Can Restrictive Covenant be enforced in India?

Note: The views expressed in this article are solely those of the author and do not seek to influence or challenge any reader's beliefs. Nor does it aim to sway any individual's career decisions. This article delves into the psychological underpinnings of contract enforcement and the necessity for a system of rational contract evaluation within the Indian legal framework.

Harmony between employees and employers is the ideal, yet when dissonance arises, a structured approach to resolution is crucial. Labour law guidelines serve as a tool to address grievances that could otherwise escalate into more serious conflicts. Today's article discusses a topic frequently debated by employees, especially in the formal sector.

During my college years, I engaged in numerous discussions about employment agreements. Some conversations praised employers and trade practices for their significance, while others criticized employers for their restrictive and seemingly unfair agreements, which appeared to stem from an inability to retain talent. The power imbalance between employer and employee, along with the potential for exploitation through restrictions on future employment, were often highlighted as major discussion points. However, as an HR professional now versed in budgeting, cost accounting, intellectual property rights (IPR) issues, data integrity, and various administrative constraints, I have come to understand that restrictive agreements are more about "cost rationalization" of investments in resources and "protection of trade secrets" to maintain competitive advantage than they are about directly influencing "attrition" as an outcome parameter.

Restrictive covenants and their utility are not new; they have been extensively debated in European countries and are not merely a concept confined to developing nations, which may sometimes systematically compromise to accommodate entrepreneurs, occasionally allowing forced labor as a trade-off to support large populations. According to international laws, restrictive covenants can be categorized into three types: non-competition, non-solicitation of clients, and non-poaching. These covenants are intriguing because they are designed to influence behavior in potential future employment with a different employer, not just during the current term of employment. With multiple employers and workplaces involved, the enforceability of such covenants becomes a significant question.

For restrictive covenants to be enforceable post-termination, employers in most European countries must demonstrate that they are protecting a legitimate business interest. The Faccenda Chicken vs. Fowler (1986) case in the UK is a seminal case that addresses this issue from a confidentiality perspective and has become an iconic case in the international labor law landscape. The principle of evaluating the legitimacy of agreements, their rationality, and whether a breach has occurred is also examined in Indian labor law in multiple subsequent cases. However, in India, there is no overarching directive in labor law to address these cases uniformly.

In India, such covenants often conflict with Section 27 of the Indian Contract Act, 1872, which states that 'Every agreement by which anyone is restrained from exercising a lawful profession, trade, or business of any kind, is to that extent void.' Further challenges to the imposition of such covenants also arise from Article 19(1) of the Indian Constitution. Nonetheless, the desire to minimize risk and optimize control (both during and after employment) has led to the commonality of these agreements in the Indian labor law landscape, even though there have been very few cases fought on the grounds of confidentiality to date in India. The concern that an employer might irrationally use the covenant, with better financial and legal resources to malign an employee who has left after a dispute with senior management, has led to apprehension and uncertainty among candidates when they encounter such clauses in their employment offers. Yet, among the few cases fought in India, the legal system has seen a range of outcomes, which may be attributed to the complexity of understanding what to restrain and the rationality of such a need, as well as inaccurate implementations of restraining orders without proper evaluation of their impact, rendering them disproportionate and unjust.

From the employer's perspective, there have been attempts to legalize restrictive covenants, but the Supreme Court has generally negated them unless the grounds for enforcement are reasonable and do not unduly restrict employee rights. Cases like Percept D'Mark (India) Pvt. Ltd. v. Zaheer Khan and Superintendence Company v. Krishnan Murgai are indicative of this stance. However, in cases where the company's rights to retain its trade secrets and prevent loss to competitors are at stake, such as in Hi-Tech Systems & Services Ltd. v/s. Suprabhat Ray, the Calcutta High Court has upheld the employer's argument and restrained the employee on the grounds of code of conduct violations for three years.

These agreements necessitate a thorough analysis of costs and the potential implications of non-compliance in a future context, which can sometimes lead to overcompensation or underestimation of future actions. The focus should be on the need for such agreements, their rationality, and less on the "path of enforcement and seeking redressal" in disputes or civil cases. The enforcement process typically involves a legal notice to the employee followed by a civil suit handled by legal teams. The "reasonableness" of actions on behalf of both the employee and employer comes into focus in most disputes..

It is also worth noting that "reasonableness" depends on the context and encompasses a wide variety of actions and inactions, both reactive and proactive. While defense is considered impartial and reasonable based on data, in some cases, storage and availability may incur costs and become non-viable, especially when multiple employers and workplaces are involved. In India, the right to access accurate data within timelines and associated protections, with penalties, is lacking. This is in contrast to the GDPR in UK law. Therefore, if labor law authorities (courts/government) provide guidance on what these agreements should include, how they should be written and evaluated, and later enforced, it could introduce certainty, alleviate fears surrounding these agreements, and potentially reduce the influence on the outcomes of legal cases from the perspective of the less privileged.