Business owners who draft and utilize non-compete and non-solicitation agreements without the advice of an attorney could pay a steep price: the business might not wind up with any enforceable competition restrictions. Overly broad non-compete and non-solicitation agreements have a potential fate of being deemed unenforceable in their entirety, as shown by a recent Indiana Court of Appeals’ opinion rendering one business owner’s non-compete agreement completely unenforceable. See Clark’s Sales and Service, Inc. v. Smith, 4 N.E.3d 772 (Ind. Ct. App. 2014).
As we have previously written about here, non-compete and non-solicitation agreements can restrict a former employee’s ability to use the training, confidential information, and customer relationships obtained during the employee’s prior job against his or her former employer. These agreements serve as useful tools for business owners to protect their investments in employees even though they have long been regarded by courts to be disfavored in the law. The enforceability of non-compete and non-solicitation agreements hinges on their reasonableness – they must protect a legitimate interest and be reasonable in scope as to time, activities, and geographic area restricted. For example, restraining a former employee from opening a competing business in California would not be reasonable if the former employer only operates its business and has clientele in Indiana.
Historically, courts have applied the “blue pencil doctrine” to strike unreasonable restrictions in these agreements, while continuing to enforce reasonable restrictions. The Court’s ability to utilize the doctrine is premised on the divisibility of the unreasonable restrictions from the reasonable restrictions without changing the terms of the original agreement. In other words, businesses cannot just draft and implement broad restrictive covenants under the assumption that a court would strike or remove any particular restriction to make the covenant reasonable and enforceable. Instead, the covenants should be drafted with the purpose of creating reasonable and divisible restrictions from the outset.
Earlier this year, the Indiana Court of Appeals reiterated that overly broad restrictive covenants are not tolerated and clarified what must be done to draft covenants that are divisible so the blue pencil doctrine can be applied. In Clark’s Sales and Service, Inc. v. Smith, the Court of Appeals decided that it could not apply the blue pencil doctrine without changing the original terms contemplated by the parties, deemed the entire covenant not to compete unenforceable and warned that the consequence for drafting such overreaching agreements is that the agreement cannot be enforced at all. Specifically, the Court refused to redact sentence fragments citing that it would have resulted in a change to the meaning and import of the original covenant.
This ruling is a chilling reminder to businesses that non-compete or non-solicitation agreements must be reasonably written in the first place and should be reviewed or drafted by an attorney with experience in that area of law. Otherwise, the entire purpose of the agreement – to protect a business owner’s interests, confidential information, customer relationships, and investment in employees – could be lost.
by: Mike McBride, Attorney