Your startup is really starting to take off. Your product is selling well, you’re developing great relationships with suppliers, and your clients have never been happier. All of a sudden, one of your key employees leaves and starts a near-identical company to yours. He uses what he knows about your company to convince your clients to work with him instead. How can you prevent this from happening?

Or, you are that employee and you want to leave because you’ve identified something you can do better than your current employer. You want to start your own business and you want to take the clients with whom you’ve worked so hard to develop relationships. A couple months into your new venture, you receive a threatening letter from your former employer. Can they prevent you from running your new company and capitalizing on your success?

Noncompetes, also known as restrictive covenants or covenants not to compete, come into play in two major ways for startups and founders. First, a potential founder looking to start his or her own company may have signed a noncompete with his or her previous company.  Second, startups may want current or potential founders or employees to sign noncompetes.

Noncompetes can be signed at the beginning of employment or during the term of employment.  If the noncompete is signed during the term of employment, the employer must offer some form of consideration to the employee. If the noncompete is signed at the beginning of employment, the employee may attempt to negotiate concessions from the employer in exchange for agreement to the noncompete. 

Noncompetes come in many forms, but there are three major components to the standard agreement: time, geography, and activity restrictions. A time restriction is a provision in a contract that prevents an employee from performing the activity restricted in the noncompete for that length of time. The length of time can be whatever is agreed to between the employer and the employee. However, courts may refuse to uphold time restrictions that are excessive. Every state has different case law determining what precedent is for an excessive time restriction, and it can vary greatly depending on the industry, the seniority of the employee, and the balancing of the time, geography, and activity restrictions.

A geography restriction is a provision in a contract that prevents the employee from performing the restricted activity within a specified area. A geography restriction can take several forms. It can restrict activity to outside a specified radius, or to outside a specified list of locations, or to outside a geographic area. For example, the geography restriction could take the form of “within ten miles of any office location of the employer.” Courts will refuse to uphold geographic restrictions that are excessive, however. Again, the determination of the court will depend on several factors of precedent, such as industry, seniority, and balancing.

The activity restriction can take two primary forms: a covenant not to compete and a covenant not to solicit.  The covenant not to compete is much broader. It prevents the employee from working with any competitor of the company for the restricted amount of time and within the restricted geographical area. The covenant not to solicit can do two things. First, it can prevent the departing employee who starts a new, competing company from trying to hire any of the other employees of the original company. Second, it can prevent the departing employee from trying to acquire the business of any of the employer’s clients. The covenant not to solicit can be tailored to only those employees or clients with whom the departing employee worked. Courts are much more likely to uphold a covenant not to solicit as opposed to a covenant not to compete.

Generally, courts greatly prefer noncompetes to be narrowly tailored, though it depends on the state. California courts, for example, rarely uphold restrictive covenants. Employers who are seeking to have noncompetes implemented or employees who are seeking to breach their noncompete should consult with an attorney familiar with the laws of their respective state.

 Noncompetes, when upheld, can be an effective program designed to protect companies from employees leaving and taking advantage of their institutional knowledge. However, due to courts’ skepticism of noncompetes, employers should also be sure to implement effective trade secrets programs and should consider using non-disclosure agreements to protect themselves.  Employees who are leaving companies should be sure to determine whether they will potentially be in violation of any agreement they signed while working for the company, especially if they will be competing with their former company in the near future.