Restraints of trade

by Findlaw Team

 Restraints of trade

Very often, employees (and senior employees in particular) have access to confidential or commercially sensitive business information, such as client lists, pricing details and plans for new products or services. Understandably, employers often want to protect such information. One way of doing this is to have a restraint of trade.

What is a restraint of trade?

A restraint of trade is a clause in the employment agreement that limits the future competition of an employee after termination of employment. It is basically an agreement that the employee will not trade in the future with another person in the same way.

A restraint of trade generally prohibits the employee, after their employment with the employer ends, from working directly or indirectly for a competitor company. The clause will usually apply only for a specified and limited period and in a specified and limited geographical area.

Are they enforceable?

Common law dictates that restraints of trade are only enforceable if they are reasonable and do not go against the public interest.

When considering whether a clause is reasonable, the courts will look at whether the:

  • Former employer has a proprietary interest, eg a trade secret capable of protection;
  • Specified activities may reasonably be restrained;
  • Period of the restraint is reasonable; and
  • Geographical or population limits of the restraint are reasonable.

The two categories in which employers commonly claim proprietary interests are:

  • Trade secrets; and
  • Confidential information.

In general, an employer is entitled to protection from the knowledge and influence a former employee has over the former employer’s customers. The reasonableness of the length of time for which a restraint may operate must be determined in the circumstances of the particular case. Restraints for periods such as 2, 3, or 6 months have commonly been upheld as reasonable, although this depends on the particular circumstances.

Adding a restraint during employment

If a restraint of trade clause is deemed necessary, it is generally included in the employment agreement when the employee is first employed. However, sometimes the employer realises that it would be wise to have a restraint of trade, but they did not include one in the original agreement.

Adding a restraint of trade to an existing employment agreement constitutes making a variation to the agreement. The good faith requirements for negotiating employment agreements will apply, eg the employee must be told of their right to seek independent advice.

Case law suggests that if an employer wishes to add a restraint of trade to an existing agreement, the employee must be given a “consideration” in return. In other words, the employer (who will benefit from having a restraint of trade clause) should offer the employee some benefit in return. This is usually wages, but specific payments are becoming increasingly more common.

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