Balancing the employer need for restrictive employment contracts with
employee rights and enforceability.
Oftentimes family owned businesses will rely heavily on employees and
managers to deliver client services in such a way as to develop loyalty
and continued patronage. Inherent in development of good customer
retention lies personal service and evolvement of a relationship between
client and service provider. Private businesses may recruit and invest
years in training the employee or manager to learn the nature of their
particular service and pricing practices in order to enable the employee
to operate the department or practice area. It is not unusual for a well
established employee in such a position to realize that there is a
substantial earning potential for them to deliver the same services to
the same customers without their employer involvement. Most professional
firms (law and CPA) were formed by departing employees venturing forth on
their own. The employer has in effect recruited, trained and enabled his
employee to become his most effective competitor for his own client’s
business. The dilemma the employer faces is providing the customer with
the best service providers possible; “but only while they work for me”.
After the employer’s rage abates he may engage an attorney to draft an
employment contract containing strong restrictions on future such
unintended results with key employees/ managers. While an eager new
employee may agree to sign such a covenant, they do not yet generally
realize the opportunity for personal gain they will encounter if and when
they are seasoned providers to many large and important clients.
Common sense would dictate that if an employee signed a contractual
employment restriction containing specific “don’t do” items, they would
be enforceable in the event of a breach. The legal system under which we
operate is not always intuitive or logical.
Courts have an obligation to promote free enterprise and encourage
competition. Restraining an employee from employment and preventing and
employer from hiring is very difficult for a judge to support. Restraint
of trade or tending to lessen competition is against public policy. What
sort of agreements are courts likely to uphold? The guidelines are : (1)
as to time; (2) as to territorial effect, and; (3) are otherwise
reasonable, considering the scope of the employer's business interest
sought to be protected and the effect on the employee. The word
reasonable is obviously subjective and renders predictability of outcome
to chance.
What can an employer do to protect his very business?
If you are going to utilize an employment contract containing restrictive
covenants, there should be evidence of “employer investment”, managerial
responsibilities, and trade secret value. The restriction must be in
exchange for valuable consideration rather than as a punishment or trade
restraint. Consideration may be in the form of a supplemental perk
package, or compensation reflective of value placed on the responsibility
to protect employers business. The document may be crafted to evidence
unique characteristics of the owner/provider’s service that attracts and
retains clientele and is therefore essential to the continuation of the
employer’s business. Contracts may contain “liquidated damages” to
reimburse the employer for losses and costs incurred in training and
developing the employee. Losses are often difficult to accurately
ascertain since future client earnings are often merely speculative.
Employment restriction violations are also difficult to identify. If
ordering volume falls from a particular customer; can we comfortably
inquire as to where it went and why? The same is true for other departing
employees possibly proselytized by a key man departure. We would have
difficulty tracking every possible infraction and the customer may
preferred to do business with the new entity due to familiarity or lower
cost considerations.
An ounce of prevention…
The best of employees will at least consider going into business for
themselves at some point. The motivation is generally financial as well
as recognition and challenge. A mature successful business faces these
employee challenges perpetually. There is a practical limitation on key
employee compensation lest the “tail wag the dog”. Creative structured
employment arrangements enable a talented and dedicated employee to feel
like they are self employed and have unlimited earning capability.
Examples
A branch manager could be compensated as a “partner” based on the
decrease in operating expenses and increases in revenue generated by his
unit. Compensation could be immediate or deferred to create a more tax
favorable menu. A key sales person could be compensated greater for
bringing in new clientele with a trailing residual commission for repeat
sales. This process builds customers while still compensating the sales
person for servicing existing clients (albeit on a lower level). Another
tool is a SERP (Supplemental Employee Retirement Plan) intended to reward
tenure with cash at retirement or premature death. These programs are
selective and need not cover other than key employees.
Keep an ear to the ground
Sometimes listening well can allow grievances to be aired and avoid the
“I’ve got to do something” feeling a frustrated employee may experience.
Monthly manager’s meetings encouraging written suggestions for
improvements and changes are often enlightening and allow managers to
discuss concerns among themselves before they become grievances.
Consider a creative employment contract
If you have a valuable employee dealing with your clients and the
employee chooses to leave and clients elect to follow, there is little
you can do to stop either one. You can however deal with this event as a
sale of a part of your business. A contractual agreement can be presented
to a prospective new employee in a buy and sell fashion. If a client
relationship is worth some reasonable multiple of recent billing
activities, a sale of any such accounts can be prearranged on an
installment basis. While we are not encouraging the employee to leave,
this “sale” prearrangement deals with what may be inevitable in an
equitable fashion. The employer gets compensation for the asset and the
contract does not appear to restrain trade or be punitive. Similar
arrangements can be crafted for luring and engaging existing employees to
leave. An employment agency would likely charge a portion of a years pay
to provide screened and trained employees. The customary fee can become
the employers guide to “reasonableness” of the contract for staffing
someone else’s business. Certainly no employer wants to be cherry picked
of their best people and customers. The approaches discussed allow for
fair compensation, discourage stealing and generally avoid acrimonious
expensive litigation.
Our justice system is often more sympathetic to the plight of an employee
than to a successful business that can sustain a loss with less hardship.
The experience and skill of the contract draftsman has considerable
impact on the signal sent to employees and ultimately in the
enforceability of the agreed upon actions. Lawyers accustomed to drawing
employment contracts may not be involved when they go sour and cost the
employer dearly. All parties can benefit from reading the agreement from
a prospective adversarial point of view. Employees rarely plan to take
the employer’s secrets, customers and best employees when they are first
recruited.
As their skills are honed and they realize their value, there is a
feeling of entitlement to get what they are “truly” worth. The seasoned
employer anticipates this phenomenon and prepares strategies to avoid
problems before they ripen and impact the family business. ¯
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