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08. Restrictive Covenants

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08. Restrictive Covenants

Definition and Types of Restrictive Covenants

Restrictive covenants are contracts entered into between the employer and employee to protect the employer’s business interests, such as trade secrets and other confidential information, investments in employee training, and customer goodwill.

Types of Restrictive Covenants

  • Non-Compete Clauses Non-compete clauses generally prohibit an employee from working for competitors or otherwise engaging in competitive business activities during the period of and for some set period after employment.
  • Non-solicitation of customers These provisions typically try to protect customer goodwill by preventing employees from attempting to take away the employer’s customers post-employment.
  • Non-solicitation of employees These provisions typically try to protect the employer’s investment in training and development of its workforce by preventing employees from attempting to take away the employer’s employees post-employment.

Enforcement of Restrictive Covenants – Process and Remedies

The enforceability of restrictive covenants in the U.S. is determined by state law, although there are a number of federal initiatives on the horizon that may further curb or altogether ban non-competes nationwide. Generally, courts in states that enforce non-compete agreements hold that a covenant restricting the activities of an employee upon the termination of his or her employment with the employer will be enforced if it protects a legitimate business interest, is reasonably limited in scope, time and place, and is supported by consideration, and is reasonable. In other words, it should afford only a fair protection to the employer’s interest and not be so broad in its operation as to interfere with the interests of the public or prevent an employee from engaging in his or her livelihood.

The reasonableness of a restrictive employment covenant often is considered using the following six factors:

  • Length of time the restriction operates;
  • Geographical area covered;
  • Scope of business covered;
  • Fairness of and business need for the protection accorded to the employer;
  • Extent of the restraint on the employee’s opportunity to pursue his occupation; and
  • Extent of interference with the public’s interests.

Some common provisions included in restrictive covenant agreements are:

  • Tolling provision: duration of non-solicit / non-compete is tolled (extended) during the period of any breach.
  • Provision clarifying that the agreement supplements, rather than replaces statutory and common law obligations (e.g., employee duty of loyalty or applicable trade secret statute).
  • Provision permitting employee and / or employer to show agreement to potential subsequent employers.
  • Provisions allowing the court to “blue pencil” overly broad restrictions and enforce the remainder of the covenant.
  • Irreparable Harm: acknowledgement by the employee that breach will cause and entitle employer to seek and obtain injunctive relief.
  • Attorneys’ Fees: awarding attorneys’ fees to the “prevailing party” in any dispute over the restrictive covenant.
  • Forfeiture: conditioning the receipt of certain benefits / compensation on the promise of non-competition.

Use and Limitations of Garden Leave

Garden leave – a period during which a departing employee is paid his or her salary, but is not permitted to work – is not a typical concept in the U.S., to the surprise of some foreign employers. As the effect of garden leave is not only to prevent the employee from competing with the employer or taking confidential information, but also to carry out work of any kind for any other employer, U.S. courts may question whether there is a valid business interest in such a broad restraint, even if it is fully compensated. As it is not a common arrangement in the U.S., the federal and state laws regarding garden leave are nominal and each situation will be examined independently. Unlike in many countries, however, it should not be assumed that an extended garden leave (beyond a period reasonable for normal transition) would be valid in the U.S. if it does not satisfy restrictive covenant requirements.

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