Post-employment restraint considerations when moving on

MOLLY SHANAHAN, LAWYER, FINLAYSONS LAWYERS

Employment contracts quite commonly include contractual provisions which limit an employee’s ability to do various acts and accept employment with other employers once their employment comes to an end. Despite their high use in employment contracts, post-employment restraint clauses are controversial and can often be difficult to enforce.

Post-employment restraints, if not provided in an employment contract, could also be implemented through an agreement or deed executed by the employer and employee either at the commencement of employment (separate to the employment contract) or throughout the employment (such as when being promoted).

Post-employment restraints clauses can vary considerably and may include restraining an employee from: • using confidential information gained through employment with the former employer; • working in the same industry as the former employer; • working for a direct competitor of the former employer; • carrying on activities the same or similar to those activities performed whilst working for the former employer; • communicating with or doing work for customers / clients of the former employer with their new employer; • encouraging employees of the former employer to leave their employment and take up employment with a new employer; and • commencing their own start up business which would compete with the former employer’s business.

These types of restraint clauses can often also be referred to as non-disclosure, non-solicitation and non-compete clauses. Why are restraints controversial?

Restraints, particularly broad constraints that limit an employee from pursuing employment with an employer in the same industry or field of work as their former employer, are generally considered controversial.

Employees can be significantly disadvantaged by restraints as their freedom to participate in the workforce becomes restricted. Where employees are restrained by their former employer from working in the same industry or for a competitor’s business, the employee’s ability to utilise their experience and skills which they have worked to build, may become limited resulting in a reduced “future ability to work” in their chosen industry.1 This can also result in financial detriment to employees and lead to further broader economic issues.

On the other hand, restraints provide favourable protection to employers, assisting them to protect their legitimate business interests such as protection against the misuse of their confidential information, maintenance of customer / client relationships and preservation of a skilled workforce.2 Without the enforcement of restraints, an employer’s competitiveness can be significantly impaired.

Post-employment restraints can also be particularly beneficial for employers where there has been a breakdown of the relationship between the employee and employer which could lead to malicious and intentional acts by an employee to destroy the employer’s legitimate business interests. Are restraints enforceable?

Not all post-employment restraints will be enforceable. The current common law doctrine of restraint (which is applied across Australia, other than NSW which has its own statutory restraints scheme)3 attempts to balance both an employer and employee’s differing interests.4

The starting position is that common law presumes that post-employment restraints will not be enforceable as they conflict with the general principles of public policy5 – that is, restraints limit freedom and may prevent an employee from earning a living.

Therefore, restraints are deemed to be void and unenforceable unless it can be shown that in all the circumstances of the case, the restraint is reasonable by reference to the interests of the parties concerned and reasonable by reference to the interests of the public.6

In determining the reasonableness of a restraint and whether competing interests are adequately balanced, the court will consider firstly, whether the employer has a legitimate business interest which needs protecting and secondly, if so, whether the restraint imposes no more than adequate protection to a party in whose favour it is imposed.7 If the restraint provides further protection than can be justified, it will be unenforceable.

Legitimate business interests

Reasonableness of post-employment restraints is determined by having regard to the legitimate business interests of the employer. If the restraint does more than protect the employer’s legitimate business interests, such as to stop employees from leaving the employer or completely preventing competition with the employer’s business, this may lead to a finding of unreasonableness.

Categories of legitimate business interests continue to involve but may include: • protection of an employer’s relationship with customers / clients;8 • protection against any misuse of confidential information or trade secrets;9 and • protection of an employer’s trained and skilled workforce.10

Generally, restraints are more likely to be more reasonable when they apply to senior employees who have been able to develop significant client relationships and who had a greater access to trade secrets and confidential information.

Reasonable duration

In terms of duration, restraint clauses are generally drafted with a 12-month restraint period, although ladder / cascading clauses can also include greater and lesser time periods.

In determining the reasonableness of the duration of restraints, courts have considered various approaches, however

it appears the most established approach is by looking at period of time required to break the client relationship with the employee – i.e. the strength of connection will lessen during the period of restraint as clients require the services and because the employee cannot provide them, they will need to go back to the employer11 . Reasonable geographical location

Restraint clauses are also drafted with reference to a geographical location in which the employee is restrained from performing acts or working. For example, a restraint clause might outline that an employee cannot work for a competitor’s business within 50km from the former employee’s business.

If a location limitation is expressed by reference to the location of the employer’s clients whose relationship with the employee may be used in their new employment, then the geographical location is more likely to be found as reasonable.12 If the restraint is drafted to apply beyond the location to which the employer’s clients belong, then the clause may be unreasonable and therefore unenforceable.13

Time period for the test of reasonableness

Quite commonly, restraints are agreed to by employees at the start of their employment relationship with the employer. The roles, responsibilities and customers an employee deals with at the start of their employment may differ greatly when compared to their role at the time their employment comes to an end.

