Sale of a Business Exception: Drafting Legal Non-Competes for Minnesota Founders

When private equity groups, strategic acquirers, or co-founders negotiate a multi-million-dollar buyout in Minneapolis, St. Paul, or Duluth, the buyer is rarely paying for office furniture and computers alone. The lion's share of the purchase price in a merger or acquisition (M&A) represents enterprise goodwill, customer relationships, and institutional know-how. If a selling founder could pocket the closing wire on Friday and open an identical competing venture across the street in Hennepin County on Monday, the acquired business would lose its value overnight.

Recognizing this economic reality, the Minnesota Legislature carved out two vital corporate exceptions when it banned employment non-competes: covenants agreed upon during the sale of a business and covenants agreed upon in anticipation of the dissolution of a business. However, drafting or challenging an M&A non-compete requires strict adherence to statutory boundaries so that a post-closing employment contract does not accidentally invalidate the deal's restrictive covenants. Consulting a seasoned Minnesota corporate and M&A attorney from our directory ensures your transaction agreements withstand judicial scrutiny.

Defining a Bona Fide Sale

Under Minn. Stat. § 181.988, Subdivision 2(b)(1), a covenant not to compete is valid and enforceable if it is agreed upon during the sale of a business. Specifically, the statute provides that the person selling the business and the partners, members, or shareholders, and the buyer of the business, may agree on a temporary and geographically restricted covenant not to compete that prohibits the seller from carrying on a similar business within a reasonable geographic area and for a reasonable length of time.

Minnesota Supreme Court precedent has long distinguished business-sale covenants from ordinary employment contracts. In B & Y Metal Painting, Inc. v. Ball, 279 N.W.2d 813 (MN Supreme Court 1979), the court emphasized that while employment non-competes are strictly scrutinized due to unequal bargaining power, a seller in a business acquisition negotiates at arm's length and receives direct financial consideration for transferring the company's goodwill. Whether structured as a stock purchase, a membership interest purchase, or a sale of substantially all corporate assets under Minn. Stat. § 302A.661, the transaction must transfer genuine ownership and goodwill to qualify for the statutory exemption.

Partners, Members, and Shareholders Covered Under Subdivision 2(b)

Unlike certain states that impose a rigid percentage threshold (such as requiring a seller to own at least 1% or 5% of the company), the plain text of Minn. Stat. § 181.988, Subdivision 2(b)(1) covers the person selling the business and its partners, members, or shareholders. In a legitimate M&A transaction registered with or involving entities filed through the Minnesota Secretary of State Business Services, St. Paul, this encompasses:

• Corporate Shareholders: Founders and equity holders selling common or preferred shares in a Minnesota C-corporation or S-corporation.
• LLC Members: Operating and capital members transferring membership units in a Limited Liability Company governed by Chapter 322C.
• General and Limited Partners: Equity partners selling their partnership interests or dissolving a professional or commercial partnership.

Phantom Equity, Tiny Token Shares, and Sham Buyback Traps

Because Minn. Stat. § 181.988 voids all employment non-competes, some employers attempt to manufacture a 'sale of a business' by granting key managers phantom stock, Stock Appreciation Rights (SARs), or a microscopic fraction of non-voting shares subject to a mandatory repurchase upon termination. Under Minnesota law, these sham structures face severe invalidation risks:

• Phantom Equity and Cash Bonuses Do Not Qualify: Phantom stock, profit-sharing units, and change-in-control cash bonuses are contractual compensation-not actual partner, member, or shareholder equity. A manager who holds only phantom equity cannot be bound by a post-employment non-compete under Minn. Stat. § 181.988.
• Bona Fide Goodwill Transfer Requirement: As established in Bess v. Bothman, 257 N.W.2d 791 (MN Supreme Court 1977), the sole legal justification for a sale-of-business non-compete is protecting the goodwill purchased by the buyer. If an employer forces an employee to buy 0.01% of stock and sell it back at termination for a nominal formula without a genuine M&A transaction transferring enterprise goodwill, Minnesota courts will pierce the sham and void the covenant.

The Anticipation of Dissolution Exception for Partnerships and LLCs

Subdivision 2(b)(2) of Minn. Stat. § 181.988 creates a second exception when a covenant not to compete is agreed upon in anticipation of the dissolution of a business. Under this provision, the partners, members, or shareholders, upon or in anticipation of a dissolution of a partnership, limited liability company (such as under Minn. Stat. § 322C.0701), or corporation, may agree that all or any number of them will not carry on a similar business within a reasonable geographic area where the business has been transacted.

Practically, this exception applies when co-founders or medical, legal, or accounting partners split up a firm-allocating specific regional territories or operating divisions to one partner while the departing partners agree not to compete in the continuing partner's core territory.

Geographic Restrictions for Business Sellers

Both statutory exceptions in Minn. Stat. § 181.988 require that the non-compete be limited to a reasonable geographic area. Under Minnesota common law, a geographic restriction in a business sale is reasonable only if it matches the actual territorial footprint where the acquired company transacted business or possessed established customer goodwill at the time of closing.

