Non-Compete Clauses in Contracts — Restrictive Covenants, Part I
Recently, a number of clients have inquired about non-compete clauses, non-solicitation clauses, and confidentiality clauses in their employment contracts and consulting agreements and various other small-business agreements. This is Part I of a three-part blog series on how these “restrictive covenants” affect an employee’s rights, or an independent contractor’s rights, post-termination.
IN THIS ARTICLE, I will shed light on the enforceability of “non-compete” clauses, a.k.a. non-competition agreements. In Part II, we will discuss “non-solicitation” clauses. And in Part III, we will discuss “confidentiality” clauses, a.k.a. non-disclosure agreements. These are known as “restrictive covenants” — they ‘restrict’ the rights of a party to a contract in some way, depending on how well they are drafted.
Courts treat these three restrictive covenants with more, or less, rigor depending on which one of these three restrictive covenants is at issue, and the particular context in which the restrictive covenant was agreed to. Courts do not always enforce these restrictive covenants, even if the parties understood what they were signing.
Of the three restrictive covenants, courts are most reluctant to enforce non-compete clauses; compared to non-solicitation and confidentiality clauses, a stricter test is applied to determine whether a non-compete is enforceable. With regards the context, non-compete clauses in commercial agreements, such as a sale of a business or a large transaction where the two parties have similar bargaining power, expertise and access to legal and financial advice (for purposes of this article, a “commercial context”), receive less scrutiny than they would in an employment context.
In fact, in the ‘employer-employee’ context, or a similar context, such as a ‘contract for services’ between an independent contractor and a client company (for purposes of this article, each is referred to as an “employment context”), a non-compete clause is presumed to be unenforceable unless it is can be shown to be reasonable as between the parties, clear, certain, not vague and limited in scope.
The courts have held that it is in the public interest to protect an employee’s right to use the knowledge and skills acquired during employment, to earn a living after leaving that company (note that this does not include confidential information of the company). Presumptively, it is perfectly legitimate for a former employee to take general knowledge and skills acquired in the course of his or her former employ, and use them to compete against the former employer.
The Supreme Court of Canada has stated that to protect employees’ rights, the legal framework applicable to contracts of employment (and contracts for service) must take account of the imbalance of power that generally characterizes this type of relationship. As such, a much more stringent test is applied to determine whether a non-compete clause is enforceable against a former employee. For a non-compete to be enforceable in an employment context, the company seeking to enforce the clause must show that it is reasonable as between the parties, AND, with regards to its term (time period), geographic scope, and the activities to which it applies, it does not go further than that which is necessary to protect the legitimate interests of the company. IN ADDITION, the clause must be clear as to what specific activities are prohibited, the time period to which it applies, and the geographic scope.
In a commercial context (as defined above), the courts place greater weight on protecting the freedom of trade and promoting the stability of commercial arrangements. In the commercial context, a non-compete clause is presumptively lawful and enforceable unless it can be established on a balance of probabilities that its scope is unreasonable. It will be found to be reasonable, lawful and enforceable, if it is limited as to its term, geographic scope, and the activities to which it applies, to the extent necessary for the protection of the legitimate proprietary interests of the party in whose favor it was granted, and to no greater extent. This does not include protecting its competitive position generally.
Although it is a balancing act, the courts have stated that it is in the public interest to maintain open competition and discourage restraints on trade.
Where there is a breach of a non-compete clause that meets the requirements for it to be enforceable, damages may be awarded equal to the value of the lost contract, or lost value, or in some cases an injunction preventing the party from engaging in a certain activity may be issued by the court.
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Originally published at www.contractslawandmore.com