Protecting the goodwill of your business: Restraints of Trade
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Protecting the goodwill of your business: Restraints of Trade

Protecting the goodwill of your business: Restraints of Trade

When an employee leaves their job, there is the potential for the employer’s confidential information, trade secrets, client lists and business know-how to become exposed. Employers spend significant time and money developing those assets and do not want to see them fall into the hands of their competitors. However, on the other side of the spectrum, employees have the right to change jobs, develop their career and earn a living. The question is: how do we strike a balance between these competing interests?

There are various types of clauses used in employment contracts to prevent employees from carrying on certain actives, either during or after their employment, which may infringe on their employer’s legitimate business interests. Typically, these clauses include:

  • Conflict of interest
  • Confidentiality obligations
  • Intellectual property
  • Restraint on competition with the employer’s business
  • Restraint on solicitation of the employer’s customers/suppliers etc
  • Restraint on poaching/recruitment of employees/contractors etc

These last three categories are referred to as “Restraint of Trade” clauses. The general position at law is that Restraint of Trade clauses will be void, unless proved to be genuinely reasonable and to provide necessary protection for the party seeking to impose them. So, in what circumstances will a court enforce a Restraint of Trade clause?

In a recent case, the Supreme Court of WA has temporarily barred an employee who quit his job from taking up work with a competitor by upholding a 10 year restraint of trade. Matchtec Hydraulics argued that the employee was in breach of his restraint of trade agreement, and accused him of poaching important customers and clients. It was also argued the employee made disparaging comments about the quality and service of the business, which could have been damaging to the company’s reputation. However, the employee denied these allegations and maintained that customers in the industry showed "little loyalty", assessing each job on a case-by-case basis, taking into consideration price and reputation. The employee also maintained that he was unqualified in any other industry and the 10 year restraint was unreasonable.

While the judge had reservations about the length of the 10 year period, some period of restraint was found to be reasonable in the circumstances. In his judgement, Justice Paul Tottle considered three factors to be relevant. Firstly, Matchtec Hydraulics was purchased by Devil Dog Pty Ltd for $650,000, with goodwill accounting for the $588,700. Given that 90% of the purchase price was attributed to goodwill, this suggested that the business enjoyed the benefit of repeat customers and a degree of customer loyalty. The judge also placed weight on the strong personal connection between the employee and the business’ clients, which will “take time to be severed”. Furthermore, whilst it was appreciated that the employee was not concerned with the restraint at the time of the agreement (he thought he was going to live in the UK), the judge stated that the restraint period was negotiated and agreed between the parties.

However, the case will go on trial in April to determine whether the 10 year restraint period is reasonable.

The case law establishes that, when determining whether a restraint of trade clause reasonably protects legitimate business interests, the courts will consider the following factors:

  • The seniority and special skills/knowledge of the employee
  • The time period of the clause after employment ends
  • The geographical area that the clause applies to
  • The scope of the restrained activities
  • Standard industry practice

Importantly, as illustrated by this case, courts are willing to enforce restraint of trade clauses in certain circumstances where it is necessary protect business goodwill. After all, a business’ reputation and relationship with customer/clients lies at the heart of whether the business will succeed or fail.

Lessons for Employers

  • Consider your specific business interests and whether the restraint of trade goes beyond what is necessary to protect those interests. There will be a greater chance in successfully enforcing the clauses if they are reasonable. 
  • Consider whether an employee’s role or time with the business is actually worthy of imposing these kinds of restrictions.
  • When drafting restraint of trade clauses in employment contracts, use cascading clauses so that a range of options can be provided to the parties in restricting certain activities.
  • Tailor restraints to reflect the individual’s specific circumstances e.g. their level of seniority.
  • When a person’s employment is ending, remind them of their post- employment contractual obligations, e.g. duty of confidentiality, non-solicitation and non-compete restraints.

Image courtesy of Tuomas_Lehtinen at FreeDigitalPhotos.net

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