An agency owner dreads the scenario that an employee leaves the agency and takes customers, prospects, employees and proprietary information with him or her to a new job. When this happens, the agency loses more than its investment in the employee. It loses other valuable assets, such as staff, marketing ideas, prospects and competitive advantages. Similar situations can occur when a partner is bought out and when books of business are bought and sold. This is why non-compete agreements are so important. These agreements are designed to protect businesses from this type of loss.
Before continuing further, I must first add a disclaimer: I am not an attorney, so nothing in this article should be considered legal advice or an exhaustive discussion on these types of agreements. This article is simply a layman’s opinion based on years of insurance agency experience.
Although many attorneys advise that non-compete agreements will not hold in court, keep in mind non-compete agreements come in many shapes and forms. The validity of a non-compete depends on the type of agreement and the scenario in which it is being used.
Most non-competes try to keep ex-employees from stealing clients and employees. Historically, many of these agreements also attempted to keep former employees from competing with the agency in any way whatsoever. Problems occur because some businesses and attorneys are too greedy. They try to keep ex-employees from working anywhere in the industry unless they move to a location far from the original business. Some agreements stipulated the former employee could not even call on prospective clients that were not on the agency’s prospect list. This hoggish strategy effectively limited the person’s ability to make a living.
Moreover, a need for such strenuous restrictions is not usually required. The truth is, most agencies do not call enough prospects for a former employee to hurt them simply by call on prospects in general. So for many reasons, courts have generally disallowed these onerous non-competes. Another drawback of such strict agreements is good employees may simply refuse to sign them.
Well-written non-competes are not worthless, though. Non-competes do hold up in some courts when the agreement is fair to all parties, when they are bought and paid for, and when the duration and geographic scope is limited. For example, non-competes are usually bought and sold when an agency is sold or a partner sells his or her shares. It is good practice to specifically allocate a specific amount of the purchase price to the non-compete so that it is upheld, but even that may not be necessary if the contract stipulates a non-compete is part of the deal. The difference is that a non-compete is being bought and sold versus keeping someone from making a living and not paying a dime for his or her starvation.
Some sellers seem to think that because their attorneys have said non-competes don’t hold up that the sellers can legally compete against the buyers. But this is different because the seller has sold the right to compete.
The problem non-competes pose in producer contracts is a little more clear because producers are rarely given consideration for the non-compete. To help reduce the risk of employees walking away with valuable accounts, employees or information, consider the following points:
1 Determine if the employee would actually have the ability to hurt the agency if he or she were to leave. Will the employee actually be able to take any clients, employees or valuable information with them? If not, why bother with a non-compete? Sure, it is good insurance, but sometimes it is counterproductive because a lousy producer moving to the competition can be a smart strategy.
2 If a non-compete is required, a well-written agreement is absolutely critical. Talk to an excellent labor law attorney who knows your state’s laws inside and out. State laws on this subject vary significantly. Consult with the attorney to draft the contract. Keep in mind that a well-written and fair contract can actually be a competitive advantage. If a new producer is choosing between two different agencies, a good producer may choose the agency with the fairest contract.
3 Consider paying for the non-compete or having the producer pay for not having a non-compete. For example, offer 35 percent on renewals if the producer has a non-compete and 25 percent if they do not. Another example is to pay 35 percent new, 20 percent renewal and 5 percent for a non-compete. Other alternatives include giving producers the option to take any accounts they desire when they leave if they pay X times commissions for those accounts, or creating a vesting/deferred compensation plan that only pays if the non-compete is not violated.
4 Consider alternatives. Other options are usually better than non-competes for protecting the agency. For example, a non-piracy or non-disclosure of confidential information covenant may be more appropriate. These agreements generally state that the former employee will not take or use the agency’s proprietary business information for commercial gain. When these agreements are written well, courts generally uphold them. These agreements do not keep former employees from competing and trying to make a legitimate living, provided the former employee does not use information/trade secrets gained under their employment. This is why the contracts have to be well written.
The definition and application of trade secrets and confidential information is essential. A trade secret is not public information, but a list of prospects could be public information. A list of prospects the producer has never seen, though, probably cannot be a secret since he or she never knew of its existence. In other words, to be a trade secret, the employee must know it is a trade secret and the agency has a responsibility to define and maintain the information as such. If the contract is properly written, risk is reasonably mitigated.
Do not forget non-competes and/or confidentiality agreements with your carriers and vendors. More than one insurance company has stolen an agency’s ideas/program, and some are giving leads generated by one agency to other agencies as I write this. Also consider your IT vendors, who have access to all of your data. Virtually all of an agency’s value is converted to the data in your systems. You have firewalls, but do you have a non-compete or confidentiality agreement?
Non-compete agreements are more complex than many agency owners believe. A little background about their ins and outs creates advantages and great protection.