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Be sure you know what you're getting into with a noncompete agreement.
Kate O'Sullivan, CFO Magazine
November 1, 2005
Last September, Kai-Fu Lee finally went to work, two months after Google hired him to set up a research-and-development office in China. The holdup? Lee had signed a noncompete agreement with Microsoft, his previous employer, and Microsoft had sued Google to restrain his employment. A Washington State judge subsequently ruled that Lee could start working at Google, as long as he didn't get involved with products or services that he focused on at Microsoft — including search technology — or perform certain tasks associated with Google's China operations.
Like Microsoft, many employers use noncompete agreements to prevent their researchers and top salespeople from working for competitors for a period, typically no longer than two years, after leaving the company. Increasingly, noncompetes are popping up in finance executives' employment contracts as well. "I think they are becoming more and more common," says David Tehle, CFO of Dollar General Corp., a discount retailer based in Goodlettsville, Tennessee, with $7.7 billion in sales. Tehle signed a noncompete upon joining Dollar General last year and had a similar agreement with his previous employer. All of the top officers at Dollar General, including the controller, have noncompete contracts.
"I see noncompetes fairly often among CFOs," says Mark D. Pomfret, a partner at Kirkpatrick & Lockhart Nicholson Graham LLP in Boston. "CFOs have knowledge of very important company interests, such as confidential financial and personnel information, and noncompetes are one of the most important tools that an employer can use to protect those interests."
Says Kim Drapkin, CFO at drug developer Predix Pharmaceuticals, an early-stage company in Lexington, Massachusetts: "I'd be hard-pressed to believe that in our industry, a CFO would be offered a job without being asked to sign a noncompete."
Employment experts advise CFOs not to treat such provisions lightly. Linda M. Doyle, a partner with law firm McDermott, Will & Emery in Chicago, says executives frequently spend more time thinking about other parts of their employment contracts (such as compensation provisions) than about the noncompete clauses. "All too often they don't appreciate the [noncompete] in terms of its enforceability," she says.
Pomfret says he has seen an increase in the number of companies trying to enforce noncompetes. "While only a small percentage [of noncompete cases] may go to outright litigation, they can be very expensive and time-consuming actions when they do," he says.
The best time to challenge a noncompete provision is before accepting the job. "If there's a condition that seems overly restrictive, you want to negotiate that up front and clarify any vague or broad terms so that you know what you're getting yourself into," says Pomfret. Doyle says she has seen executives walk away from job offers because they've rejected the terms of a noncompete.
Tehle, for one, didn't hesitate to sign his agreement upon joining Dollar General. "At the CFO level, I think having a noncompete is a recognition of the importance of the job and an acknowledgment that you really are a strategic business partner within the company," he says.
CFOs who oversee the HR function have to consider noncompete agreements from the employer perspective as well, since they are involved in applying them and deciding whether to take legal action against employees who violate them.
Drapkin says she fields more questions from job candidates about Predix's noncompete provision than any other issue. "Candidates ask, 'Can I change the noncompete clause?' and 'Will you hold me to it?'" she says. "But we're an intellectual-property-driven company. It's something we don't budge on." Predix bans employees from working with direct competitors for two years. "I try to assure people that we will be reasonable when the time comes for them to go to another company."
Such "reasonableness" and specificity are the keys to a well-drafted noncompete. The more broadly an agreement defines the forbidden competitive activity, or the wider the geographic scope, or the longer the agreement remains in force, the less likely a court is to uphold it. "A good rule of thumb is to make [noncompetes] as specific as possible," advises Pomfret.
"Companies cannot simply restrict competition, they can only protect legitimate business interests such as trade secrets or other confidential information," says Doyle. "Don't ask for the moon." She urges companies to identify their most important competitors and consider naming them in the noncompete. "There would be no reason I couldn't work for Neiman Marcus," says Tehle of Dollar General. "If you said I couldn't work for any other retailer, that might not be fair."
Another consideration in drafting a noncompete is that states vary widely in their treatment of the agreements. While some states uphold or reject noncompetes on an all-or-nothing basis, tossing them if any part of the agreement is too vague, others will enforce some provisions but not others. A third group of states will rewrite overly broad contracts to make them reasonable in the eyes of the court. Still others don't recognize noncompetes at all (see "Across State Lines" at the end of this article).
Companies must demonstrate their commitment to enforcing noncompete agreements and safeguarding their valuable information in other ways. "Even if you have a perfectly crafted noncompete, you could still lose out in court if you don't have other ways of protecting your information," such as locks on file cabinets and restricted access to data rooms, says Pomfret. "The court could rule that you haven't done anything to show you're protecting the information, so there isn't a legitimate protectable interest." Similarly, if a company only selectively enforces noncompete agreements, it could lose credibility with the courts.
As important as it is for companies to take these agreements seriously, noncompetes can be negotiated after the fact. "In the majority of situations, people will come to some sort of an accord on what the prior employer will allow the employee to do," says Pomfret. Still, he warns, "the more senior the person is in the organization, the more likely the company will be rigorous in its enforcement."
Kate O'Sullivan is staff writer at CFO.
|Across State Lines
How different state courts approach noncompete agreements.
|Anti-noncompete states||Prohibit noncompetes except in special circumstances||California, North Dakota|
|All-or-nothing states||Reject agreements if any part is overly broad or vague||Georgia, Virginia|
|Blue-pencil states||Uphold certain provisions and reject those deemed unlawful||Arizona, Connecticut, Pennsylvania|
|Reformation states||Rewrite agreements to meet the court's standards||Massachusetts, New York|
|Source: Mark Pomfret, Kirkpatrick & Lockhart Nicholson Graham LLP|
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