In Bess v. Bothman, 257 N.W.2d 791 (MN Supreme Court 1977), the seller of a local towing and repair business signed a non-compete that lacked any geographic or time limit. The Minnesota Supreme Court affirmed the trial court's authority under Minnesota's 'blue-pencil' doctrine to equitably modify the overbroad covenant, narrowing it to the specific town and surrounding area where the seller had actually operated. Similarly, in Klick v. Crosstown State Bank of Ham Lake, Inc., 372 N.W.2d 85 (MN Court of Appeals 1985), the court evaluated whether the territorial scope and duration of a restrictive covenant went beyond what was necessary to protect the buyer's purchased investment. Consequently, if a Minneapolis manufacturing firm only sells products in the Upper Midwest, a worldwide or nationwide non-compete risks being blue-penciled or struck down, whereas a national SaaS company sold in Bloomington may legitimately justify a nationwide restriction tied to its exact software vertical.

Duration Limits for M&A Non-Competes

Minn. Stat. § 181.988 requires sale-of-business non-competes to be temporary and last only for a reasonable length of time. While the statute does not set a rigid numerical cap, Minnesota courts measure reasonable duration by asking how long it takes for the buyer to absorb the acquired goodwill and establish its own hold on customers without unfair interference from the founder.

Separating Transaction Non-Competes from Post-Closing Employment Agreements

The single biggest drafting mistake in Minnesota M&A transactions occurs when buyers retain the selling founder as a post-closing executive (such as CEO or VP of Sales) and place the non-compete inside the Executive Employment Agreement rather than the Asset or Stock Purchase Agreement.

Step-by-Step Process for Drafting or Enforcing an M&A Non-Compete in Minnesota

Step 1: Allocate Goodwill Value in the Letter of Intent (LOI)

During initial deal negotiations and tax structuring (such as Form 8594, FED, Internal Revenue Service, Asset Acquisition Statement Under Section 1060 asset allocations), explicitly document that a material portion of the purchase price is being paid for the seller's goodwill and restrictive covenants. Under Davies & Davies Agency, Inc. v. Davies, 298 N.W.2d 127 (MN Supreme Court 1980), clear bargaining and adequate consideration are essential foundations for any restrictive covenant.

Step 2: Map the Exact Pre-Closing Geographic and Industry Footprint

Audit the target company's active customer zip codes, states, and specific product lines. Draft the Purchase Agreement covenant to cover only the lines of business and geographic territories where the target actively operated or had concrete expansion plans at closing.

Step 3: Anchor the Covenant in the Purchase Agreement

Execute the non-compete as part of the Stock Purchase Agreement, Asset Purchase Agreement, or Redemption Agreement signed at closing. Keep any post-closing employment or consulting agreement separate, using only statutory carve-outs-nondisclosure, trade secret protection under Minn. Stat. § 325C.01, and client non-solicitation-for the ongoing employment relationship.

Step 4: Filing or Defending a Commercial Action in District Court

If a dispute arises over a founder competing post-closing, litigation is typically filed in the Hennepin County District Court, Fourth Judicial District, Minneapolis, the Ramsey County District Court, Second Judicial District, St. Paul, the St. Louis County District Court, Sixth Judicial District, Duluth, or the U.S. District Court for the District of Minnesota, Minneapolis. Counsel initiates the case with Form CIV117, Minnesota, Judicial Branch, Civil Cover Sheet, Form CIV102, Minnesota, Judicial Branch, Certificate of Representation and Parties, and, for high-value M&A litigation, Form CIV118, Minnesota, Judicial Branch, Complex Case Program Election Form.

Step 5: Expedited Discovery and Subpoenas

In injunction proceedings, both sides conduct targeted discovery into customer communications, formation of competing LLCs, and deal negotiations, issuing third-party subpoenas via Form CIV101, Minnesota, Judicial Branch, Civil Subpoena.

Step 6: Judicial Blue-Pencil Review or Injunctive Relief

The judge evaluates whether the transaction qualifies as a bona fide sale under Minn. Stat. § 181.988, Subdivision 2(b), and whether the geographic and temporal scope should be enforced as written, equitably modified under Bess v. Bothman, 257 N.W.2d 791 (MN Supreme Court 1977), or invalidated as an disguised employment restriction.

How Much Does M&A Non-Compete Drafting and Litigation Cost in Minnesota?

• Transactional Drafting & Deal Review: Retaining a Minnesota M&A or employment attorney to draft or review restrictive covenants in a business sale or partnership dissolution typically costs between $2,000 and $6,500 as part of the transaction legal budget.
• Minnesota Court Filing Fees: Under Minn. Stat. § 357.021, the District Court civil filing fee for a Complaint or Answer is $322 (plus county law library fees), and $100 per motion for a Temporary Restraining Order or summary judgment. Filing in the U.S. District Court for the District of Minnesota costs $405.
• M&A Non-Compete Litigation: Prosecuting or defending a commercial business-sale non-compete injunction and damages action in Minnesota typically ranges from $15,000 to $60,000+ depending on forensic discovery and business valuation experts.

How Long Does the Process Take?

• Transactional Negotiation Timeline: Drafting and negotiating the restrictive covenant schedules in a Minnesota business sale usually takes 1 to 3 weeks alongside the definitive purchase agreement.
• Preliminary Injunction Proceedings: If a buyer seeks an emergency court order to halt a seller's competing venture, Minnesota courts generally hear and decide the motion within 14 to 45 days.
• Full Commercial Litigation: A contested M&A breach-of-contract and earnout/escrow clawback lawsuit typically takes 10 to 18 months to reach trial or settlement.

Frequently Asked Questions (FAQ)