Are restrictive covenants in business ethical?

What are restrictive covenants?

Post-termination restrictive covenants are legal contract clauses, appearing in employment contracts or settlement agreements, that prevent your ex-employees from damaging your business. For example, by exposing confidential information, taking clients and poaching key employees, or joining competing businesses. Although all these restrictive covenants are possible to enforce with the support of legal professionals and the courts they are only legally acceptable if they are considered reasonable and ensuring they are can be difficult. 

How reasonable? 

It is often easy for an ex-employee to argue their way out of committing to the restrictions you originally agreed upon. In order to stand the best chance of winning your argument it’s important that the restrictions your clauses dictate are considered reasonable. What makes a restrictive covenant reasonable is highly subjective and depends on the business, industry, job role, length of service and many other factors, so they are best looked over by a legal professional. But to give you a better idea of what is enforceable, here are some common factors the courts use to decide if restrictive covenants are reasonable. 

How restrictive: The length of time, geographical region and the areas of business defined in the agreement are all considered by courts to decide if the covenants are fair or too restrictive and intentionally prevent your ex-employee finding work and continuing their career.

Legitimate interests of your business: You will need to prepare facts and figures to prove that breaching any of your covenants would have a detrimental impact on your business’s future. 

Ex-employee’s role: The seniority, department and function of your ex-employee’s job role has a huge impact on the restrictions you can enforce. Sales agents, for example, are naturally going to be more involved in your clients and have access to more confidential information. So contracts should be adapted for different job roles and when a job changes so too should the covenants.

5 Common types of restrictive covenants

Your restrictive covenants can cover anything you feel will protect your business, but some of the restrictions often used by businesses and commonly accepted by the courts include:

  1. Non-Competitive: Restricting your ex-employee from working for a competitor.
  2. Non-Solicitation: Restricting your ex-employee from approaching existing or prospective clients once they start in their new role in a new business.
  3. Non-Dealing: Restricting all contact between your ex-employee and your existing or prospective clients, this also covers your clients contacting your ex-employee.
  4. Non-Poaching: Restricting your ex-employee from approaching your existing employees to convince them to leave your business and join them at their new business. 
  5. Gardening Leave: Restricting your ex-employee from coming to your office and working during their notice period while still on your payroll. Gardening leave is usually used to prevent an employee from taking up-to-date (and perhaps sensitive) info with them when they leave, especially when they are going to join a similar or competitor business in their next role.

Although the above types of restrictive covenants are often accepted by the courts, it is important you ensure they are still right, fair and reasonable, which is why most employers work out these contractual details with a legal professional.

Enforcing restrictive covenants

What to do if a restrictive covenant is breached? 

If you discover that an ex-employee has breached one of your pre-agreed termination covenants you are within your rights to take court action. However, before you enter into what could be a lengthy, time-consuming and expensive court battle, the first step would be to contact a legal professional to get their advice. It is then likely that you will be asked to file an injunction by sending a request to the court pushing them to intervene and stop the contract breach immediately, even though evidence of the crime will not always be needed and only reviewed during the full trial but it is sometimes important to work out your losses. 

When deciding on whether or not an injunction is the best course of action the court will consider the following:

  • Whether or not the costs and damages of the breach are sufficient to warrant a trial and that the ex-employee can afford to pay you back. This will often require you to prove quantifiable costs and damages.
  • Whether or not more harm will be done by granting or refusing the injunction. Where factors are evenly balanced, the court will often favour keeping them that way, preserving the status quo.
  • Whether there has been a delay, on your side, in speaking to your lawyer and making the injunction. It is therefore important that you act quickly when you feel a covenant has been broken to give yourself the best chance of winning the case. 
  • How all parties have been conducting themselves in their dealings together so far. The more professional and comprehensive you are in your dealing with the ex-employee and making your case the better you are likely to look. 

After the injunction is approved, the next step is to gather all the evidence possible to prove your business has lost out due to the covenant breach. For example, if you are after a financial reimbursement because you feel your business has lost out on a deal, you will need to prepare a supporting document based on your profits, losses, contracts and opportunities. If it turns out that your ex-employer was directed to act in a way that breached the covenant by their new employer you will also have the option to sue their new employer which will usually mean a far larger payout.

What could void an agreed employment contract’s restrictive covenants? 

Even if your ex-employee has already signed the contract, and ticked all the boxes, it can still be made void when your employee leaves the company. Anything that breaches your end of the contract will mean you can no longer enforce the covenants you set for ex-employees to follow. The most common ways employers breach the contract are as follows:

Payment in Lieu of Notice (PILON): This occurs when an employee only receives notice pay from their employer instead of continuing to work their notice period, usually when their employment is terminated without notice. As an employer, if you fail to pay the correct amount or dismiss the employee without notice and without pay, the employee may bring a tribunal claim. 

Keep in mind that for lawful dismissals you will need to specify the PILON agreement in your employment contracts. Also, employees with over a month’s service are legally entitled to a minimum statutory notice period upon termination of their employment and every employee will need to receive a week’s notice for every full year they have been employed, with a max of 12 weeks.

Other unlawful reasons for termination: Although often hard for an employee to prove without a lot of evidence, ending an employment contract in an unlawful way can void your restrictive covenants. Common examples of this include firing an employee without a legitimate reason, in a way that breaches anti-discrimination laws, or in a way that breaches the employment contract.

Your legitimate business interests?

Understanding what counts as legitimate business interests is vital to proving your restrictive covenants are both lawful and have actually been breached. The term can cover any valuable confidential business information, trade secrets and training, and trade connections, including the relationship between your customers, clients and your workforce. Although the definition is broad, you will need to be careful to use legitimate interest as an argument only as wide as strictly necessary or risk voiding your restrictive contracts. 

When considering if your legitimate business interests have been breached it is important to remember that they must be limited to only restricting activities that will damage your business, while not unfairly limiting your ex-employee’s career options. This can be a fine line to tread and you will need the help of a legal professional to ensure you stand a chance in court. Ensure that the legitimate interests stated in your contract accurately reflect each employee’s role, the circumstances of your business, and go no further than is necessary. A good place to start thinking about legitimate business interests, and how far they can go while still remaining enforceable, is to consider the following:

  1. Is the restrictive covenant reasonably limited in time?
  2. Is the restrictive covenant reasonably limited in geography?
  3. Does the restrictive covenant go further than is necessary to protect a legitimate business interest of your business?

How much time can be considered reasonable? 

When considering the length of time you can reasonably restrict an ex-employee with a covenant, you must consider their job role. For those in a junior role, a 24-month covenant is unlikely to be justifiable as restricting an ex-employee like this would unfairly limit his right to work. In general terms, a restriction lasting 3-6 months would usually be enforceable, 6-12 months may be enforceable, a restriction for 12-24 months is only likely to be enforceable for those ex-employees who held very senior positions at your company, and one lasting more than 24 months is extremely unlikely to be considered reasonable.  

What counts as confidential information?

Your employment agreement should already include terms regarding the misuse of confidential information, plus there is an implied duty not to disclose information that is obviously supposed to be confidential. The precise things your confidential agreement covers will depend on your business, but usually it will include: 

  • Trade secrets
  • Customer/Client account info 
  • Quotes for tenders and price lists
  • Specialist training or instruction.

It’s important to note that the last bullet point does not cover skills and knowledge, afterall it is unreasonable to limit the use of skills an ex-employee may have gained through the experience you provided as their employer. It is fine lines like this one that make speaking to a legal professional the best practice for employers.

Resources

raynerjones.uk

warnergoodman.co.uk

ms-solicitors.co.uk

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