Introduction
Case law
Trade secrets
Breach of good faith duty
Special compensation and special resources
Liability of new employer
Comment


Introduction

The legality and enforceability of non-compete clauses in employment relations in Israel is not regulated by any specific statute or regulation.

Section 3 of the Basic Law: Freedom of Occupation (the Basic Law), which was enacted in 1994, states that "[e]very Israel national or resident has the right to engage in any occupation, profession or trade". Conversely, section 39 of the Contract (General Part) Law 1973 states that parties to a contract are obliged to exercise their rights and duties in "good faith" and in a "customary manner".

Accordingly, it has been left to Israel's labour courts to navigate this field, as they apply the above principles. This article provides an overview of how case law has established a certain degree of predictability in this area, while attempting to balance the employee's right to freedom of occupation and other competing interests.

Case law

Israel's main legal precedent regarding the legality and enforceability of non-compete clauses in employment relations was established in 1999 and was strongly influenced by the Basic Law, which was enacted five years earlier.

In Dan Frumer et al v Redguard Ltd,(1) the National Labour Court established that, as a rule, non-compete clauses signed by employees are not to be given significant weight, and that, in view of an employee's right to freedom of occupation, an employer may limit the employee's occupation only in exceptional circumstances. The Court considered the following scenarios in which it would be likely accept the validity of non-compete clauses:

• when such a restriction is required to protect the employer's trade secrets;

• when the employee is in breach of their "duty of trust" and duty to act in "good faith";

• when an employer has invested special and costly resources in training the employee; and

• when the employee has received special compensation in exchange for the restrictive period.

The above ruling was subsequently reinforced by the Supreme Court in AES System Inc v Moshe Sa'ar,(2) which held that prevention of competition per se does not constitute a legitimate interest on the part of the employer. Therefore, the Court held, an employer will be required to demonstrate specific circumstances validating the non-compete claim.

Trade secrets

Shortly after the Dan Frumer case, Israel enacted the Commercial Torts Law in 1999, which established that a "trade secret" is:

commercial information of any kind, which is not public knowledge or which cannot readily and legally be discovered by the public, the secrecy of which grants its owner an advantage over his competitors, provided that its owner takes reasonable steps to protect its secrecy.

Labour courts have adopted a similar definition in dealing with non-compete restrictions in employment relations and have stressed that, for an employer to prove the need to protect a trade secret, they must demonstrate that they had previously invested reasonable efforts to protect such a secret. Courts have further stressed that an employee's accrued knowledge and skills at an employer cannot independently be construed as a trade secret for the purpose of preventing competition.

Typical examples of trade secrets recognised in non-compete disputes include customer or supplier lists that the employer has made a genuine effort keep secret or that required significant effort to create.

Breach of good faith duty

When courts fail to identify protected trade secrets, they may still restrict an employee from competing with their previous employer if they consider it an act of bad faith. Typical examples of bad faith include:

• engagement with a new employer for the purpose of replicating the previous employer's production process;

• soliciting the previous employer's clientele or employees; or

• making use of the employer's commercial secrets in order to establish a competing business (even if such secrets fail to qualify as trade secrets).

Courts will also typically apply a more stringent standard for "good faith" when dealing with senior employees compared with lower-level employees.

Special compensation and special resources

There is little case law that establishes precisely when and under what terms special compensation paid to the employee will allow employers to claim that employees are in breach of non-compete covenants. Despite this, it is expected that such compensation would allow this claim only when it has been provided post-employment and is established for a specific time period. Also in such cases, the expected remedy under such circumstances is not the actual restriction of the employee's employment, but rather the restitution of the compensation.

The same is true with respect to the cost of training and other investments in the employee. In such cases, courts typically examine such training costs, whether the employee assumed part of the training costs and whether the employee gained a significant employment advantage due to the training. Courts will then attempt to establish a restitution sum in view of actual costs invested, regardless of any monetary compensation agreed between the parties.

Liability of new employer

If an employee is found to be in breach of their non-compete duties, the employer's new employer could be civilly liable for the tort of "inducing breach of contract", as established under section 62 of the Tort Ordinance (New Version) 1968. This may occur when the new employer knowingly caused the employee to breach their lawful non-compete obligations.

In addition, in cases involving the unlawful appropriation of a trade secret, the new employer could be found liable for having used such trade secret, if they are aware that such secret was unlawfully made known to them.

Such occurrences are rare; however, it is important to be aware of the possible legal liabilities that stem from hiring an employee who is potentially in breach of their non-compete obligations.

Comment

As has been demonstrated above, non-compete clauses are not easily enforceable with respect to employment relations in Israel. Courts will typically emphasise freedom of employment and they will favour the business interests of the employer only in the event certain exceptions.

Despite this, courts are still more likely to enforce restrictions relating to the non-solicitation of customers and employees. This stems from the fact that such solicitation is often viewed by courts as a breach of an employee's duty of trust.

Therefore, employers should seek legal counsel when drafting non-compete restrictions and, particularly, when considering any attempt to enforce such covenants with respect to former employees.

For further information on this topic please contact Shlomo Kaplan at Efrat Deutsch & Co by telephone (+972-3-6096960‚Äč) or email ([email protected]). The Efrat Deutsch & Co website can be accessed at www.edz-law.co.il.

Endnotes

(1) LA 164/99, national, 4 June 1999.

(2) CA 6601/96, 28 August 2000.