Restraint of trade clauses are designed to protect a businesses’ legitimate interests by restricting the conduct of former employees following the termination of their employment. Restraint of trade clauses are typically limited to a specific area and only last for a particular period following the former employee’s departure. Such clauses tend to fall within three broad categories: (1) non-competition, (2) non-dealing, and (3) non-solicitation.
The starting point is that restraint of trade provisions can be unlawful and unenforceable, as they are contrary to public policy. However, a restraint of trade will be enforceable where:
- The employer has a proprietary or legitimate interest which is capable of protection; and
- The restraint is no more extensive than is reasonably necessary to protect those interests.
The issue of reasonableness requires an assessment of relevant factors such as:
(a) the scope of the activities prohibited;
(b) the period of time for which the restraint operates;
(c) the geographical area covered by the restraint;
(d) the status and position of the person restrained and the strength and value of the connection they have with the customers or clients of the business;
(e) the circumstances in which the restraint was imposed; and
(f) whether the restraint would unduly restrict the person restrained from earning a livelihood.
Reasonableness of the restraint must be established by the party who seeks to enforce the provision. It is then up to the party resisting enforcement to establish that the restraint is contrary to the public interest. If deemed unreasonable, the Employment Court and the Employment Relations Authority can exercise their discretion to modify it or refuse to uphold it all together.
Practical Tips for Employers
1 Drafting Restraint of Trade Clauses
We do not recommend taking a one-size-fits-all approach. The scope, nature and extent of each restraint ought to be tailored in light of the particular employee, their duties, seniority and degree of control or influence over the employer’s proprietary interests.
First, employers should take time to identify the interest(s) that the restraint is seeking to protect. Valid interests may include trade secrets, confidential information, trade connections and customer connections. It is well-established that such clauses cannot be used to prevent a former employee from merely competing with the former employer or from using skills, experience and general knowledge that the former employee has developed over time.
Once the interest has been identified, the employer must then assess whether the restraint is reasonably necessary. A helpful exercise is to consider how an appropriate balance can be achieved between the restriction placed, the necessity for the restraint, and the former employee’s right to earn an income.
The Authority is particularly mindful where the scope of the restraint of trade clause covers a large geographical area, and/or imposes a lengthy time restriction. In the recent Davis Trading Company Ltd v Uelese case, the clause in question was drafted too broadly and effectively prevented the former employee from working in any business in the Hamilton area. The Authority identified a significant risk that the former employee could be prevented from earning a living and this outweighed the protection of the employer’s confidential information. The employer’s application for an interim injunction was denied.
While the Employment Relations Authority and the Employment Court may exercise their discretion to modify unenforceable employment agreements to make them enforceable, employers should not rely on this mechanism. Cases such as Transpacific Industries Group v Harris and Green demonstrate that courts may not exercise their discretion to modify the applicable provisions, even when the former employer has legitimate interests which require protection. In this case, the Court did not modify the restraint as modification would have required substantial redrafting and significant changes.
The best time to include a restraint of trade clause is from the outset when making an offer of employment. If the restraint of trade clause is added during employment, employers must demonstrate that there was consideration for the variation. This may take the form of a higher wage or specific payment from the employer.
Practical Tips for Employees
Although restraint of trade clauses are not always enforceable, this does not mean that former employees should completely disregard them upon leaving the business. This could lead to an injunction being imposed and, if they are found to be in breach, financial compensation and a penalty may be imposed. Further, a public determination could adversely affect their reputation and future employment prospects.
The courts are prepared to issue injunctions where necessary. An injunction can affect the employee’s new employment, as it may require their new employer to redeploy them, limit their duties or place them on leave. The risk of serious damages and penalties is also significant. In Aon New Zealand v West, the defendant was ordered to pay over $70,000 for multiple breaches. On the facts, the defendant was found to have dealt with 18 former clients following the termination of his employment.
Where an employer or employee is concerned about the reasonableness of a restraint of clause, we recommend seeking legal advice. Further, before initiating any legal proceedings, it is recommended that mediation is sought as this could assist the parties to reach an amicable resolution.
Jennifer Mills is highly regarded as one of New Zealand’s leading employment and health and safety lawyers, with a wealth of experience in employment litigation, industrial relations, health and safety, complex restructures, large scale Holidays Act issues, executive remuneration and regulation, executive exits and immigration law. She regularly advises on novel and complex legal issues and is passionate about providing her clients with effective tailored solutions. She has been listed as a ‘leading individual’ in the Asia Pacific Legal 500 and is rated one of the leading employm ent lawyers in the world, by Chambers Global. Connect with Jennifer via email or LinkedIn
Isabella Yu is currently studying towards a Bachelor of Laws (Honours) and Bachelor of Commerce (majoring in Economics and International Business), at the University of Auckland. She joined Jennifer Mills and Associates in February 2020. Isabella is supporting our staff with legal research, opinions, drafting documents and is eager to assist our clients. She hopes that through her work experience she will be able to apply the skills she is learning in her studies in a practical and tangible way. Connect with Isabella via email.