Legendary movie producer Sam Goldwyn was known as much for his malapropisms, termed Goldwynisms, as for the many Hollywood blockbusters he brought to the screen. One of the most famous Goldwynisms is: “A verbal contract isn’t worth the paper it’s written on”.

The Ontario Court of Appeal has recently taken Goldwyn one step further. In H.L. Staebler Company Limited v. Allan et al (“Staebler”), released August 8, 2008, the Court of Appeal overturned a trial court’s decision to award $2 million in damages to an insurance broker for breach of a non-competition covenant and inducing breach of contract. Given the Staebler decision, the law has just about reached the point at which a written non-competition covenant is not worth the paper it’s written on, at least in a standard employer/employee relationship.

Background

Tim Allan and Jeff Kienapple (the “Employees”) worked for H.L. Staebler Company Limited, an insurance broker in Waterloo, Ontario. On October 15, 2003, the Employees resigned and immediately began working in a similar capacity for Staebler’s competitor, Stevenson & Hunt. Both Employees had written employment contracts with Staebler which contained restrictions on their post-employment activities for a two year period following the termination of their employment. Staebler obtained an injunction within two weeks of the Employees’ departure. However, by that date approximately 118 clients had moved their business from Staebler to Stevenson & Hunt.

Staebler sued both the Employees and Stevenson & Hunt. The trial judge was required to rule on the enforceability of the Staebler restrictive covenant. It read:

“In the event of termination of your employment with the Company, you undertake that you will not, for a period of 2 consecutive years following said termination, conduct business with any clients or customers of H.L. Staebler Company Limited that were handled or serviced by you at the date of your termination.”

After finding on behalf of Staebler that the restrictive covenant was enforceable, the trial judge applied the “liquidated damages” clause in the employment contracts which provided that the damages for breach of the restrictive covenant would be 1½ times the commission income received by the Employees and their new employer on account of business generated from previous Staebler clients. That judgment was appealed.

Court of Appeal Decision

The Court of Appeal began its analysis by setting out the governing legal principles established by the Supreme Court of Canada in Elsley Estate v. J.G. Collins Insurance Agencies Ltd., [1978] 2 S.C.R. 916. In that case the Supreme Court stated that a restrictive covenant in an employment contract is enforceable “only if it is reasonable between the parties and with reference to the public interest”. In determining whether a restrictive covenant is reasonable, the framework established in Elsley to make that determination begins with “an overall assessment of the clause, the agreement within which it is found and all of the surrounding circumstances”. Three factors are then considered:

  • Did the employer have a proprietary interest entitled to protection?
  • Are the temporal and spatial features of the covenant too abroad?
  • Is the covenant unenforceable as being against competition generally, and not limited to proscribing solicitation of clients of the former employer?

To these factors, the Court of Appeal reiterated the principle set out in its previous decision in Lyons v. Multari (2000), 50 O.R. (3d) 526 that a non-solicitation clause is more likely to represent a reasonable balance of the competing interests than a non-competition clause. It also stated that the final factor considered is that a clause will not be saved, simply because it might have been enforceable had it been drafted in narrower terms.

The Court found that the Staebler restrictive provision was not merely a non-solicitation covenant. In fact it was held to be a non-competition clause since it precluded the Employees from conducting business with any of their Staebler accounts, whether solicited or not. The Court went on to find the covenant overreaching and unenforceable. In doing so, it noted that the clause had no geographical limitation, contrary to the restrictive covenants of some of the other sales employees of Staebler which were confined to a 50 mile radius. Further, there was no limit on the type of work which the Employees were prohibited from conducting: they were simply prohibited from doing business with their clients. The Court said:

“The absence of a geographical limit combined with the blanket prohibition on conducting business renders the Restrictive Covenant ‘overbroad’ and unenforceable. It unreasonably restricts the Employees’ economic interests and goes beyond that which is reasonably necessary to protect Staebler’s proprietary interest…

A non-solicitation clause is sufficient in conventional employer/employee situations.”

What Staebler Means for Employers

In Staebler the Court of Appeal has reinforced the view of the courts that a non-solicitation clause, coupled with a confidentiality undertaking, is sufficient to protect an employer in conventional employer/employee relationships. An enforceable non-competition covenant will be very much the exception than the rule. It is most likely to be enforceable in situations in which the employee “is the business”; for example when a principal sells his business to a purchaser but remains on as an executive thereafter. There also may be instances in which a key fiduciary employee, with special knowledge or influence over the business, may be restrained from competing. Again that situation will be extremely rare.

For employers, the lesson in Staebler is to focus on well thought out, narrowly drafted non-solicitation and confidentiality clauses which provide the protection needed, and no more. The other point to be taken from the Staebler decision is that the company had two forms of restrictive covenants. Some employees were bound by a restriction which covered a geographic territory of a 50 mile radius from Staebler’s business, as opposed to Allan and Kienapple whose clauses had no geographic limitation whatsoever. Employers should ensure that they have only one form of restrictive non-solicitation and confidentiality agreement for all employees in similar positions.

Finally, employers should remember another Goldwynism when considering the general enforceability of a non-competition covenant: “in two words: im-possible”.