Restrictive Covenants in Employment Contracts
A recent Court of Appeal decision demonstrates how useful restrictive covenants in employment contracts can be in protecting an employer’s business. The court dismissed the appeal of a former employee and director who breached his post-termination restrictive covenants.
The case identified that his contract of employment contained a restriction against the solicitation of any customers of his former employer for a period of six months following the termination. The court held that the restriction was reasonable, despite its breadth, due to its relatively short duration.
This checklist explains what restrictive covenants are and how they can be used in employment contracts to protect a business’s interests.
Let’s be open here, we’re not lawyers so you should obtain legal opinion rather than relay on this information. But we disseminate information in the hope of providing context to entrepreneurial business owners who may face similar issues in their business.
Restrictive covenants in employment contracts:
What is a restrictive covenant and when will it be enforceable?
- A business can use restrictive covenants to protect its interests by restricting an employee’s activities for a period of time after their employment has ended.
- A restrictive covenant can and will only be enforceable if it protects a legitimate business interest, otherwise it will be regarded as an unlawful restraint of trade.
- The only recognised business interests are:
- trade connections (including the relationship between the business’s customers and its employees)
- confidential information.
- If the business has a legitimate business interest to protect, the restriction will be enforceable, provided it is no wider than is necessary to protect that interest.
- The covenant must be limited in terms of the restrictive activities themselves, and also apply:
- for a limited time; and
- within a limited geographical area (if appropriate).
Non-solicitation restrictive covenants
- A business can include a covenant in an employee’s contract preventing them for soliciting customers after they have left the business.
- The covenant should be restricted to customers that the employee had contact with during a specified period before they left. There are a number of factors the business should consider when trying to establish the length of this period, including:
- the amount of time it would take for the employee’s successor to gain influence over the business contacts;
- the employee’s seniority within the business;
- the extent of the employee’s role in securing new business;
- the loyalty (or otherwise) of customers in the particular market; and
- the length of similar restrictions in the employment contracts of competitors.
A restrictive covenant that attempts to extend the restriction to potential customers will be harder to enforce. However, it may be possible to protect an interest in genuine prospective customers if they are accurately defined. However, proving who are your prospects at any given time could be problematic
A restrictive covenant preventing a former employee from poaching your existing employees is likely to be enforceable, as the stability of the business’s workforce is a legitimate business interest.
Non-dealing restrictive covenants
- A restriction on the solicitation of customers can be extended to cover not a direct approach to existing customers but also where the customer approaches the former employee. This is known as a non-dealing covenant.
- This type of covenant has a clear advantage as it avoids the need to prove that the former employee made an approach, which is usually difficult to show. However, it does broaden the prohibition and consequently may make it more difficult to enforce.
Non-competition restrictive covenants
- Employees are prohibited from disclosing confidential information amounting to a trade secret after they leave your business. But non-competition restrictions in particular can be hard to enforce.
- However, there are situations when a non-competition restriction is likely to be enforced. For example, where the former employee relationship with customers or suppliers is so great that the only effective protection is to ensure they are not engaged in a competing business in any way.