Why no-compete is a non-starter

THE HUMAN FACTOR

A vice president of a software company blithely signed an employment contract when he thought he had got the mother of all jobs. But when he wanted to shift to greener pastures, he suddenly felt that the contract he signed had placed his future in a straitjacket. The contract had a no-compete clause saying that he could not join a rival within two years of resigning from the present job.

A quick meeting with the headhunter who had approached him, however, soothed his nerves. The headhunter's advice to him was simple: just throw that letter out of the window as no-compete clauses in appointment letters look good only on paper, and are almost impossible to enforce.

The headhunter was not off the mark. India's legal track record shows that no-compete clauses are commonly struck down by courts because there is a presumption that they interfere with free enterprise.

Mumbai-based lawyers, Majmudar & Co, quotes Section 27 of the Indian Contract Act as stipulating that an agreement that restrains anyone from carrying on a lawful profession is void to that extent. The reasoning behind this is that agreements of restraint are unfair, as they impose an undue restriction on the personal freedom of a contracting party.

Consider the Supreme Court's observations in a case involving Superintendence Co of India Pvt Ltd vs Krishan Murgai. The company took the employee to court on the ground that he has joined a competing firm even though his contract of employment specifically prevented him from doing so for two years after he resigns.

The apex court summarily rejected the company's plea, saying any action, which was in the "restraint of trade" was void. In fact, the judges went to the extent of saying that "employee covenants in agreements should be carefully scrutinised, because there was an inequality of bargaining power between the parties; and, more often than not, no bargaining power, especially in cases where the employee was presented with a standard form of contract that he had to accept or reject."

Some companies have tried to play safe by incorporating no-compete clause on a selective basis "" for very senior people or for employees who may be in possession of proprietary or sensitive information such as those in investment banks or research departments. But even this is difficult to enforce legally.

Here's why. In a case filed by a former employer in 1995, seeking to enforce an agreement to restrain an employee from adopting and using any of the processes invented by the former employer in a subsequent employment, the Bombay High Court held that the agreement was void, because an employee could not be restrained from using knowledge that he gained during the course of his previous employment, forever.

The Delhi High Court cited this observation in 1999 while dismissing a Pepsi case against Coca-Cola India. The Pepsi petition said that Coke was utilising preliminary competitive data about Pepsi's key partners and trying to induce those employees who were privy to proprietary strategic information that was confidential.

The only cases where courts have upheld no-compete clauses are in cases of senior government or public sector jobs where the interest of the state is involved.

The idea is to prevent former government officials from unfairly profiting from or trading upon the contacts, associations and special knowledge they acquired during their tenure as public servants. A cooling-off period between serving in public office and going into the private sector has been found to be desirable.

Courts abroad have also not taken a kind view of no-compete clauses. Take the example of Dipen Joshi, an Indian programmer, who joined Compubahn in the US as a consultant in March 1998. He was placed by the agency at Oracle six months later.

After about a year, he was offered a full-time job from Oracle, which he gleefully accepted. His joy was, however, short lived as Compubahn slapped Joshi with a penalty for taking up employment with its client and for additional expenses incurred. The penalty was a staggering $ 77,000 "" literally all of his savings.

To sustain its claim, Compubahn quoted its contract with Joshi that required him to pay a $ 25,000 "finder's fee" to Compubahn and restricted him from working directly for a client or having "a meeting to discuss the possibility" of doing so for a year after he left Compubahn. The contract also required him to pay all relocation and immigration costs if he left within 18 months.

Joshi, however, moved court, which ruled that the contract was "void and un-enforceable" as it violated the state's unfair competition laws. Compubahn was ordered to pay Joshi around $ 207,000 in legal fees and around $ 8,000 in other expenses.

So job-hoppers of the world, rejoice.