Protecting a business when someone leaves | Legal Thinking Podcast
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Hello and welcome to Legal Thinking. In today's episode we are talking about all things restricted covenants. The guests for today's episode are Gemma Ospedale who is a Partner in the Employment team at RWK Goodman and Dan Dodman who is a Partner and the Head of Dispute Resolution at RWK Goodman. Without any further ado, let us roll tape.
So, Gemma the first question is for you and it is, in your experience what are some common misconceptions or urban myths surrounding restricted covenants in employment contracts and how can employers ensure they are well informed and avoid falling into any of these myths?
Gemma Ospedale: Well, I think the most common misconception is that all restricted covenants are going to be enforceable.
Employers tend to think that, if they have got them in their contracts, that they are enforceable and they can stop employees who leave from going to competitors or soliciting clients and or poaching employees. I think that's one of the most common myths probably.
How do they stop falling into those traps? Well, taking legal advice basically because they are quite complex things covenants, I think we’ll probably come onto that in you know, another question, but you do need to think very carefully about the covenants that you are drafting and what they are designed to protect because it's not just enough to put a blanket all-encompassing, “you can’t go and work for a competitor for 12 months or you can’t solicit clients for 12 months” without thinking about the nature of the business that you are in and whether that's actually going to be something realistic.
What are some of the key factors to consider when drafting restricted covenants to ensure that they are strong and enforceable?
Gemma: You have to think about, because this is what the courts will look at, is does the covenant just go so far to protect your legitimate business interest? Because if it goes further than that and becomes a restraint of trade, it's unenforceable.
By a restraint of trade, what we mean from that is does it stop the employee from actually earning a living? Because if it does, it's going to be unenforceable.
The purpose of a covenant is to make sure that the legitimate business interests of the employer are protected, that looking at things like what is your, where's your, your market forces, what's your particular business, are you spread, for instance, geographically, are you spread across the entire countryside or are you just located in London? Where are your clients, where are your key competitors?
And also looking at the seniority of the individual concerned, because somebody who is employed as an admin assistant is not going to be any risk to the business interests of the employer in poaching clients for instance, however, somebody who is, you know, a senior sales manager, who knows all the clients and the customers and knows all the business, you know, trade secrets of an employer might well be more of a risk.
So again, it comes down to looking objectively at your business and seeing where the interests are that you need to protect.
So do you have any specific tips or best practices you would recommend to a business?
Gemma: Yes, come and speak to us! (which is pretty obvious)
I think the most important is to ensure that if you are going to have covenants in a contract, that you introduce them at the outset of the employment of the individual and if that person goes up the food chain, so to speak, the covenants are adjusted in a differently issued contract.
In other words, if someone is promoted, they are issued with a new contract with covenants which are commensurate with the seniority of that individual and referable to the job that they do.
For instance, you couldn’t really put a covenant in the contract of a lawyer saying you can’t go and work for a competitor because that would be a restraint of trade. They'd be unable to earn a living. But you could put a covenant in the clause of a lawyer saying you can’t solicit clients with whom you have been working the last year or you can’t work for competitors within a specific geographical radius of your office and where that office is depends on what, you know, the radius, it might be London, it might be a mile, but if it's somewhere out in the country it might be bigger.
In reality, these days, geographical radii for lawyers is not really a key component because lawyers operate across all areas of country and they don’t really just operate in a small geographical radius. But other companies with different businesses might well do.
And what are some considerations when including provisions related to company property, and how can employers protect their interests in these situations?
Gemma: I think it's important to have a clause requiring the return of company property in each contract, which they probably will have. The company property is only to be used for company business, and particularly phones, because people will store their contacts, clients, suppliers etcetera on their phones.
So if somebody is only allowed to use a company phone for work purposes, that's all they will have on there and you can have the phone back when they have, you know, if they move on, whereas if the phone is to be used for company and personal purposes, it's more difficult to, you can still ask for the phone back but then you have got to disentangle contacts of, you know, company contacts and personal contacts and it's much better to keep the two completely separate. So that's what I would suggest in that situation when it comes to phones, certainly.
What are key factors that courts typically consider when determining whether to enforce a non-compete clause?
Gemma: Well, they will start out with whether the non-competition clause is sufficient to protect the employer's legitimate business interest as I referred to earlier, or whether it goes further than that and operates as a restraint of trade. That's a starting point.
If the courts consider that it's going to operate as a restraint of trade, they won’t go any further. They will simply say “right, that's it, unenforceable”. If it does protect the legitimate business interests, they may go on to look at other factors. But that's your starting point.
Can you explain the differences between non-solicitation, non-dealing, non-competition, anti-poaching and non-disclosure covenants? What are their respective roles and importance in safeguarding an employer's interests?
