Restraint of Trade and Non-Compete Restraint Clauses

Posted by February 07, 2023 | Articles | No Comments

Restraint of Trade and Non-Compete Restraint Clauses

Employment contracts, like terms and conditions, are often unread and can contain unexpected surprises if not reviewed carefully before signing. Employment contracts for senior employees or those with a position of influence over clients or client information usually contain ‘restraint of trade’ or ‘non-compete restraint’ clauses which can catch employees off guard when they leave their employment.

What is a restraint of trade clause?

A restraint of trade clause or agreement is a term in an employment contract which restricts a party’s ability to trade with other parties in the future. The clauses are unenforceable if contrary to the public policy that “a person should be free to use their skill and experience to their best advantage”[1] and should be free to earn a living in their chosen field. This means that the party hoping to rely on and enforce the restraint, usually the now ex-employer, bears the onus of proving its enforceability.[2]

When is a restraint of trade clause enforceable?

To determine whether such a clause is enforceable a common law test is applied. This test stipulates that a restraint of trade clause is only enforceable if it is proven to protect a legitimate business interest and the protection sought goes no further than is reasonably necessary to protect that interest. [3]

What are legitimate business interests requiring protection?

A variety of interests can require protection, this is determined from the context of the business, the employee, and the client. Common business interests recognised by Courts as requiring protection are protection of confidential commercial information, protection of goodwill in the form of customer, client, and supplier connections, and protection of the stability of the workforce in the form of non-solicitation of employees.

Protection of confidential information

Confidential information can include trade secrets, patents, client lists, financial information, pricing, marketing plans, tender, costings and budgets, commercially sensitive workplace policies and sometimes even terms of employment, commercial procedures and practices, and strategy and inventions of the employer. The common thread with what constitutes confidential information worthy of protection is that it is commercially sensitive, the employer has shown an intention for it to remain confidential, and it is not in the public domain.[4]

How a restraint of trade clause operates regarding confidential information is by preventing the employee from removing, using or disclosing their former employer’s confidential information after the termination of the employee’s employment. What is not protected by a restraint of trade clause are the skills and general know-how acquired during their employment. Even if those skills were developed or refined during employment.[5]

Customer, client, and supplier connections

Employees, particularly those in customer facing positions, develop goodwill and connections with clients and suppliers; an employer has a legitimate business interest in protecting this goodwill from exploitation after the employee’s employment has come to an end. [6]

Goodwill arises from regular and recurring dealings between an employee and the client, and especially where an employee was hired to promote or build a business a Court will more readily uphold a restraint of trade clause. Conversely, where an employee has minimal contact with clients a restraint seeking to protect client relationships is less likely to be enforced. [7]

The wording of a restraint of trade clause protecting these connections will occasionally be referred to as ‘non-solicitation’ clauses. The term ‘solicitation’ can be ambiguous making non-solicitation clauses harder to enforce if not well drafted. A broad definition would capture responding to initial contact from former clients or customers. The narrower approach defines solicitation as involving a positive action of the restrained party by them inducing or procuring a client or customer. Conduct that amounts to a positive action to induce can be a singular, direct action or a combination of actions that individually will not amount to solicitation but together will, such as the liking of LinkedIn posts when combined with other conduct.

A well drafted restraint clause will attempt to avoid issues of ambiguity by including descriptors of conduct such as ‘accepting any invitation from’ and ‘dealing in any way with’.

Non-compete restraints

Non-compete restraints act to prevent employees from engaging in behaviour which competes with the ex-employer. A non-compete restraints will be void unless it serves to protect a legitimate business interest (such as the employer’s confidential information and the customer or supplier connection), and a more limited clause would be insufficient to protect those interests.

Enforceability involves an evaluative judgement which has regard to the context of the business, employee, employer, and client. These clauses serve to protect the employer against an employee who through the course of their employment has obtained an advantage against the employer which would not occur naturally from a competitive market.

