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Restrictive Covenants in Employment Contracts

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Restrictive covenants in employment contracts can play an important role in protecting an organisation’s commercial interests and managing risks when an employee leaves the business.

While implied contract terms provide some measure of protection for the employer during the employee’s period of employment, using restrictive covenants within contracts of employment can provide protection after the employment has ended. This becomes business-critical where the information is commercially-sensitive and of high value.

Restrictive covenants within employment contracts can prevent important information from being used and passed on by former employees, and prevent former employees from exploiting the organisation’s customer base and trade connections and taking business with them to their new employer.

 

Types of restrictive covenants

There are several different types of restrictive covenants an employer can use. These include:

  • Non-competition – this restricts your former employee from working for a competitor or setting up a competing business.
  • Non-solicitation – this restricts your former employee from approaching customers, clients, or prospective clients once they have moved to their new employer or set up their own business.
  • Non-dealing – this restricts your former employer from entering any contract between themselves, clients, or prospective clients. Even where the former employee does not initiate that contact.
  • Non-poaching – this restricts your former employee from approaching their previous colleagues to move to their new business or employer.
  • Garden leave – this is used once an employee has given notice of their intention to leave the company in order to prevent them from attending the workplace and working during their notice period. It allows an employee to spend all their notice period at home whilst still receiving their full salary and benefits and tends to be used together with restrictive covenants.

The benefits of garden leave are that it prevents the employee from taking up any other employment with a competitor for the duration of it. And enables the employee’s successor to establish themselves and develop their own relationships with existing clients and business contacts.

To be able to place an employee on garden leave, an employer must have an express clause in the employee’s contract. This is subject to the test of reasonableness regarding its duration. The longer the period of garden leave, the less likely it is that it would be enforceable in practice.

 

Are restrictive covenants enforceable?

For a restrictive covenant to be valid, it should include as much detail as possible. This includes the period of time the restriction applies, the type of work being restricted, and any other requirements. The case of Square Global Limited v Leonard confirms that the court will enforce non-competition clauses, but with the caveat that the restrictions must go further than simply “protecting legitimate business interests”. This case also emphasises the importance of clarity surrounding gardening leave where employees may work out their notice at home.

This is in contrast to the 2014 case of Ashcourt Rowan Financial Planning Limited v Hall where the High Court found the restrictive covenant preventing the employee working for a competitor for six months was not enforceable because the restrictive covenant was drafted too widely and went beyond protecting the employer’s legitimate business interests. And to be in “restraint of trade”.

The law regards any restrictive covenant “in restraint of trade” as being void. This is because of its potential to be anti competitive, and therefore against public policy. Restrictive covenants are only enforceable if their effect is stringently restricted to what is essential to protect particular business relationships and information.

 

Ensuring restrictive covenants are reasonable

As with most things, the devil is in the detail, and employers must take great care to ensure they are achieving a legitimate business interest when drafting restrictive covenants. It is always sensible to get expert legal advice to make sure any restrictive covenant is enforceable and supports the aims of your business, its sector, and structure.

The court will consider the following issues:

  • How restrictive the covenants are to the former employee. The court will look at the geographic coverage and areas of business and length of restriction in order to calculate whether the measures truly protect the business or whether it intentionally prevents the employee from earning a living because the restrictions are too wide in their impact.
  • Are the restrictive covenants in the legitimate interests of the business? The employer bears the burden of proof in this situation to show why the breach of any restrictive covenants in employment contracts will have a detrimental impact on the future of the business.
  • Role of the former employee – consideration is given to the department where the employee performed their role and their seniority in order to determine “reasonableness”. If the role of an employee changes during their service at the business, a review of any restrictive covenants already included within their employment contract should be undertaken in order to ensure it is appropriate and proportionate to the new role.

What is reasonable depends on the employee’s position within the business. A general rule of thumb is that the court will deem it more reasonable to restrict the actions of those in senior positions who are in regular contact with clients and business contacts, than restricting more junior employees, for example.

That said, if an employer can establish a junior employee has a substantial personal connection with relevant clients, the court is more likely to uphold a restrictive covenant. This is true even whether a decision is made to approach the client or not.

 

Other circumstances where restrictive covenants may not be enforceable

A restrictive covenant will not be enforceable at a later date if it was unenforceable when the contract was first entered. This generally happens when an employee is hired at junior level and the restrictive covenants within their employment contract were onerous enough to have been unenforceable at the time it was entered into. An employee cannot “grow” into the restrictive covenants as they rise through the ranks and become more senior. This means that the original restrictive covenants cannot be enforced regardless of any increasing seniority the employee may attain.

