A guide to non-compete clauses

Non-compete clauses are a type of restrictive covenant which are often included in employment contracts. They aim to prevent employees from working for a competitor or from setting up their own rival business for a period of time after they leave their employer.

What is a non-compete clause?

A non-compete clause is a restrictive covenant that is a promise to refrain from certain conduct after leaving the employer. Employment contracts will often contain restrictive covenants such as a clause preventing former employees from:

• persuading clients to leave the employer (non-solicitation)
• convincing former colleagues to leave the employer to join them elsewhere (non-poaching) or
• working with clients of their former employer in a competing role (non-dealing).

Non-compete clauses are the most onerous restrictive covenants as they prevent the employee from joining a business in a role that competes with their former employer for a specified length of time. In addition to “non-compete” restrictions in an employment contract, there may be circumstances where an employee is also bound by separate non-compete clauses in investment agreements or share purchase agreements, that are more commercial in nature which will typically have a wider scope and apply for longer.

When is a non-compete clause enforceable?

Common law recognises the principle of restraint of trade, which is the idea that an individual should be free to use their skills and conduct their trade without undue interference. As such, any non-compete clauses which restrain an employee’s freedom to work for others will be considered void unless it is designed to protect a legitimate business interest on the part of the employer and is drafted to be no wider than is reasonably necessary.

What is a legitimate business interest?

In general, the interests that the courts will allow to be protected typically fall into one or more of the following categories:

• trade connections (e.g. with clients, customers suppliers, etc.)
• trade secrets and confidential information, and
• the stability of the workforce.

The interest does not need to be specified in the clause itself, but should be self-evident.

Drafting a reasonably necessary non-compete clause

This will be case-specific and involve narrowing down and specifying the restricted activities, the period of the restriction that is necessary and, (where appropriate), the geographical extent of the restriction. This analysis also needs to consider which category of employee it will be appropriate to apply post-termination restrictions to. Focus is often on senior employees, (given their knowledge and connections in the business), but it can also be appropriate to apply restrictions to less senior employees in circumstances where they have strong client connections and access to confidential information which requires more protection of the legitimate business interests at stake.

In determining whether the restriction imposed is reasonable, the courts will have regard to the interests of the business, the employee’s seniority and status, and whether the employee negotiated the wording of the covenants at the time they were entered into. What is reasonable in the circumstances and who these clauses should apply to needs to be carefully considered at the time of agreeing the restrictions.

It should also be noted that what is reasonable and likely to be enforceable in an employment context is likely to be much narrower in scope than restrictions agreed in a more commercial context, (investment agreements or share agreements for example), where the bargaining power of the parties will be considered much more evenly balanced.

Employers may seek to limit the activity of an outgoing employee in other ways. This could be by requiring a longer notice period, or through the introduction or extension of ‘garden leave’ before the termination of employment. These have the effect of limiting what the employee can do as they prepare to leave the business, but they do involve additional costs as the departing employee will be kept on with full pay and benefits for a longer period of time.

Where there are legitimate concerns about protecting the business’ interests, the combination of a non-compete clause and notice periods would be better than treating notice periods and non-competes as alternatives. In particular, there is a risk that where there is a reliance on notice periods/garden leave alone, if an employee refuses to comply with their notice period then the courts will not typically “force" an employee to do so. With appropriately drafted contract terms that combine notice periods/garden leave and non-competes, an employee with a long notice period could be placed on garden leave for some, or all, of their notice, away from client contact and confidential information, with any period of garden leave reducing the period of the non-compete. When used reasonably, this combination can be persuasive to show the courts that the least onerous measures were taken to protect the business.

What can be done if a former employee is potentially in breach of a restrictive covenant?

If a former employee is suspected to be in breach of a restrictive covenant such as a non-compete clause, the employer can issue a claim and apply for an interim injunction to prevent the conduct while the matter is resolved. If there is particular urgency it is possible to apply for an interim injunction before issuing the claim.

If the employer is successful in proving the breach, the primary remedy is an injunction to prevent any future breaches. The court can award damages as well as, or instead of, an injunction. An employer will need to show that the restrictive covenant breached was enforceable and that the employer suffered loss which it would not have if not for the breach, in order to claim damages.

Conclusion

Non-compete restrictions are controversial, to the extent that in 2016 the government sought views on whether their use restricted business innovation and entrepreneurship.

Following a lengthy consultation process, the government decided not to ban non-compete restrictions but has signalled its intention to introduce legislation to impose a statutory three-month limit on the length of non-compete clauses. The changes are not yet certain in respect of the impact on existing non-compete clauses, but employers should remain alive to them. It is anticipated such changes will only apply in an employment context.

Non-compete clauses will still need to comply with the common law approach, being to protect legitimate business interests and drafted no wider than necessary, even when three months or less in length.