Former employees and the sellers of a business often find that the employment contracts or business transfer agreement contain covenants (promises) not to compete with their former employer or the purchaser of the business.
Typically such covenants would seek to stop competition with the existing business and to prevent poaching of employees or dealing with clients or interfering with suppliers of that business.
We are regularly asked to advise about the enforceability of such covenants which can be very important to an employee who wants to find another job in the same industry or to an employer or business purchaser who does not want to find the existing business undermined by competition from a former employee or the seller of the business.
The principles are the same for both employment and business sale contracts namely that to be enforceable any covenant must protect a legitimate business interest, not be too widely drawn in scope or duration and not be contrary to public interests.
Historically, courts have been prepared to uphold more widely drawn covenants in business contracts. This is based on the assumption that the parties to a business contract are more likely to have freely negotiated the terms of the covenants with the assistance of lawyers whereas employees will not have had such opportunity so there is an inequality of bargaining power. How true this really is, with highly paid executives often having their own lawyers, is open to debate. However, for the moment it is best to assume that the courts will continue to be more lenient in their approach to covenants in business contracts favouring protection of the goodwill of the business for which the buyer has paid.
It is impossible to say with certainty whether a court will uphold or strike down a particular covenant in a contract. However, case law has provided some useful guidance:-
- Business agreements imposing 3 year restrictions on non-competition and non-solicitation (poaching) have been held to be reasonable in a number of cases and a longer period can be justified in the right circumstances. However, it is very fact specific.
- Extending the scope of a restriction to cover a former employer ‘being concerned or interested in’ any competing business was held unenforceable because it would have prevented the employee even holding a minority shareholding in a business in which he was not actively engaged. The lesson is clear; ensure the restriction only protects legitimate business interests and is not drafted on a ‘catch-all’ basis which will invariably be unenforceable. Less is very often more in the context of restrictive covenants.
Consider also whether the contract contains a definition of the business being protected. Some contracts are so badly prepared that the covenants cannot bite because the interest to be protected has not been properly identified.
Further, check to see whether the party trying to enforce the covenant has the right to do so. If he, she or it is not the original contracting party do they have the right under the contract to rely on the covenant, for example, as a subsidiary company? If not, the covenant may be unenforceable.
Check whether there is any proviso to the restriction allowing for competition in certain circumstances or with the consent of the other party. Does the proviso apply or has the other party consented either expressly or impliedly?
Finally, even if the covenant has been properly drawn is what is being done or proposed to be done by one party in breach of it or is the other party trying to seek an unfair advantage? It is not uncommon for threats of litigation to be made as a psychological deterrent when closer examination will reveal that no justification for such threat exists.
The law relating to restrictive covenants is very complex and specialist advice is essential. If you would like advice on restrictive covenants or any other employment issues please contact Glyn Evans on 01934 637911 or email firstname.lastname@example.org