It is for this reason that the reasonableness of the restraint must be considered by having regard to the circumstances at the time of entering into the employment contract (or restraint agreement) and having regard to the best assessment which the parties could make of the future at that time.14 Therefore, some regard is to be had for potential developments in the role of the employee and nature of the business which they may become responsible for in the future.15 Why can employer’s restrain employees from working for another employer in the same industry?

Throughout their employment, employees are often able to establish close personal and professional relationships with their employer’s clients. If the employment came to an end with that employer there would be a risk that the employee is able to easily take away some of these clients from the former employer for use in a competitor’s business. In this scenario, it is clear that a non-solicitation clause may not adequately protect the employer’s legitimate business interests, as clients may follow the employee without the employee having to actively solicit the client.

Therefore, courts have found that restraint clauses can go much further, to restrain an employee from accepting a new job with a competitor, where the employee is likely to use the connections they built up with clients of the former employer. 16 In these circumstances, the stronger an employee’s connection with clients the less likely a non-solicitation clause will be effective and the more reasonable a broader non-competition clause will be.

Further, practically it would be difficult for a former employer to become aware of a breach of a non-solicitation clause by a former employee.17 This also supports a broad non-competition restraint on the basis of protecting the employer’s interests.

Similarly, a restraint clause which limits an employee from disclosing confidential information may not afford an employer adequate protection of its interests meaning that where reasonable, restraints from being involved in a competitor’s business may be enforceable.18 Again, a breach of a non-disclosure of confidential information clause may not be immediately noticeable by a former employer. By the time the former employer becomes aware of a breach, the damage to its interests may have already occurred. Closing off

It is clear that the doctrine of restraints attempts to balance public policy and the freedom to earn a living, against an employer’s legitimate business interests and the effects that could occur to a business if reasonable restraints are not enforced.

It is however important to note that “the limits of the [restraint of trade] doctrine are very widely set out and differ a good deal from case to case, so that no one is a binding authority for any other because the circumstances differ”.19 Despite this, post-employment restraints should be considered both prior to entering into any employment contract or restraint agreement and before leaving an employer and commencing with a new one, particularly where the new employer is a competitor or within the same industry as the former. B

Endnotes 1 Ian Neil SC and Nicholas Saady, ‘The

Reasonableness of Restraints: An Analysis of the

Enforcement of Post-Employment Restraints’ (2018) 46 Australian Business Law Review 99, 115. 2 Note that this legitimate business interest is less settled law; Labelmakers Group Pty Ltd v LL Force

Pty Ltd (No 2) [2012] FCA 512. 3 See the Restraints of Trade Act 1976 (NSW) 4 Herbert Morris Ltd v Saxelby [1916] 1 AC 688; Ian

Neil SC and Nicholas Saady, ‘The Reasonableness of Restraints: An Analysis of the Enforcement of

Post-Employment Restraints’ (2018) 46 Australian

Business Law Review 99, 100. 5 Nordenfelt v Maxim Nordenfelt Guns and Ammunition

Co Ltd [1894] AC 535, 565. 6 Ibid. 7 Herbert Morris Ltd v Saxelby [1916] 1 AC 688, 708. 8 Pearson v HRX Holdings Pty Ltd [2012] FCAFC 111 at [46], (2012) 205 FCR 187 at 198; International

Cleaning Services (Australia) Pty Ltd v Dmytrenko [2020] SASC 222 [20]. 9 Wallis Nominees Pty Ltd v Pickett (2013) 45 VR 657;

Liberty Financial Pty Ltd v Jugovic [2021] FCA 607 10 Note that this legitimate business interest is less settled law; Labelmakers Group Pty Ltd v LL Force

Pty Ltd (No 2) [2012] FCA 512. 11 Cf. NE Perry Pty Ltd v Judge (2002) 84 SASR 86, 96–97; International Cleaning Services (Australia) Pty

Ltd v Dmytrenko [2020] SASC 222 [35]. 12 Lindner v Murdock’s Garage (1950) 83 CLR 628, 655. 13 Lindner v Murdock’s Garage (1950) 83 CLR 628, 656-657. 14 International Cleaning Services (Australia) Pty Ltd v

Dmytrenko [2020] SASC 222 15 Koops Martin Financial Services Pty Ltd v Reeves [2006]

NSWSC 449 at [53]. 16 AGA Assistance Australia Pty Ltd v Tokody (2012) 224 IR 219. 17 Pearson v HRX Holdings Pty Ltd [2012] FCAFC 111 [51]. 18 Just Group Ltd v Peck (2016) 344 ALR 162. 19 GW Plowmann & Son Ltd v Ash [1964] WLR 568, 571.