Restraint of Trade Article

Restraint of trade clauses are commonly used by businesses(employers) to protect their business interests from being sabotaged by former(or in some cases current) employees.  

We have noticed that employers are commonly including restraintof trade clauses in their employee’s contracts without first seeking legaladvice. You can imagine an employer’s displeasure when they seek legal advice (normallyat the time of enforcement, when it is too late) and are told that therestraint of trade clause they seek to rely upon is unenforceable and theirtrade secrets, confidential information and goodwill are exposed.

Despite most employers being familiar with restraints oftrade clauses, employers are often shocked to discover that restraint of tradeclauses are only enforceable to the extent that the restraint is reasonablynecessary to protect the employer’s legitimate business interests [1]– with the onus on the employer to prove that.

This raises two questions:

1. What is a “legitimate business interest”;and
2. What is “reasonably necessary”?

Legitimate Business Interests

A legitimate business interest may include (but is notlimited to):

1. Confidential information;
2. Client/customer lists; and/or
3. Employees.

However, a legitimate business interest may not include thepossibility of a former employee competing against the employer. An employer maynot prevent a former employee from using knowledge gained during their employmentthat does not affect a legitimate business interest.

The restraint should expressly state the legitimate businessinterest being protected, as decision makers have deemed restraint clausesunenforceable in circumstances where they are required to infer what specificinterest is being protected.

Reasonably Necessary

As stated above, a restraint of trade clause must go no further than reasonably necessary to protect the employer’s legitimate business interest. In determining what is reasonably necessary, a decision maker will consider all the relevant circumstances as at the time the restraint of trade clause was agreed to and not the time the restraint is sought to be enforced.[2]

In order to determine whether the restraint is reasonablynecessary, consideration will be given to the following circumstances(depending on the interest being protected):

1. The duties performed by the employee in theirposition within the business;
2. The former employee’s relationship withclients/customers (that is, were they in a position to gain the trust ofclients? Is there a risk that the employee may take the client with them ifthey leave the business?);
3. The position of the employee within the business;
4. The nature of the confidential information;
5. The nature of the employer’s business;
6. Will the employer be harmed if the employee isnot restrained; and
7. Any other circumstances that may be relevant tothe matter.

Enforcing Invalid Restraints

In our experience, employers quite often have a legitimatebusiness interest that can be protected. However, in protecting theirlegitimate business interests’ employers often overstep the mark by draftingrestraint of trade clauses that go beyond what is reasonably necessary toprotect that interest (ironically leaving their legitimate business interestsunprotected).

There is no set test used by decision makers to determinewhether or not a restraint of trade clause is reasonable. Instead, it dependson the facts and the evaluation of the approach that is reasonable.

In saying that, you can be pretty sure that restraints thatinclude the words “in any capacity” are likely to be declared invalid asthey too wide.[3]

The most common remedies sought for breaches of restraint oftrade clauses are damages and injunctive relief. The costs associated with litigatingthese remedies are usually substantial, especially considering that if your actionis successfully defended (that is, you are unsuccessful in your action), youmay be ordered to pay the costs of the other side.

As such, attempting to enforce an invalid restraint of tradeclause can not only be a costly exercise, but may also leave your legitimatebusiness interests vulnerable and exposed.

Takeaways

The importance of seeking legal advice regarding restraintof trade clauses cannot be understated. Their mere inclusion in a contract doesnot mean that they are enforceable. Restraint of trade clauses are onlyenforceable when they protect a business in circumstances where an employer candemonstrate that the restraint is reasonably necessary to protect theemployer’s legitimate business interests.

If an employer attempts to overreach and extend the restraintof trade clause beyond what is reasonable, the restraint clause is likely to bedeclared invalid; rendering the clause, in effect, useless.

Employers should also consider the circumstances in whichemployees gain increased responsibility within a business and their originalrestraint no longer adequately protects an employer’s legitimate businessinterests.  As an employee is promotedwithin a business, an employer should review the employee’s employment contractto ensure that it adequately reflects the employee’s role within the businessand reasonably protects the employer’s legitimate business interests.

We strongly recommend that employers seek legal advice priorto including a restraint of trade clause in an employment contract. In theevent that you fail to seek that advice you are putting your business at risk.

[1] Linderv Murdock’s Garage [1950] HCA 48 at [6].

[2] Adamsonv New South Wales Rugby League Ltd (1991) 31 FCR 242.

[3] Tv Shopping Network Ltd v Scutt & Anor [1998] NSWSC 705

Disclaimer:
Reliance on content the material distributed is general information only. The information supplied is not and is not intended to be, legal or other professional advice, nor should it be relied upon as such. You should seek legal or professional advice in relation to your specific situation.