The consequences of an inadequate restraint of trade

restraint of trade
28 Jun 2023

Restrictive covenants, commonly known as Non-Compete or Restraint of Trade clauses (hereafter referred to as being comprehensive “Restraint of Trade”), are commonly included in employment agreements, director agreements, shareholder agreements, and certain services agreements. These clauses aim to prevent employees, contractors, directors, or shareholders (as applicable) from working for a competitor after leaving, aiming to safeguard intellectual property assets and trade secrets.

However, according to Irelan, “in January 2023, the U.S. Federal Trade Commission announced a proposal that would ban employers from imposing Restraint of Trade restrictive covenants on their workers. The list of state jurisdictions joining the movement to limit the use of these restrictive covenants continues to grow, most notably and recently, Delaware. Notable due to its business-centric court system, this change in Delaware appears to indicate the future for Restraint of Trades across all states.”

The Problem with the traditional approach

Restraint of Trade clauses are a common way for businesses to safeguard their intellectual property and trade secrets. By preventing employees from leaving to work for a competitor, businesses can maintain their competitive edge and retain valuable talent that might otherwise be lured away by better pay or benefits.

However, some critics argue that these clauses can be overly restrictive, limiting workers’ career growth and innovation opportunities. This can negatively impact both earning potential and the broader economy.

An alternative to relying on Restraint of Trade clauses is to use fair and specific non-disclosure agreements (NDAs) or confidentiality clauses. These agreements can be customised to meet the specific requirements of your business and clearly outline what information is considered confidential. This approach is more appropriate and reasonable in certain circumstances.

These are some considerations to consider:

  1. A precise definition of “Confidential Information”.
  2. The specific purpose for which the receiving party may use the confidential information.
  3. The duration of the confidentiality obligations.
  4. The exclusions from the confidentiality obligations may include publicly available information, information acquired by the receiving party through lawful means, and information that the receiving party independently developed without using the confidential information.

Non-solicitation clauses prevent employees, or former employees, from soliciting clients, customers, or other employees of a company they once worked with for a specified period after their employment or contract ends. This clause prevents an employee from working with a competitor or client by restricting the new company from poaching or soliciting the employee. However, it is less restrictive than a Restraint of Trade because the employee is free to apply for and accept any job they want.

If you decide to include a non-solicitation clause in your agreements, I recommend including the following three elements to make it effective and enforceable:

  1. Clearly define the prohibited activities, such as not soliciting clients, customers, or personnel from the company in any manner.
  2. Define the reasonable time frame for these restrictions, which can be anywhere from 6 months to 3 years. It’s crucial to ensure that the duration is reasonable, as a court of law could deem an excessively long period unenforceable.
  3. Limit the geographical scope of the clause to areas where the company has a legitimate interest. If your organization is global, including a broad scope, such as “anywhere the company operates,” it could be viewed as overly broad and potentially unenforceable in court.

Other Restrictive Covenants

Similar to non-solicitation clauses, you can include other restrictive provisions in your agreements. These provisions may include:

Clauses to prevent employees or former employees from making negative or derogatory statements about the company, its products, or its officers, representatives, or other employees.

Non-Disclosure Clauses may be added to employment agreements, director contracts, mutual separation agreements, or independent contractor agreements (for example) to ensure the confidentiality of the company’s information, even beyond the termination of their relationship with the company.

Clauses prohibiting employees from interfering with a company’s contracts or other relationships with its customers, suppliers, partners, etc. These clauses can also be included in director agreements, mutual separation agreements, and independent contractor agreements (to name a few).

Conclusion

When contemplating ways to safeguard your company’s assets, concentrate on the specific business interests that require protection. Be discerning with which employees, directors or contractors should sign certain agreements and ensure that the restrictive clauses are precisely drafted to protect those interests.

In addition, it is recommended that you seek advice to assist in drafting these agreements and to ensure their enforceability. By taking these steps, you can effectively safeguard your company’s intellectual property, trade secrets, and relationships with customers, suppliers, and partners.

Article sourced from SchoemanLaw Inc.

See also:

(This article is provided for informational purposes only and not for the purpose of providing legal advice. For more information on the topic, please contact the author/s or the relevant provider.)
Nicolene Schoeman-Louw

Mrs Nicolene Schoeman – Louw founded the firm in 2007, aged 24, and is now the Managing Director of the firm. Nicolene is an admitted Attorney of the High Court... Read more about Nicolene Schoeman-Louw

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