What Exactly is a Non-Compete Agreement?
Non-compete agreements (also sometimes referred to as non-compete clauses or covenants not to compete) are a type of restrictive covenant, which is a legal term generally referring to a contractual provision that restricts a party’s future actions. Generally speaking, a non-compete clause prevents an employee from working for a competitor of the employer for a certain amount of time after their employment ends.
Non-compete agreements have a long history in the United States, dating back at least to 1892 . Courts have traditionally viewed them as a means for employers to protect their trade secrets and other sensitive business information, since they prevent employees from sharing this information with a competitor after they leave the company. Given the inevitable access that an employee will have to proprietary information about the employer’s products, services and how those products are provided or marketed, many businesses simply want some assurances that their employees will not be using this privileged information to benefit a competitor.
In addition to prohibiting employment with a direct competitor, non-compete agreements often prohibit the solicitation of the company’s current clients or customers, as well as key employees.
The Legal Validity of Non-Compete Agreements in Maryland
In the State of Maryland, the legality of non-compete agreements is governed by both common law and statutory regulations. As it currently stands, there are no Maryland statutes explicitly addressing non-compete agreements. Rather, common law principles control the enforceability of these agreements in Maryland.
Common law generally within the context of employment contracts, such as non-compete agreements, is clearer than in other contexts. In circumstances where the parties to the agreement have more bargaining power, the courts will defer to the parties’ intentions to the extent these can be discerned from the context of the agreement. When parties do not have equal bargaining power, however, as is often the case in the employment context, the courts’ treatment of non-compete agreements (as opposed to other types of employment contracts) comes into play.
In these situations, focusing on the reasonableness of all aspects of the agreement is the focus of the court. The reasonableness of a contract is determined by weighing a number of factors, including the length of time the non-compete agreement is in effect, its geographic scope, and the nature of the business interest sought to be protected by the agreement.
Perhaps the most often utilized approach to assessing reasonableness in a non-compete agreement context involves determining whether the restricted activity sought to be protected by the agreement is broadly tailored to fit the legitimate interests sought to be protected, such that the agreement will not face a challenge on the grounds of being overbroad. The reasonableness standard is also often evaluated by comparing the harm to the employer in the absence of the agreement to the harm caused an employee by the imposition of the restrictions.
In the context of recent years, some common law principles regarding non-compete agreements have been challenged. In particular, the reasonableness of such agreements when there is an imbalance of bargaining power remains a focus of litigation and legal development in Maryland.
When is a Non-Compete Clause Enforceable?
The enforceability of non-compete agreements in Maryland is guided by certain well-established principles that the courts have developed over decades of common law. Broadly speaking, these agreements are enforceable to the extent that they protect a legitimate business interest of the employer and are not more restrictive than necessary to protect that interest.
The first inquiry in every case is whether the restriction is against public policy. For this reason, under Maryland law, covenants not to compete are disfavored. They will be enforced only if the employer demonstrates the necessity for the restriction and the circumstances of the employer’s business clearly demonstrate that it is fair and reasonable. The court will consider the nature of the employment, the character of the trade, and the degree of protection required.
The next key factor is whether the non-compete is for a reasonable duration. Maryland courts have inferred that one year is presumptively reasonable. However, longer durations are sometimes enforceable, particularly where the nature of the work makes it easy for an employee to gain an advantage over the competition.
Perhaps the most important factor is whether there is a geographic limitation as to the scope of the restriction. Such a limitation is essential to enforcement. Indeed, it is established that many employers will not offer employment or make other significant investments in anticipation of gaining benefits when there is no geographic limitation.
Finally, the restraint must be reasonable in terms of its purpose. The absence of a legitimate business interest will doom a restrictive covenant. Such an interest typically includes protecting confidential information or trade secrets.
These factors are not absolute. If a non-compete is not reasonable, it may still be enforceable if it is reformed by the court to reflect a reasonable scope. However, the uncertainty that this engenders suggests that every employer should ensure that the restrictions in its agreement comply with all of the factors.
The Limitations, Exceptions and Pitfalls to a Non-Compete Agreement
Although the enforceability of non-compete agreements is generally determined on a case by case basis, Maryland courts have created some exceptions to the rule of reasonable duration, scope, and hardship. These exceptions and limitations apply to certain professions and to employees with respect to their salary.
First, the Court of Special Appeals has held that attorneys, physicians, and psychologists are exempt from the enforceability requirements of reasonableness of time and geographical scope. (However, most Maryland courts have refused to extend this exception to other professionals.) Therefore, attorneys, physicians, and psychologists may be restrained entirely based on the good faith dealings between these professionals and their respective employers. Even though there are no restrictions on the duration or scope of these agreements, attorneys, physicians, and psychologists are still prohibited from entering into an unreasonable agreement based on hardship. Although courts are not necessarily obligated to impose any sort of restraint on attorneys, physicians, or psychologists, they often do so while simultaneously denouncing the restraint.
