Reasonable Restraints in Colorado

Posted on December 23, 2008 by Dan Warden

The prior post begs the question most frequently asked by clients: what is a reasonable restraint? That is, what kinds of geographic and temporal restraints will be enforced by Colorado courts -- assuming that the non-compete falls within one of the four exceptions set for in C.R.S. 8-2-113(2)? 

The best, but perhaps the most frustrating, answer is that it depends. As the tenth circuit noted in 1999, "The reasonableness of  restraint in a restrictive covenant is determined on a case-by-case basis, taking into account the particular facts and circumstances surrounding the case and the subject covenant." 

Because the particular facts of a case are so important, there is a great range in the restraints that have been enforced. On the one hand, for example, a Colorado federal district court has enforced a nation-wide restriction as being reasonable in geographic scope. Another decision even suggested that a world-wide restraint might be reasonable under the proper circumstances. On the other hand, Colorado courts have limited the geographic scope of other non-competes to a particular city or town in Colorado. 

It is true that Colorado courts have consistently applied some general rules about how broad restraints may be. The Colorado Court of Appeals as recently as 2006, for example, noted that covenants not to compete for terms up to five years and within distances of 100 miles are commonly upheld. 

Many of those decisions enforcing these broad restraints, however, arise from non-competes in agreements for the sale of businesses. Many decisions outside of Colorado have held that a non-compete ancillary to the sale of a business may be enforceable even when a covenant of similar breadth incident to employment would not be. (And Colorado courts have noted that trend). Accordingly, to the extent that other decisions provide guidance about the reasonableness of any restraint, it is important to consider a decision that relies on similar facts for the enforcement of the non-compete. Sale of business decisions don't necessarily provide guidance for cases in which a non-compete's enforcement relies upon the employee's status as a manager or executive.

It also may be wise to be skeptical about the guidance provided by older decisions because technological innovations have altered the way in which businesses operate. Many businesses now serve far broader areas. Those businesses now may be able to argue that the geographic reach of any non-compete should be broader. On the other hand, technological innovations may lead certain companies, particularly high tech companies, to change their business model much more quickly than before. These changes may lead courts to limit the duration of any non-compete tied to the companies. 

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Colorado and the Blue Pencil Rule

Posted on December 22, 2008 by Dan Warden

In most, if not all states, any restriction imposed by a non-compete must be reasonable. Restrictions as to geographic area or duration must be no greater than necessary to protect the employer's legitimate business interests. States follow different rules, however, once a court determines that a restriction is unreasonable. 

In at least a few jurisdictions, a non-compete is voided if a restriction is found to be unreasonable. Courts in these states refuse to re-write the terms of the agreement once they determine that a term is unreasonable. 

Most states follow a version of the "Blue Pencil" doctrine under which a court will enforce the non-compete after the offending term is stricken or modified. Some states only allow their courts to remove unreasonable provisions and then enforce the agreement as to the remaining, reasonable provisions. This approach can be problematic because it ensures that difficult issues will arise about which terms are truly severable from the agreement.

Colorado follows a third approach under which court are granted the authority to modify any unreasonable terms and enforce the agreement with the modified terms. This approach has long been followed in Colorado. In 2008, the Court of Appeals again affirmed this approach as it stated "the court had the authority to limit the reach of its injunction to an area considered by it to be reasonable".  Using this approach, a court can reduce the geographic area in which the employee may be employed or it can reduce the duration of the restriction. A two year non-compete over a fifty mile area, for example, could be reduced to one year over a twenty five mile area.

This authority, however, is discretionary. A Colorado court is not obligated to exercise its authority to modify an agreement. The court can decline to modify an unreasonable term and, based on the unreasonable restriction, refuse to enforce the non-compete. This discretion serves to discourage employers from overreaching. If employers could rely on courts to modify any unreasonable restriction, they might include restrictions that were broader than were reasonably necessary.   

Little guidance has been provided by Colorado appellate courts on when and how this discretionary authority should be exercised. Courts in other jurisdictions, however, have often focused on the fairness of the restraint imposed by the employer in the agreement.  "Clear overreaching" or "circumstances indicating bad faith" are grounds for a court to decline to exercise its authority to modify unreasonable terms. 

The lesson for employers is that they should refrain from imposing restrictions broader than they can justify. A court could decline to re-write unreasonable terms in a non-compete if it concludes that the employer knowingly imposed restrictions that were too broad under the circumstances. The lesson for employees is that they need to carefully evaluate whether any restrictions in a non-compete are unreasonable and, if they are, whether the employer acted in bad faith in seeking to impose the restriction.    

 

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