What you Need to Know About Restraint of Trade Clauses
Restraint of trade clauses are often found in employment or shareholder agreements. Their purpose is to protect business interests such as client information, intellectual property, employees and trade secrets, by restricting the behavior of previous employees or shareholders. However, the extent to which a business can restrict an employee’s or a former director’s activities through such a clause is often contentious and can result in disputes.
What is a Restraint of Trade?
A restraint of trade clause in an employment contract comes into effect when an employee leaves the business. It may involve terms that limit where the employee may work, what clients they can work with, or what types of work they may do.
Such restraint clauses can be enforced by courts, but only to the extent that is ‘reasonably necessary’ to protect the legitimate interests of the business. Whether a provision is enforceable will therefore depend on the wording of the clause and the context of each case.
Restraint of trade clauses can be characterised as any of the following:
- Non-competition: to prevent a former employee from competing against the company.
- Non-solicitation: to prevent the employee from approaching the employer’s clients.
- Non recruitment: to prevent the employee from recruiting other employees from the company.
- Confidentiality: to protect confidential information and trade secrets.
What is Reasonable Between the Parties?
If a restraint of trade clause is contentious, a court must determine what is reasonable in the context of the facts of your particular case. If the restraint clause goes beyond protecting the business’ legitimate interests to the former employee’s detriment, then a court will not enforce the clause. However, if the clause is reasonable to both parties, it is likely to be enforced.
What will a Court Consider when resolving a dispute?
In NSW, the Restraints of Trade Act 1976 governs the law surrounding restraints of trade. A court will consider a variety of factors in its determination of whether the restraint of trade clause is reasonable. Some of these factors include the:
- Negotiation and whether parties were able to negotiate any terms.
- Respective bargaining position of parties and whether parties were able to obtain legal advice.
- Nature of the business and the characteristics of the role of the employee.
- Remuneration and compensation for the restraint of trade.
- Duration and geographical area of the restraint.
For example, a restraint of trade clause that only lasts for 1 year may be seen as more reasonable than a restraint of trade clause that is indefinite. Similarly, enforcing a substantial restraint of trade clause on a low-level employee of the business may seem much less reasonable than enforcing one onto a high-level employee, such as a previous CEO or COO.
If you are an employer, what can you do to protect your business?
To ensure that your business’ interests are protected in the event that one of your employees leaves, it is vital that the restraint of trade clause in their employment contract is enforceable. Employment contracts should be reviewed regularly to ensure the changing nature of the employee’s current role and the changing nature of the business is reflected in the terms. The time period of the restraint, as well as the geographical area, must be reasonable in relation to the employee’s position. The clauses must be drafted properly and carefully, so that in the event that certain parts of the clause are found to be unenforceable, the clause may be severed and still remain partially enforceable. If you believe that your employment agreement does not adequately cover your legitimate business interests, you should seek legal advice from a competent employment lawyer.
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An employer can only enforce a restraint of trade clause to the extent that it is reasonably necessary to protect their business interests. However, whether a clause is reasonably necessary will depend on the particular facts of the case, and in any dispute, it is best to seek professional legal advice. If you would like to discuss your employment law matter with a legal professional please contact us on (02) 9963 9800 or via our contact form.