Software outsourcing contracts – Non-compete clause

Legal Document

 

We get customers on our marketplace, who have a huge endowment effect (which means, “The mere fact that you own something makes you estimate its value to be higher than it really is!”). Their ideas are precious and they need to be protected, at all costs. I understand and empathize with it, because in the early stages of their startup they’ve nothing much to show but the idea.

When it comes to outsourcing the tech involved in building their products, some startup founders go over-zealous about their contracts. One manifestation of this behavior is the ask of a ‘Non-compete clause’.
In its most benign form, the non-compete clause asks that the outsourcing company does not build a competing business, for a period of x years. That’s fair. You don’t want a competitor to emerge from a seemingly non-conflicting buyer-vendor relationship.

In its most restrictive form, the non-compete clause asks that the outsourcing company does not build similar software for any company for ‘x’ years.

The second ask is possible too, but if you are about to write a check for, say, $100 million. Even then, I would expect a savvy legal team of a service provider to reject this ask.

As a startup, you are probably asking for discounted rates. You are not going to be outsourcing forever. Your sourcing budget would in hundreds of thousands of dollars or even less. It simply does not make business sense for a service provider to tie themselves up into a restrictive agreement for a limited (if any) upside.

Some customers, have this tendency of slipping the clause in, to see how far it can go. We’d not recommend that either. As much as you qualify a service provider, they qualify you as well. A customer account with limited budget and upside growth, bringing up non-compete clauses is often a red flag and a pointer to how unreasonable s/he could be, in the future.

So, if you are a startup and are drafting your first outsourcing contract, curb your temptation to go all in and one-sided. You’ve not many chips to demand a bargain.

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