Two recent cases provide useful information concerning what is reasonable to expect of former employees and what constraints on their competitive activities would pass muster. The first is H.L. Staebler Company Limited v. Allan, 2008 ONCA 576 (CanLII); the second is RBC Dominion Securities Inc. v. Merrill Lynch Canada Inc., 2008 SCC 54 (CanLII).
The Staebler case involved two commercial insurance salespersons going to a competitor insurance broker, notwithstanding a non-compete clause in their employment contract. The abandoned plaintiff broker lost. The Dominion Securities case did not have any such restriction, but Dominion Securities (DS) was awarded substantial damages. The fact situations and principles engaged are important elements in the apparent disparity of outcomes. In Staebler, Gillese J.A. for the Ontario Court of Appeal noted — relying on Elsley v. J.G. Collins Ins. Agencies, 1978 CanLII 7 (S.C.C.) — that a restrictive covenant is only enforceable "if it is reasonable between the parties and with reference to the public interest."
The Supreme Court of Canada in Elsley had indicated that there is an "important public interest in discouraging restraints on trade, and maintaining free and open competition unencumbered by the fetters of restrictive covenants." Elsley was not simply an employment case, as the non-compete agreement therein was with an employee who was also the former owner and operating mind of the brokerage; he was, in essence, "the business." While the courts have frowned upon restrictions affecting the rights of ordinary employees to compete after leaving, they are certainly more tolerant of non-competes when they engage a proprietary interest that has been exchanged for value.
In Staebler, the restriction was that for two years following termination of employment, the former employees were "not to conduct business with any clients or customers of [the plaintiff] that were handled or serviced by you on the date of the termination." The departing employees wasted no time; in the two weeks before the plaintiff could get an injunction against solicitation, 118 clients had moved over. A significant portion of them had been "gifted" to the departing employees upon the commencement of their employment with the plaintiff. Interestingly, they signed agreements containing a combined non-compete and non-solicitation clause with their new employer. Additionally, the plaintiff brokerage had a less restrictive covenant for its remaining commercial sales persons. The Court of Appeal held that the broad restrictive clause was unreasonable and therefore unenforceable.
Elsley, Justice Gillese observed, offers a framework for determining whether any given restrictive covenant is "unreasonable." The starting point is "an overall assessment of the clause, the agreement within which it is found, and all of the surrounding circumstances." Thereafter, a number of factors and principles must be considered. In this case, the factors were:
- Did the employer have a proprietary interest entitled to protection?
- Are the temporal or spatial features of the covenant too broad?
- Is the covenant unenforceable as being against competition generally, and not limited to prescribing solicitation of clients of the former employer?
Justice Gillese indicated two additional principles that operate in this field:
- The first such principle relates to the nature of the restrictive covenant. A restrictive covenant may restrain either competition or solicitation. A non-competition clause restrains the departing employee from conducting business with former clients and customers, whereas a non-solicitation clause merely prohibits the departing employee from soliciting their business.
- The other legal principle that warrants mention is this: the fact that a clause might have been enforceable had it been drafted in narrower terms will not save it. The question is not whether a valid agreement might have been made but whether the agreement that was made was valid.
Justice Gillese did point out that in contrast to Elsley, there had been an imbalance in bargaining power when the plaintiff had the salespersons sign the non-compete.
She noted the observation of McPherson J.A. in Lyons v. Multari (2000), 50 O.R. (3d) 526 (C.A.): "Generally speaking, the courts will not enforce a non-competition clause if a non-solicitation clause would adequately protect an employer’s interests."
She also contemplated whether there were any "exceptional circumstances" warranting a different conclusion from that indicated in Lyons.
