Unfair Competition Basics: Forfeiture-for-Competition

While most people think of noncompete agreements as the traditional, “you can’t work there” type, there is another type of agreement that can create financial incentives so great that, as a practical matter, they have substantially the same effect. They are known as forfeiture-for-competition agreements.

Typically, forfeiture-for-competition agreements impose a penalty for working for a competitor, generally, the forfeiture of the restricted party’s unvested benefits, such as severance pay or stock options or unvested stock. In a variant on the theme (called a “compensation-for-competition” clause), the penalty for working for a competitor would be an obligation to pay money, typically tied to the competitive activities. For example, the restricted party might be required to disgorge some or all – or even some multiple – of the profits or revenues derived from any competitive activities.

Although the specifics of the source of the payment vary between these two types of clauses, they are conceptually the same: a financial penalty for engaging in competitive activities.

Typically, forfeiture-for-competition clauses are subject to the standard noncompete analysis (i.e., reasonable in time, space, and scope, and necessary to protect a legitimate business interest – or whatever variation on the theme may exist in the particular state). That said, forfeiture-for-competition clauses are generally afforded somewhat more latitude than noncompetition agreements, primarily because they don’t (as a matter of law) prohibit someone from working in whatever job they wish; rather, they only impose a cost for doing so.

Even if enforceable, however, a court may still modify a forfeiture-for-competition agreement (assuming the particular state permits modification of restrictive covenants), including in the amount of the forfeiture, so as to render it reasonable.

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s