When less is more: enforcing non-compete agreements
In May, the New Hampshire Supreme Court issued a decision in Merrimack Valley Wood Products Inc. v. Near, a case that served to further define when non-competition agreements are enforceable under New Hampshire law.
Past court decisions have established under New Hampshire law that a non-competition agreement must pass a three-pronged test to be enforceable. If the agreement fails any of the prongs of the test, then it will be unenforceable. The non-competition restrictions must not: (1) be greater than is necessary to protect the legitimate interests of the employer; (2) impose an undue hardship upon the employee; or (3) be injurious to the public interest.
The first prong of the test to determine the enforceability of a non-competition agreement is to identify the legitimate interests of the employer and to determine whether the restraint is narrowly tailored to protect those interests. The New Hampshire Supreme Court has said that goodwill created by an employee providing services on behalf of the employer is an asset that belongs to the employer. The employer will be able to prevent a former employee from using that goodwill on behalf of a competitor. However, if the restriction exceeds the minimum necessary to protect the employer, the restriction against the competition fails the first prong of the test.
The court also has stated that if the restriction is greater than necessary to protect the employer’s legitimate interests, the adverse effect caused by the excessive part of the restriction constitutes an undue hardship on the employee and therefore fails the second prong of the test.
As for the third prong, a restrictive covenant will be injurious to the public’s interest, and therefore unenforceable, if it unreasonably limits the public’s right to choose; a mere showing of some limitation is insufficient. This sometimes becomes an issue, for example, when certain choices available to the public, such as the right to choose your own doctor, are deemed worthy of extra protection.
Turning to Merrimack Valley Wood Products Inc. v. Near, the former employee had signed a “salesman agreement” that contained a covenant not to compete and restricted the former employee from selling to anyone who was a customer of the employer within 12 months before termination. The prohibition did not require that it be a customer with whom the former employee had actual contact.
The Supreme Court ruled that the restriction was unreasonable because it prohibited the defendant from soliciting customers with whom he previously had no contact, so therefore there was no goodwill to be protected.
Although this conclusion was contrary to a conclusion reached by a federal court applying New Hampshire law in an earlier case, the New Hampshire court resolved any conflict between the different legal precedents by deciding that restrictions are unreasonable if they prevent a former employee from contacting customers with whom he had no previous contact.
This does not mean that a prohibition on operating in a geographic region is unenforceable; under the right circumstances such a prohibition may be enforceable.
It should be noted that even if a court decides that a non-competition agreement is too broad, there are circumstances under which the court will reform or modify the covenants not to compete if the court finds that the employer was acting in good faith.
In this case, the Supreme Court decided that the employer had not acted in good faith because it forced the former employee to sign the non-competition agreement after he had already been working for the employer for six months.
However, for an employer who enters into its non-competition agreements in good faith, a court may reform or modify an excessive covenant not to compete to something reasonable rather than striking it down in its entirety.
Scott W. Ellison is a partner in the corporate department of Devine, Millimet & Branch, P.A., where his practice includes counseling companies on their business related legal needs.