She considered whether the former employees had any special expertise or knowledge that might give rise to a non-compete being acceptable — but determined they did not, and were just ordinary employees. She was influenced by the fact that the plaintiff’s other employees were only restricted on termination from dealing with customers if the employees remained within a 50 km radius of Waterloo. (There was no discussion of whether, in this electronic age, business of this nature could be handled on a remote basis.) In passing, she observed that the new employer had a combined non-compete/non-solicitation clause; note that the non-compete element could be severed, leaving only a non-solicitation clause. The desirability of careful drafting may be emphasized by the negative conclusion drawn as to the undefined "business" in the non-compete being a prohibition against competition in any sector in business in which the former employees had absolutely no involvement previously with the plaintiff. For example, they would otherwise be precluded from selling coffee to a customer for its canteen. That a casually written commercial document was not interpreted in context illustrates the hostility felt towards non-compete clauses. Nor did the gifting of the clients constitute, in her view, "exceptional circumstances" warranting the non-compete (with, it seems, the result that the salespersons and their new employer benefitted from the plaintiff’s assets at no cost). The end result was that on appeal, the plaintiff lost its $2-million trial judgment.
In the other case, DS had its $2 million (including $250,000 of punitive) restored to it by a 6-1 majority of the Supreme Court of Canada. In this case, a dozen account executives — including the office manager — in a securities brokerage in Cranbrook, B.C., went "across the street," in essence leaving behind a shell office to collapse.
There were no written terms of employment, and in particular no restrictive covenants on termination of employment. Apparently DS would have had difficulty in recruiting if it had insisted on any restrictive covenants and had targeted "competitive hires" from other firms. The trial judge had found that because of his low level of authority, the office manager was not a fiduciary employee, but he was determined to have an implied duty to retain employees under his supervision. However, it was noted at the trial level that he was a close and long-term friend of the Merrill Lynch manager who had induced the breach of the employee’s implied duty not to compete unfairly. Rather than maintaining the integrity of the work force, the office manager orchestrated the move to Merrill Lynch and coordinated the surreptitious copying of confidential records that were sent (after office hours) to Merrill Lynch before the move.
Chief Justice McLachlin for the majority stated:
Generally, an employee who has terminated employment is not permitted from competing with his or her employer during the notice. And the employee is confined to damages for failure to give reasonable notice … [subject to] the qualification that a departing employee might be liable for specific wrongs such as improper use of confidential information during the notice … the duties found here for all the defendant employees or the implied duties to perform one’s employment functions in good faith and to give reasonable notice of termination.
Abella J. in dissent stated a phrase that counsel will likely repeat often in future cases in an attempt to minimize responsibility for departing employees:
Expanding the scope of the duty of good faith in this manner represents a novel and potentially enormous liability on employees. This development, in my view, is not only unwelcome in its uncertainty and punitive in its impact, it also risks widening what this Court has long recognized to be the imbalance of power in employment relationships, by further entrenching the inherent vulnerability of employees.
But even she recognized that according to the Elsley case, the parties to employment contracts can contractually negotiate a reasonable restrictive covenant.
The departing employees had sent out a notice to their customer list to announce that there was "an exciting new business opportunity." The trial judge observed that this opportunity could only have been for the defectors and not for the customers, but declined in the result to determine whether that notice was a solicitation.
There are some lessons to be learned here. Remember that non-compete provisions are tough to get enforced but the courts take a more relaxed attitude towards non-solicitation clauses. There should be justification of any "exceptional circumstances" and an acknowledgement of those circumstances by the employee when executing the covenant that a breach will cause severe harm, requiring an immediate and material remedy (including possible disgorgement) to give justice to the employer. The provisions should not overreach, but be reasonable in the circumstances. It would seem desirable that contact of any nature by a departing employee for a period of time be agreed to be a solicitation, except for a general announcement placed in the media, which does not target customers of the former employer. With respect to any customers that had been "gifted" to the departing employee, it would be desirable to establish in advance how the employer might be compensated for any near-term defections. One size may not fit all: certain employment relationships may require a different covenant, but this difference should be justified in writing at the time of executing the covenant.
Imprecise drafting cost the former employer in Staebler $2 million; the nasty business practices of the defendants resulted in compensation for DS of $2 million. Care should be taken in setting out the parameters of employee relations — otherwise, for the employer it may become an unfortunate variation of "easy come, easy go."