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Restrictive covenants: a guide for employers

Preventing your former staff from working for competitors sounds tempting, but post-employment restrictions (also known as ‘restrictive covenants’) on ex-employees’ activities are only enforceable if they meet complex legal criteria.

If you get the drafting wrong, the restrictions are likely to be unenforceable.

So how can you protect your legitimate business interests?

What are restrictive covenants?

A restrictive covenant is a contractual term that purports to prevent an employee from engaging in certain activities following the termination of the employment contract. A non-compete clause is a type of restrictive covenant.  In general, it seeks to stop a departing employee from doing what they’re otherwise entitled to do: work for, or with, whoever they like, including competitors.

The primary aim of a restrictive covenant is to protect an employer’s business after the employment relationship has ended.

In addition to non-compete clauses, other types of restrictions commonly used by employers to protect their business interests are:

  • non-solicitation covenants – these aim to prevent former employees from soliciting customers or suppliers and other commercial partners away from their former employer;
  • non-dealing covenants – these aim to prevent former employees from dealing with their former employer’s customers, suppliers or other commercial partners, regardless of which party approached the other; and
  • non-poaching covenants – these aim to prevent former employees from seeking to encourage other staff of their former employer to leave their employment.

It is important to ensure that restrictive covenants are drafted separately so that if one covenant is held by UK court to be unenforceable, it can be severed, and the remaining covenants may still be upheld.

Why should employers use restrictive covenants?

Building goodwill, a customer base, confidential strategies and training staff takes time. It is therefore understandable that companies will want to protect their business from losing these valuable assets. Naturally, nobody expects an individual to work for the same employer forever. So it is important employees know what they can, and can’t, do after leaving as well as during the employment relationship.

Including bespoke restrictive covenants in employment contracts (along with other key clauses such as comprehensive confidentiality and intellectual property clauses) provide your business with the best possible protection. Failing to include appropriate contractual protections can have devastating consequences. For example, businesses vendors, former employees and business partners may be able to freely:

  • work for competitors;
  • solicit customers from their former employers;
  • engage the supply chain of their former employer; and
  • take employees (and other staff, including contractors) to their new business.

During the employment relationship

During the employment relationship, employees are bound by several express and implied duties towards the employer.

Express duties are contained in the employment contract and sometimes in other employment-related documentation, such as company policies, and explicitly set out what is expected of an employee during the employment relationship. The employment contract itself should include clear provisions about an employee’s ‘outside interests’ during the employment relationship. It may be the case that employees are permitted to carry out additional work whilst employed; however, it is likely that this will be subject to the other work not negatively impacting the employee’s duties for the primary employer and also not competing with the primary employer’s business.

Implied duties are those that are unwritten but implied into the contractual arrangement by virtue of the special nature of the employer-employee relationship. These have developed over many years, sometimes through trade and custom, and include the duty (on both employer and employee) of mutual trust and confidence.  There is also an implied duty of confidentiality, and a duty not to compete during employment.

Post-termination

Although employees still owe various duties after the employment relationship has ended (in particular, in relation to trade secrets and other confidential information), these will only provide limited protection.

If you do not include express confidentiality provisions applicable after the termination of employment, as well as restrictive covenants, in an employee’s employment contract (or other contractual documentation), then employees may be free to do significant damage to your business after they leave. The primary risk is that they take the valuable know-how and experience developed in your business and use this information for the benefit of a competitor, or they use the relationships they have developed with your customers, other commercial partners or employees to encourage them to take their business / services elsewhere.

It is therefore important that, where necessary and appropriate, employees enter into carefully drafted restrictive covenants.

Who could you ask to sign restrictive covenants?

Although more commonly included in the contracts of more senior employees who have greater access to valuable confidential information, company information, and potential trade secrets, provided that they are appropriately drafted for the particular employee in question, restrictive covenants can potentially be enforced against employees across all levels of the business.  They may be particularly important for highly skilled technical staff and customer-facing employees.

Are restrictive covenants legally enforceable?

As an employer, you can only use a restrictive covenant to protect a legitimate business interest, and you must be able to show that the covenant is reasonable in the circumstances, including the nature of the employee’s role and his/her seniority. If it does not meet these requirements, it will be an unenforceable restraint of trade.  Therefore, any restrictions you impose must be tightly drafted and tailored to the particular employee.

It is the employer’s responsibility to prove that the clause was justified and sufficiently narrow in scope and duration.

