McBride Law Blog

Covenant Not To Compete When Buying or Selling a Business (Part IV)

McBride Law Blog

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New York: Sale of Business and Good Will Beyond the Label.

In New York, non-competes used to be strongly disfavored by courts.[1]  Over time, however, courts came to recognize that there are situations in which it was not only desirable but essential to enforce non-competes.[2]  For example, in the context of a sale of a business along with its good will as a going concern, New York courts enforce a covenant not to compete because a seller of a business should not be allowed to recapture the good will of the very business he or she transferred for value by competing against the buyer.[3]  The only requirement is that the restraint imposed be reasonable—not more extensive, in terms of time and space, than is reasonably necessary to protect the buyer’s legitimate interest in the assets bought.[4]

So is it just a matter of structuring the transaction as a sale of a business and coming up with reasonable restrictions?  Not so fast.  In Purchasing Associates, Inc. v. Weitz, Weitz and two other men formed a partnership in the business of purchasing routine business supplies. [5]  About a month and a half later, the partnership entered into a contract to sell the business to another company for all of the net profits realized by the purchaser in that business for a term of three (3) years.[6]  Subsequently, Weitz entered into an employment agreement with the purchaser to provide his service for a fixed salary and agreed not to compete within a 300-mile radius of New York City for two (2) years after termination of his employment.[7]  Looking into the true nature of the transaction, the court said, although the parties signed a paper labeled “contract of sale,” the deal really was a hiring of Weitz as an employee.  The court reached this conclusion because, as a new business, neither Weitz nor the partnership had any customers at the time of the deal and, thus, the only thing Weitz “gave” the purchaser was his service as an employee.[8]            In other words, there was no transfer of good will of the partnership and the non-compete had to be analyzed under a different set of rules governing employment relationships.

What about reasonableness of non-competes in a bona fide sale of a business?  In Borne Chemical Company, Inc. v. Dictrow, Dictrow and other shareholders of a packaging products company sold their interests to another company that later became part of Borne Chemical Company, Inc.[9]  The contract of sale contained a non-compete that prohibited the sellers from engaging in the same line of business for five (5) years.[10]  At the same time, Dictrow and the buyer company entered into an employment agreement as an officer of the acquired business division, which prohibited Dictrow from competing for three (3) years after the termination of his employment.[11]  Subsequently, Dictrow was discharged and started competing.[12]  The court said, although non-competes are generally unenforceable in the context of employment agreement, the restrictive covenant would be enforced, if reasonable, where it was made in connection with the sale of the employee’s business, as here.[13]  Dictrow’s non-compete prohibited him from competing “at any place within any of the States of the United States or the District of Columbia, in which the Company operates at the time of termination of [his] employment,” but in the lawsuit, Borne Chemical only sought to restrict Dictrow within a 150-miles of its New York office.[14]  The court found that this was reasonable enough in terms of place and duration.[15]

This post was part of a multi-part series on covenant not to compete in the context of buying or selling a business.  You can find the other posts by searching our blogs at www.mcbrideattorneys.com.  In our next post, we will discuss non-competes under Texas law.

This posting is intended to be a planning tool to familiarize readers with some of the high-level issues discussed herein.  This is not meant to be a comprehensive discussion and additional details should be discussed with your transaction planners including attorneys, accountants, consultants, bankers and other business planners who can provide advice for your circumstances.  This article should not be treated as legal advice to any person or entity.

Steps have been taken to verify the contents of this article prior to publication.  However, readers should not, and may not, rely on this article.  Please consult with counsel to verify all contents and do not rely solely on this article in planning your legal transactions.

[1] Purchasing Assocs., Inc. v. Weitz, 13 N.Y.2d 267, 271 (Ct. App. 1963).

[2] Id.

[3] Id.

[4] Id.

[5] See generally id.

[6] Id. at 269.

[7] Id.

[8] Id.

[9] See generally Borne Chem. Co. v. Dictrow, 85 A.D.2d 646 (N.Y. App. Div. 1981).

[10] Id. at 646–47.

[11] Id. at 647.

[12] Id.

[13] Id. at 649.

[14] Id.

[15] Id.

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