This guide is based on UK law. It was last updated in June 2011.
What are restrictive covenants?
Every business has information that it considers both integral and invaluable to its success. Restricting the use of this information by employees after their term of employment may be vital to the protection of your business or customer contacts. An ex-employee who has knowledge of your technology, strategic information or customers or clients may be an attractive asset to a competitor seeking to encroach upon your market.
An employer may seek to protect the use of this information both during employment and after the employment ends through the inclusion of a restrictive covenant in the contracts of employment of senior or highly skilled staff at the commencement of the employment relationship. Express restraints may deter employees joining competitors and may warn off potential new employers.
A restrictive covenant is usually a clause in a contract which prohibits an employee from competing with his ex-employer after the employee has parted company with the business, or prevents the ex-employee from soliciting or dealing with customers of the business by using knowledge of those customers gained during his prior employment.
The starting point for any such post-termination restriction is that it is void on the grounds of illegality. It follows that an employer generally is not entitled to protect himself against competition from his ex-employees. However, if the ex-employer can convince a court that the covenant is:
- designed to protect his legitimate business interests; and
- that it extends no further than is reasonably necessary to protect those interests
then it will be upheld and enforced.
A non-compete clause may be enforced to protect a legitimate business interest – for example, client connection, confidential information or a stable workforce – and not simply to stifle or prevent competition.
Types of restrictive covenants
The standard types of restrictions which can be used by employers are:
- non-competition covenants - restrictions on the former employee working in similar employment for a competitor;
- non-solicitation covenants – which prevent poaching of clients/customers/suppliers of the former employer;
- non-dealing covenants – which prevent a former employee from dealing with former clients/customers/suppliers, regardless of which party approached the other;
- non-poaching covenants – which prevent an employee poaching former colleagues.
For a restrictive covenant to be enforced it must not be drafted too widely. It will be for the employer, in the event of a clause being challenged, to show that the clause is justified and sufficiently narrow. To meet these criteria an employer must be mindful of certain factors:
- The breadth of the geographical area of any restriction and length of time of the post termination restriction must be justified. It is unlikely that a wide geographical area will be justified and, as a general rule, a restriction for more than 6-12 months will be difficult to justify.
- Regard will also be had to the type of interest being protected, for instance, information such as trade secrets may be granted wider protection than customer information, given that its potential use across markets is wider.
- An employer may also be required to evidence any connection between the employee and any information that is being protected.
The extent of clauses, therefore, must be relative to the employee's position within the business. As more senior employees will be in contact with more sensitive information, restrictions placed upon them may be justified as being more onerous. Overall, a one-size fits-all policy on restrictive covenant clauses risks the clause becoming unenforceable.
Restrictive covenants may also require periodic review in order to maintain their enforceability as the covenant is judged at the time it was entered into.
Garden leave
Garden leave is also commonly used in conjunction with restrictive covenants for maximum effect. The inclusion of a garden leave clause in a contract of employment allows an employer to require the employee to spend all or part of the notice of termination period at home whilst continuing to receive his usual salary and benefits.
The benefit of a garden leave clause is that it keeps the employee from taking up other employment with a competitor and enables the employee's successor to establish himself. The employee is also no longer privy to the company's confidential information and what information they do have will become out of date.
Garden leave must be created expressly by a clause in a contract and is also subject to a test of reasonableness with regard to its duration.
Remedies for breach of restrictive covenants
If an employer has reason to believe that an employee has breached the post-termination restriction, the most common remedy sought is an injunction (or interdict in Scotland). An application will generally be made for an interlocutory injunction and delivery up or destruction of confidential information. This means that the court will be asked to stop the employee in his tracks and hear the full evidence at a later date in another trial.
Where an employer claims a financial remedy or damages for breach of a restrictive covenant in an employment contract, the employer will need to show some loss resulting from the breach. This will normally be loss of profits on contracts or opportunities diverted by the employee.
Team moves
Team moves between competing businesses have become a hot issue as businesses try and poach teams of employees from profitable parts of their competitors' businesses. Restrictive covenants will usually feature heavily in team move litigation if they are included in departing employees' employment contracts.
Once an employer becomes aware that there may be a raid on its employees, it is important to act quickly to determine the best strategy to protect its position. Recent case law has demonstrated an increased willingness by the courts to uphold post termination restrictions in favour of employers.
For employers looking to recruit teams, careful planning and execution will be necessary to avoid the pitfalls. If not properly handled a team recruitment drive will be found to be an unlawful poaching exercise.
Practical tips
Legal action in this area can involve a substantial amount of time and money so it is important for employers to understand their commercial objectives from the outset. Employers should consider what they want to achieve and the commercial implications of taking a particular stance in relation to publicity, client relationships, management time and cost. Evidence gathering in the form of emails, telephone recording print logs and the identification of weak links will be key. Credible evidence of wrongdoing will create a position of strength from which to negotiate an advantageous statement.
Overall, a clear strategy and a game plan is essential. Seek legal advice immediately.
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