The Impact Behind Restrictive Covenents

Restrictive covenants can have both an impact on employees and employers. They are inserted to employee’s contract and come in effect as soon as the employee’s employment with the company has ended. Restrictive covenants can arguably be used for legitimate business purposes and interest [1] . Covenants in contracts have the purpose in being anti-competitive. Its purpose as a covenant is to be restrictive on trade and on public policy.  A covenant is used by employers to defend them from opposition employers and is used to prevent confidential information from being leaked. [2] As a result of restrictive covenants, they set certain restrictions on the employee.

These types of covenants can be seen in a contract in many forms, but the most common restrictions are the following: 1) A non-competitive covenant, which prevents employees working directly with a competitor, directly within a particular area or/and for a specific duration. Another covenant is; the Non-dealing covenant; which prevents employees from working with the employer’s clients, for a specific period. And lastly another covenant is; the Non-poaching covenant. This covenant prevents former employees from soliciting with the company’s current employees. [3]

It can be argued that on one hand, employers are seeking to protect their business [4] . However, on the other hand, it can be argued that such restrictive covenants are deemed unreasonable, as it imposes restrictions on employees, which can prevent them from working in areas which they are trained in. Thus the impact of covenants for employees on one hand can be atrocious, especially if it means employees are not able to use their skills whereby the business inserted the covenant in the contract to protect its trade connection or its trade secrets [5] . Consequently this can affect the employee financially. However, by looking at it both ways, if the covenant was not available to insert in the employees contract, then this on the employer’s view, can also affect the employers business financially, especially if any of the company trading secrets were revealed.

Restrictive covenants have more of an impact to employees in higher positions. It is found that the higher your position within the business, then the higher the probability that the restrictive covenants is likely to be successfully enforced into the contract. This is due to the superior knowledge and skills that the employee may possess which employers feel that could jeopardise their business. E.g. A director of a company. [6]

For employers, if the restrictive covenants appear to be so forth unreasonable, in ways to try and protect their company interests, than the covenants set will be not be able to be enforced to the former employees [7] . Thus, the employer will lose some form of protection for their company, especially if they wanted the covenants to be enforced, in ways to protect company trade secrets. However, in situations where trade secrets want to be protected, a court is more sympathetic to employers in these situations. This is illustrated in the case Littlewoods Organisation Limited v. Harris. [8]

A restrictive covenant can have an advantageous impact to an employer if they can prove the covenant is proven reasonable. A covenant can include limitations to an 1). Employee work limits geographically, 2) on the nature of the business and can also enforce, 3) time constraints onto the employee’s contract. If the Court uphold that the covenant is invalid, the employer must show that the covenant was both reasonable in the interests of the employee and was reasonable in the interests of the public.

A reasonable covenant may be beneficial to a business but can be viewed as a burden on the employee. This brings on to the point of defining, of what a “reasonable” covenant is? As there is no principle as to what a reasonable covenant is, it is up to the employer who drafts each clause to consider constraints in reference to the employers business needs. For example, a covenant which prohibits an employee from seeking work from an opponent business for a year within the United Kingdom, may be enforceable against a national sales person but would not be appropriate for a hairdresser who only deals with people locally. Furthermore, a geographical restriction might be appropriate for a hairdresser working in a countryside area; whereas the same restriction placed on a solicitor working in a city type location, would appear unreasonable. Thus the impact of covenants depends on how the covenant is certified upon the employee. If the term is wider then it should be, then the covenant will not be enforceable. In general, the narrower the restrictive covenant term, placed in a contract, then, the higher the probability of it being regarded as reasonable and thus is more likely to be enforceable. Therefore, it is important that any covenants that are to be inserted in a contract must be drafted in a way that make it appear as reasonable as possible in relation to the scope, nature and duration, of the restriction made. [9]

A further example explaining covenants is its prevention in poaching former employees. A director for example for duration or a time period, who tries to employ former member, may be seen as a reasonable covenant to restrict him in doing so. However, if the restriction included to all the employees within the business, than it would be difficult to argue that the restriction was reasonable. If an employee finds that the covenant in their contract as unreasonable, then the court must prove the following limitations were unreasonable for the employee. One example being, that the covenant implicated in the contract was too wide in scope for it to be effective. [10]

Where the term in the contract is deemed too wide, than, the restrictive covenant can be altered to further restrict its scope. Without any alteration, the covenant can’t be enforced. Alteration can be done by severing the parts, [11] which would narrow down the covenants. This is the process known as, the ‘blue pencil test’ which was defined in the case of, Beckett Investment Management Group v Hall [2007] [12] .

In addition, the impact of a covenant, whereby, the employer terminates the employment relationship unlawfully, for either for failing to follow disciplinary procedures or by failing to give notice for termination, cannot see their covenants be enforced on the employee. Whereas, where an employee leaves the business, due to their own reasons, than the covenants have to be reasonable, in order for it to be enforceable. In addition, where the court cannot rewrite parts of the clause, then the court must take a purposive approach, which is to not just look at the literal interpretation but the intention of the clause made. [13]

In a situation of a breach of contract, then employer must prove that the employee has breached the restriction implied. If successful, then it is possible for the court to provide an injunction. [14] An employer who claims for damages for breach of a restrictive covenant in a contract must prove that they suffered some loss which was a result of the breach by the employee. This loss of profits can be incurred by contracts or opportunities that were created as a result of the former employee. The courts will assess the damages based on the opportunities that the lost as a result of the former employee. A form of breach which can be made by employers to the employee is the payment in ‘lieu of notice’ which is paying the employee for the ‘notice period’ without an express contract to do so. In this situation, the restrictive covenants made would not be enforceable.

In conclusion, restrictive covenants have various effects on both employers and employees. Restrictive covenants are arguably inserted into contracts of employment, as a deterrent for employees to act unlawfully. They are used for various reasons by employees, but mostly for the purpose of preserving a business. It was found that, because of the burdensome nature of such covenants in inserting them such as the non-competition covenants. They are therefore less likely to be enforced in employee’s contract; this therefore shows the complexity of enforcing such a covenant within a contact. The troublesome nature of enforcing a covenant can make employees seek an alternative method of protecting their business. This can be though the use of the ‘garden leave’ clauses [15] which is similar to a restrictive covenant but instead, it is a contractual term that can only be enforced after the termination of the employee’s contract. [16] In addition, for employees who seek to avoid restrictive covenants, it has become important for employees to address these covenants prior to them signing any contracts. This therefore gives employees the chance to negotiate with the employer any restrictive covenants they disagree with.