Non-Compete Clause - Legal Structuring and Enforceability

Effective protection against competition from former employees or sellers of a company is a central concern for many entrepreneurs. Non-compete clauses provide important legal security in this regard but must be carefully drafted to be enforceable in practice. This article highlights the key aspects of drafting and enforcing such agreements.

Basics of the Non-Compete Clause

A non-compete clause (also called a restrictive covenant) is a contractual agreement that prevents one party from entering into competition with the other party after the termination of the contractual relationship. These clauses are typically found in:

• Employment contracts with executives and key employees
• Business purchase agreements
• Partnership agreements
• Commercial agency contracts

The legal basis for non-compete clauses is anchored in various laws, with the principle of proportionality always taking precedence.

Essential Drafting Elements

The following elements are crucial for the effective drafting of a non-compete clause:

1. Time Limitation: The duration of a non-compete may vary depending on the context. For employees, the maximum duration is legally limited to 2 years. In business sales, durations of 2 to 5 years are generally considered appropriate depending on the industry and agreement.

2. Geographical Limitation: The clause should be limited to a reasonable geographic area where the company actually operates. A global restriction is only enforceable in exceptional cases.

3. Subject Matter Limitation: The prohibition must be limited to activities that actually compete with the company. An overly broad scope can lead to invalidity.

4. Compensation for Non-Compete: For employees, appropriate financial compensation for the duration of the non-compete is legally required (at least 50% of the last contractual remuneration).

An example of subject matter delimitation:

• Too broad: "Activity in the IT industry"
• Appropriate: "Development and sales of warehouse management software for retail"

Special Considerations in Business Sales

In the sale of a company, non-compete clauses are particularly important because the seller often possesses extensive market and customer knowledge:

• The permissible duration is typically longer than for employees
• Compensation for non-compete is not mandatory but is often factored into the purchase price
• The non-compete should precisely cover the transferred business area

A key tip for sellers: Negotiate the non-compete clause in detail and consult a legal expert if necessary.

Common Mistakes and How to Avoid Them

Common errors in drafting non-compete clauses can lead to partial or complete invalidity:

1. Excessive Restrictions: Too long durations or overly broad geographic scopes often result in invalidity.

2. Unclear Wording: Vague definitions of the prohibited activity area create legal uncertainty.

3. Missing Compensation: For employees, a non-compete without appropriate compensation is invalid.

4. No Severability Clause: The absence of a provision to maintain partial validity if individual provisions are invalid can lead to the entire clause being void.

Example of a proper formulation:
"The seller commits not to engage, directly or indirectly, as an entrepreneur, employee, consultant, or in any other capacity in the manufacturing and distribution of XYZ products in Germany, Austria, and Switzerland for a period of three years following closing."

Enforcement of Non-Compete Clauses

Enforcement of a non-compete clause typically proceeds in the following steps:

1. Warning Letter: Formal request to cease competitive activity
2. Preliminary Injunction: Rapid court procedure for temporary prohibition
3. Main Proceedings: Comprehensive judicial clarification
4. Claims for Damages: Upon proof of economic harm

Careful documentation is essential for successful enforcement:

• Evidence of competitive activity (e.g., screenshots, witness statements)
• Documentation of economic damages incurred
• Proof of disclosure of trade secrets

Learn more about this topic in our article Legal Enforcement of Non-Compete Agreements: Practical Tips.

International Aspects

In cross-border business relationships, the legal situation is more complex:

• Enforceability of non-compete clauses varies significantly between countries
• A clear choice of law and jurisdiction agreement is essential
• In some countries (e.g., California), non-compete agreements are generally only very limitedly enforceable

A prudent approach is to tailor the clause to the respective national legal systems in which the company operates.

Conclusion

An effective non-compete clause is an important tool to protect your business interests but also a legal challenge. Careful drafting that considers temporal, geographical, and subject matter limits is crucial for enforceability. When drafting and enforcing such clauses, always seek expert legal advice to optimally safeguard your interests while minimizing legal risks.

The non-compete clause is not a panacea but part of a comprehensive strategy to protect your company. Complementary measures such as confidentiality agreements and securing intellectual property should also be considered.