The pros and cons of a non-compete agreement

Businesses often use non-compete agreements to safeguard trade secrets and confidential information. While they can be a valuable tool, non-competes aren’t straightforward. 

Complex legal issues make it challenging to draft enforceable non-compete agreements. Plus, overly restrictive agreements can discourage potential hires, delaying the hiring process or even deterring top applicants from accepting positions. 

This article looks at the pros and cons of non-compete agreements to help you consider whether they’re suitable for your business and employment contracts.

What are non-compete agreements?

Non-compete agreements (also called NCAs or simply “non-competes”) prevent former employees from working for competitors or starting competing businesses. 

Some employers add non-compete clauses to employment contracts, while others prefer to create stand-alone non-compete agreements. Businesses that use non-competes typically ask new hires to sign them during onboarding. However, you can also ask existing employees to sign them – either by creating a stand-alone contract or by amending their employment contract.

In the US, your non-compete agreement must comply with the relevant laws in the state where your business is located to be enforceable. Some states – like California – ban the use of them entirely, while other states restrict when and how you can use them. For example, in Utah, non-competes can’t apply for longer than a year. 

Laws around non-compete agreements

State laws specify the criteria for enforceable non-compete agreements. Generally speaking, non-competes must be fair to employees. Their duration and geographic scope must be reasonable. In addition, they usually must serve a legitimate business interest – for example, protecting highly confidential information or intellectual property. 

When preparing an employment contract with a non-compete clause or a stand-alone non-compete agreement, it’s essential to get legal advice based on your business’s location. An employee with the necessary employment law knowledge can give you advice before you use non-competes. You can also speak to an experienced employment law attorney if you don’t have employees with the necessary experience. 

The US Federal Trade Commission is set to vote in April 2024 on a proposed rule to ban the use of non-competes, so watch for updates. In the meantime, let’s look at the pros and cons of non-compete agreements. 

Pros of a non-compete agreement for businesses

There are several reasons why businesses ask employees to sign non-compete agreements. 

1. Protects sensitive business information

The main purpose of non-competes is to prevent recently terminated employees from using sensitive business information to gain a competitive advantage over their former employer. 

Non-compete clauses put some distance between an employee’s time at your organization and their new role, reducing the risk of the employee using the information they learned while working for you. This approach helps safeguard your business’s sensitive information and intellectual property – like client lists, business procedures, and product details. 

2. May increase employee retention

Non-compete clauses discourage employees from leaving your organization. By encouraging them to stay long-term, you help reduce employee turnover. In turn, you protect your investment in employee onboarding, training, and other professional development and ensure a competitor doesn’t benefit from it. 

3. Helps maintain your competitive advantage

Using non-competes to protect your business information, your investment in employees, and valuable client relationships can also help you retain your competitive advantage. By doing so, you can safeguard the unique aspects of your business that set it apart from others, preserving your market share and ensuring the sustainability of your business. 

Cons of a non-compete agreement for businesses

While non-competes may help protect your business and reduce turnover, there are also potential disadvantages to consider. 

1. Non-competes may put off potential hires

These agreements may deter some job candidates, especially if they’re not the industry norm. For example, non-competes are common in the technology industry because businesses can experience significant losses if an employee takes their sensitive information to a competitor. However, they're uncommon in the education industry because competition among educators is beneficial to advancing knowledge. 

Candidates may have concerns about the necessity of these clauses and how they impact their career flexibility. Negotiations can result in delays in the hiring process or may even result in top candidates rejecting your offer. For this reason, you should consider using non-competes only where necessary or where it’s a common practice in your industry. 

The law may also require you to compensate employees for a non-compete agreement – for example, with continued pay during the non-compete period. 

2. Increased legal liability

Non-compete agreements involve complex legal rules. Failing to create a legally compliant agreement or clause – for example, by imposing unfair restrictions on an employee – may cause you to face both civil penalties and lawsuits from employees. These can involve significant time and money and damage your business’s reputation. 

3. Potentially expensive 

It can be expensive to enforce non-compete agreements. Suing an employee who breaches a non-compete is costly, and litigation can take a long time. Even if the court decides in your favor, you may not be able to recover costs from the employee if they don’t have the available funds. 

Using non-competes and pre-employment testing for effective hiring

There are many pros and cons of non-compete agreements, so carefully consider whether your business should use them. While they can be useful tools for protecting your business’s sensitive information and attracting long-term employees, they can also increase your legal liability, be costly to enforce, and deter top candidates. 

Crafting effective non-competes is just one aspect of effective hiring and talent management. Another is pre-employment testing. TestGorilla’s skills-based testing platform provides unbiased insights into candidates' cognitive abilities, personalities, situational judgment, and job-specific skills using customizable online assessments. 

Our assessments enable you to pick the best candidates so you can feel confident about your new hires – whether you use non-competes or not. Learn more about how TestGorilla can turbocharge your hiring by signing up for a free demo or trying out our free plan today!

Disclaimer

The information in this article is a general summary for informational purposes and is not intended to be legal advice. Laws are subject to constant change, and their applications vary based on your individual circumstances. You should always seek legal advice from a qualified attorney about your legal obligations as an employer. While this summary is intended to be informative, we cannot guarantee its accuracy or applicability to your situation.