What are restrictive covenants?
What is a restrictive covenant, and when is it enforceable?
A business can use restrictive covenants (sometimes called “post termination restraints”) to protect its interests. A restrictive covenant restricts an employee’s activities for a period after their employment has ended.
A restrictive covenant will only be enforceable if it protects a legitimate business interest. Otherwise, the courts and tribunals will regard it as an unlawful restraint of trade. The only recognised business interests are:
- trade connections (including the relationship between the business’s customers and its workforce); and
- trade secrets and confidential information.
The restriction will be enforceable if the business has a legitimate business interest to protect. However, it must be no wider than is necessary to protect that interest. The covenant must be limited in terms of the restrictive activities themselves and also apply:
- for a limited time; and
- within a limited geographical area (if appropriate).
Draft restrictive covenants carefully
You must draft any restrictive covenants carefully so that they:
- Accurately reflect each employee’s role.
- Reflect on the circumstances of the business.
- Go no further than is necessary.
The business should regularly review contracts with restrictive covenants and check whether they require updating (for example, if the employee’s role has changed).
There is little point in an employer seeking to impose blanket and uniform restrictive covenants on its entire workforce. In all likelihood, a court or tribunal would not consider them to be reasonable restrictions to impose on every employee—especially those who might have limited or no access to the employer’s customers and confidential information. For example, putting restrictive covenants in an employee handbook would be pointless. The better practice is to reserve restrictive covenants for those employees, in all likelihood the more senior ones, who will have access to the employer’s confidential information and trade secrets and a close working relationship with the employer’s customers and clients.
Consider carefully what periods of restraint might be appropriate and reasonable in the case of each individual employee. Whilst
restrictive covenants might be justified in the contracts of employees A and B, a longer period of restraint might be justified for B than for A if B holds a more senior position than A and/or has closer connections with customers than A and greater access to the employer’s confidential information and trade secrets.
Non-solicitation restrictive covenants
Customers
A business can include a covenant in an employee’s contract preventing them from soliciting customers after they have left the business. This type of covenant will be particularly useful if the employee has a strong relationship with certain customers.
Generally, the employer should restrict the covenant to customers with whom the employee had contact during a specified period before leaving. There are a number of factors the business should consider when trying to establish the length of this period, including:
- the amount of time it would take for the employee’s successor to gain influence over the business contacts;
- the employee’s seniority within the business;
- the extent of the employee’s role in securing new business;
- the loyalty (or otherwise) of customers in the particular market; and
- the length of similar restrictions in the employment contracts of competitors.
Potential customers
A restrictive covenant that attempts to extend the restriction to potential customers will be harder to enforce. However, protecting an interest in genuine prospective customers may be possible if accurately defined.
Other employees
A restrictive covenant preventing a former employee from poaching your existing employees can be, in principle, enforceable, as the stability of the business’s workforce is a legitimate business interest. However, the employer should usually limit the restrictive covenant to those employees at the same level as the former employee and those more senior to them. Any clause that attempts to prohibit the poaching of employees will need to consider the following:
- How long the former employee’s influence over the other employees will last?
- The roles of the employees over whom the influence exists.
Non-dealing
A restriction on the solicitation of customers can be extended to cover not only enticement or interference (where the former employee takes active steps) but also the provision of services where no active steps are required (for example, where the customer approaches the former employee), known as a non-dealing covenant.
This type of covenant has a clear advantage as it avoids the need to prove that the former employee made an approach, which is
usually difficult to show. However, it broadens the prohibition and may make enforcing it more difficult.
The enforceability of a non-dealing covenant will depend on the interest the business is trying to protect (for example, enforcement may be more likely if the business can establish a substantial personal connection between the former employee and the business’s customers).
Non-competition
Employees cannot disclose confidential information amounting to a trade secret (for example, a manufacturing process) after they leave your business. A business can also include express confidentiality provisions in their employment contract to protect the information. Therefore, additional restrictive covenants may be considered unnecessary, and noncompetition restrictions, in particular, can be hard to enforce.
However, there are circumstances where a non-competition restriction is likely to be enforced. For example, where the former employee’s influence over customers or suppliers is so great that the only effective protection is to ensure they are not engaged in a competing business in any way.
Speak to Karen Cole today. She frequently acts for employers and employees in drafting, advising, and resolving disputes concerning restrictive covenants.
Note: This article is not legal advice; it provides information of general interest about current legal issues.