An example of this is when an employee is exposed to confidential information such as pricing, new products, or market strategies and the employee can conceivably use that information to their benefit to compete with an unfair advantage against their ex-employer.[8] In such a situation an employer has a legitimate interest and is entitled to restrain an employee from taking competing employment for a set time that is reasonable regarding duration and geographical extent.[9]

Generally, the test for reasonableness for the duration of a non-solicitation restraint, when involving customer connection, is what is deemed a reasonable duration in which the employer is entitled to protection against solicitation. Relevant to this assessment are factors such as how long it would reasonably take to find a competent replacement employee and for that employee to both demonstrate effectiveness and establish a rapport with customers.[10]

Soliciting other employees

Restraints can also protect an employer’s legitimate interest in maintaining a stable workforce by preventing former employees from soliciting the remaining employees.[11] This does not prevent individual staff members from leaving their employer and following another employee elsewhere; however, it does prevent ex-employees from poaching.

Cascading clauses

Employers drafting these restraining clauses will generally want to restrain the employee for the longest period of time, over the greatest area, in the broadest way possible. However, in doing so employers risk ‘overreaching’ by drafting clauses that extend beyond what is reasonably necessary and are thus unenforceable. A ‘cascading’ restraint clause or a clause that provides a series of progressively narrowing alternative restraints is often used when drafting restraint clauses.

However, clauses that contain too many clauses may be voided for uncertainty or if there is no clear guidance to attempt to define the employer’s legitimate interests.[12]

What happens once a clause is breached?

Employers seeking to enforce a restraint will usually seek damages and or injunctive relief. T

Tips for reviewing an employment contract with a restraint clause.

  1. Is the restraint clause relevant to your/your employee’s role, in terms of seniority, client facing duties and or access to confidential information?
  2. Is the duration of any non-solicitation restraint reasonable, based on how long it would take to find a suitable replacement employee, for confidential information to lose currency etc?
  3. Is any geographical application of the restraint reasonable, considering where the business operates (i.e., a restraint with a geographical coverage Australia wide is unlikely enforceable if the employer only conducts business within Western Australia).
  4. Does the clause include cascading restraints? Have these been appropriately drafted?
  5. How broad or narrow is the non-solicitation clause? Is there any ambiguity in the clause?
  6. What is the employment market like for your industry? Are there many or few competitors in the field? Will you need to the option of working for a competitor if your employment ends? Or, for employers, will you want to restrict an employee from working for a competitor and, if so, on the basis of what legitimate business interest?

Our team of expert employment lawyers can assist you on all matters associated with Restraints of Trade. Contact us for further information and to discuss how we can be of assistance.

[1] Herbert Morris Ltd v Saxelby [1915] 2 Ch 57, 76; [1916] 1 AC 688; Attwood v Lamont [1920] 3 KB 571, 577.

[2] Emeco International Pty Ltd v O’Shea (No 2) (2012) 225 IR 423.

[3] Nordenfelt v Maxim Nordenfelt Guns & Ammunition [1894] AC 535.

[4] Del Casale v Artodemus (Aust) Pty Ltd (2007) 165 IR 148; Wright v Gasweld Pty Ltd (1991) 22.

NSWLR 317 at 326F, 333G-334E, 341G (NSW CA); Smith v Nomad Modular Building Pty Ltd

[2007] WASCA 169.

[5] Herbert Morris Ltd v Saxelby [1915] 2 Ch 57, 76.

[6] Koops Martin v Reeves [2006] NSW 449, [30] – In Koops the court held that ‘the Employer is entitled to be safeguarded against the use after termination by the employee of special knowledge of or influence over customers gained as a result of customer contact during the employment.

[7] Koops Martin v Reeves [2006] NSW 449, [30].

[8] Cactus Imaging v Peters ; Portal Software v Bodsworht.

[9] Austal Ships Pty Ltd v Clay [2018] WAsC 178 at [65].

[10] Cactus Imaging v Peters [2006] NSWSC 717 at [36].

[11] Cactus Imaging v Peters [2006] NSWSC 717 at [44].

[12] Hanna v OAMPS Insurance Brokers Ltd [2010] NSWCA 267 at [13].