In today’s evolving workplace, clarity and consistency are essential for building strong employer-employee relationships. One of the most effective tools for achieving this is a well-drafted employment agreement. Far from being just a formality, an employment agreement plays an important role in protecting businesses, setting expectations, and fostering long-term success.

What is an Employment Agreement?

Arizona is an at-will state, meaning an employer can fire an employee, and an employee can quit, at any time for any reason or no reason at all, provided the action is not illegal.  An employment agreement is a formal contract between an employer and an employee that alters the at-will nature of employment and describes the terms and conditions of employment. This typically includes job responsibilities, compensation, paid time off, benefits, confidentiality obligations, termination provisions, and other key expectations. While some businesses rely on informal or verbal arrangements, written agreements provide a clear, enforceable framework that benefits both parties.

Why an Employment Agreement Matters.

  1. Clarity and Alignment.  An employment agreement can ensure that both the employer and employee are aligned from the outset. By clearly defining roles, responsibilities, and performance and compensation expectations, businesses can reduce misunderstandings and create a more productive working relationship. Precise language helps ensure that obligations are enforceable and limits the potential for conflicting interpretations.
  2. Legal Protection. A properly structured agreement helps mitigate legal risks upon separation from employment.  It can address critical issues such as intellectual property ownership, confidentiality and non-disclosure obligations, and dispute resolution mechanisms.  These provisions reduce ambiguity and are easier to enforce than just provisions in an employee handbook.
  3. Clear Separation Strategies.  An employment agreement outlines the terms under which an employment relationship may end. This includes notice periods, severance arrangements, and post-employment obligations. Having these provisions clearly defined helps avoid costly disputes and ensures smoother transitions.

Employment Agreement Terms for Key Employees.

Large publicly held corporations typically grant their executive team stock or stock options to incentivize their employees.  These compensation plans do not work well for the key employees of closely held or family businesses because there is not an efficient process for valuing or recovering the shares upon grant and separation from service.  For those employees who are critical to the ongoing success of the closely held business, using an employment agreement in lieu of equity can solve a variety of problems.  Common provisions include:

  • Retention Bonuses.  Committing to pay an employee in an employment agreement for staying through a difficult time period or transaction encourages employee retention.  These bonuses are usually a fixed amount or based on salary and are paid at the end of specific project or term.  In addition to giving the employee additional compensation, the bonus can be structured to give the business capital or cash flow to support growth.
  • Change in Control Payments.  Guaranteeing a payment upon a change in control or sale of the business in an employment agreement is a common solution in lieu of giving key employees equity in the entity.  The payment could be a fixed sum, a percentage of the proceeds or a formula and is only paid if the business is sold or merged into another entity controlled by a third party.    The benefits of this structure are (a) the employee does not have to come up with cash to buy-in, (b) the equity stake does not need to be re-purchased upon an adverse event such as death, divorce, bankruptcy or resignation, (c) the owner does not relinquish control, (d) the terms are relatively simple to implement and can incorporate floors, vesting schedules or performance targets, and (d) the employee can financially benefit from the ultimate sale of the business.
  • Profit Sharing and Guaranteed Bonus Payments.  Guaranteeing a bonus based on the financial performance of the business is another alternative provision found in an employment agreement to mirror equity.  Most successful businesses have some sort of informal incentive compensation, but this provision is used when the employer believes that the employee deserves or needs the arrangement to be committed to writing.  Again, the bonus could be calculated using a fixed sum, a percentage of compensation or equity equivalent or a formula.  The payments could be paid monthly, quarterly or annually.  These provisions have similar benefits to the Change in Control payments described above, but also give the employee additional compensation during the term of employment.

Restrictive Covenants in an Employment Agreement.

Restrictive covenants are provisions designed to protect the employer’s business.  The provisions commonly found in an employment agreement include non-competition, non-solicitation, and non-disclosure commitments from the employee.

  • Non-disclosure and non-use provisions in an employment agreement require the employee to keep the business’s sensitive data, trade secrets, and proprietary information confidential.  It also can restrict the employee from using such information.  It typically covers trade secrets, know-how, customer lists, and business strategies.  These provisions can be very broad and enforceable during the term of employment and thereafter.
  • Non-solicitation provisions in an employment agreement restrict the employee from soliciting the business’s customers, vendors and employees.  There are a wide variety of terms ranging from those parties in which the employee had contact to all customers, vendors and employees.  Obviously, the broader the language, the more difficult it is to enforce.
  • Non-competition provisions in an employment agreement prevent the employee from working with a competitor or starting a new business that is in competition with the business.  The Federal Trade Commission attempted to ban the use of these provisions in 2024, but those regulations were overturned before implementation.   In Arizona, these provisions are enforceable, so long as they do not violate the state’s public policy.  This means the provisions must be narrowly tailored to protect the employer’s legitimate business interests and no more.  Common restrictions include a defined time period, geographic area and scope.  These provisions are more difficult to enforce than the nondisclosure and non-solicitation provisions described above.

Other Standard Terms for an Employment Agreement.

At a minimum, an employee agreement should include a term, describe the compensation and benefits that the employee is entitled, define the scope of the employee’s duties and responsibilities, termination provisions and choice of law and venue provisions.  The importance of including a choice of law and venue provision can not be overstated post-Covid.  In this economy an employee may be working from multiple locations across city, state and country lines, with each location having jurisdiction depending on the business’s operations.  Agreeing on the law and venue will drastically reduce unnecessary litigation over which jurisdiction applies.

Conclusion

While they have their benefits, an employment agreement is not suitable for all businesses or all employees.  We work closely with our clients to tailor each employment agreement to reflect their unique operational needs, industry requirements, and short, intermediate and long-term goals. Whether you are hiring your first employee or managing a growing workforce, having the right agreement in place is a key step toward sustainable success.  Please give us a call to get started.