Considerations for Buyer Enforcement of Non-competes in the Purchase of a Business

You are a business owner whose company is buying the assets of a Missouri business with locations in both Missouri and Illinois.  Your company intends to hire the seller’s employees. It is your understanding that those employees have signed restrictive covenants/non-competes with the seller (“Seller Agreements”).  You have instructed your attorney to advise you on how to protect your company against the seller’s current highly trained employees walking out the door with the customer relationships, trade secrets, and confidential information you are purchasing.  For administrative purposes, to the extent possible, you would like to use one strategy with both the Missouri and Illinois employees.

Here’s a look at some of the complexities of personal service contracts and non-competes you will want to consider.

Restrictive Covenants and Non-compete Agreements

The phrases “restrictive covenants” and “non-compete agreements” are used interchangeably by the public.  More confusingly, the term “non-compete” is often used to describe three different types of covenants or promises: time and space clause, non-solicitation clause and anti-raiding clause.

The most restrictive non-competition covenant is a promise by the employee not to engage in the same type of business for a stated time in the same geographical market as the employer (“time and space clause”).

More common is a non-solicitation clause, where the employee is allowed to engage in the same type of business in the same geographical area but is prohibited from soliciting the employer’s customers for a stated period of time.

Finally, an anti-raiding clause is the least restrictive covenant, and it is essentially a promise by the employees not to solicit the employer’s employees for a stated period of time (see Missouri Revised Statutes Section 431.202.2).  The stated period of time is ranges from one to three years.

Employment agreements can contain one, two or all three of the covenants.

Questions to Ask Before the Purchase

Before you sign the final purchase contract, be sure to ask the following questions regarding the seller’s employment agreements:

1.  Should the seller assign the existing Seller Agreements to your company as incidental to the sale of the business?

To do so, the seller must be able to legally assign the Seller Agreements to you. Whether the seller can do so depends upon the facts.  Missouri law holds that employment contracts containing non-competes are personal service contracts and cannot be assigned to a third party unless there is consent of both parties.  Therefore, any attempted assignment without the employee’s consent is void and illegal.On the other hand, non-compete agreements can be assigned if they are ancillary to a sale of a business, or pursuant to a statutory merger.  In those situations, the court is more likely to enforce the Seller Agreement.  Schnucks Twenty-Five v. Bettendorf, 595 S.W. 2d 279 (Mo. Ct. App. 1979).

However, if the seller is only selling one line of business versus substantially all of the assets and both the seller and buyer are maintaining their separate entity existence, the answer may be very different. In this situation, the employee is being forced, via an assignment, to provide services to a new employer without the employee’s consent.  Illinois courts have held that when a new employer has acquired substantial assets of its predecessor, including its goodwill, without interruption or substantial change in the business, restrictive covenants can be enforced.  Hexacomb Corp. v. GTW Enterprises, Inc., 875 F. Supp 457 (E. D. Ill. 1993).

2.  You understand that the Seller Agreement is enforceable but you are now concerned about enforcing it against certain key employees.  Do you need to explore the recent history underlying the seller employment relationship with those employees?

Yes, because a party to a contract cannot seek to enforce its benefits where he is the first to violate its terms.  You as the buyer will be stepping into the seller’s shoes. A material breach could have occurred if the seller substantially altered the manner in which and/or amount the employee was paid. JumboSack Corp. v. Buyck, –S.W.3d– (Mo. Ct. App. May 21, 2013).

3.  If the Seller Agreement cannot be assigned without the employee’s consent in both states, should you obtain consent and require the seller’s employee to execute a Buyer Agreement containing restrictive covenants?

Even if you do so, it may not be enforceable in Illinois unless you as the buyer provide additional consideration. In Illinois, the Appellate Court of Illinois recently held in Brown and Brown, Inc. v. Mudron, 379 Ill.App.3d 724 (Ill. App. Ct. 2008) that a post-employment non-compete agreement needs adequate (“additional”) consideration or the employee needs to work for two or more years of employment.  A buyer cannot take the chance that the employee will quit. Therefore, you as a buyer need to consider the type of additional consideration you will be offering.  It could include pay raises or other employment benefits or advantages for the employee.

Under the limited facts above and cursory review of the law, the best practice may be to have all the employees execute new restrictive covenant agreements and provide additional consideration.  The additional consideration cost should be built into the sales price.

As a business owner, you should know that state laws differs and are subject to change at any moment, every employee’s perceived value is different, and the history of every employment relationship is different.

Do not overpay or pay for something that is not protected or could have been protected with planning.

Posted by Attorney Ruth A. Binger. Binger serves both emerging and mature businesses concentrating in corporate law, intellectual property and technology law, and labor and employment law. Her commitment to the success of small to medium-sized businesses, and her understanding of multi-faceted issues inherent in operations, are what distinguish Binger’s practice.