Is Your Technology Non-Compete Enforceable?

Frequently, software license agreements, cloud agreements, and other technology contracts include restrictive covenants or non-compete clauses that prohibit a customer from using the vendor’s technology to develop competitive or substantially similar products or services. The court in Triage Logic Management and Consulting v. Innovative Triage Services examined the issue and provided a road map for saving such provisions. Hint: Like online terms and conditions, careful contracting is critical.

Triage Logic Case

In Triage Logic, the software vendor sued the customer for contracting with a third party to develop software similar to the vendor’s licensed product. The vendor-customer agreement prohibited the customer from “develop[ing] similar software, services or product offerings substantially similar to the System” described in the agreement. The clause expressly survived the termination of the agreement.

The court concluded that the non-compete provision contradicted state antitrust law and, thus, was unenforceable, based on the particular restraint being indefinite and perpetual. Applicable state law barred the court from reforming the restrictive covenant to make it enforceable.

State Law Does Matter

Because the Triage Logic case was decided under North Carolina law, it invites comparison to other state laws. For example, under the Texas Free Enterprise and Antitrust Act of 1983, a covenant not to compete is enforceable if it is ancillary to or part of an otherwise enforceable agreement and contains reasonable and limited parameters as to time, geography, and scope. Unlike North Carolina law, the Texas statute requires courts to reform covenants that are not reasonable and limited.

A covenant not to compete is enforceable under Delaware law if it meets general contract law requirements, is reasonable in scope and duration, advances a legitimate economic interest, and balances equities. Delaware courts may, but are not required to, reform otherwise unenforceable provisions. New York law imposes a “simple rule of reason” analysis to non-compete provisions in ordinary commercial contracts (such as license agreements). New York permits blue-penciling of non-compete provisions only when the unenforceable portion of the provision is not essential, among other requirements.

Help is Available

When negotiating a non-compete clause in a technology agreement, technology vendors should consider the following drafting tips to increase the likelihood that the restrictive covenant is upheld.

• Duration. A perpetual or otherwise excessive duration for a non-compete provision is unlikely to be enforced, whether the duration is identified in the clause, itself, or the provision expressly survives agreement termination.

• Pencil Color. If the governing state law does not afford blue-penciling or equitable reformation, the non-compete provision may be salvageable if the contract includes a clear and permissive severability clause. Even if the governing law favors reformation, avoid a severability clause that merely instructs deletion of the offending provision.

• Express Rescue. To seek to save a non-compete clause from unenforceability, include express fallback positions in the contract to operate if primary terms (such as those regarding duration, scope, and geography) are held invalid.

• Purpose. A restrictive covenant stating a blanket prohibition, rather than one being specifically limited to competitive conduct, is less likely to be held enforceable.

On the other hand, customers seeking to defeat the application of a non-compete clause should do the opposite....

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