Second, employers may not prevent their employees from earning a livelihood after leaving the company. This exception is particularly pertinent to employees with low-level positions or low incomes, as lower wages create a greater hardship for employees who are restricted from working for a competitor. For example, if a company restricts an employee from working in the two miles surrounding the company, and that employee earns only $30,000 a year, the two-mile restriction would be a substantial financial detriment to the employee if as a result the employee was limited to earning $29,000 a year as a result. Therefore, non-compete restrictions have been held to be unenforceable if they hamper or limit low-waged employees from earning a livelihood under certain circumstances.
How to Draft a Compliant Non-Compete Agreement
In drafting a non-compete agreement, there are practical steps that businesses can take to make sure their employee non-compete agreement is compliant with Maryland law. The key to a non-compete agreement is mutual agreement between employer and employee. Both sides have to believe they are getting something out of the deal. An employee will never agree to an onerous non-compete that has no benefit to him or her. All these agreements need to be "a meeting of the minds" whereby both sides agree that each is giving something up in turn for the other to receive something.
There are many practical and legal steps to create a non-compete agreement. We recommend that employers hire attorneys experienced in creating non-compete agreements to ensure compliance with Maryland law and to avoid litigation. While this advice might seem self-serving , the advice is true nonetheless. These disclaimers are there for a reason.
Non-compete agreements are usually drafted in 6 paragraphs. The first establishes the use of the non-compete agreement. The second paragraph identifies what the covenant of the non-compete agreement is. The third paragraph explains the agreed upon consideration for the non-compete agreement. The fourth paragraph explains how the non-compete agreement would be enforced against the employee. The fifth paragraph discusses specific Maryland Code issues for enforcement by the Maryland court. Finally, the sixth paragraph is a miscellaneous paragraph that sets forth the rules that apply to the non-compete agreement.
Contesting a Non-Compete Agreement
An employee or ex-employee can challenge a non-compete agreement in Maryland through a number of avenues. Often, litigation is the most effective way to accomplish this. One example of a lawsuit filed after an employee is terminated and is subject to a non-compete is a complaint for injunctive relief seeking to prevent the employer from enforcing the non-compete. A well-pled complaint for injunctive relief will explain the reasons why the non-compete is invalid, which will be addressed below. Moreover, it may be possible to preserve the time sensitive information that is often the subject of non-competes by seeking a temporary restraining order (TRO) and preliminary injunction early in the case. A TRO is much like a preliminary injunction (injunction pending trial) except that it is obtained ex parte (without the other party having a chance to present its side of the story at the TRO stage). Although obtaining a TRO is often problematic, it can be an effective way to achieve a favorable outcome where time-sensitive information is another way.
Lawsuits are not the only way to reverse or rescind non-compete agreements. Under the Maryland Uniform Dispute Resolution Act, Md. Code Ann., Bus. Reg. § 6-201, employees are able to obtain injunctive and/or declaratory relief through the Maryland Secretary of State. Similarly, actions for declaratory judgment are another form of lawsuit in which an employee will ask another court (other than the Maryland Secretary of State) to declare that the non-compete is either void ab initio, or at least unenforceable since it does not confer the employer sufficient protection under the law.
Additionally, the courts have held that an employer’s act of seeking to enforce a non-compete agreement by for example, firing an employee or sending a cease and desist letter, itself is an injury sufficient to give rise to a lawsuit. See AT&T v. Commc’ns Workers of America, 450 U.S. 682 (1981). In such a case, the employer may have damaged the employees’ reputation, goodwill or business relationships which may be recovered from the employing company. Moreover, pending litigation is an adverse effect to an employee’s career and may create grounds for a claim against the company.
Ultimately, by filing one or more lawsuits, an employee can invalidate the non-compete agreement or make it unenforceable.
Alternatives to a Non-Compete Agreement
In lieu of non-compete agreements, employers implement other legal mechanisms to prevent employees from taking intellectual property, specialized skills or customer contacts with them to their subsequent employment. Among these tools are confidentiality or non-disclosure agreements and non-solicitation agreements.
Confidentiality or non-disclosure agreements are typically used to protect intellectual property. Through these contracts, the employee consciously agrees that certain information is deemed as confidential and not to be shared with others. These agreements are relatively common and widely accepted , however, in order for them to be enforceable, they must be properly drafted, signed, and clearly articulate consequences for violations.
Another alternative to non-compete agreements are non-solicitation agreements. These agreements delineate that, for a period of time, neither the employee nor any third-party agents will solicit customers of the employer and/or potential new hires. Such agreements are difficult to enforce under Maryland law as they are more draconian than non-competes and face a real risk of being stricken down by a judge and/or the Court of Special Appeals if they are too narrow in scope.