An Empirical Analysis of Noncompetition Clauses and Other Restrictive Postemployment Covenants
Employment contracts for most employees are not publicly available, leaving researchers to speculate about whether they contain postemployment restrictions on employee mobility, and if so, what those provisions look like. Using a large sample of publicly available CEO employment contracts, we are able to examine these noncompetition covenants, including postemployment covenants not to compete (“CNCs” or “noncompetes”), nonsolicitation agreements (“NSAs”), and nondisclosure agreements (“NDAs”). What we found confirms some long-held assumptions about restrictive covenants but also uncovers some surprises.
We begin by discussing why employers use restrictive covenants and examining how the courts have treated them. We then analyze an extensive sample of CEO employment contracts drawn from a large random sample of 500 S&P 1500 companies. We find that 80% of these employment contracts contain CNCs, often with a broad geographic scope, and that these generally last only one to two years. Similarly, we find that NSAs routinely appear in these contracts, barring solicitation of the firm’s employees and customers or clients. We demonstrate that NDAs are prevalent and prohibit the CEOs from disclosing unspecified “confidential information.” In addition, we note that there is a strong “California effect,” whereby firms from that state are less likely to put CNCs in employment contracts.
Our research also uncovers several previously undocumented trends. First, increasingly more and more restrictive covenants are appearing over time, and they are appearing with increasingly expansive enforcement rights for the firm.. Second, there is clear path dependence for these clauses, with a prior CNC being a strong predictor of CNC use in future employment contracts. Third, long-term contracts are more likely to have CNC clauses than short-term contracts, probably because firms have more confidence in making investments in CEOs that are committed to staying for longer periods. We argue that this shows that for some firms the risk of harm from a departing executive may simply be more acute than for other firms.
Norman D. Bishara
Associate Professor of Business Law and Business Ethics, Stephen M. Ross School of Business, University of Michigan.
Kenneth J. Martin
Regents Professor of Finance, College of Business, New Mexico State University.
Randall S. Thomas
John Beasley II Professor of Law and Business, Vanderbilt Law School, Professor of Management, Owen School of Business, Vanderbilt University.