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Non-Competition Agreements: Despite the Myths, Often a Powerful Method of Protecting Your Business
Sunday, November 22, 2009

Every business knows about non-compete and non-solicitation agreements. Many companies have them. Recently, they have even made the news. Perhaps you've seen the media coverage of Citadel's lawsuit against certain former executives and their new high-frequency trading company, Teza Technologies. In that case, Citadel accused its former executives of stealing trade secrets and violating non-compete agreements. At issue, among other things, is whether the non-compete agreements have validity in that industry. (Round one, by the way, has gone to Citadel. On October 16, 2009, the Circuit Court of Cook County entered a preliminary injunction enforcing, in part, the non-compete agreements.)

That same question can be asked in many other industries. When do non-competes have validity? To some extent, the answer varies from state to state. In Illinois, for example, many businesses believe that non-competes are not worth the paper they are written on. Others are convinced they are enforceable as a matter of course. Both views are incorrect and represent just one of the many myths surrounding these kinds of agreements. Perhaps because of these misconceptions, non-compete and non-solicitation agreements have been either underutilized or used ineffectively, which in turn has led to unnecessary and costly litigation. That is unfortunate because when properly prepared and implemented, these types of agreements can effectively protect a business, especially its intellectual property and customer base.

Myth No. 1: Non-Compete and Non-Solicitation Agreements Are
Never (or Always) Enforceable

These views are really the opposite sides of the same coin, and both are incorrect. In Illinois, for example, the reality is that a non-compete or non-solicitation agreement will be enforced provided it is (1) supported by consideration and (2) reasonably limited in scope in order to protect a legitimate interest of the employer. The second point is key. In the employment context, for instance, Illinois will only protect two types of interests: (1) the threatened use of trade secrets or other confidential information and (2) a "near permanent customer relationship."

Myth No. 2: All Non-Competes Are Created Equal

Agreements that restrict competition come in many flavors and are used in varying contexts. The two most common situations are those ancillary to an employment relationship and those in connection with the sale of a business. Generally speaking, courts are more likely to uphold an agreement that restricts competition when it is connected to the sale of a business. In that context, the protectable interest is the goodwill of the business. When a buyer purchases a business together with its goodwill, a court will generally enforce ancillary non-competes for a longer period of time (commonly five years) than in the employment context, and the geographical scope of those non-competes can encompass any area in which the company does business.

Courts also often treat agreements that prevent a person from working for any business that competes against the former employer or business (i.e., general non-competes) differently from those that merely prevent the person from soliciting former clients or customers. General non-competes are more difficult to enforce because the restriction on the former employee or business owner (and thus on competition) is much broader.

Myth No. 3: My Information is Protectable

Most companies believe their information is proprietary. Unfortunately, however, many are wrong. Even companies that are right often lose the protection that the law gives them by failing to take the necessary internal steps to maintain the confidentiality of their proprietary information.

Illinois, like most other states, only protects information that is not generally known in the industry. For example, under the Illinois Trade Secrets Act, any information of any type can be protected if a competitor, by having knowledge of that information, would gain some economic advantage. To maintain the protection afforded by the law, a company must take reasonable steps to guard the confidentiality of its trade secrets/confidential information. Such steps might include limiting access only to those who need to know the information, marking documents with a "confidential" stamp, having employees sign confidentiality agreements, and establishing a trade secret policy.

Myth No. 4: My Customer Belongs to Me

In Illinois, a company does not "own" its customers. Thus, it does not have an unfettered right to do business with those customers or to prevent, even by contract, any other entity from competing for their business. Thus, a non-compete or non-solicitation agreement will not be enforced if its purpose is to prevent competition per se. That is why the courts in Illinois only will enforce agreements calculated to protect some other interest, such as confidential information or goodwill (with respect to the sale of business) or a "near permanent customer relationship" (with respect to employees).

The latter is a legally defined relationship that usually involves professionals or someone who is selling a unique product. Furthermore, it is a relationship that is less likely to be established in an ordinary sales situation, especially with regards to a commodity product or service. In determining whether a "near permanent customer relationship" exists, Illinois law considers a number of factors, such as the length of the relationship, whether it was continuous, how long it took to develop, the amount of money and time invested, how difficult it was to develop, how much contact the employee had with the customer and how much knowledge the employer has of the customer. Exclusivity is not required, nor does there have to be an extreme length of time for the relationship to be considered "near permanent."

Myth No. 5: An Employer Should Always Try to Make the Restriction as Broad as Possible

Companies often ask, why not make the restriction as broad as possible? Won't a court just modify the scope if it is too restrictive? Well, maybe. Although it is true that Illinois courts have the power to modify an overly broad restriction, that does not mean they will. Instead, the court might find that the employer was overreaching, refuse to modify the restriction, and simply declare it unenforceable as a whole.

Therefore, it is better to draft a restriction that is reasonably moderate in scope than to take a chance with the courts. With a more moderate provision, even if the courts were to find that the restriction was overly broad, they would be more likely to modify the clause than throw it out altogether. The general rule of thumb is that, provided there is a legitimate interest to be protected, the more limited the scope, the more likely a non-compete/non-solicitation agreement will be enforced.

Within that context, the courts look to see if the scope of the clause is limited in order to reasonably protect the interest at issue. For example, if a "near permanent customer relationship" is at issue, a non-solicitation clause is more likely to be enforced than a general restriction against competition. Thus, in the employment context, a clause that goes beyond two (or at the most three) years is not likely to be enforced because that is generally how long it takes to develop such a relationship.

Myth No. 6: It Doesn't Matter Whether the Employee Quits or Is Fired

Although Illinois law is not totally clear on this point, an employer may be precluded from enforcing a non-solicitation or non-compete agreement if the employee is fired without cause.

Myth No. 7: Non-Competes Only Work for New Employees

Continued employment is sufficient consideration to support a non-compete or non-solicitation agreement signed by a current employee. If an employee is already subject to an employment agreement that does not allow him or her to be terminated without cause, however, then that employee would need some additional consideration in order to be subject to a valid non-compete or non-solicitation agreement. But for those at-will employees who can be fired at any time for any reason, a company has every right to require them to sign a non-compete or non-solicitation agreement in order to remain employed.

Of course, if a current employee is required to sign one of these agreements and then leaves or is fired after only a few months of continued employment, it is unlikely that the agreement would be enforceable. Although Illinois law is not exactly clear regarding how much "continued employment" is necessary, a number of months and perhaps as much as one full year might be required.

Myth No. 8: My Company Does Not Need to Worry about These Issues

This is perhaps the greatest myth of all. Non-compete/non-solicitation agreements do work, but not in all cases and not for all businesses. One thing is certain: They need to be drafted with care, and when trade secrets/confidential information is the protectable interest, companies need to make sure they are taking the necessary internal steps to maintain the confidentiality of their information.

If you currently are not using non-competes or non-solicitation agreements, now may be a good time to consider changing your strategy. If you are already using them, it is important to review those documents to make sure that they will, in fact, perform the way you want them to.

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