Setting Boundaries – Restrictive Covenants and Restraints of Trade

Question 1: What makes for a good (i.e. enforceable) restrictive covenant?

The Isle of Man High Court in Rational Services Limited t/a “Pokerstars” v Scott (24 February 2011) considered the law applying to covenants in restraint of trade which can be distilled as follows:-

  • The starting point is that the public have an interest in every person carrying out his trade freely: the restraint of trade doctrine limits freedom of contract and thus a post termination covenant will be deemed unenforceable as contrary to public policy, unless it can be justified as being reasonable to the interest of the parties and the public;

  • Analysing this further, the restraint of trade will only be enforceable if:

              a) it protects a legitimate interest (being an advantage or asset inherent in the business); and

              b) it is no greater than reasonably necessary for the protection of the employer in his business.

In an ideal world restraints of trade or “restrictive covenants” as they are otherwise known, will be drafted with particularity as regards the threat posed to the business or the legitimate interest requiring protection.  In other words, the restrictions will be properly defined and in a form appropriate to the individual at the time of signing.

Unfortunately, as the case law demonstrates, the appropriate due regard is often not given to the drafting of restrictive covenants at the relevant time (being the commencement of employment or a new role) or indeed thereafter.  The recent English High Court decision of Bartholomews Agri Food Limited v Thornton [2016] EWHC 648 (QB) offers a cautionary tale from which lessons can be learned. 

In this case, Mr Thornton was restricted, for 6 months post termination, from being engaged in work supplying goods or services of a similar nature which competed with the employer to the employer’s customers and from working for a trade competitor within the company’s trading area (as defined).  Provided that Mr Thornton did not breach this non-competition restrictive covenant, the contract provided that the employer would continue to pay him for the duration of the 6 months post termination, even if he was being paid by a new employer. 

The non-compete clause was ultimately deemed invalid and unenforceable by the English High Court.  The reasons cited included:-

  • Mr Thornton was only a trainee when the clause was entered into and its terms were therefore “manifestly inappropriate” for a junior employee.

  • It was far wider than reasonably necessary to protect the employer’s business interests.

  • The offer to continue to pay Mr Thornton for the duration of the post termination restriction was contrary to public policy.

Lessons Learned

Question 2: What can an employer do to better protect itself by having valid restrictive covenants? **

1. “‹Do not overstate the period of restriction.  The duration of the covenant will be key to determining the reasonableness of the same.  If the period is longer than that which is reasonably necessary to protect the employers’ business interests then it will fail.  In determining the appropriate duration employers should consider:-

  • Industry practice.

  • Life circle of the business transaction.

  • How much time would the employer properly require to replace the departing employee?

2. The employer should document its considerations.  Employers can increase the likelihood of restrictive covenants being enforceable where documents exist identifying the legitimate interest(s) the employer seeks to protect and the required scope of the restrictive covenant.  This will assist should the employer ever be required to justify the drafting of the covenant.  Better still, have your lawyer define the legitimate interest within the contract of employment!

3. Confine non-solicitation and non-poaching clauses to those customers/clients and employees with whom the employee in question had dealings during his/her employment and be precise as to the definition of dealings to which you refer.  For example, define key employees whom you would wish to restrict the employee poaching should he/she ever leave the business.

4. Keep any restrictions within the scope of activities for which the employee is responsible.  Don’t overreach.  Whilst it is tempting to err on the side of caution and draft any restrictive covenant widely, so as to include the employee acting in any capacity in competition with the business, such drafting will likely be found to be wanting and thus, invalid.

5. Review regularly. Employers should consider the drafting of restrictive covenants for key employees regularly to ensure that they remain “fit for purpose”.  An ideal time would be at any annual review when the employer could properly tie any change in restrictive covenants to any salary increase awarded.

**Not an exhaustive list.

Whilst most employers hope that they never have to issue injunctive proceedings to prevent a former employee from acting in breach of restrictive covenants, the reality is that it can and does happen.  In these circumstances the employer would wish to ensure that any restriction necessary to protect the interest of the business is in fact capable of being enforced and is thus “worth the paper it is written on”. 

Question 3: When did you last review your staff contracts of employment?

DQ’s employment team are happy to assist with all aspects of contract drafting, including advising on the enforceability of restrictive covenants and confidentiality provisions.  For further information please contact Leanne McKeown.