customers and vendors. 
(3) A non-disclosure agreement prohibits an ex-employee from disclosing any of a former employer’s intellectual property or other confidential information—such as customer lists and pricing information—to any third party. 

Q:       When are restrictive covenants most crucial?
A:        Sales is a field that is particularly vulnerable to an ex-employee leaving and taking a former employer’s clients. A salesperson who knows the former company’s pricing information and who has established relationships with the company’s best customers could lure away those customers with promises of lower prices. Restrictive covenants can help prevent this scenario.
Purchasing a business is another situation in which restrictive covenants are worth their weight in gold. The purchaser of a business certainly does not expect to compete with the seller of the business once the sale is finalized, but without the inclusion of restrictive covenants in the purchase agreement, that is exactly what may happen. In this context, restrictive covenants operate to prevent the seller from remaining in the same business or doing business with its old customers once the sale is final.

Q:       Are there any limitations on restrictive covenants?
A:        Yes. To be enforceable, restrictive covenants must comply with very specific legal requirements. Courts carefully scrutinize the contents of the written contract to ensure that the terms of the restrictive covenants are reasonable and that all requirements for a valid contract have been met. Proper drafting, therefore, is critical.

Q:       Where can restrictive covenants be enforced?
A:        In virtually every state, courts require restrictive covenants to be reasonable with respect to both time and geography. This means that they can remain in effect for only a limited period of time and within a limited geographical area. What is “reasonable” varies greatly from case to case and is an extremely fact-sensitive question. Generally speaking, restrictive covenants are reasonable only to the extent that they are necessary to protect the employer’s legitimate business interest.
Using the sales example from above, if a company sells products throughout the entire state of Ohio, then a court would likely hold that it is reasonable to restrict an employee from competing within the state. By contrast, if the company’s sales area includes only the Greater Cincinnati region, then that would be the maximum permissible geographic scope of the restrictive covenants.

Q:       For how long can restrictive covenants be enforced?
A:        Restrictive covenants generally apply for the duration of employment and then for a specific number of years following separation of employment. The time covered must be reasonable. Depending on the circumstances, a period of one, three or five years following separation of employment may be appropriate.

This “Law You Can Use” column was provided by the Ohio State Bar Association (OSBA). It was prepared by attorney Nicholas C. Birkenhauer of Dressman Benzinger LaVelle psc. Andrew J. Kaminski, J.D. candidate, contributed to this article. Articles appearing in this column are intended to provide broad, general information about the law. Before applying this information to a specific legal problem, readers are urged to seek advice from an attorney. 



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