One key distinction between China and the U.S. contract law lies in the treatment of non-compete clauses – provisions that restrict a party from engaging in a competing business for a specific period after the termination of a contract. In short, the two jurisdictions take markedly different approaches to regulate non-compete clauses. China’s national law allows for the existence and enforceability of non-compete clauses, but strictly limits their applicability to senior management, senior technical personnel, and others with confidentiality obligations. These clauses are primarily intended to prevent the spread of trade secrets and protect intellectual property. In contrast, the United States takes a state-decentralized approach. Although the federal government has attempted to ban non-compete clauses nationwide, federal jurisprudence has consistently held that contract law—including the regulation of non-compete clauses—falls under state purview. Consequently, regulations on non-competes vary significantly from state to state. Further, where a state holds non-competes unenforceable, it may be due to either state statutory law or state common law. Where non-competes are permitted, statutes typically do not include intellectual property or trade secret protections because federal statutes already oversee these concerns. Instead, state non-compete clause regulations would consider geographic, durational, and public policy factors to determine enforceability.

China

China’s contract law is largely governed by national law. The conditions for enforceability of a non-compete clause are stipulated under Articles 23 and 24 of the Labor Contract Law of the People’s Republic of China.

Article 23 governs the use of the non-compete clauses, stating that non-compete clauses may be included in a labor contract to require the employee “to keep confidential the employer’s trade secrets and other confidential information related to intellectual property.” Furthermore, the statute stipulates that to enforce a non-compete clause, the “employer shall provide financial compensation to the employee during the non-compete period after the termination or dissolution of the labor contract.” This requirement is generally absent in most U.S. states that permit non-compete clauses.

Rather, the U.S. states that allow non-compete clauses in their contractual law mainly take factors such as geographic location, duration, or public benefit into consideration when evaluating enforceability. If these considerations are satisfied, the benefits received by either the employer or former employee following the termination of a labor contract are generally not a focus of deliberation for the courts.

Article 24 of China’s Labor Contract Law continues to delineate the types of employees who may be subject to a non-compete. The statute limits non-competes to “senior management, senior technical personnel, and other personnel with confidentiality obligations.” That is, the enforceability of non-competes depends on the employee seniority, which is another key condition that differs from U.S. law. Article 24 also provides that “the scope, geographic area, and duration of the non-compete shall be agreed upon by the employer and employee.”

This liberty given to employers and employees to define their own scopes, geographic limitations, and timelines of non-compete clauses is also not shared by U.S. contractual law. In the U.S., the bounds of the scope, geographic area, and duration are heavily circumscribed by either state statutes or common law. It is worth mentioning that two-year maximum enforceability period under Chinese law is similar to time limits imposed by several U.S. jurisdictions.

United States

As previously stated, the United States has a decentralized contractual legal system where state statutes and common law dictate the enforceability of non-compete clauses. This status quo was reaffirmed in the recent U.S. District Court for the Northern District of Texas decision in Ryan LLC v. FTC (2024). In January 2024, the Federal Trade Commission (FTC) had issued a regulation stating that all non-compete clauses between employers and employees could not be enforced by the court and thus unenforceable by courts. In its decision, the District Court concluded that the FTC Act’s Section 6(g)[1] “does not expressly grant the Commission authority to promulgate substantive rules regarding unfair methods of competition” (Ryan LLC v. Fed. Trade Comm’n, 739 F. Supp. 3d 496 (N.D. Tex. 2024)). This ruling held that the FTC’s power under this section of the FTC Act is limited to making procedural amendments to any existing federal contract law and limited the scope of federal contract law under the FTC Act to deceptive practices.

Although this case is currently under appellate review by the Fifth Circuit, the District Court’s decision reinforced the state control over contractual law by curtailing the scope and applicability of federal contractual law. In the following three sections, the author analyzes the contract laws governing non-compete clauses in three of the largest state economies in the US: Texas, California, and New York.

