When drafting employment agreements, employers often focus on their business' present needs and expectations of the new employee. However, employers must consider how to manage employees when they exit the business. Restraints of trade are becoming increasingly common in employment agreements since such clauses can help protect high-value and sensitive information upon your employee's exit. This article will explore what restraint of trade clauses are, the implications for employers and how you can incorporate them into your agreements.
What is a Restraint of Trade?
A restraint of trade clause can limit your employee's ability to compete with your business after they leave. For example, say you run a tech business, and your employee has highly valuable knowledge about your business' operations and client lists. If they leave your business, you would not want the employee sharing that confidential information with a competitor in the tech industry.
In this sense, a restraint of trade clause must protect an employer's legitimate business interests.
Some common restraint clauses may take the form of a:
- non-competition clause;
- non-solicitation clause; and
- non-poaching of clients and sometimes colleagues.
How Can Employers Enforce a Restraint of Trade Clause?
While restraint clauses seem enticing, they are difficult to enforce. Employers can pursue any breaches of a restraint of trade clause with the Employment Relations Authority ('ERA') or the Employment Court ('the Court'). However, the ERA or the Court are only likely to enforce the clause if it is both:
- reasonable; and
- necessary to protect an employer's legitimate business interest.
When making its assessment, the ERA or Court will look at the following factors.
| Factors | Explanation |
| Protecting a Legitimate Business Interest | A legitimate business interest would likely be if the restraint protects certain trade information or customer connections where the relationship is valuable or confidential. |
| Interests | The ERA and the Courts will generally look at whether the clause fairly weighs the interests of both parties. This means the ERA or the Court will look at the employer's business interests compared to the employee's right to earn a living and pursue a career without restriction. |
| Reasonableness | Any restraints must be reasonable regarding the length of time, the scope and geographical area. If a restraint is excessively broad, the clause will likely be unenforceable. |
| Public Interest | If the restraint relates to a public interest, such as preventing competition or restricting any public interest innovation, the restraint may be unenforceable. |
What is the Clause's Duration and Geographical Region?
The clause's duration and geographic location are essential factors in determining whether the restraint is considered reasonable. Generally, the courts have found that restraints longer than six months are unreasonable. However, it does not mean a restraint of trade of a longer duration will not be enforceable. Nevertheless, a legitimate business interest must warrant the duration of the restraint.
Similarly, when considering the geographical area, it should not be unnecessarily broad. For example, if a business sells goods in the Auckland region and an employee relocates to Australia, then a restraint of trade applying to New Zealand and Australia is likely unreasonable.
Whose Interests Does the Clause Protect?
Restraint of trade must protect legitimate business interests to be enforceable. This usually includes:
- trade secrets;
- databases;
- pricing information; and
- intellectual property.
However, other skills, knowledge and general expertise acquired during employment are not protected by restraints of trades. For example, if an employee learns how to drive a forklift and obtains a forklift license during employment, the restraint should not restrict the employee from applying for roles where they may need to drive a forklift.
On the other hand, suppose your business has senior employees with access to highly sensitive information and a good rapport with clients and business relationships. In that case, a business is more likely to enforce a restraint of trade with such employees than a junior staff member. This is because courts generally recognise the heightened need to protect the employer's interest.
What if an Employee Disputes the Enforceability of a Restraint?
If you and your employees dispute how enforceable a restraint of trade is, you can opt to negotiate a mutually acceptable outcome. If a mutually agreeable outcome can not be reached, either party may likely apply to mediation or the ERA.
Alternative to relying on a restraint of trade clause, you could offer the outgoing employee garden leave. A garden leave clause in an employment contract generally requires an employee to stay on a company's payroll. However, the employee cannot:
- come to work;
- access any work databases or documents; and
- contact potential competitors during this period.
For many CEOs, there is generally a long period before they can move to another workplace, ranging from six months to one year. This provides an alternative to a general restraint without stopping an employee from earning a living.
Key Takeaways
As an employer, restraints of trade in employment agreements are vital to protect your business' legitimate interests. Nevertheless, whether an employer can enforce a restraint of trade clause will depend on various factors. Employers should ensure that the employment agreements drafted for employees do not have an excessively restrictive restraint of trade without good reason. Otherwise, the employer may not be able to enforce the clause.
