Nuances of Drafting an NCA: Conditions for the Validity of Non-Competition Provisions

A non-compete agreement is an important contractual instrument in the IT business that allows a company or entrepreneur to protect their interests in relationships with clients, contractors, and employees alike. Having a concluded NCA can prevent the creation of competition by partners, limiting their ability to carry out commercial activity in a given field. In addition, an NCA deters contractors/employees from using certain knowledge to the detriment of the company. Non-competition provisions also serve as an additional instrument for protecting confidential information and trade secrets, as they limit the potential channels through which such information could be leaked.

However, non-competition provisions may under certain circumstances be found by a court to restrict the right to freedom of entrepreneurial activity and free choice of occupation, and may even violate antitrust legislation.

The use of NCAs in different jurisdictions is subject to its own limitations, non-compliance with which may result in agreements being declared invalid. Below we examine the key conditions under which non-competition provisions will protect you even in the event of litigation.

Territory and Scope of Activity of an NCA

Although an NCA may at first glance appear to be an ordinary contractual instrument subject to freedom of contract, such agreements touch on fundamental rights, and therefore full freedom of contract is not in play. In order to ensure a balance of interests, the legislation and case law of most popular jurisdictions require that the scope of non-compete provisions be limited by certain criteria. For example, with regard to the territorial criterion, simply providing “in the territory of all states of the world” is insufficient.

The optimal approach is to establish a clear list of states in whose territory your company has an interest in restricting competition. This is especially relevant for employees and contractors, who in the legal understanding of most states are a “vulnerable category” compared to the employer/client, and therefore require clear definition of the restrictions imposed on them.

Another important point is to define the fields of activity that will be considered competitive for the purposes of the non-compete agreement. These may be the core areas of activity of the Client company — for example, “functional and non-functional testing of mobile applications.”

Simply stating “IT services” will most likely be insufficient, and may result in such an NCA being found unenforceable due to excessively broad wording. Therefore, the narrower the field of activity being restricted, the greater the chance that such a provision will not be challenged in court.

What Is the Duration of an NCA?

Another key means of defining the scope of a non-compete agreement is establishing clear timeframes. In most cases, legislation does not detail the permissible durations for NCAs, so the answer must be sought in case law or guided by the principle of “reasonableness.” In practice, this means that almost any duration of a non-compete agreement may be found to be excessively burdensome and disproportionate — which calls for a responsible approach to setting it. It is also worth preparing a justification in advance, so as to clearly understand for yourself why a particular duration was chosen under these circumstances.

As a rough guide, a non-compete duration of up to 6 months after the expiry of the main cooperation agreement is generally considered acceptable, while anything exceeding 2 years is largely contentious. A point of reference for Ukrainian contract law in this regard may be the Law of Ukraine “On Stimulating the Development of the Digital Economy in Ukraine,” which recognizes 12 months as the maximum permissible duration for a specialist’s obligation to refrain from competitive actions. Although this law applies directly only to relationships between Diia City residents and their specialists, other parties may also use it as a reference point and potentially rely on it as justification by analogy.

Establishing an NCA duration with minimal risk of it being declared invalid in any event requires a detailed analysis of legislation, case law, and the status of the parties involved.

Financial Compensation

One of the mechanisms for protecting the interests of the party that assumes non-competition obligations — thereby restricting their own rights and opportunities — is monetary compensation for the period of refraining from competitive actions. The essence of this is that the agreement provides for the payment of a certain sum as remuneration for the period after the end of the cooperation, during which the person complies with the NCA. Such compensation reduces or entirely mitigates the negative consequences of refraining from competitive actions, such as the inability to establish business connections, find employment, or pursue self-realization in a given field.

In some countries — including Ukraine within the Diia City legal regime — it is a mandatory condition for the validity of a non-compete agreement concluded between a company and its employees/contractors. The fairness of the compensation under the legislation of those countries is assessed as a percentage of the cooperation remuneration. In Poland, for example, such compensation must be no less than 25% of the contractual remuneration.

It is also important to note that in some cases a mandatory condition for the validity of a non-compete agreement is that it be concluded as a separate document. In such cases, simply including a non-compete section in the cooperation agreement is insufficient — it must be a standalone agreement with a certain number of sections and mandatory particulars.

Choice of Jurisdiction

As already noted, non-compete agreements operate with significant limitations under the legislation and case law of many jurisdictions popular in IT, as they touch on the fundamental rights and interests of their subjects — in particular, the right to freedom of entrepreneurial activity and free choice of occupation. On this basis, an NCA may be challenged in court and consequently declared invalid, which would make its enforcement impossible — for example, in terms of recovering a penalty or damages caused by a breach of the non-competition provisions. It is therefore critically important, when concluding a non-compete agreement, to know and comply with the requirements of the legislation of the state whose law governs the agreement.

For example, French court precedents have established the following requirements for an NCA:

• its conclusion must be justified by the protection of interests;
• its effect must be limited in time and territory — no more than 2 years for an employee/individual contractor and 5 years in other cases;
• mandatory financial compensation for employees/individual contractors;
• an NCA is invalid if it entirely eliminates the ability to exercise employment rights or the right to entrepreneurial activity.

As we can see, drafting a reliable non-compete agreement under which it will potentially be possible to protect the company’s interests requires a comprehensive legal approach.

If you need assistance drafting a non-compete agreement or analyzing one that has been proposed for your signature, please contact us — we will be happy to prepare it to suit your needs or analyze the draft and provide recommendations to protect your interests.