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Recruitment Company Owners – Understanding Restrictive Covenants in Employment Contracts

All my recruitment company clients are familiar with restrictive covenants. They all insist that they are included in their consultants’ employment contracts.

But how much do you understand about whether they are enforceable should an ex-employee breach them?

In short, restrictive covenants in employment are terms written into the employee’s contract to provide a certain level of protection to the employer.  When an employee has left the business restrictive covenants prevent the employee from competing with the employer for a certain period of time. Typically in recruitment, they also prevent the employee from soliciting or dealing with clients and candidates of the business by using knowledge of those clients gained during the period of prior employment.

Your consultants will almost certainly acquire what we tend to refer to as Confidential Information during their employment. This includes knowledge of your key business interests including client details and requirements, pricing structures, candidates’ and potential candidates’ details, knowledge of the workforce, and information about future business strategy. It can be tempting, and potentially very easy, for employees to use this information after their employment has ended; either in setting up a competing business or to further the interests of a new employer, who could be a competitor. This is why many employers incorporate restrictive covenants into employment contracts as it enables you to protect your business from such threats.

There are generally five types of restrictions:

  • The Confidentiality Clause – which imposes a duty on the ex-employee to keep secret your company’s Confidential Information
  • Non-Solicitation Clause – this imposes a duty on the ex-employee not to approach your company’s clients/candidates or prospective clients/candidates
  • Non-Dealing Clause – this prevents the ex-employee from doing business with your clients/candidates or prospective clients/candidates. This differs from the Non-Solicitation Clause as it prevents the ex-employee from working with a client/candidate even if they approach the ex-employee
  • Non-Compete Clause – which prevents the ex-employee from working for a competitor in a competing capacity or seeking to set up a competing business
  • Non-Poaching Clause – this prevents the ex-employee from trying to take your company’s staff to their new employment or business

On the face of it they are all reasonable, but are they enforceable?

A restrictive covenant which is wider than reasonably necessary to protect the legitimate business interests of your company is at risk of being unenforceable. It is therefore important that you carefully consider whether a restrictive covenant which is narrower in scope (and therefore more reasonable) would still protect your legitimate business interests. And don’t forget, the Court will assess the viability of a restrictive covenant as at the date the contract was entered into, rather than at the time of termination of employment.

That is because the extent of the restriction must also be relative to an employee’s role in a business. For example, it can be acceptable for a senior employee with access to sensitive information to be subject to more heavy restrictions, as opposed to a junior employee who does not have access to sensitive information. That means it’s very important to review the level of restriction as your Consultants move up the ranks, to ensure they remain relative.

In the event that an employee challenges their restrictive covenant in Court, you would need to convince the Court that the restrictions were sufficiently narrow, so as to be properly enforceable. As well as being reasonable and necessary to protect your legitimate business interests, the clauses must also be of a duration no longer than is necessary to protect those interests.

These are the questions I suggest you need to be asking yourself at the outset:

What is reasonable?

Factors affecting reasonableness vary but may include scope, duration, geographical location, the nature of the business, the nature of the employee’s role and whether the covenant is usual in the sector.

For example, in terms of a geographical location, a restrictive covenant simply preventing a person from working in the same industry within 10 miles of your premises is more likely to be enforceable than a covenant which prohibits them from working in the same industry anywhere within the UK.

What legitimate business interests can I protect?

Over the years, the Courts have identified a small number of legitimate business interests which can be protected by the restrictive covenants.

  • Client or candidate connections – including prospective clients/candidates
  • Confidential information and trade secrets – these may include customer candidate lists, costings, financial details and terms and conditions of contracts with key suppliers
  • The stability of the workforce – particularly in a highly competitive business

How do I know what the necessary duration to protect my legitimate business interests is?

It is common practice for a restrictive covenant to apply for a period of time post termination of between 3 and 12 months. Covenants at the longer end are more likely to be reasonable for very senior employees who know the intricacies of your business.

A period of time longer than 12 months will usually be unenforceable. However, each period of time will depend on circumstances. For example, if the legitimate business interest to be protected by the covenant is Confidential Information, the Court will look at for how long the information remains confidential before it becomes obsolete or enters the public domain. The longer the period, the greater the reasonableness of seeking a covenant with a longer period of restriction is in order to protect that information.

A recent case where the restrictive covenants were enforced successfully in favour of a recruitment company is East England Schools CIC v Palmer & Anor [2013].

Ms Palmer worked for the East England Schools CIC, which traded as a recruitment company called 4myschools. Ms Palmer’s employment contract contained covenants not to solicit or to deal with the candidate teachers or client schools with whom she had dealt with in her last 12 months for a period of 6 months after ending her employment. After her notice period, Ms Palmer started working at a new company with the second Defendant, and began building a business with secondary schools in the same area she covered with 4myschools. 4myschools received this information, which led them to believe that Ms Palmer was breaching the terms of her restrictive covenants and demanded she sign an undertaking to comply with them. Ms Palmer agreed to sign the undertaking, although not quite following the proposed wording by 4myschools.

4myschools then received further information that Ms Palmer had committed further breaches of her restrictive covenants, and brought High Court proceedings against her and her colleague to enforce them.

The High Court ruled that although the undertakings were not enforceable in their own right as a separate contract, some (but not all) of the restrictive covenants were enforceable. Ms Palmer and her co-defendant were ordered to pay compensatory damages of just over £7,000 to the Claimant for having breached them.

Another case, Patsystems Holdings Limited v Neilly [2012], will give you an idea of how restrictive covenants are sometimes not enforceable.

Mr Neilly was employed by Patsystems as a junior salesman in 2000. His original employment contract included a covenant preventing him from joining a competitor for a 12 month period after termination. Mr Neilly was promoted in 2005 and signed a letter varying his job title, salary, and notice period. In 2012, Mr Neilly resigned giving three months notice. Patsystems regarded Mr Neilly’s new company as a competitor. They applied to the High Court for an injunction against Mr Neilly to enforce the non-competition clause. Mr Neilly gave interim undertakings pending an expedited trail and counterclaimed for breach of contract.

The High Court dismissed Patsystems’s claim on the grounds that the 12 month non-competition clause was void and unenforceable at the time it had been entered into in 2000. Mr Neilly had been a junior salesman at that time, with limited access to confidential information and minimal client contract. When Mr Neilly was promoted, the variation of his contract had not brought the non-competition covenant to life, even though he was at that time more senior. A fresh contract with a valid covenant should have been signed on promotion. The High Court also stated that the 12 month non-competition covenant was a significant period of time to keep an employee out of the market in his chosen field, and that it went further that was reasonably necessary to protect Patsystems’ interests.

This particular case serves as a reminder not only of the need for careful drafting of restrictive covenants but also of the benefits of conducting regular reviews of covenants for existing employees.

When restrictive covenants are drafted, employers often give little consideration to the scrutiny that those covenants may come under by the Courts. I cannot stress how important it is to make sure the covenants are reasonable, go only so far as to protect legitimate business interests, and that the duration is necessary.

As you can see, not all restrictive covenants are enforceable. We would therefore recommend that you check that the restrictions included in your contracts of employment are legally compliant and enforceable, so that your business interests can remain fully protected. We would also recommend that restrictive covenants are reviewed and updated accordingly when a Consultant’s role changes.

If you need any further information on this, or if Cognitive Law can be of any assistance, please do not hesitate to get in touch with Lucy Tarrant on 0333 400 4499 or lucy.tarrant@cognitivelaw.co.uk. Otherwise, thank you for reading this blog.