Latest / Howes Percival Podcast / Restrictive covenants and how to protect your business when an employee leaves
Transcript
- speaker-0: Hello and welcome to Howes Percival Podcast I am Nick Benton. I'm a partner in the employment team specializing in all matters of employment law. And today we are going to be talking about restricted covenants in the context of employment. I'm joined by Gary Pitt, who's a partner in our commercial dispute resolution team based in Leicester who specializes in restricted covenants. speaker-1: Thanks, Nick. ⁓ and suppose the first question really to start things is what are restrictive covenants? speaker-0: Well, the clue, Gary, is in the name. They are covenants contained within employment contracts which seek to restrict employees from unfairly competing with their employer after they leave employment. So there are various forms of restrictions. Generally, what you will see are non-compete restrictions. non-compete, as the name again, and the name suggests, they seek to prevent employees competing against employers. for a particular period of time post-employment. You can also have non-solicitation restrictions. So they, again, seek to prevent employees trying to solicit certain customers or clients which they have dealt with during the course of their employment. You can have also, and I think this is probably actually in some ways more important than a non-solicitation restriction, is non-dealing restrictions. And what they seek to do is prevent employees actually having business dealings with certain customers and that can also include prospective customers. So customers not who they've dealt with but who they were trying to attract during the course of their employment. speaker-1: So that would be a situation where, for example, your one employer has the same customer base as another one, you go to your new employer and you both actually were working for the same customer, you've not bought them over yourself, you've not been involved in them coming over, but you have an existing relationship and your contract would then stop you from dealing with that company when you move to your new employer. Is that right? speaker-0: Exactly. Right. Yeah. So it's sort of important because it sort of sits alongside that ⁓ non solicitation, which is the employee taking active steps to try and bring customers away, but also prevents them from actually having dealings as well. speaker-1: suppose it blends quite well with that non-solicitation if the new employer was to say to a prospective they were going out to to recruit that you weren't ⁓ dealing with they could say well look come and come and play some business with us. We've got, you know, Joe Bloggs from from ABC Co. who I know you're used to dealing with. He's not gonna gonna come and try and move your business over, but he's there and you'll work with him when you when you come on board. It stops that workaround from a non-solicitation. speaker-0: Yeah, exactly. So sitting alongside your non solicitation, your non-poaching non-compete restrictions, also, sorry, your non-compete, you also have non-poaching restrictions. And that's more designed at trying to prevent employees taking away other key employees. So ⁓ typical restrictions saying that they can't poach certain ⁓ employees of a particular seniority, again, for a period of time post restriction. And again, that's really important, as we'll see when we talk about the key components of these restrictions. Non-poaching is really key for ensuring workforce stability, which again is a key consideration for employers. speaker-1: Yeah. speaker-0: Exactly. ⁓ And then finally, ⁓ you often see non-interfering restrictions, which really sort of seek to prevent exiting employees interfering with suppliers to your business, which again, ⁓ if you're to lose a key supplier, could be really sort of business critical for you. So, look, Gary, I've touched very broadly then on the types of restrictions. When you're considering those, be it... putting them in place or enforcing them. What are the key components of those types of restrictions? speaker-1: Yeah, thanks, Nick. So I think there's two things that the court really consider and you've got to have in your mind when you're drafting those clauses. The first is that whatever restriction you're looking to put in, it has to be there to protect a legitimate interest. What that generally means, there's sort of three categories you would look at. Those are those trade connections that you mentioned, things like suppliers, customers, clients, and that also includes the goodwill of the business. ⁓ there's trade secrets and confidential information. So if your employee is going to leave, what knowledge have they got that they could take away and cause harm to the business with and are you able to protect that? And then the final one is, as you mentioned in the in the context of poaching, is the stability of the workforce. So if one employee leaves you can cope, if suddenly they take their entire team with you, is that a business critical moment that you need to to have some protection for? So firstly when you're drafting them, you've got to go back as to are you protecting that legitimate interest? And then the second consideration that's got to be key as well, is that that restriction that you draft has to go no further than reasonably necessary to protect that legitimate interest. So that's where you see restrictive covenants being limited for things like time, scope, geography, ⁓ and also to clients that you have personal dealings with as that employer. So you couldn't, for example, restrict them from dealing in a non dealing clause with all customers of your business if they've never dealt with them. If they're being dealt with by your Newcastle office and you're based in, you know, Penzance, well, it doesn't matter because there's no crossover. You've never met with them. There's no reason for those clients to be restricted. ⁓ but the other point that I think ⁓ it's helpful to touch on here, Nick, and it might be one that ⁓ you've got some good updates and some good good ⁓ examples on is ⁓ when those contracts and clauses are actually assessed, because we talk about bearing those things in mind when you draft the contract, but it's about that