Restrictive Covenants

A Hand Morgan & Owen Fact Sheet

Businesses need to protect their interests in order to survive and the loss of key employees can present a potential threat, whether from loss of custom or the passing on of specialist knowledge.

It is possible for an employer to include in the Contracts of Employment of employees clauses which prevent or reduce the ability of an employee to:

• compete with his employer ('Non-Competition clause'); and/or
• solicit the employer's customers or employees ('Non-Solicitation clause')

either during his employment or when it ceases. Such clauses are collectively known as 'restrictive covenants'. However, the employer must take care to fully consider all the circumstances before including a restrictive covenant in an employee's Contract of Employment as restrictive covenants are void unless 'justifiable in the circumstances'.

Is a restrictive covenant justifiable in the circumstances?

Unless an employer has a 'legitimate interest to protect' he is not entitled to impede the free market and protect himself against competition by including restrictive covenants in his employees' contracts of employment. Examples of legitimate interests include:

• trade connections, suppliers and customers;
• workforce;
• trade secrets, or other highly confidential information equivalent to a trade secret.

Where the employer does have a legitimate interest to protect, a restrictive covenant will not be in restraint of trade provided it is 'reasonable'.

Is the restrictive covenant reasonable?

Where a restrictive covenant is justifiable in the circumstances, it must not be wider than is necessary to protect the employer's interest in order to prevent it being in restraint of trade. A restrictive covenant must be reasonable in three aspects:-

• Prohibited Business - the business within which the employee is not allowed to engage himself.
• Geographical Area - the area within which the employee is not allowed to compete in the prohibited business.
• Time - the period of time within which the employee is not allowed to compete with his employer in the prohibited business and geographical area, or solicit customers or other employees.

Just because a particular restrictive covenant is reasonable in one set of circumstances it does not mean that it will be reasonable in another. The 'geographical area' and 'time' are not static, so the same distance and time limit may not reasonable in all situations. For example, it may be reasonable to prevent an accountant from competing within 10 miles of his employer as clients may be prepared to travel 10 miles to obtain the services of an accountant. It would not be reasonable, however, to prevent a baker from competing within 10 miles of his employer as customers would not realistically travel 10 miles to buy a loaf of bread.

Which employees should be subject to restrictive covenants?

Although an employer may have a legitimate interest to protect and the restrictive covenant may be drafted so as to be reasonable he should only impose restrictive covenants upon those employees who would be a threat to that interest if they left his employment. For example, if a particular employee has no contact with customers it would be unreasonable for the employer to include a non-solicitation clause in his employment contract.

Enforcing restrictive covenants

In the event that an employee or ex-employee is in breach of a valid restrictive covenant there are two remedies available to the employer:-

• Injunction - an injunction will prevent the employee or ex-employee from competing with the employer or soliciting the employers' customers and employees.
• Damages - where the employer has suffered a financial loss as a result of the employee's or ex-employee's breach, he may claim damages in addition to applying for an injunction.

Summary

If an employer has a legitimate business interest, he may protect that interest by imposing restrictive covenants upon those employees who pose a threat to it. This may be in the form of a non-competition clause or a non-solicitation clause or both. In order to be valid, and therefore enforceable by the employer, the restrictive covenant must be drafted so as to be reasonable and the restrictive covenant must only be imposed upon those employees who pose a threat to the interest. If the restrictive covenant is not reasonable, or although reasonable is imposed upon employees who do not pose a threat to the interest, then the restrictive covenant will be in restraint of trade. Where a restrictive covenant is in restraint of trade it is void and consequently the employer is not entitled to enforce it.

Three factors govern the reasonableness of a restrictive covenant and it is necessary when drafting a restrictive covenant to balance the severity of the restraint on the employee against the degree of protection required by the employer. So far as non-competition clauses are concerned if you fail to achieve the correct balance either the employer will face unwanted competition (where the restrictive covenant is not wide enough) or the employee will not be bound by the restrictive covenant because it is in restraint of trade (where the restrictive covenant is too wide).

A solicitor will be able to advise you on drawing up suitable employment contracts and also on the enforceability of covenants, should you part company with an employee who could potentially damage your business.

For further advice on employment contracts or any other business issues, contact our commercial team at Hand Morgan & Owen on Stafford (01785) 211411 or Rugeley 01889 583871.

Published on web site - January 2007

The contents of this article are for the purposes of general awareness only. They do not purport to constitute legal or professional advice. The law may have changed since this article was published. Readers should not act on the basis of the information included and should take appropriate professional advice upon their own particular circumstances.