Not all employers need non-compete agreements. Jimmy John’s Sandwiches learned this the hard way, when some franchisees reportedly required sandwich makers or cashiers to sign non-compete agreements. These agreements kept cashiers or sandwich makers from working for any nearby business that obtained at least ten percent (10%) of its business from sandwich sales. Aside from receiving a lot of negative press, Jimmy John’s recently entered into a settlement with the New York Attorney General’s office after being sued for this practice.

So as an employer, how do you know whether you need a non-compete agreement? To answer that question, employers need to generally understand the nature and purpose of a non-compete.

Non-compete agreements are governed by state law. Most states treat non-compete agreements as unfavorable restraints on trade. A non-compete is really a statutory exception to the general rule that employers cannot restrict the ability of their employees to leave and work somewhere else. Because non-competes are the exception, rather than the rule, states generally have specific statutory requirements for non-compete agreements. These statutory requirements usually balance (a) the employers’ right to protect its investment in an employee (legitimate business interest), with (b) an employee’s right to work somewhere else.

In Texas, and in many other states, there are at least three reasons an employer may need a non-compete agreement: (a) to protect your trade secrets or confidential information; (b) to protect the trade secrets or confidential information of others; and (c) to protect the companies’ goodwill. The common thread is that all three are legitimate business interests.

Your Trade Secrets/Confidential Information: If you give your employees your confidential customer lists, prices, secret recipes, or business strategies you probably need a non-compete agreement. Protecting confidential information is far and away the most common reason employers need to have employees execute a non-compete agreement.

The rationale is simple. An employer would have little incentive to innovate if every time they hired and trained an employee and provided them with confidential information, the employee could simply leave and work for a competitor, or worse, start a competing business right next door.

If you are providing your employees with confidential information and/or trade secrets, a non-compete that is narrowly tailored to protect that information is one way to keep it out of your competitor’s hands.

Other People’s Trade Secrets/Confidential Information: Playing well with others is as important in business as it was in the playground when we were children. If your business services customers, it likely has access to your customer’s confidential information. Depending on the industry in which your business operates, protecting that confidential information can be a contractual, regulatory, or statutory requirement.

To protect other’s confidential information, it is wise to have systems in place to ensure that information remains confidential. An employee non-disclosure as well as an accompanying non-compete are staple tools for this purpose. The non-disclosure ensures the employee will not share the information. The reasonable and properly tailored non-compete ensures that your competitors will not inadvertently benefit from the disclosure by hiring away your most knowledgeable employees.

A narrowly tailored non-compete, in combination with a non-disclosure, is the best combination to ensure that your business plays well with those customers and partners that entrust you with their confidential information.

Goodwill: Goodwill is the perception, reputation, and status that your business has within its business community. This intangible asset can increase the value of your business in a buyout, give access to the most talented potential employees, and act as a tie breaker when getting that next big deal.

Managing goodwill is like managing your personal reputation. Exercising good decision making, best practices, producing good work product, and maintaining relationships are all part and parcel of managing and developing good will. As such, goodwill largely stems from the actions of management and leadership within a business. Because it is the leadership, managers, or rainmakers that develop the goodwill of the business, it is more common to see non-compete agreements applied to those positions.

Because it is intangible, tailoring the non-compete agreement to protect goodwill should be more focused on the individual employee’s role and position in the business. A business set on protecting its goodwill should focus on the employee’s contribution to that goodwill when determining the extent and scope of the non-compete.

Staying with our Jimmy John’s example, it is hard to imagine that Jimmy John’s armed its cashiers and sandwich makers with secret techniques or skills for performing their jobs. It is unlikely that a patron’s sandwich order or preferences is a secret to be kept from Subway or the local sandwich shop. And while the cashier and sandwich maker are the employees that patrons are most likely to meet at Jimmy John’s, few if any patrons would make the mistake of blaming Jimmy John’s policy decisions and public image on its cashiers or sandwich makers.

Avoid the mistake that some of Jimmy John’s franchisee’s made. Carefully consider the legitimate business reasons for having your employees sign a non-compete, and be judicious in determining whether there is a legitimate business interest worthy of portection before having them sign one.