Protect Your Small Business with Executive Employment Contracts

Hiring a high-level employee or executive is a big step for most small businesses. The consequences of making the right hire are much greater with an executive than with most other employees.

This hire involves a much bigger financial commitment on your part than hiring rank-and-file employees in terms of salary, benefits, and perhaps even an equity stake in the company. Your hope, of course, is that the experience and expertise the executive brings will result in greater sales and more opportunities for business growth, thus paying for the financial commitment many times over.

Because the stakes of such hires are so high, small business owners should create a formal, written employment contract that dictates the specific terms of your employment agreement with the executive. This will provide protection for both you and the new hire.

An employment contract will help ensure, for example, that the executive doesn’t leave your company and take valuable proprietary information to a competitor. And by spelling out the specific conditions under which the executive can and cannot be terminated, the contract provides a higher degree of job security for him or her.

An executive employment contract typically includes the following components:

• Duration of employment: In most states, if an employee is hired without an employment contract that stipulates the duration of employment, he or she is considered to be employed “at will.” This basically means that either the employer or employee can terminate the employment for any legal (i.e., nondiscriminatory) reason at any time. By including a specific time duration of employment, the contract gives both sides an “out” if the arrangement isn’t going as expected. Given the higher stakes involved in an executive hire, this is often welcomed by both sides. However, the contract can include an at-will clause stating that the employment term is open-ended if both sides prefer this kind of arrangement.
• Compensation details: Compensation packages for executives are often more complicated than those for rank-and-file employees. Not only do they include a base salary but they may include stock options, incentive compensation plans, specially designed retirement plans, and other perks such as a company vehicle or a country club membership. Given this complexity, it’s usually a good idea to put all of this in writing in a formal employment contract. Also include any specific benchmarks or performance levels that must be met for the executive to qualify to receive such compensation and perks.
• Severance package: To attract top executives, you may have to agree to pay them a certain amount of money or equity in the business or provide certain benefits for an extended period of time after they leave the company. The terms of any agreed upon severance package should be spelled out in detail in the employment contract, including the specific circumstances of employment termination that will and will not trigger the severance.
• Restrictive covenants: Also known as a noncompete agreement, this is your primary protection against an executive leaving your business and taking proprietary information or trade secrets to one of your competitors, or starting a business to compete with yours. Most noncompete agreements dictate that the executive cannot go to work for a competitor or start a competing business within a certain time period (such as one year) after leaving your company. The legalities of defining a “competing” business can get tricky, and courts tend to be unpredictable in how they rule in such cases. Regardless, including restrictive covenants in your employment contract will make executives think twice before jumping ship and taking proprietary information to a competitor.