Look before you leap – understanding restraints of trade.

Key takeaways

• Employment agreements often include post-termination obligations.
• Restraint clauses are only enforceable to the extent that is reasonably necessary to protect an employer’s legitimate business interests.
• Employees need to carefully consider their post-termination obligations before accepting an offer of employment.
• Employers must take care to ensure any restraints clauses are enforceable.

Why worry?
It is dangerous for an employee to jump at a job offer without considering their post-termination obligations to their current employer.

If an employee resigns to work for a competitor and then solicits work from former clients, the former employer may invoke a restraint of trade clause to protect their business’ confidential information and valuable client base.

Why use a restraint clause?
Restraint of trade clauses are commonly found in employment agreements and business sale agreements. If properly drafted, the geographical and time-based restraints will be cascaded, starting at a more restrictive level and cascading down gradually to become less restrictive. However, generic or off-the-shelf restraint clauses may fail if they do not reflect the circumstances of the employer’s business or employee’s position.

Cascading limbs
The reason restraint clauses are structured in a cascading manner is that if the most restrictive limb(s) are struck out when challenged, the less restrictive limbs remain in place. But, without cascading provisions, where only 1 restraint limb exists and it is struck out, no provisions remain and the entire restraint provision becomes ineffective.

When reviewing restraint clauses, it is important to firstly consider whether the restraint provisions:
1.          are valid; and
2.          are enforceable (eg too restrictive in the circumstances).

So are restraints really enforceable?
Under Australian law, restraint clauses in an employment agreement will generally only be enforceable to the extent they are reasonably necessary to protect the legitimate business interests of the employer. This is also balanced with consideration of employee’s ability to earn a living by utilising its legitimately obtained skill, knowledge and experience. Courts will often strike out restraint provisions that go beyond the protection of their own legitimate business interests.

The enforceability of restraint provisions will come down to the specific circumstances eg if an employer provides the ex-employee with a generous severance package, if drafted correctly, the restraint provisions may be held as valid and enforceable. However, if the restraints are either invalid or unreasonably restrictive, then the restraint may be unenforceable. Recent cases demonstrate that the Courts can come down on either side of the argument, depending on the specific facts of each case.

HRX Holdings Pty Ltd v Pearson
The Federal Court of Australia in HRX Holdings Pty Ltd v Pearson upheld a 2 year restraint of trade clause when Pearson moved to a competing recruitment company. The Court found that the clause was reasonable and enforceable in the circumstances against a co-founder of a company. In reaching this conclusion, the Court took into account the long period of negotiation between the parties, as well as the specific consideration given for the relatively long period of restraint. Pearson later unsuccessfully tried to appeal this decision.

Whilst clearly turning on its facts, this landmark decision highlighted that a relatively long restraint of trade clause, tailored to the business and the individual employee, may be valid.

Wallis Nominees (Computing) Pty Ltd v Pickett
Conversely, the Supreme Court of Victoria Court of Appeal in Wallis Nominees (Computing) Pty Ltd v Pickett held that the restraint of trade in Pickett’s employment contract was not enforceable. The clause sought to prohibit Pickett from providing services to clients within 12 months after his departure from the business.

In striking out the restraint provision, the Court noted that even if the clause were enforceable, it provided greater protection than necessary to Wallis and would be unreasonable in all the circumstances given Pickett’s role within the company.

Shire Real Estate Pty Limited v Kersten
Another notable case is the decision of the Supreme Court of New South Wales in Shire Real Estate Pty Limited v Kersten, where the Court held that restraint clauses may be less enforceable where the termination of an employee is instigated by the employer (eg redundancy), and even less so if an employee has only been engaged by an employer for a short period.

It’s a matter of fact
As is evident from these judgements, cases involving allegations of restraint breaches, or allegations of unenforceable restraints, turn on the specific facts and circumstances of each matter.

It is notoriously difficult to predict which way Courts will turn when deciding such matters. Accordingly, businesses should carefully draft their agreements to ensure not to:

• seek to impose off the shelf restraint provisions;
• expect such restraint provisions will automatically be deemed to be reasonable and enforceable.

Consideration of an employer’s or vendor’s own legitimate business interests, together with the livelihood entitlements of the individual in question, must be carefully factored when drafting, or seeking to enforce, restraint of trade provisions.