relationship, isn't it? speaker-0: That's right, and I think that's a point that's ⁓ forgotten ⁓ and is a really key point is that the reasonableness test which you sort of spoke to is assessed at the time when the parties enter into the restrictions. So, you know, if you have, for example, a ⁓ restriction which seeks to prevent solicitation or prevent poaching of employees. the court will look at that at the time that the parties entered into the contract and consider whether the restriction is reasonable in that circumstance. And that can be problematic for some employers because we, I'm sure your experience is the same, have all too often seen a case where a restriction is entered into by an employee at the start of their employment is not looked at for a number of years. The employee progresses through the ranks from, say, sales representative to sales manager ⁓ sales director and what you might on the face of have a reasonable restriction which seeks to prevent poaching solicitation etc for a sales director will actually be judged as whether it's reasonable on the basis of their position as a sales representative. speaker-1: Become reasonable as they've progressed through, but that's not what the test is, it's what did they sign up to when they enter into that contract? And I think that that really is key. And it's it's also important if you have a business where you pride yourself on bringing people through the ranks, that's fantastic. That's what companies want to encourage. But you need to make sure that you're doing it in the right way and assessing at every every change of role, every promotion, every change of responsibility. Is an employee being given access to more information, more customers, more clients, more suppliers that you then need to go on and look to look to protect, right? That's the the key, really. speaker-0: Absolutely and actually it's a sort of tactically for employees it's a perfect opportunity to assess it and take that opportunity to try and put yourself in the best position to have the most enforceable restrictions. know if you're doing it at the time when an individual is being promoted then there's sort of goodwill, forward momentum and you're sort of in a good place to get those restrictions in best shape and agreed. speaker-1: And I think it sort of speaks back to what I was saying earlier about the fact that they can't go any ⁓ further than reasonably necessary to enforce that legitimate interest and protect that legitimate interest, because you would think, well, just start really broad, right? And as people progress through their career and up seniority and roles, it'll be fine because we've got this wide protection. But actually because it can't go further than necessary, if you have really cast a net wide at the outset. The courts are just going to say they're not enforceable for that junior employee, even if they would have been when they were senior. You've got to have it really nailed on at that at that moment and and give it proper consideration at the time. Yeah. speaker-0: Yeah, absolutely. And I'm sure you'll sort of pick up on the other aspects of all the issues to consider when it comes to reinforcing restrictions shortly. from my experience, that sort of tailored approach specific to the individual is really sort of key. know, if you can show a court that you haven't just set out a restriction across the entire workforce, but have purposefully turned your mind to the individual, legitimate business interest you're seeking to protect and why you think restricting that person is reasonable for that particular time, you're going to be in the in the best place possible to enforce it if it all goes wrong. Exactly, well you're a man who can speak to this Gary, you know if it does go wrong what are employers options, what are their enforcement options? speaker-1: Yeah. Yeah, there's sort of three options that you have generally as an employer when it comes to re enforcing restrictive covenants, right? The first one is a damages claim, which I'm sure people are aware of as an idea. This is the idea of bringing a claim for money, right? Basically, the the individual has breached their restriction, that has caused your business a loss and therefore you should be compensated for what that loss looks like. It's a monetary claim, nice and straightforward. The benefits of that, there's a number of benefits. Firstly, the limitation period, you've got six years to bring that claim. So it may be that you take a little while, assess, gather the evidence. You don't know what the consequence of that breach has been at the outset, but you might see it come through your sales figures in six months, twelve months, two years, three years, as things start to unpack, you can see what's actually happened and and where the contracts have moved. That's the the first thing to say on that. The second thing is it can be a really powerful remedy, right? Because it's a monetary remedy. you can get things like an account of profit. So if a ⁓ an exting employee has diverted business, you can see what that actually is. You can work out what your profit margin would have been on that. And that gives you a good metric for the damages you're going to claim. And ultimately, you get the profit without having done the underlying work potentially on the on the base of that. So there are some some benefits there. And that would be accounted for by the employee. But you might also have a claim potentially against the employer that's taken them on. So if they move to a new business, take a contract, take a key client, whatever it may be, Well, the claim could be against that individual, but it may also be potentially against the employer for procuring a breach if they knew about it and they encouraged the employer to do it, ⁓ the employee to do it, sorry, or if they've benefited from that breach generally. So you you do have multiple options there. speaker-0: Just on that point, often what you'll see in the drafting of employment contracts is an express provision placed on the employee who is exiting and moving to a competitor, requiring them to provide a copy of their restrictions to their new employer for the exact point of putting them on notice so that they then don't induce. speaker-1: Absolutely. And