Restraints of trade – do they work?

The Employment Relations Authority has recently determined that a restraint of trade preventing former TV3 journalist Tova O’Brien from working for a competitor of her past employer was enforceable. This resulted in O’Brien having to delay the start of her new breakfast radio show for several weeks.

Does this mean that restraints of trade in employment agreements will always be enforceable? Charlene Sell of Wynn Williams explains.

What is a restraint of trade?

Media commentary on the O’Brien determination has focused on the non-compete aspects of the restraint. However, employment agreements will often cover several restraints and may not always prohibit competition. Types of restraints commonly covered in employment agreements include:

1. Non-compete: This is often considered the most restrictive restraint and prohibits a former employee from working for a competitor or setting up a business in competition for a defined period of time.
2. Non-solicitation / non-dealing: A non-solicitation restraint prohibits a former employee from approaching and soliciting customers, suppliers, or employees of their former employer. This type of restraint essentially restricts the “poaching” of former co-workers and customers. A non-dealing restraint goes further and prohibits a former employee from providing products or services to a former customer or client, even if there has been no active solicitation.

How does a restraint work?

A restraint of trade clause needs to cover the following essential elements:

1. Restricted activities: The type of activities which are prohibited i.e. competition, solicitation of or dealing with customers, employees or suppliers of the former employer. This must be reasonable with regard to the type of role and seniority of the employee. For example, a non-compete restraint will be unlikely to be enforceable against a junior employee with limited access to customers or sensitive information of the business.
2. Geographical area: The location in which the employee is restricted from carrying out certain activities. This is particularly relevant to non-compete restraints. The area of the restraint must be reasonable. For example, if the former employer’s business is based in Auckland, it would be unlikely to be reasonable to extend the non-compete restraint to cover all of New Zealand.
3. Period of time: The duration that the restraint is operative after the employee’s employment ends. The restraint cannot last longer than is necessary to protect the former employer’s interests. In the O’Brien determination the Employment Relations Authority reduced the non-compete restraint from three months to seven weeks.
4. Adequate compensation: For the restraint to be enforceable, the employer must have paid the employee adequate compensation in exchange for the employee agreeing to be bound by the restraint. Typically, employment agreements will include an acknowledgment that the employee’s initial wage or salary is sufficient compensation for the employee being bound by the restraint.

How do restraints protect the employer?

A restraint of trade clause prohibits a former employee from carrying out certain activities after they have left their employment, thus protecting the proprietary interests of the former employer. This allows the former employer time to safeguard their business, for example by introducing customers to others in the business so that their custom is retained.

Are non-compete restraints fair?

The idea of preventing someone from earning a living in their chosen field for a period of time sits uneasily with many New Zealanders.

However, increasingly, our courts are allowing reasonable non-compete restraints to be enforced, on the basis that employees are free to negotiate the terms of their employment prior to signing an employment agreement including such restraints.

There is no “standard” restraint of trade clause. Employers should consider what restrictions are appropriate for their business and the role they are hiring for. Employees are taking note of such clauses. The commonly held misconception that restraints of trade provisions are not worth the paper they were written on, is simply not true.

The O’Brien case provides both employers and employees with a timely reminder that restraints should be properly drafted and negotiated before the agreement is signed, for they can indeed be enforceable.