Read the fine print to ensure restrictive covenants protect your business and prevent someone else from using them to steal business.
It’s a fact: Contract language can be boring. But reading the fine print and using restrictive covenants correctly can protect an agent’s business and prevent someone else from using these legal documents to steal business, says Matt Bartle, a partner at bartle + marcus LLC, a law firm devoted to representing F&I agents in the automotive space.
“We design restrictive covenants to protect customer relationships,” Bartle explains. “These covenants decide who gets paid on the sales pipeline that gets built.”
An agent puts his business at risk if he or she does not use covenant agreements with subagents. “Someone could leave and steal accounts from them,” he says.
Covenant agreements also occur between agents and administrators. It’s vital to know what these agreements cover and how they restrict agents. Most agents want to build their agency, then sell it. Potential buyers want to purchase the sales pipeline. But if an agent doesn’t own the pipeline, there is nothing to sell, Bartle points out.
“Restrictive covenants between vendors and agents and agents and employees or subagents can make or break a sale,” he says.
Best Contract Clauses
There are four types of restrictive covenants agents can include in sub-agent agreements. Each offers a different type of protection,
Non-compete Clause: Prohibits a contracting party from competing in a defined business, in a defined geographic area, for a defined time period. Watch out for non-compete clauses that prohibit associating with an agency that carries competing products.
Non-Solicitation Clause: Prohibits a contracting party from soliciting customers he or she serviced while he or she was your agent.
Anti-Raiding Clause: Prohibits a contracting party from soliciting your employees for a defined time-period.
Confidentiality Clause: Prohibits a contracting party from using or disclosing information obtained during his or her employment. Here, pay attention to how the clause defines confidentiality. It may state that it includes information developed or used in a business relationship regardless of who brought it to the relationship, which is overly broad. Here, agents will want to define who brought what information to the relationship.
Of the four restrictive covenants, Bartle recommends a non-solicitation agreement. “These are more bulletproof than non-compete agreements,” he says. “It’s all about legitimate business purposes that you hope to protect.”
With a subagent, the business owner wants to protect the sales pipeline. A non-compete agreement might bar a subagent from calling on any dealer in the state of Wisconsin, for example. But the agreement is too broad if the business only serves 50 out of 500 Wisconsin dealerships.
“A non-solicitation agreement would let them compete but would restrict them from calling on the 50 dealers that are already customers,” he says. “It’s very narrow and tailored to protecting the exiting pipeline. These agreements are harder to attack.”
Bartle also warns agents to look for non-assignment clauses. These clauses apply if an agent has 40% of its business with a vendor and the contract says he cannot assign obligations to someone else without permission. This means the agent cannot use subagents without vendor permission.
“This happens more than you think. I’m surprised it hasn’t become a bigger issue in the industry,” he says.
Five Factors that Matter
Bartle also lists five factors that matter in a good restrictive covenant. They include a valid contract, legitimate business purpose, a limited time period, geographic scope, and scope of business.
“If restrictive covenants encompass activities that go beyond what a person does for the company, last too long, or have a geographic scope that is too broad, a court can throw out the covenant,” he says. “Draft them in a way that protects what courts call a legitimate business interest.”
Here, he adds, the laws differ from state to state. An agent in Wisconsin must understand what Wisconsin law says about restrictive covenants and adapt restrictive covenants to these laws or risk a court dismissing them in a dispute.
Too often, Bartle says, people ‘fly over’ portions of the contract. “They fail to read them carefully because it looks like a bunch of legal jargon,” he says. “They skip to the part about compensation and ignore the rest, but the ‘fly over’ portions of the contract can become extremely important in a dispute.”
Bartle advises having an attorney review every line before signing these agreements. An attorney will mark off concerning contract language so the agent can negotiate better terms. Parties willing to amend their contracts are worth working with. But Bartle advises walking away from those who won’t.
He also advises getting legal help in a dispute.
“Sometimes agents think they can't do anything about it. They just take their lumps and move on,” he says. “But there is something they can do. We’ve recovered millions of dollars for agents over the last 20 years. We don’t even charge for our services unless we’re successful.”
Because laws differ from state to state, an attorney will review state statutes and laws surrounding restrictive covenants in a dispute. An attorney also will consider how courts applied those laws in other cases. “You must consider the state laws that apply to the contract and how courts have applied these laws,” he says.
Bartle notes in some states, disputes over restrictive covenants go to arbitration instead.
“There are a lot of moving parts in these contracts,” he says. “Agents sign contracts, and they don’t have any idea how many deals they’ll be doing. Five years later, they have 80% of their business with Vendor X when Vendor X gets sold. Suddenly, they discover problems in their contracts. Most people don’t discover these problems until there is a dispute.”
Changing Contracts Later
“Contracts are creatures of consensus,” says Bartle. “If parties want to change them, they can.”
However, contracts typically contain provisions that detail how parties can modify contracts. Typically, contracts state both parties must agree to any amendments in writing and sign these amendments. Parties also cannot change contracts verbally or via email.
Modify agreements any time the agreement changes. Too often, parties change agreements verbally. The changes work well for a while, then there is a dispute. “If a contract says a bunch of stuff and no one is doing it, you need to amend the contract,” he says. “Because the courts will look to what the contract says in a dispute.”
The best practice is to always have an attorney read the fine print. It is money well spent that can prevent disputes and protect a company’s interests when disputes arise.
Ronnie Wendt is an editor at Agent Entrepreneur magazine.
