Non-compete Clauses: What startup Founders Should Know

Non-compete clauses can be very useful for startups, but they are not straightforward.

A non-compete clause is a legal agreement between an employer and an employee that restricts the employee’s ability to work for a competitor or start a competing business for a certain period of time after leaving the company. The goal of these clauses is to prevent former employees from using their knowledge and expertise to benefit rival companies. Conversely, non-compete clauses can have significant downsides for employees, including limiting their career growth and job opportunities. However, the use of non-compete clauses is subject to legal regulations that can vary significantly from state to state and country to country.

This article will help you consider these factors before implementing non-compete clauses in your startup. However, this article will only give you the basic principles of non-compete clauses since each situation requires its own analysis. Work with legal counsel to verify what type of non-compete clause would work best for your startup. If you’re looking for legal counsel, feel free to reach out to us here.

Enforceability of Non-Compete Clauses in Certain States

In the U.S., employment law is based on the state where the employee is based. State laws vary widely in their approach to non-competes. The following states have either limited or banned the use of non-compete clauses in employment agreements to some extent:

1. California: Prohibits non-compete clauses entirely, with very limited exceptions for specific industries.
2. Colorado: Bans non-compete clauses for employees who earn less than $112,500 per year.
3. Illinois: Bans non-compete clauses for employees who earn less than a certain threshold, which is currently $75,000 per year. Limits the use of non-compete clauses to only certain types of employees, such as executives and salespeople.
4. Maine: Bans non-compete clauses for employees who earn less than 400% of the federal poverty level per year.
5. Maryland: Prohibits non-compete clauses for employees who earn less than a certain threshold, which is currently $15 per hour or $31,200 per year.
6. Massachusetts: Limits non-compete clauses to certain industries and may require garden leave in some cases.
7. Nevada: Bans non-compete clauses for employees who are not in key positions or have access to trade secrets.
8. New Hampshire: Bans non-compete clauses for employees who work in certain industries, such as broadcasting, and limits their use for other employees.
9. Oregon: Bans non-compete clauses for employees who earn less than $108,576 per year. Limits the use of non-compete clauses to only certain types of employees.
10. Rhode Island: Bans non-compete clauses for employees who earn less than 2.5 times the federal poverty line. Limits the use of non-compete clauses to only certain types of employees, such as executives and salespeople.
11. Texas: Bans non-compete clauses for certain health care professionals.
12. Utah: Limits the use of non-compete clauses to only certain types of employees.
13. Washington: Bans non-compete clauses for employees who earn less than $116,593 per year, as well as banning the use of non-competes for most contractors.

This is not a comprehensive list. These thresholds are based on the 2023 calendar year and will likely rise over time. It’s always best to consult with legal counsel to understand the current legal landscape in your state. If you’re looking for counsel, feel free to reach out to us here.

Enforceability Based on Scope and Duration

In addition to state laws, another factor that impacts enforceability is the scope and duration of the restriction. Scope refers to the type of work that is prohibited, and duration refers to the length of the limitation. Courts will often examine the reasonableness of these factors when determining whether a non-compete agreement is valid or not. In general, when the scope is more narrow and the duration is shorter, the non-compete is more likely to be enforceable.

For example, if a non-compete clause restricts an employee from working in any industry for a period of 10 years, it is likely to be considered overly restrictive and unenforceable. Conversely, if a non-compete clause only restricts an employee from working for a direct competitor in a specific geographic area for a period of one year, it may be considered reasonable and enforceable.

The reasonableness of the scope and duration of a non-compete clause will depend on a variety of factors, including the industry, the employee’s role within the company and the geographic location. Startups should consult with legal counsel to ensure that their non-compete clauses are reasonable and compliant with local laws and regulations. If you’re looking for counsel, feel free to reach out to us here.

Potential Disadvantages of Non-Compete Clauses for Employees

Non-compete clauses can benefit startups in various ways, but they can also have significant downsides for employees. These clauses restrict an employee’s career growth and job opportunities by preventing them from working for competitors or starting their own businesses in the same industry. Non-compete clauses can create a power imbalance between employers and employees, as employers have the ability to restrict their former employees’ future job prospects. This can result in lower salaries and fewer benefits for employees since they may not have much bargaining power when negotiating with their current employer.

Non-compete clauses can also discourage innovation and entrepreneurship within the industry by limiting the potential growth and development of the industry as a whole. When highly skilled workers are restricted from using their knowledge and expertise to start new companies or work for competitors, it can stifle competition and hinder progress.

By being mindful of these concerns and offering reasonable terms to their employees, startups can strike a balance between protecting their intellectual property and promoting career growth within the industry.

How Non-Compete Clauses Affect the Talent Acquisition Process

Non-compete clauses can impact the hiring process in a startup. For example, if a startup requires all employees to sign non-compete agreements, it may make it more difficult to attract top talent. Highly skilled workers may be hesitant to join a company that restricts their future job prospects. On the other hand, startups that do not require non-compete agreements may be seen as less attractive to investors and potential partners who are looking for assurances that their intellectual property will be protected. This can put startups in a difficult position of balancing the need for talented employees with the need for legal protection.

Another consideration is the timing of when non-compete agreements are presented to employees. If these agreements are presented after employees have already accepted a job offer, they may feel pressured to sign, even if they have concerns about the restrictions placed upon them. This can lead to resentment and low morale among employees. To navigate these challenges, startups should carefully consider their approach to non-compete clauses and how they communicate these policies with potential hires.

Startups must comply with local laws and regulations and offer reasonable terms that do not overly restrict their employees’ future job opportunities. By being transparent about their expectations and communicating these policies clearly with potential hires, startups can attract top talent while still protecting their valuable intellectual property.

Conclusion

In conclusion, non-compete clauses can be a valuable tool for startups to protect their intellectual property and prevent employees from using their knowledge and expertise to benefit competitors. However, these clauses can also have significant downsides for employees, limiting their career growth and job opportunities. Startups must comply with local laws and regulations and offer reasonable terms that do not overly restrict their employees’ future job opportunities. By being transparent about their expectations and communicating these policies clearly with potential hires, startups can attract top talent while still protecting their valuable intellectual property.