Texas

Of the three states analyzed in this article, Texas is the most willing to enforce non-compete clauses. Governed by Sec. 15.50 of the Texas Business & Commerce Code, titled “Criteria for Enforceability of Covenants Not to Compete,” a non-compete clause “is enforceable if it is ancillary to or part of an otherwise enforceable agreement at the time the agreement is made to the extent that it contains limitations as to time, geographical area, and scope of activity to be restrained that are reasonable” (Tex. Bus. & Com. Code Ann. §15.50). The statute singles out the medical industry for stricter scrutiny, requiring non-competes for doctors and other medical personnel to meet additional requirements regarding medical records and buy-outs provisions[2].

Since this statute’s enactment in 1989, Texas courts have developed the state common law to provide definitions and constraints for the duration, geographical scope, and scope of activity considerations to enforce non-compete clauses. In D’Onofrio v. Vacation Publs., Inc., the fifth Circuit held that covenants that “are not limited as to either geography or clients with whom former employees actually worked during their employment” were unreasonable and therefore unenforceable (D’Onofrio v. Vacation Publs., Inc., 888 F.3d 197 (5th Cir. 2018)). Therefore, courts now review the geographic scope and scope of activity of non-compete clauses in employment contracts on a case-by-case basis.

In addition to employment agreements, non-compete clauses are also commonly found in commercial cooperation contracts such as franchise agreements. Further, regarding franchisor-franchisee contracts, Oliver v. Rogers reaffirmed the 1960 decision Weatherford Oil Tool Co. v. Campbell that “franchisors had the burden of establishing that a covenant not to compete did not contain a reasonable limitation as to time and that the scope of activity to be restrained imposed a greater restraint than was necessary to protect the goodwill or other business interest of the franchisees.” (Oliver v. Rogers, 976 S.W.2d 792, (Tex. App. 1998); Weatherford Oil Tool Co. v. Campbell, 161 Tex. 310, 340 S.W.2d 950 (1960)). The aforementioned precedents have established the following principle: the franchisor – or by extension, employers in general – bears the burden of proof to demonstrate that the temporal, geographic, and activity-based restrictions in its non-compete clause are reasonable, and that the scope of restraint does not exceed what is necessary to protect its goodwill or other legitimate business interests.

California

California is notably hostile towards non-compete clauses in contracts. Under California Business and Professions Code §16600, “except as provided in this chapter, every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind to that extent is void". Furthermore, California courts have interpreted this statute broadly and applied it to both employer-employee agreements and franchisor-franchisee agreements.

California Business and Professions Code also includes exceptions where a non-compete can be enforced by a court. Under §16602, a partner, in anticipation of either the dissolution of the partnership or their dissociation from it, may agree to a non-compete clause on themselves. However, this agreement must be made upon partnership’s dissolution. Furthermore, should the original instrument be a franchisor-franchisee agreement, that instrument would have to define the agreement as a "partnership" rather than as an employer-employee relationship. The franchisee must agree to the covenant at the termination of the partnership—therefore, language of such a nature created at the inception of the would still be considered unenforceable by the court. Per Kelton v. Stravinski, the non-competition covenant is unenforceable if it is defined at the beginning of business and not at the time of its dissolution in connection with the sale of the goodwill of a business (Kelton v. Stravinski, 138 Cal. App. 4th 941, 41 Cal. Rptr. 3d 877 (2006)).

Should an expanding franchisor or employer wish to prevent future managers from competing with their industry after their contract terminates, the employing party must initiate negotiations for the departing party to sign a separate ancillary agreement stating that they will not compete with the franchisor’s business. Furthermore, courts have enforced contracts that require “good faith negotiation” upon termination. Therefore, including a clause mandating the good faith negotiation of a non-compete buyout may present the most viable legal strategy to prevent competition from former employees. With that said, all that is guaranteed by this clause is the opportunity to buy the former employee’s compliance.