look, it it's often a really good tip anyway is if you know an employee is leaving and you are pretty sure they're going to a competitor or you know where they're going is to write to them and and send them a copy of that employee's restrictions anyway, right? And to say, look, I know you're taking on Joe blogs, here's the restrictions we've got him under, so make sure he doesn't do anything. And then and then that employer's on notice as well. So it puts you in a much stronger position if you then do need to take action. speaker-0: Sure. Obviously, a damages claim you've just spoke to, sometimes that might not be sort of sufficient remedy or they might not be able to sort of particularly quantify or value the damages claim. What other options do you think they have? speaker-1: Yeah one of the The interesting things about restrictive covenants and one of the reasons I love doing so much ⁓ work in this area is that the other remedy you have available is is an injunction potentially. If you can demonstrate that there is a real business critical need here and that damages will not be a sufficient remedy, you may have the option of going to get an injunction. Now, what is an injunction? It's an order from the court mandating that something is done or is not done. So that may be, for example, that someone's employment cannot commence for a period in which they're restricted if they're in breach of, say, a geographical restriction. you know, they can't work within a certain location, they're gonna do, so you might be able to get them restricted. ⁓ it may be that where they're contacting clients, you get an order from the court preventing them from contacting that client and dealing with any work that might have been been you know taken away. It's a really, really serious remedy that you can get on an urgent basis potentially, ⁓ that comes with potentially a penal notice as well. So that would mean that if you were to you know getting an order is one thing, but if the other side were to breach it then if the employee was to say, you know I don't care, I'm gonna continue dealing with it. Well then doing so would be contempt of court, potentially, you know, punishable by ultimately imprisonment, although, you know, that's a extremely high hurdle to get to, but but there is some serious consequences that that come with that as an option. speaker-0: And it's something that employers or someone who's seeking injunction should really sort of think carefully because it's not without potential risk also. speaker-1: No, absolutely. ⁓ first things first, if it'd employer is going to go and apply for an injunction, there's there's two things they need to know. One is that they have to offer what's known as a cross undertaking of damages. So because it's an interim relief and it's considered by the court on short notice, you have to be able to promise to the court, give them this undertaking, this cross undertaking, that if it does go wrong and if at a final trial the judge says, Well look, I gave you this in injunction, but when I've come back and considered it fully with a, you know, a week's trial and I've heard evidence from everyone, you actually weren't entitled to that relief. And it's therefore caused the employee who's exited and also their new employer lost because they've not been able to compete, you as a business have to agree to to cover the damages that might flow from that. So that's the first thing. And not only that, you've got to be able to prove to the court that you're good for that undertaking as well. So it's no no good promising to do it if you actually haven't got the the cash to back it up, right? So you've got to got to put that evidence into court. But the other thing is is that you really need to bear in mind with this is whilst you go off quickly, You have to give full and frank disclosure to the court. So what you've got to do is say, here's all the reasons why I should get my injunction. You know, I can see he's breaching, I can see this evidence. But you've also got to say, ⁓ here's all the reasons why we shouldn't get it. You've got to, you've got to also set out the case against you. You've got to positively put that forward to the court at in certain circumstances. So what that might mean is if you say, by the way, you know, seizing on your example from earlier, our sales director is leaving and he's taking all this business, here are the restrictions, they would be appropriate for this. But by the way, he entered into them when he was a sales associate, and they might not have been reasonable at that stage, you've got to tell the court both sides of that story. So there is a a real risk that you you set out your your own case against you. And sometimes parties are ⁓ are nervous to to go into injunctions for this reason, right? Is you you acid test the strength of your your restrictions. And if they fail, every individual in your business who is on those restrictions has has got to be aware that actually they might not be under the the the restrictions you thought they were, and they might be a bit more bit more willing to push the boundaries when it comes to comes to looking for for new roles, right? ⁓ speaker-0: making all of the business owners sit up and take notice now. speaker-1: Yeah, well, I think that r the reality with this is that if you're considering injunctive relief, you've got to get legal advice really quickly because it's it's urgent and the more you delay as well, if you know an employee's breaching and you don't take any action for a couple of months, you sit on it, right? The courts are gonna say, Well it's it's not urgent. You don't need this urgent relief. You've shown that damage is an adequate remedy because you've not pursued this at the time you should. So th there is that. And the other point I think you the r another reason you need to act urgently actually is what you need to show. is evidence, right? You need to show that the evidence of this breach. So it's all well and good having suspicions, you know, you know that an employee has moved from your company to your biggest competitor. That competitor has been targeting your biggest client for ages, right? You can put two and two together and you know that they may well be breaching. You've got those