Take Care With Restraint of Trade Clauses

26|04|07

In a society that promotes freedom of trade, it is no wonder that the law as regards restraint of trade clauses provides only limited protection. This is an important issue for technology companies which, naturally, will wish to protect their legitimate interests if a key employee leaves, especially to work for a competitor. Quite apart from ensuring ownership of all intellectual property generated by that employee during his or her period with the company and that there are binding obligations of confidence with regard to its business secrets (for which a well drafted employment contract is highly advisable), companies and firms will want to try to limit the ex-employee setting up in direct competition, or working for the opposition for a period of time. This is usually done by including restrictive covenants in the employee's employment contract, service agreement or (if relevant) in a shareholder's agreement.

The courts will only enforce such a covenant to the extent that it is reasonably necessary to do so to protect a legitimate business interest. To be enforceable, any such clause must be reasonable both in terms of time and geographic coverage.

In a recent Court of Appeal case (of February 2007) a non-competition clause which restricted a director for a period of 12 months from the date of the termination of his employment from engaging in any competing business in any place where the employer had conducted business in the 12 months prior to the termination was, in the circumstances, held to be reasonable and enforceable.

However, in the Queen’s Bench Division of the High Court (also February 2007), it was decided that a covenant in restraint of trade contained in the contracts of employment of two financial advisers was both ineffective and unenforceable.

The evidence in the latter case showed that the employer did not have a legitimate interest to protect by the covenants in restraint of trade. The employer was only able to show "slight evidence" of there being an interest to protect. The employers’ alleged interest was in relation to "those who had done business with it in the past"; which did not constitute an interest reasonable enough for the employer to rely upon.

The Court also decided that the period of 12 months was "purely arbitrary" and "too wide". Most usefully, the decision set out what the Court thought would have been reasonable in the circumstances. The Court held that a period of 3 months would have been adequate for the purposes of rebuilding/stabilising the employer’s client base after the employee’s departure; 3 months would have been an adequate opportunity for the employer to achieve the protection required.

As a result of these two recent conflicting cases, clearly employers will want to err on the side of caution in imposing and seeking to rely upon restrictive covenants. The following key considerations should be borne in mind:

Careful, professional drafting of any restrictive covenant is required.
An employer must consider whether there is a legitimate interest to protect and if so, what that is.
Factors such as the nature of the work of the employee, the particular sector, the employees' experience, etc. all need to be considered in terms of the nature of the restriction to be imposed.
The length and geographic area of covenants must be reasonable; or they will be void and unenforceable, constituting a restraint of trade.
Contractual principles, such as attributing good consideration toward any restrictive covenant, should also be adhered to.

Each situation will differ according to the circumstances, and advice should be sought when drafting contracts of employment, service agreements or shareholders' agreements to ensure that restrictions are likely to be acceptable to any court.

Rosa Fernandez is a Partner and head of the employment team at John Collins & Partners LLP. She can be contacted on 01792 773 773 or rosa.fernandez@johncollins.co.uk.