“Non-compete” -the need for restrictive interpretation of the non-competition clause

Recognized as a moral and loyalty obligation, the non-competition or non-compete clause, in general, restricts the performance of the parties to a contract so that one does not carry out activity considered competitive to the other. This clause is commonly used in purchase and sale of shares (M&A), in which it aims to protect and maintain the financial and operational viability of the business, and can be applied in various market segments and in different situations.

In such purchases and sales of shares, for example, it has become quite common to oppose the non-compete clause, restricting, by means of it, by the will of the parties, competing activities between the seller and the buyer for a certain period of time and in a certain segment, thus reducing the risk that the investment of this operation is not satisfactory to the parties due to possible competition.

Although they seem simple, non-compete clauses have requirements for their validity, such as: predetermined duration, delimitation of territory and activity. In addition to these requirements, the non – compete clauses are also accompanied by an arbitrated indemnity in sufficient amount to compensate the individual for the period in which they are prevented from acting as a result of it, being recognized by the doctrine as a moral and loyalty obligation, thus pricing the non-competition of these partners, who cease to integrate the corporate framework and are prevented from acting in the market.

It is important to note that there are several types of no – compete clauses. The most common is concerned with restricting the performance of directors and/or controllers of companies, for a period of time, within a certain segment, providing that they will not be able to act in businesses similar to that divested and/or that they were part of.

A practical example would be the purchase of a company creating urban mobility applications. The controller and / or programming director of the application and all its intelligence knows the entire programming system of this, its strengths and its points that could be improved, in addition to having market knowledge. It would not be fair that this controller and/or director, a month after the purchase of this company, went to work for its largest competitor or engaged in an identical project.

However, despite the competitive restriction, for the validity of the clause, as mentioned above, in addition to specifying the activity and time, the non-competition clause must provide for sufficient compensation to compensate the individual for the period in which they are prevented from acting as a result of said clause.

There is also the possibility of the institution of non-compete clauses for the restriction of the practice of certain activities between legal entities and/or companies linked to them. It is a widespread practice between the parties, that is, the parties expressly stipulate the restriction that must occur.

This concern, present in every non-competition clause, in expressly delimiting the details of the restriction, occurs because these end up directly restricting free competition[1] and free initiative[2], both constitutionally established principles.Thus, it is necessary that the non-compete clauses be interpreted in a restrictive manner, due to reasonable concern of a possible “expansion” in its interpretation, imposing restrictions on those who have committed themselves through it that are not expressly mentioned in the agreement.

In this way, it is understood that the application and interpretation of these clauses must always be restrictive, not least because the clauses will always be interpreted in favor of constitutional freedoms (free initiative and free competition), and the parties cannot be obliged not to undertake or not to compete beyond the limits expressly agreed therein.

The Brazilian courts have already moved towards a peaceful understanding in this regard, analyzing cautiously what were the limits agreed between the parties, so that the non-compete clauses are not interpreted extensively, but restrictively and only pay attention to what was agreed and the way it was agreed, thus respecting the constitutional principles already mentioned.

A judgment that is worth mentioning is from 1911, from the Court of Justice of the state of São Paulo, in which the bad faith of a merchant who after the sale of his store to a third party, established with him that he could not have the installation of another store on Consolação Street was discussed. However, the merchant installed a new store on a street close to that mentioned.

The court understood that there was no bad faith of this merchant, who initially sold his store, since the parties freely restricted the territory in what would be the “Forbidden Zone” of the new store facility, and the terms were clear: on Consolation Street. Since at the time a greater restriction was not made (a radius counting from Rua da Consolação, for example), the merchant who felt injured could not charge for something not expressly provided for in the contract once agreed.

Thus, the non-compete clause must always be interpreted in a restrictive manner, taking into account what is expressly agreed between the parties and in respect of the principle of Pacta Sunt Servanda.

Giovanna Luz Carlos-lawyer, graduated in law, from Centro Universitário Padre Anchieta (2019), enrolled in the Brazilian Bar Association, São Paulo Section (OAB/SP) (2020). Postgraduate in Civil Procedure from Faculdade Damásio De Jesus. Lawyer and Administrative Coordinator of TM Associados.

Leonardo Theon de Moraes-lawyer, graduated in law, with emphasis in business law, from Universidade Presbiteriana Mackenzie (2012), enrolled in the Brazilian Bar Association, São Paulo Section (OAB/SP) (2012). Postgraduate and Specialist IN Business Law from the São Paulo School of Law of the Getúlio Vargas Foundation (2014), Master in political and Economic Law from the Mackenzie Presbyterian University (2017), author of books and articles, lecturer, Professor in undergraduate, MBA and Executive Education at FIPECAFI and member of the São Paulo Lawyers Association (AASP). Founding partner of TM Associados.

<[1] the principle of free competition, which is described in Article 170, item IV of the Federal Constitution of 1988, comes to complement the idea of Free initiative, that is, this principle will ensure competitiveness in the market, guaranteeing equal rights for all, and thus allowing anyone to explore any commercial activity, except for any legal impediments.
[2] Free Will and freedom in the choice of an economic activity, as well as the freedom to choose the means by which one intends to achieve this economic activity.