Seal of Approval for Forfeiture for Competition Agreements

You may know that non-compete agreements between an employer and an employee are problematic since there is always the real possibility that a court may find that the restrictions put on the employee in the agreement are unreasonable.  There are even websites trying to help employees break their non-competes.  Nonetheless, businesses would like to be protected from an employee leaving the job and competing with them or joining a competitor.  Thanks to a recent case* decided by the New York Court of Appeals, employers can be even more confident than before that a certain type of non-compete agreement will hold up in New York courts.  (For the scholarly article on this see Friday’s New York Law Journal, "Noncompetes With No Reasonableness Hurdles" by Fagie Hartman, subscription required).

The type of non-compete agreement is a so called "Forfeiture for Competition Agreement."  The gist of these agreements is "we’ll pay you a chunk of money and benefits to be vested at a later time, but if you leave your job with us and go to the competition, we’ll pay you nothing."  New York courts have found these agreements to be valid without going into the tedious question whether they are reasonable or not in each individual case, because they figured it was the employee’s choice whether to compete and forfeit the benefits, or take the benefits and refrain from competing.  However, this was only legitimate, if the employee left on his own devices and was not fired.

The  New York Court of Appeals cemented this favorable legal rule for employers by holding that post-employment forfeiture for competition agreements will be enforced without regard to reasonableness.  But the employee in question claimed he was as good as fired, because he was demoted and thus the employer "fired" him from the job that he was doing before and wanted to keep.  He had no choice other than to leave and that is why the non-compete agreement should be invalid.  The court disagreed.  With respect to what constitutes leaving a job voluntarily versus leaving a job involuntarily (i.e. being fired), the court said that an employee only leaves a job involuntarily if the working conditions at the time of his resignation were so intolerable that a reasonable person would have been forced to leave the job.  Whether the employee was asked to do a job that was not comparable to his earlier job responsibilities was irrelevant. 

*Morris v. Schroder Capital Management, 2006 N.Y. Slip. Op. 08638 (N.Y.Nov 21, 2006)

About Imke Ratschko

Imke Ratschko is a New York Attorney helping small businesses, business owners and entrepreneurs with all things "Small Business Law," such as litigation, contracts, business owner disputes, shareholder and operating agreements, sale or purchase of a business, investors, and starting a business. You can reach her at 212.253.1027 or by email.