Restraints of trade: what are they and are they actually enforceable?

If you’ve ever signed an employment agreement, you should probably be familiar with the concept of a “Restraint of Trade”, “Restraints of Employment”, “Non-Competition Undertaking” or “Non-Solicitation Clauses” (here “Restraints”). In very basic terms, a Restraint is a contractual promise not to engage in ‘competitive’ conduct during and after employment. As a hypothetical example, Fitness First may ask their personal trainers not to provide personal training services for Anytime Fitness while they are employed by Fitness First (and often after). In this way, they are trying to limit their competition and protect their business.

Restraints are controversial because they restrict people’s freedom. Whilst they are very common in business, they are sometimes difficult to enforce.

What do restraint clauses usually state?

Most Restraints stop a person from doing anything which competes with the business asking for the Restraint. This usually includes things like:

1. Working for (or starting) a rival business;
2. Divulging to a competitor, or using for the person’s own advantage, the confidential information or intellectual property of the business;
3. Soliciting or poaching the business’ clients or employees.

Restraints usually apply both during the period of employment, and for a certain period of time after the employment/contract with the business has ended.

Are restraints even valid at all?

Technically, the default position is actually no, they are not. Any Restraint done against the freedom of a person is considered as invalid unless it qualifies under an accepted exception. It should also be noted that the Competition and Consumer Act 2010 (Cth) prohibits many Restraints outright, although not in the case of restrictions on employment, between business partners and in a contract for the sale of a business.

That being said, there are a set of widely accepted exceptions to the general rule, including:

1. Legitimate business interests – If the Restraint is genuinely in place to prevent damage to one’s business interest, then it would be valid.
2. It is for the benefit of the parties – Other than having a legitimate business interest, it should be beneficial to both of the parties.
3. It is for the benefit of the public – The interest of the public should also be a consideration when the validity of the clause is in question.

In light of these exceptions, there is still a lot of room for businesses to impose Restraints on employees and contractors.

So, what falls under ‘legitimate business interests’?

The ‘legitimate business interests’ exception is the main exception. A business interest is legitimate if the restraint is applied in order to prevent hurting a business. Some of these would include:

1. Protecting trade secrets and IP – businesses spend a lot of time and money developing trade secrets and they should be entitled to protect them. If Coca Cola develops an ingenious recipe, they are entitled to prevent its employees from giving it to their competitors.
2. Preventing release of confidential information – businesses have a lot of confidential information which they need to protect (pricing, strategy, market research). It wouldn’t be fair if a former employee used this knowledge to start their own business.
3. Poaching customers or employees – a business is legitimately entitled to protect its own human resources and customer lists from its rivals.

Example

Imagine you are a senior executive in McDonalds. You have access to all the recipes, business models, pricing information, market research, supplier connections and so on. McDonalds will probably want you to sign a Restraint that will stop you (during your employment and even after you leave) from working for KFC or Hungry Jacks or any other fast food business, and using any of the knowledge you acquired while working at McDonalds.

So to what degree are these restraints enforced?

You are probably thinking that this concept is extremely restrictive. Surely a person who worked for McDonalds is able to later work for KFC and use the knowledge they have acquired. What else are they going to do after they finish working at McDonalds?

Well, you are generally right. Whilst Restraints are generally enforceable during employment, they are hard to enforce after employment. They will usually only apply for a limited period of time, and in a limited area. For example, Fitness First in Bondi Junction may be able to stop their trainers from providing services to their customers for a few months in the vicinity of Bondi Junction. If they tried to impose a 3 year Restraint for all of Sydney, the courts will just rule the Restraint as unreasonable and therefore invalid. Always look to see the Restraint Period and Restrained Area in a Restraint.

Business owners and sales

Restraints are usually more enforceable, and enforced to a greater extent, against business owners and particularly those that have sold a business, as opposed to employees. Using the gym example from above, if you sold a chain of gyms across NSW to Fitness First, there is a big chance that a court will rule that for the next 3 years or so you will be unable to open any gyms in NSW, or approach any of your previous customers or workers. Similarly, one of the owners of Fitness First may be Restrained for a long time across Australia from opening a competing gym.

What happens if I breach a restraint?

The default remedy is damages – namely, you will need to compensate the other party for any financial loss they suffered as a result of your conduct. Well-written Restraints state that the beneficiary of the Restraint is entitled to injunctions (namely, a court order to not do something) and an account of profit (where the offender hands over all profits to the offended).

Conclusion

Weirdly, a Restraint is very similar to being involved in a romantic relationship. It is widely agreed that during the relationship (see: employment), you cannot be with other people (see: competitors). After the relationship breaks, your partner usually insists that there should be at least some grace period where you don’t date other people out of respect, and definitely not the friends of your former partner. Of course, most people see this as a restriction on their freedom, and they claim that once the relationship is over, it’s over, period. Some of your friends (see: judges) will agree with you, but some of them may think you are in the wrong (see: enforce a Restraint against you).