How to Legally Prevent Competition Through Covenants Not to Compete

By Gerry Fagan

In today's dog-eat-dog business climate, business owners must utilize every available method to protect the business that they have built. One potentially valuable legal method that is often overlooked or misunderstood is called a covenant not to compete. A covenant not to compete is an agreement that attempts to prohibit a person from competing directly against a business. A covenant not to compete is most commonly used in employment relationships, in the sale of businesses, and in partnership dissolutions.

Within certain guidelines, this type of agreement is allowed in Montana. In general, a business owner may enforce a covenant not to compete only if the covenant is a reasonable protection for the business owner. More specifically, in Montana, a court will scrutinize a covenant not to compete using a three-part test. Key factors that a Montana court will consider include whether the covenant is limited either as to the length of time or to a geographical place, what the signer of the agreement obtained in return for agreeing to it, and how reasonable the restriction is for all parties involved.

Many potential pitfalls and traps exist to ensnare a carelessly drawn or overly broad covenant not to compete. For instance, a covenant restricting an ex-employee or a seller from conducting any business whatsoever in a particular area would not normally be enforceable because the protection goes beyond what is necessary to protect competition with the business. Another potential problem area is the length of time for the protection -- any period over three years may be suspect, and almost certainly any period over five years. A further problem area can be that the area of the prohibition is too large -- oftentimes, the enforceable area of prohibited competition may only be several surrounding counties. Covenants that encounter these or other problems may end up being essentially worthless.

In conclusion, a covenant not to compete must be carefully thought about and designed. It is therefore essential that any business that desires a legally enforceable means to prohibit certain types of competition consult with an attorney first. At Moulton Bellingham, we have several attorneys that are experienced in this area.

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