What happens if part of a non-compete restriction in an employment contract is too wide? Is the employee free to compete because the whole restriction can't be enforced against them, or can the courts come to the rescue of the employer by effectively crossing out (known as 'blue-pencilling') the part which is too wide and allowing the employer to enforce the rest?
In Tillman v Egon Zehnder Ltd, the Supreme Court (our highest court) rules that courts can in effect cross out the part that is too wide and enforce the rest. In reaching its decision, the Supreme Court lays down the test for when the courts are able to do this.
Departing employees are often in a position whereby they can take advantage of confidential information, client details and business plans relating to their employer's business after their employment ends. They may use this information for the benefit of a new employer or to set up a rival business that competes in the same space as their employer. This can do serious damage to their former employer's business and is something many employers are concerned about.
In order to try to protect their confidential information and other business interests, many employers include provisions in their employment contracts which restrict employees' activities for a limited period of time after their employment ends. These terms are called restrictive covenants or post-termination restrictions. Examples are terms which try to prevent employees soliciting customers or clients, suppliers or other employees, or acting in competition.
Whilst the Courts recognise the need to allow employers to protect their businesses from departing employees, they also acknowledge that there is a public interest in ensuring that employees are not unjustifiably restricted in what they are able to do after the end of their employment, as this may impact on their ability to earn a living using their own skills and experience. Over the years, the courts have tried to find a balance between these two competing interests.
As a result, it is well-established by our courts that a restrictive covenant will be void for being in 'restraint of trade' unless the employer has a legitimate business interest to protect and the protection sought is no more than is reasonably necessary to protect that interest. In considering reasonableness, the court will consider whether some lesser restriction would give the employer enough protection.
What happened in the case?
In this case, the employee, Ms Tillman, a senior employee of an executive search firm, tried to extricate herself from a non-compete restriction in which she had agreed that she would not for six months after the end of her employment "directly or indirectly engage or be concerned or interested in any business carried on in competition with any business of the Company…" This is the type of wording that is frequently used in non-compete restrictions.
Ms Tillman argued that this restriction had such a wide meaning that it prevented her from even having a small shareholding in a competitor. She said that this meant it went too far and could not be enforced against her.
Whilst the Supreme Court agreed that the clause did have this meaning, it decided that the words ‘or interested’, which were the words which would go too far by preventing Ms Tillman having a shareholding in a competitor, could be removed from the restriction. On the basis that the restriction without these words was reasonable in Ms Tillman's case, this meant that the rest of the restriction could be enforced against her.
An injunction which had previously been granted by the High Court to prevent Ms Tillman from breaching her non-compete restriction, but had been overturned by the Court of Appeal, was reinstated - even though the period of the non-compete restriction had long since expired.
The Supreme Court ruled that the test for deciding whether words which make a restrictive covenant unreasonable can be severed (in effect, crossed out) in employment cases is that:
(i) words can only be removed if there is no need to add to or modify the wording that remains
(ii) removal of the words should not generate any major change in the overall effect of all the post-employment restraints in the contract (i.e. their legal effect).
What does this mean for employers?
Whilst employers may welcome this decision, it is a good idea to:
- review the post-termination restrictions (not just any non-compete restrictions) in your standard employment contracts (and any other documents such as shareholders agreements) and make sure they go no further than is reasonably necessary to protect your business from departing employees. As part of this, you should consider whether the wording may prevent a departing employee from holding a small shareholding in a competitor, and ensure such shareholdings are excluded or carved out
- look carefully at how the restrictions are worded – do they enable a court to cross out any words that go too far easily, and without affecting the meaning and effect of the rest of the restriction? If not, they should be reworded with this in mind.
For more information, please contact James Major or your usual Clyde & Co contact.
Tillman v Egon Zehnder Ltd