suspicions. Great. But what can you actually show a judge? What can you put before a court to say, and here is why we can show it is happening? Yeah. Has the client ⁓ has the employee sorry taken the number of emails from that client's printed them all off just before they've gone. Have they emailed stuff to their personal email address? Have they been putting in a number of phone calls that are out of the blue to to clients just before they've gone? If you can start to pull those things together and put them in front of a judge as well, you can paint that picture. But if it's just off suspicions, you've probably not got enough to get there. Yeah. So it it's really important that urgently you get some advice and you investigate the situation. And I I would much rather, you know, from an enforcement perspective, have a call with a client where they say, look, this is what I think's happening. We spend an hour, we spend an hour or two discussing this through. Well, you haven't got the evidence yet, you need to go away and get it, rather than a client who has sort of sat on it for a while and didn't think there was anything, realised how bad it is, and then come and said, Right, well, we knew it was going and we knew this is what was happening, but we didn't think it was going to go anywhere until client did take the decision to move and now, you know, have an awkward discussion. We've got to say, Well, actually, you might have left it a bit long and actually now it's a damages claim, not a not a not an injunction. Now what you've got to show all the time is that damages aren't an adequate remedy for this, right? So you've got to be cognizant of that. But, you know, if if ultimately money will will will heal all, well then you you're not going to get that relief. But it's it's an important tool to have out there. speaker-0: From my experience of enforcing these, often a first step is when the parties are first engaging, is that the employer will write to the employee setting out the details of the breach ⁓ and then they'll seek written undertakings confirming amongst other things that they will comply with the restrictions going forward. Is that something that is true of your experience? speaker-1: Yeah, it's it's common ultimately is in any of those eventualities and normally when you're looking at injunctions, you'll put your case to the other side, right? They've got a right to to respond to what you think they're doing. There might be a perfectly innocent explanation, often there isn't, but there might be one out there that you've not considered yet. Give them the opportunity to explain it. And what you tend to say then is, Okay, well well give us undertakings, give us promises, right? Promises that the breach of which is its own cause of action to say, Well, I won't breach them. I will I will comply with them. Here's what my my obligations in my contract are. I will undertake to you again that I will comply with them. And it's actually I'm sure you see this, Nick, when you're talking to employers who are about to lose a key employee. It's not uncommon to write to them on exit anyway and ask them to to restate those undertakings, right? To bring them to the front of their mind. speaker-0: Yeah, definitely. And it goes to the point which you said earlier that if actually, you know, you're in a strong position, you've got well drafted restrictions, have got a good chance of being enforced. If you have then engaged with the employee and sort of asked them, either put them on notice, or if you sort of got to the point where you've got an alleged breach and you've asked them for undertakings, and they refuse to provide those undertakings, that can be helpful evidence if you then need to go and sort of seek injunctive relief as well. speaker-1: Well, and and also it tends to start ringing the alarm bells, right? If you say your your contract says you've got to do this and you say, Well, fair enough, but I'm I'm I'm not gonna confirm it, well, why? What are you what what are you up to? Yeah. That often raises the question. And the other thing on that actually is those undertakings often they are given to the other party, so I will promise to you that I will or will not do something, fine. But if the situation has broken down, there's a real breakdown in trust, or you've started your injunction application and the other side has come to you and said, you know, fair cop, you've got me, this is what I'm doing. You can also give those undertakings into court so they can then have that penal notice that I mentioned earlier where breach would be contempt of court. They can be given into court in that situation. So they undertake with that added sort of weight of that notice on there. So you you have other options that sort of monitor that compliance and and really give it extra force where you don't think there's you the trust exists between the employer and employee anymore. speaker-0: Okay, so look we've sort of touched briefly on the topics of restricted governance and enforcements. What would be your key points ⁓ or key takeaways for employers if faced with a potential breach where they might need to enforce restricted governance? speaker-1: Great, yeah. I think there's probably three things that they should take away from today. One is that they need to take advice on restrictive covenants early, not just at the time they're looking to enforce, but also when they're entering into those restrictions with their employees, because as we've said, they're assessed at the time the contract is entered into. And then the second thing is sort of twofold, it's making sure that they refer back to those core principles. So one, do they protect a legitimate interest? And secondly, do they go no further than reasonably necessary in doing so? If you've got those covered, you'll be in a good position. speaker-0: Okay, well look, thank you for joining us on this podcast. Gary, if people want to get more information on this, where might they be able to find that? speaker-1: Yeah, there'll be some links in the description to to this episode, but I think the first portal call really is probably ⁓ looking at our LinkedIn profiles or finding us on the House Personal website. ⁓ name again is Gary Pitts. speaker-0: And I'm Nick Benton. Thank you.