Consider this unhappy (but not unlikely) scenario: For whatever reason, you part ways with your fellow director/shareholder (or perhaps a key employee), who goes off immediately to join (or found) the opposition.
Now you have a major problem – he/she was privy to all your trade secrets and confidential information and they are now being used to compete against you. Your business could be crippled.
Using the time-tested restraint of trade clause
An effective and time-tested way of protecting your business from such a risk is to insist on all directors, shareholders and key employees signing restraint of trade agreements from the start. Such restraints are usually included as clauses in employment contracts and/or (less commonly) in shareholder agreements.
However, it is vital to word the restraint clause correctly if it is to stand up to legal scrutiny. Although our law has long recognised the right of businesses to enforce this type of contract so as to protect their “proprietary and protectable interests”, and although in general we are held by the law to the agreements that we conclude, there is always a balance struck with the employee’s constitutional rights to be economically active and to earn a living.
As the High Court put it recently: “It is settled law that restraints of trade are valid and binding and, as a matter of principle, enforceable unless, and to the extent that, they are contrary to public policy because they impose an unreasonable restriction on the former employee’s freedom to trade or to work. It is also settled that the onus of establishing that the restraint of trade is unreasonable falls on the former employee.”
A common mistake – going “too wide”
The most common mistake businesses make is to word the restraint of trade too widely (in one or more of type of activity, geographical area or time period). No matter how tempting it may be to do so, that is courting disaster. The wider the clause is, the greater the chances of a court holding it either totally invalid or only partially enforceable. Rather word your clauses tightly and defensibly.
Two recent High Court decisions illustrate both this principle, and the potential impact of the Covid-19 pandemic on our courts’ approach to the questions of reasonableness and time periods.
The impact of the pandemic on the “reasonableness” test
The impact of the pandemic on time periods
Another recent High Court decision saw the Court reducing a 2-year restraint, on sales employees who resigned in March and April 2020 respectively, to 14 months.
In doing so the Court took what it considered to be a reasonable base period in the circumstances of 12 months and added 2 months “to compensate for the lockdown period”, also commenting that “…I am aware that our society is living in strange times. The COVID-19 pandemic has played havoc with, inter alia, our economy. Businesses have been prevented from operating and the ability of the applicants to appoint and train new salespersons will undoubtedly have been blunted by the state of the economy. This is of some relevance when considering the length of the period of restraint…”.
So – are restraints of trade valid in times of pandemic and upheaval?
Neither decision means that restraints are necessarily unenforceable or only partially enforceable during times of economic turmoil and high unemployment. Each case will be decided on its own merits, but in assessing whether your own restraint clauses will be considered reasonable and enforceable, they are clearly factors to be borne in mind.
This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)