New York

In contrast to California’s statutory prohibition of non-compete clauses, New York common law permits the existence of non-compete clauses. However, it imposes prerequisite conditions that, in practice, render such clauses largely unenforceable. Although theoretically permissible under New York common law, non-compete clauses must satisfy four-pronged reasonableness test to be enforceable, that is, the restrictions imposed by the clauses must be (1) reasonable in time and geographic space, (2) unavoidable to protect a legitimate interest of the employer, (3) not unduly burdensome on the employee, and (4) not injurious to the general public. This legal framework was established through two NY Court of Appeals cases: Reed, Roberts Assoc., Inc. v. Strauman and BDO Seidman v. Hirshberg (Reed, Roberts Assocs., Inc. v. Strauman, 40 N.Y.2d 303, 386 N.Y.S.2d 677, 353 N.E.2d 590 (1976); BDO Seidman v. Hirshberg, 93 N.Y.2d 382, 690 N.Y.S.2d 854, 712 N.E.2d 1220 (1999)).

New York’s legal precedent also suggests that courts will not enforce a non-compete clause whose primary aim is to deter business competition. Under the four-factor reasonableness test, New York courts have held that "maintaining a monopoly" and "preventing business competition" is either good for the general public (4) or is a legitimate business of the employer (2). In general, legitimate interests are restricted to support interests such as preventing the spread of trade secrets or client lists as described in Reed, Roberts Assoc., Inc. v. Strauman. The court’s hostility to monopolistic practices is rooted in the belief that monopolies are a harm to the public welfare. Furthermore, the state’s statutory framework provide laws to prevent the formation of monopolies in line with this logic. Per N.Y. Gen. Bus. Law § 340, “Contracts or agreements for monopoly or in restraint of trade illegal and void. Every contract, agreement, arrangement or combined action whereby (a) A monopoly in the conduct of any business, trade or commerce or in the furnishing of any service in this state, is or may be established or maintained, or whereby (b) Competition or the free exercise of any activity in the conduct of any business, trade or commerce or in the furnishing of any service in this state is or may be restrained or whereby (c) For the purpose of establishing or maintaining any such monopoly or unlawfully interfering with the free exercise of any activity in the conduct of any business, trade or commerce or in the furnishing of any service in this state any business, trade or commerce or the furnishing of any service is or may be restrained, is hereby declared to be against public policy, illegal and void."

Monopolies are only defined as a public good where the monopoly service is serving a public works function such as power or water (see Cahill v. Pub. Serv. Com., 69 N.Y.2d 265, 513 N.Y.S.2d 656, 506 N.E.2d 187 (1986)). However, such public utility monopolies are largely domestic and therefore this precedent is largely inapplicable to Chinese companies.

Practical Guidance

In most cases, under the U.S. laws and regulations, a contract containing a non-compete clause will not affect the enforceability of the other clauses of the contract. This concept, known as blue-penciling, allows courts to sever, modify, or narrow provisions within a contract to allow for the greater contract to be enforceable. Courts within a jurisdiction that does not enforce non-compete contracts will most likely sever the non-compete clause to hold the other employment provisions listed in the contract enforceable. While non-compete clauses may not be enforceable in most U.S. jurisdictions, their inclusion can serve a signaling or deterrent function. However, it is generally unwise for a party to attempt to enforce a non-compete that lacks a clear legal basis in most U.S. jurisdictions. 

[Note] 

[1] FTC Act’s Section 6(g)  - 15 U.S.C. 46 - Additional powers of Commission (g) Classification of corporations; regulations

From time to time classify corporations and (except as provided in section 57a(a)(2) of this title) to make rules and regulations for the purpose of carrying out the provisions of this subchapter.

15 U.S.C. 58 - Short title

This subchapter may be cited as the "Federal Trade Commission Act".

[2] Texas Business and Commerce Code Section 15.50 (2024) - Criteria for Enforceability of Covenants Not to Compete. 2024 Texas Statutes. U.S. Codes and Statutes. Justia. https://statutes.laws.com/texas/business-and-commerce-code/section-15.50.