What is a legitimate business interest?

This depends on the specific business, but the courts have recognised that employers have legitimate business interests in protecting confidential information, maintaining customer relationships and maintaining a stable workforce.

However, even where there is a legitimate business interest to protect, as stated above, the covenant that seeks to protect that interest will still need to be reasonable, and must restrict the former employee for no longer than is necessary to protect the relevant interest(s).

How do you know what is reasonable?

Whether a restrictive covenant can be considered reasonable depends on the nature of your business and the employee’s role. For example, a 9-month non-compete restriction is unlikely to reasonable (and therefore enforceable against) a junior administrative employee (with little access to sensitive confidential information), whereas it may be held to be reasonable to impose such a restriction on the company’s CEO.

It is important to note that the restrictions will be assessed by reference to the position that the employee held at the time they were entered into and not the position when the employee leaves. It is therefore important that restrictive covenants are continually reviewed and revised, as necessary, as an employee progresses and becomes more senior in the business.

What is a reasonable duration?

The period for which it is reasonable to restrict a former employee ultimately depends on the circumstances, but a good starting point is to consider your business cycles (e.g. how long confidential information remains confidential, or the typical duration of customer contracts).

Restrictions cannot be open-ended. It is important to note however that UK courts rarely enforce restrictive covenants that are greater than 12 months, and restrictions which prevent a former employee from working in a competing business at all may need to be shorter in duration than restrictions on solicitation or dealing with customers, or poaching employees.  This is because of the draconian effect a non-compete restriction may have on a former employee: it may prevent him or her from taking up new employment at all for its duration.

What happens if a former employee breaches a restrictive covenant?

The most common remedy employers consider to restrain a breach of restrictive covenants is an injunction. Injunctions are court orders that could immediately stop your ex-employee from:

  • working for a competitor;
  • using your confidential information;
  • soliciting your clients; and/or
  • poaching your staff.

A court could also require the ex-employee to “deliver up” or destroy confidential information that has been retained or used in breach of his or her legal obligations.

Interim and final injunctions are only granted if financial compensation (see below) will not be adequate to make good the damage being caused.  The court will also apply other strict criteria to determine if an injunction is appropriate.

Where damages are an adequate remedy for the alleged breach, an injunction will not be available. You will need to prove loss that has resulted from the breach of the clause. This is usually loss of profits on contracts or opportunities that have been diverted by the ex-employee.  However, it is usually very difficult to quantify the financial damage an ex-employee’s breach of covenants might cause and this is why injunctions are commonly sought if matters cannot be resolved out of court.

If you think your ex-employee was enticed into breaching a restrictive covenant by their new employer, it may be possible to join the new employer as a defendant. This can be tactically and legally beneficial, as the new employer is likely to have greater financial resources to pay any award of damages or costs that you may be awarded.

It is worth pointing out that court action for breach of restrictive covenants is high-risk and high-speed and can therefore be very costly. It is therefore imperative that, before any action is taken, the restrictive covenants in question, and any evidence of their breach, are carefully reviewed to assess the prospects successful enforcement in court.  In addition, before issuing legal proceedings it is crucial to determine, through pre-action correspondence, whether the matter can be resolved without recourse to the courts.

Future developments

The UK government is considering reforming the law on restrictive covenants in employment contracts.  It has looked at the success of Silicon Valley, where state law makes non-compete clauses automatically unenforceable, and the rapid growth of the technology sector has been credited to the free movement of talented workers without restriction. Ministers in the UK now want to attempt to replicate this success by making it harder for employers to stop staff leaving and setting up rival businesses or joining competitors. Although this would boost the UK high-growth market, it might not be music to employers’ ears. The consultation process for this exercise began on 4 December 2020 and is due to end on 26 January 2021. The consultation can be seen here.

Key takeaway: Naturally you want to protect your business interests and restrictive covenants are an important tool available for doing so. However, it is important to take care when drafting and agreeing them as imposing unreasonable or unenforceable restrictive covenants could cost you dearly. In general, a one-size-fits-all policy is not advisable and increases the risk of unenforceability. Therefore, it is important to ensure that restrictions are bespoke to each individual recruit and are assessed at regular intervals throughout the duration of the employment relationship.

 

If you’re concerned about your use of restrictive covenants or would like further advice on this topic, get in touch with our expert team.

We can discuss any current issues you have, or help you draft clauses for your contracts tailored to protect your interests.

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