The work around for employers is to require the employee to provide new acceptance of the old restrictive covenant on promotion or ask them to sign a new contract of employment which contains the new restrictive covenants. Additionally, there must be “consideration” in return for the employee entering into a restrictive covenant. This means, there needs to be “some real monetary or other benefit.” For these purposes, an offer of promotion or employment could be treated as a “benefit.”

It may be difficult for an employer to enforce a restrictive covenant if the employee has not signed their contract of employment. This is particularly relevant to senior employees.

If there is a lack of consistency between employee contracts, it may be problematic enforcing restrictive covenants. For example, if there are other employees on similar levels to one another who have access to the same information, they must all have comparable restrictive covenants. Obviously, where you have different restrictive covenants, it is difficult to argue you will suffer losses if those covenants are not uniformly applied to other employees at the same level.

 

Introducing retrospective restrictive covenants

It is far better for an employer to ensure that restrictive covenants are part of an employee’s contract of employment from the outset. However, if you need to introduce a new restrictive covenant, or amend an existing one, after the employment has started, you are free to do so providing the employee gives their consent to the change or addition. In the absence of the employee’s consent, you have two options:

  • You can unilaterally impose the change. However, the employee may have a claim for constructive dismissal if they are forced to resign as a result of the change. An employer should look out for an employee giving implied consent to the change. This happens if they do not object to the change, even though they disagree with it. Giving implied consent is likely to invalidate any claim for constructive dismissal.
  • You can terminate their employment and re-engage them on new terms. This is a particularly dangerous action for any employer to take because the employee could make a claim for unfair dismissal if an employer is deemed to be acting unreasonably.

 

Employees with fewer than two years’ service have minimal job security because they only have the right to bring a claim for unfair dismissal in limited circumstances, such as automatic unfair dismissal cases. After two years’ service, they are entitled to bring a claim, however, whether the dismissal would be found to be unfair depends on the facts of the case.

Although there have been some cases where an employer has successfully argued they have had a “legitimate business interest” to protect where they have terminated and re-engaged, it remains a risky road for employers to travel unless they absolutely have to.

As stated above, in order for the introduction of restrictive covenants to be legally binding, you need to provide some “consideration”, or some value, to the employee for agreeing to the new restrictive covenants. Consideration may be a pay rise, bonus, or some other type of payment, such as a monetary one-off incentive. There have been cases where simply offering the employee continued employment has amounted to sufficient consideration, but an employer must show evidence that this is the case.

 

Breaching restrictive covenants

If you have reason to believe your employee has breached their post-termination restrictions, the most common legal remedy is to obtain an injunction. The injunction will request that the employee “deliver up” or destroy any confidential information within their possession. The court will also be requested to ask the employee to desist from their actions. It will then set a later date to hear full evidence, to allow both parties time to put forward their case.

If an employer claims a financial remedy or damages from a breaching employee, they will need to demonstrate quantification of loss arising from the breach. This may be a loss of profits, or opportunities diverted by the former employee.

Where the former employee has been induced by their competitor to breach their restrictive covenants, an employer may decide to sue the new employer. They are far more likely to have greater financial resources from which to pay any award for damages than the former employee, so it is worthwhile investigating this issue.

Avoiding legal action for badly drafted restrictive covenants is essential if you are to escape spending a substantial amount of time and money sorting it out. It is important employers understand their commercial objectives from the outset, what they want the restrictive covenant to achieve, the commercial implications of taking a particular position and how these dovetail with restrictions amounting to protecting a legitimate business interest. They also need to consider whether the restrictive covenant reasonably restrains the trade of a former employee within the legislation as to be legally binding.

 

Need assistance?

DavidsonMorris’ employment law specialists provide expert advice on issues relating to contractual terms and employee exits. We can advise on how to protect your organisation’s commercial and legal interests in the event an employee leaves the organisation. For help and advice with a specific issue, speak to our experts.

 

Restrictive covenants FAQs

What are restrictive covenants’ employment?

It is a clause in an employment contract or service agreement that prevents an employee from soliciting, dealing with or poaching clients, and competing with their former employer’s business for a certain period of time after they have left the organisation.

How long do restrictive covenants last employment?

Restrictive covenants typically last for around 6 months but can sometimes be as long a 3 or even 12 months, depending on the employee’s seniority within the business.

Is a 12-month restrictive covenant enforceable?

Each case turns on its own facts, but a court is generally reluctant to enforce restrictive covenants longer than 12 months. Market practice dictates a period of between 3 and 6 months is appropriate for more junior employees.

How legally binding are restrictive covenants?

Providing restrictive covenants are not void for “restraint of trade” and required to protect “legitimate business interests”, they will be viewed as legally binding. If restrictive covenants are introduced to existing employees, employer’s need to provide “consideration”. This can be something as simple as a pay rise, or bonus.

Last updated: 19 October 2021

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