In 2008, China’s Labour Contract Law provided uniform rules regarding non-compete issues after the termination of an employment relationship.  Like many other legal issues in China, however, there is a gap between the general legal principles and the actual practice.  This newsletter provides a brief overview of the legal requirements regarding non-compete agreements in China, as well as some practical issues to take into consideration.

Before 2008, it was uncommon for employers to ask an employee signing an employment contract to also sign a non-compete agreement.  Since then, however, more and more employers are establishing non-compete agreements because the 2008 Labour Contract provided uniform rules regarding a non-compete agreements and, although they may not be the ideal way to protect a company’s confidential information, employers feel it is better to have a non-compete agreement in place than no agreement at all.

General standard legal principles

Before the issuance of the 2008 Labour Contract Law, non-compete related rights and obligations were subject to various local rules.  Different localities in China had different practices.  In 2008, the Labour Contract Law provided uniform rules regarding non-compete issues after the termination of an employment relationship.  In addition to providing a general definition of “non-compete“, these uniform rules stated:

• The employer can only negotiate non-compete agreements with specific persons, i.e., senior management, senior technicians and other personnel with an obligation to maintain confidentiality, after the termination of the employment relationship.
• The employer must provide non-compete compensation to the employee.
• The non-compete period after the termination of the employment relationship shall be no more than two years.
• The employer can stipulate that the employee pay liquidated damage if the employee breaches the non-compete agreement with the employer.

Outstanding issues

Though the 2008 Labour Contract Law provides general guidelines governing non-compete issues between the employer and the employee, in practice there are non-compete issues that need to be further clarified, as different localities still have different practices.  As a result of these discrepancies, the following issues arise in practice.

Is it necessary to include a detailed non-compete payment standard in the non-compete clauses?

The 2008 Labour Contract Law makes it clear that in order to enforce a non-compete agreement after termination of the employment relationship, the employer must make non-compete payment.  However, localities differ on the need to include detailed non-compete payment amounts in the agreement.  Broadly, there are three different practices: (1) if detailed non-compete compensation is not included in the non-compete agreement, the agreement is deemed invalid and cannot be enforced; (2) if detailed non-compete compensation is not included in the non-compete agreement, the non-compete payment clauses are still valid and parties may negotiate non-compete payment details such as payment amounts; (3) if detailed non-compete compensation is not included in the non-compete agreement, the validity of such clauses will be analysed on a case-by-case basis.

What is the minimum non-compete payment amount?

Due to uneven economic development in different places in China, the minimum non-compete payment has been left to local interpretation.  In Beijing, the monthly minimum non-compete payment is 20 per cent to 60 per cent of the employee’s previous monthly salary, according to a meeting summary from the Beijing Supreme Court.  In Shanghai, such payment is from 20 per cent to 50 per cent of the employee’s previous monthly salary, while in Jiangsu province, the minimum non-compete payment should be one-third of the employee’s monthly salary upon termination.  Finally, in some cities in southern China the minimum non-compete payment is 50 per cent of the employee’s monthly salary upon termination.

Different non-compete standards cause uncertainty in designing and enforcing non-compete clauses.  This is especially so for employees who sign their employment contract with a company registered in one city, but who actually work in a different province using a different non-compete standard.  Because both provinces have jurisdiction to hear the labour dispute, it is possible that the same case would yield completely different results in different provinces.

Compounding matters, the Supreme Court of China issued a draft judicial interpretation in the middle of 2012 requiring employers to make non-compete payment in the amount of 100 per cent of the previous monthly salary to employees after the termination of the employment agreement.  This judicial interpretation received much public attention, and if it is issued as an official interpretation, it would be a legal “earthquake” that could fundamentally change current non-compete practices.

Practical pointers

• Sign a confidentiality agreement with employees before concluding a non-compete agreement.  As the 2008 Labour Contract Law does not provide detailed guidance on which employees are “senior management, senior technicians”, it is better to sign a confidentiality agreement with key employees before concluding a non-compete agreement with them. 
• Carefully design non-compete related clauses.  If a company in China has different subsidiaries located in different cities, it is prudent to check local practices regarding issues such as minimum non-compete payments and the legal implications of the absence of a non-compete payment. 
• Timing of the non-compete clauses/agreements.  In practice, it is generally easier to arrange a non-compete agreement with employees prior to or at the beginning of an employment relationship, rather than upon termination.  Though the employer may have a better idea upon termination of how much it would like to pay a specific employee and how long that employee should be paid to ensure confidential information is kept confidential to the best extent possible, employees are normally reluctant to sign a non-compete agreement upon termination, especially if they found a new job. 
• Incorporate procedures that are designed to ensure enforceability.  In addition to non-compete agreements, employers may also consider designing certain employment and termination procedures.  For example, whether the candidate bears certain non-compete obligations  could be one part of the reference check.  In addition, upon the termination of an employment relationship and the employer’s determination it is unnecessary to enforce a non-compete agreement, a release letter should nevertheless signed by employees for releasing them from the non-compete obligation.  Also, the employer may request the departing employee provide their new employer’s information so as to better assess whether or when to releases the employee from non-compete obligations.

Like many other legal issues in China, there is a gap between the general legal principles and actual legal practice of non-compete agreements.  As a consequence, employers would do well to verify employment practices in different localities so as to ensure the enforceability of their non-compete clauses and agreements in China.