Often when I speak with a business owner about their business, their co-founders or their workforce, the topic of whether or not anyone has signed a restrictive covenant comes up. Surprisingly, many businesses don’t have these agreements in place when they should, and trouble results.
Everything described in this post depends on the individual facts and circumstances of the matter – specifically the exact language of the document. This is for general background knowledge only and if you have any questions regarding restrictive covenants in your specific situation, please email me or call me at (610) 393-6763.
What’s a restrictive covenant? Good question. A restrictive covenant is an agreement between the company and an individual employee that prevents the company from the individual from taking action that may injure the company when the individual’s employment is over. Of these covenants can occur either in stand-alone document or as provisions in an employment contract.
Restrictive covenants are appropriate for companies in any industry that have sales people, key employees, co-founders, or anyone who has an intimate knowledge of the business (such as the ingredients in the “secret sauce”). If it’s a restaurant, it could be key recipes. For sales or service oriented companies, protectable information could be customer lists and contact information. For tech companies, there could be software code that needs to be protected. Restrictive covenants are also extremely important for professional services businesses such as medical practices and engineering firms.
There is also a statute in Pennsylvania that protects certain trade secrets that has some degree of overlap, but we’ll cover that in a separate post.
Generally, the term “restrictive covenant” encompasses three separate types of restrictions.
The first type of restriction is certainly the most widely known: the non-competition agreement. In the non-competition covenant– commonly known as a “noncompete agreement” – the parties agree that the employee following the end his or her employment with a company will not take any action to compete with the company within the relevant market. The actual geographic or market restrictions have to be specifically described in the contract itself. The language used in the noncompetition covenant must be precise. This is generally not a task that I advise my clients to do by themselves without counsel.
If the language contained in the noncompetition covenant is unclear, and the noncompetition covenant has to be enforced in court, know that trial court judges in Pennsylvania have tremendous discretion to modify the terms of the agreement according to the judges on equitable principles. In other words, if you were involved in a dispute over a vaguely worded noncompetition agreement, ultimately the trial court judge can essentially rewrite the terms of the noncompetition covenant according to that judge’s sense of fairness, and perhaps not the same thing that the company intended.
The second type of restrictive covenant is usually a nonsolicitation covenant relating to the company’s customers or prospects. What this provision in the contract does is prevents the departing employee from contacting we’re soliciting any of the companies customer base. In some cases, the covenant also can protect the company’s prospects that have been contacted by the employee in the recent past. It should be noted that courts in Pennsylvania often interpret this as a one-way restriction: the former employee may not contact customers or prospects in violation of the agreement. However, if those customers or prospects initiate the contact with the employee, then that often is not seen as a violation of the agreement.
The third and final type of restrictive covenant commonly used is a nonsolicitation covenant relating to the company’s employees. This provision is designed to prevent a single departing employee from recruiting other company employees to also leave the company. This is designed to prevent the nightmare scenario where all of the company’s top sales people leave at the same time, potentially crippling the business.
In a future post, more detail to come on the enforceability of these agreements. Stay tuned…