Restraint of trade clauses: Are they ever enforceable?

It’s often a controversial topic as to whether restraint of trade clauses are enforceable or not. The answer isn’t simple at all – in fact it’s a legal grey area – dependent upon your employment contract, which state of Australia you are in, and what were the circumstances that the alleged breach has happened between employee and employer.

Employers use restraint of trade clauses to protect their business interests by including them in employee contracts to restrict employees’ freedom to undertake specific activities during or after employment has ended. Common restraints include confidentiality clauses; non-compete, non-recruitment and non-solicitation clauses.

“The main sources of obligations are contained in an individual’s employment contract, or a restraint deed or similar,” Shivchand Jhinku, Herbert Smith Freehills partner, told HRD. “To a lesser extent, they can be contained in a sale agreement, for example, where a business has been sold.  Australian employers commonly impose non-compete, non-solicit of clients, employees and suppliers, and non-dealing with clients, such as not accepting approaches from clients restraints on their employees.

“The usual way that these are drafted is through the use of a ‘ladder’ clause, both in relation to length of time, for example such as , 12, nine, six or three months, and geographical area such as New South Wales or Sydney.

“In New South Wales, given the operation of the Restraint of Trade Act, this ‘laddering’ process is not strictly required. However, for clients with national operations, it often makes sense to use a laddered approach, even for employees in New South Wales.”

Establishing when a restraint is reasonable comes down to proving a couple of facts, mainly, that the terms of the contract are pretty clear and were signed in good faith by the parties meaning that the employer has a legitimate interest in imposing the restraint, and the scope of the restraint does not step outside the boundaries of what was stipulated in the contract.

“It has become significantly easier for employers to enforce restraints of trade,” Jhinku said. “The courts are now much more willing to restrain employees from breaching obligations in their contracts, even if that means that an employee will be without a source of income for a period of time.

“The biggest obstacle that employers face is the cost of seeking to enforce restraints, both in terms of legal fees and management time. Practically, an employer has to weigh up whether it is worth expending the time, effort and money in commencing legal proceedings, or to instead direct those resources towards retaining business and clients.”

In a High Court decision in October this year, a real estate company in New South Wales won a major battle over the removal of confidential information from a former employee. The case was initiated on the basis that the employer believed when the employee left the company, he had breached the restraint of trade clauses in his REEF employment agreement and also his shareholder agreement by copying and then altering the confidential contacts within the company’s customer relationship management system. The case, which started In 2017, revolved around two key issues: firstly, whether the REEF employment contract and shareholder contract restraint of trade clauses were binding, and secondly, whether the data held in the company’s customer relationship management system was considered company property and was therefore confidential. The High Court ruled in favour of those two issues for the company meaning that both the restraint of trade clauses within the employment and shareholder contracts were enforceable.

But court action should always be a last resort.

“No one can guarantee that you will be successful in litigation, so it should be considered a last resort,” Jhinku added. “The likelihood of success comes down to the individual circumstances and how well the case is prepared.

“There are many ways that an employer can come unstuck in trying to enforce a restraint, and so it is important that they get legal advice early to develop a strategy and be willing to be flexible as the matter develops.”

Restraint of trade clauses are regulated in all the States and Territories under the Competition and Consumer Act 2010 (Cth). New South Wales is the only jurisdiction which includes particular rules dealing with restraint of trade clauses.

Employees need to understand what they are signing if confronted with one in their contract and the possible ramifications if they breach those agreed terms.

“Employees need to know precisely what they can and can’t do under their restraint clauses,” Jhinku explained. “If they are in doubt, they should get specific advice about their obligations. If they have the opportunity to do so, they should try to negotiate to limit the length of time that the restraint operates for, and/or to agree that there are only specific competitors or clients that they cannot work for.

“Further, when an employee is leaving, they should be upfront with their employer about where they are going, and if they need to, negotiate any changes to their restraint obligations before their employment ends.”