Understanding Non-Compete Agreements

Non-compete agreements, commonplace yet contentious, have significant implications for both individuals and companies. These agreements, nestled within employment contracts, are designed to restrict workers from moving to rival companies. But what do they mean in the real world?

In this video, Bhargav Gopal, assistant professor of business economics at Smith School of Business, explores non-compete agreements. He sheds light on their popularity, the impact on workforce mobility and the economic implications. He also explores the balance between employer interests and employee rights, and he unpacks the role that governmental regulation plays in shaping the labour market.

Whether you are a budding professional or an industry veteran, Gopal offers valuable insights into the intricacies of employment contracts. He may even help you understand when a non-compete is worth it, and when it is not. 

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Bhargav Gopal:

00:07: What are non-compete agreements?

Non-compete agreements are provisions within employment contracts that prevent workers from moving to competing firms. They’re quite common. Thirty-eight per cent of workers have signed non-compete agreements at some point in their careers. And at any given point in time, about 15 per cent of workers have non-compete agreements in their contracts. Typically, the competing firm is within the same industry and within a specified geographic radius of the original firm.

00:36: Which industries tend to use non-competes?

Non-compete agreements are more likely to be used in industries where the transfer of knowledge between employers and employees is important — industries such as professional services and information communications. And [they] are less likely to be used in industries such as education and social services.

00:59: For employees, what are some upsides and downsides of non-competes?

There surely is an economic case against non-compete agreements. The primary downside of non-compete agreements is that workers are stuck in their jobs and may not move to jobs where they’re more productive.

Employees may be less likely to have a promotion or get a raise if they feel that they don’t have outside opportunities. It could certainly impose psychological costs on workers. And workers may feel that they’re being exploited. In the actual data, we’re not finding this to be the case. We’re finding that workers earn higher wages for signing non-compete agreements.

If non-competes encourage firms to invest in their workforce and workers are compensated for this investment, then we may expect to see wage gains amongst workers with non-compete agreements. That investment could be, for example, in the workers’ human capital. Non-compete agreements are more likely to be used in human capital-intensive industries, for example, in information and communications.

01:58: For employers, what are some upsides and downsides of non-competes?

For employers, the benefits are twofold again. Employers receive a more skilled workforce, and workers are more productive with non-compete agreements. Secondarily, employers retain their employees for a longer period of time, so there’s less turnover.

The downsides to employers are twofold. One is employers have to pay higher wages to workers in exchange for signing a non-compete agreement. And secondly, recruiting firms find it harder to recruit talent.

02:33: How does regulation factor into non-competes?

My wider area of study broadly studies the role of government in improving societal outcomes. In non-compete agreements, we’re interested in the role of governmental regulation. For example, what’s the impact of a non-compete ban on worker-level labour market outcomes? And this study suggests there are costs and benefits. There are gains in terms of a more skilled workforce, but there are costs in terms of an inefficient matching between workers and firms. That is to say, workers may not be moving to firms where they are most productive.

03:12: Should you sign a non-compete agreement?

The decision to sign a non-compete agreement depends on how much you think the employer will invest in you. So, if you think that employers will invest in you in exchange for signing a non-compete agreement, it’s certainly worth it. If you think that you’re not going to be receiving firm-provided investment in exchange for signing a non-compete agreement, then I would think twice about it.