Understanding Non-Compete Clauses: What You Need to Know V1/6

Contracts of employment are one of the most commonly encountered types of contracts that an individual will agree to. Non-compete clauses are, accordingly, a heavily disputed area of law.?

It is crucial for both employers and employees to understand the consequences of these contracts and clauses. One of the most important consequences are the restrictions placed on employees from undermining or competing with their employer. These are commonly known as ‘non-compete clauses’. In a post termination setting, they also may be known as ‘post termination restrictions’. In law, they are termed restrictive covenants.?

Non-compete clauses can have effect either during the term of the employment, post-termination, or both. Non-compete clauses can be express (i.e written into the terms of the employment contract) or implied (i.e unwritten terms given effect by law or fact).?

In this blog, we will explore the different kinds of restrictive covenants.?

Non-compete clauses as implied terms during employment

As mentioned, terms can be implied into any contract by fact or by law.?

What terms that will be implied by fact is, of course, specific to the particular facts of the case. At a high level, there are two tests by which a Court will determine that a certain term has been implied by fact. The first, and very old, test is the ‘business efficacy test’ set out in?The Moorcock?[1889] 14 PD 64. In that case, it was held that a term will be implied into the contract by fact if it was necessary to make the contract make business sense. The other test was set out in?Southern Foundries (1926) Ltd v Shirlaw?[1939] 2 KB 206 where by a term will be implied by fact if it is so obvious that it goes without saying.?

In an employment contract, this could be applied in many circumstances. A non-compete clause could conceivably be implied into a contract of employment if the employee and the employer both understood that they were working in a highly competitive industry, where the employee’s service was essential to the business.?

But in reality, employers are better placed to rely on terms implied by law as the particular circumstances of each employment contract are less relevant. Terms can be implied as a result of legislation and/or case law. There are not express legislative provisions setting out implied non-compete clauses. Although the Conservative Government has for?some time ?wanted to legislate around them. On 10 May 2023, the Government published a policy paper entitled ‘Smarter regulation to grow the economy ’ and referred to an intention to limit the length of all non-compete clauses to three months. It remains to be seen how that might work in practice – the Government has only so far referred to post-termination restrictions.?

Currently, then, implied non-compete clauses exist only during the course of employment – which to many might seem fair enough. These are as follows:

1. Duty not to compete: there is an implied term in a contract of employment that an employee shall not compete with a business during the term of their employment. This is part of the wider ‘duty of fidelity’ that an employee must dutifully serve its employer. In?Hivac Ltd v Park Royal Scientific Instruments Ltd?[1946] Ch 169 ?this implied non-compete clause was held to cover both the employee’s working hours and their off time. To give an example, an employed tennis coach could not normally start working for a rival school down the road.
2. Duty not to solicit: related to the duty to not-compete, is an implied duty not to solicit an employer’s customers away from it for an employee’s own purposes or that of a rival business. For example, in?Wessex Dairies Ltd v Smith?[1935] 2 KB 80 , a milkman on his last day of work was in breach of his employment contract when he let his employer’s customers know on his final round that he was setting up a rival delivery service.?
3. Duty not to entice employees:?finally, an employee has a duty to their employer to not, during the course of their employment, convince (or take concrete steps to convince) other employees to leave their employment.?

It is important to remember that the above implied terms only apply during the course of employment. Although, it is important to note that implied terms can apply to employees post-termination if they are making use of trade secrets.?

In most cases, then, if an employer wishes to protect their interests post-termination, express clauses in the contract of employment are required.?

Non compete clauses post-termination

Employees are, naturally, in a very good position to take the knowledge and skills gained in employment and apply them for the benefit of another employer. But these rights of the employer have been carefully balanced against an individual employee’s right to earn a living.?

Let’s set out an example: a university hires one of the best mathematics lecturers in England. The lecturer terminates their employment and works for another university in a different city, lecturing biology. The contract of employment stated that the lecturer could not lecture at any other university for 12 months post termination. Is this enforceable? That depends on certain general principals pertaining to post-termination restrictions.?

The first principle is that an express non-compete clause cannot have as its sole purpose the prevention of competition. There must be an additional motive and effect – put simply to prevent the employee gaining an unfair advantage in their post-termination activities because of their previous employment. A good example of this is utilising previous connections with customers to solicit them away from a previous employer.?

The second principle is that express non-compete clauses can only be enforced if they are designed to protect an employer’s legitimate interests. Preventing employees from working with any other employer just to discourage them from leaving is not enough. These legitimate interests are generally considered to be an employer’s trade connections (customers and suppliers), trade secrets, and to ensure the stability of its own workforce. The latter interest refers back to the implied duty restricting current employees from enticing other employees to leave their employment.?

The main interest that tends to be litigated is the employer’s trade connections. Its customers may prefer to work with one employee, and if that employee leaves the customer may only want to deal with that employee and will therefore follow them to their new employer. It is possible to restrict this, subject to the other principles, even if the ex-employee does nothing to solicit the customer away.?

The third principle is that restrictions cannot be any wider than is necessary to protect an employer’s legitimate interests. This has a practical connotation, in that preventing employees from being employed in a market in which the employer does not trade is likely to be too wide.?

Non compete clauses – reasonable?

This third principle has close interplay with the general requirement that a non-compete clause must be reasonable.?In general terms, whether an express non-compete clause is ‘reasonable’ relates to both the length the restrictive covenant is in place and the geographical effect it may have. In respect of length, the Courts are typically unlikely to enforce a restrictive covenant that lasts more than 12 months, although longer terms have been enforce when the circumstances require. On geography, this again depends on the circumstances, but the general rule is that a restrictive covenant preventing an employee from working in an entirely different town or country is unlikely to be enforceable, but again it depends on the specific facts. Because many professional service businesses are marketed across England and Wales, a jurisdiction wide non-compete clause may be more enforceable. Conversely, if a delivery service only served one town, it would fall to be too wide if the restrictive covenant prevented the employee from working for another delivery provider that served an entirely different town.?

Underpinning these principles is the important point that each restrictive covenant is fact specific. A low ranking employee that is not essential to an employer might be seen to have less of an ability to take advantage of a former employer’s customers. Whereas a key senior employee that is the point of contact for an employer’s customers is better placed to take advantage of those customers. Therefore, non-compete clauses against the latter type could be considered more likely to be enforceable.?

Moreover, restrictive covenants protecting confidential information or trade secrets of the employer are generally considered to be stronger, as it is advantage unique to the employer. But with such covenants it’s important to keep in mind whether the information used is in fact confidential. Internal pricing lists known to an employee and shared post-termination may be more of a trade-secret than a general way of doing business internally (i.e using a specific type of programme or infrastructure).

Pros and cons

Restrictive covenants have the ability to assist businesses in ensuring that an employee does not unfairly damage its business because it is taking advantage of the knowledge gained in employment.?

When an employee is currently employed, employers are on safer ground without resorting to including express non-compete clauses in a contract of employment. But when businesses do so, these need to be carefully drafted to ensure enforceability.?

Express non-compete clauses are generally better than relying on implied terms, as there is a text the employer can clearly point to, but any clause that is unreasonable will not be enforced. The way the Government is moving, it appears less likely that non-compete clauses will continue to be a standard part of the employer-employee relationship post termination.

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