Work Matters: Restrictive covenants

Legal Background

Post-termination restrictive covenants - enforceability

Whether a post-termination restrictive covenant in an employee’s contract of employment is enforceable will (largely) depend on whether the employer can show it has a legitimate business interest to protect and that the clause goes no further than is reasonable to protect it.

Non-compete restrictive covenants

These covenants aim to stop employees joining a rival or setting up in competition for a certain period after termination. They are particularly helpful to protect commercially sensitive information from falling into the hands of competitors.

To provide the best chance of enforcing non-compete covenants, employers (and their advisers) should limit the:

• activities that the employee will be restricted from undertaking;

• period of restraint; and

• geographical extent of the restriction.

Interim Injunctions

If an employee acts (or is suspected of acting) in breach of a restrictive covenant, the employer can apply to court to enforce the covenant and bring a claim for damages. However, it can take months to reach a full hearing and the employee’s actions can cause a lot of damage to the employer in the meantime. (For example, by disclosing commercially sensitive material to their new employer). To prevent (or limit) such damage, the employer can apply for an order that the employee complies with the restriction until the full hearing. This is called an interim injunction.

When considering whether to grant an interim injunction, the court should take the following principles (from American Cyanamid Co v Ethicon Ltd) into account:

• Is there a serious issue to be tried? The employer’s claim needs to have substance (rather than being frivolous or vexatious) and a reasonable prospect of success.

• Would damages be an adequate remedy? If the answer is no (in respect of an employer) there is more chance that the court will grant an interim injunction. However, it works both ways, and if the answer is no (in respect of an employee) there is less chance that the court will grant the injunction.

• What is the ‘balance of convenience’ between the parties? The court needs to weigh up the competing interests of the parties to decide who would suffer the most if the injunction was, or was not, granted. These interests vary from case to case but in a non-compete clause they can include the harm to the employee of being stopped from working, versus the potential damage to the employer of their not being stopped (such as the importance of preserving confidential information). The court will often err on the side of preserving the status quo.

Facts

Mr Gilligan was employed by Planon Ltd (‘Planon’) as a sales manager and his employment contract included a non-compete restrictive covenant preventing him from working for a competitor for 12 months after the termination of his employment. This was to protect Planon’s confidential information and business connections.

Mr Gilligan resigned on 23 July 2021 with one month’s notice and was placed on garden leave. Shortly after the end of his notice period, Mr Gilligan joined a competitor to work as a senior solutions sales manager. Planon became aware of this the next day.

Nearly three weeks later, Planon sent a letter warning Mr Gilligan that it intended to seek court enforcement of the non-compete clause and asked him to promise (or ‘undertake’) to comply with it. Mr Gilligan refused to do so and (four weeks after the letter) Planon applied for an interim injunction.

High Court decision

The HC refused to grant an interim injunction. It considered the non-compete clause was overly restrictive and likely to prevent Mr Gilligan from being able to secure work elsewhere for another 9 months. This meant that Planon could not show that it had a reasonable prospect of success at trial.

Planon appealed. The CA hearing did not take place until 5 April 2022.

Court of Appeal decision

The CA dismissed Planon’s appeal and did not grant the injunction.

However, it disagreed with the HC’s rationale for refusing interim relief. In particular, it had not considered the enforceability of the non-compete clause correctly. The HC had incorrectly focused on the effect of the restriction on Mr Gilligan’s employment prospects. Instead it should have considered whether Planon had a legitimate business interest and whether the clause went no further than reasonable to protect it.

The CA applied the American Cyanamid principles and said:

1. There is clearly a serious issue to be tried: which is the restrictive covenant’s enforceability and Planon did have a prospect of success. However, this issue could only be definitively decided at a full hearing and there is no presumption in favour of granting an interim injunction simply because the covenant is thought to be reasonable.
2. Damages were not an adequate remedy in this case: the CA considered that damages are not usually adequate in general for employees who are incorrectly compelled to comply with a non-compete clause. The exception is where the employee is very wealthy or their employer offers paid garden leave for the whole period of the restriction. In this case, Mr Gilligan had a family and a mortgage, and the likely effect of an interim injunction would be to deprive him of his income until August 2022.
3. The balance of convenience test favoured Mr Gilligan: Even if the non-compete clause was enforceable, it was now too late given that Mr Gilligan had been employed by his new employer for seven months. There were only four months of the original 12-month restrictive covenant left to run. Any damage which may have been caused to Planon (for example, by the disclosure or use of trade secrets and customer connections) would already have occurred.
4. The status quo should be maintained: this meant that Mr Gilligan should be allowed to continue in his new employment (as was currently the case).

As a result, having consider points 2, 3 and 4 above the CA did not grant the injunction.

Fladgate comment

This decision highlights that time is of the essence for employers when seeking an interim injunction to enforce a restrictive covenant.

Even if a court at an interim hearing indicates that the restriction is reasonable, this will not be enough to ensure that it grants an injunction. The court will go on to consider other factors.

In this case the delay to the CA hearing was fatal to the employer’s application. By the time of the hearing the employee had worked for his new employer for seven months. He was settled in his new role and it is likely that any damage to the employer’s legitimate business interests had already been done. The balance of convenience lay in preserving the status quo since the alternative of granting the relief would have deprived the employee of an income for four months.

The key lessons for employers are:

• Carefully consider the length of any non-compete to ensure that the business can justify the protection by reference to a legitimate aim. If the intention is to protect confidential information then make sure that the relevant information will not become stale and lose any value to a competitor after a much shorter period.

• Consider taking steps to address concerns about the adequacy of damages. For example, by continuing to pay the employee during the period of the restriction or negotiating with the new employer to share the cost. It is often easier to keep an employee out of the market on garden leave so consider using longer notice periods instead.

Act quickly and do not delay at any stage:

• Apply for an injunction within days (rather than weeks) of learning (or suspecting) that an employee is working or planning to work for a competitor.
• Although pre-action and settlement steps are important to try to avoid legal proceedings, do not spend too much time on this particularly if the employee is joining a competitor imminently.
• Have all necessary Board approvals and funds for the application in place at an early stage. This can be done while the employee is still on garden leave if it looks like they are planning to work for a competitor.
• Be ready to take pro-active steps to encourage the prompt listing of hearings.

Ultimately, the longer the delay to a court hearing, the better the employee’s argument that the damage is done and that the status quo should allow them to continue in their new employment.