Dan Dodman: It is interesting because although they are often referred to as different clauses and they are different clauses, in reality, they are often in the same parts of an employment contract and work together in, in protecting the employer.
But broadly speaking, and some of these differences are quite subtle, non-solicitation is effectively where you’re agreeing not to approach customers, or potentially prospective customers as well and not do business with them.
Non-dealing is similar, save that it's actually slightly wider in that it also prevents you from dealing with customers when they approach you. So, you know, even if a, you know, a potential customer comes to you and asks for your help you are not allowed to do, do that, pick that up.
Non-competition is exactly what it says on the tin. It's where you are agreeing not to compete directly with a former employer.
Anti-poaching is in relation to poaching specific employees. So, effectively, I am going to go to a competitor firm or a different firm and I’m not allowed to approach my ex-colleagues to say look, come over and, you know, come, come and work with me and then non-disclosure covenants, which is often confidentiality as well, it's effectively where you are not allowed to divulge information which you have in your head as a result of your previous employment. So, for example, say that you knew some big trade secrets or you knew a particular piece of IP, you are not allowed to sell that to your new employee.
How can employers effectively enforce the restraints imposed by restrictive covenants? So, what legal actions can be taken in such situations?
Dan: Well the way that these actions typically play out, is an employer will find out that something has happened, that there might be a breach in one of these types of clauses and then get in touch with a law firm. That law firm will normally send a letter to the ex-employee saying, “we think that you have done this and you shouldn’t do that. Let’s draw your attention to this part of your employment contract which you are now in breach of and ask for a series of undertakings”.
Now those undertakings are effectively promises from the employee that he isn’t doing or hasn’t done, or is going to stop doing and what he has been doing. You ask for those promises from the ex-employee, very regularly they won’t give them or they won’t want to give them or they don’t think it's serious and then if that's the case, you have to go to court and ask the courts to give restricted covenants, a restricted injunction effectively enforcing the terms of the restricted covenant.
So, speaking of courts, when construing restricted covenants, what factors do the courts typically take into account?
Dan: Well, I think the most important thing to say there is that the standard approach to the courts is that these clauses are all unenforceable. That's the basic principle. They are unenforceable as an issue of public policy, on the basis that it’s restraining trade.
So the emphasis is always on you, as the employer, to go to court and persuade a judge that actually they are reasonable and should be put in place and do enforce and, you know, and do actually help protect the position, which obviously is quite a high barrier to go into court with as a starter.
The things that the courts are always very interested in seeing is, as Gemma said, that the seniority of the individual which normally goes with the amount of information that they know and therefore the amount of legitimate damage that they could do to a business and they will also look at how long these covenants are in force for, you know, anything over, you know, anything over six months normally gets into a slightly difficult area.
They will also look at geographical location and geographical constraints as well. So, if you are saying that this person can’t go and work for a competitor firm anywhere in the UK for a period of 12 months, the court's going to have to be, you know, have to work very hard to persuade the court that that's a reasonable covenant. Whereas if you said, for example, look, you have got four months restricted covenant in the City of London that might be a very different kind of conversation.
And in the event that a restricted covenant is deemed overly broad or unreasonable, what happens then?
Dan: Well, basically the courts aren’t going to reinterpret these clauses. So, if they do think it's an unreasonable clause and they don’t think that it's enforceable, they won’t insert, for example, those territorial distinctions that I have just talked about or the temporal distinctions. They’re not going to say well a year is too much but we will give you four months. They will just say well the clause isn’t enforceable, you can’t have it, it's struck out.
So, it's important, as I think Gemma said, that the work on these restricted covenants to make them reasonable is done at the beginning and when the employment contract is entered into and it's also important that they are thought about very carefully in terms of whether they are reasonable or not, in terms, you know, my experience as an employer is always, you know, often what they mean. But is it reasonable to have a set of restricted covenants with a PA? Perhaps not, you need to approach them with a certain amount of skepticism before they go into employment contracts.
What are the typical timescales involved in employment-related disputes that may involve restricted covenants, in your experience?
Dan: They can be quite long drawn out affairs. But of course, when you’re going for an injunction, and that's often the way that these things pan out, you are looking for that injunction to be heard very quickly because what you are saying to the court is the damage that's been done to me as a business is quite extreme and quite serious, so I need to get in front of a judge sooner rather than later.
But I think it's also important for employers to understand that that kind of injunction is an interim injunction, it's not, it's not the end of an action, it's not, “I’ve gone and got an injunction and that's now it”. The proceedings will potentially continue for some time after that and can be quite long drawn out affairs and often they don’t because you get the injunction and the employee, employee says well okay, fair enough, I am not going to do what you have asked me to do, so I am going to stop doing that conduct. But they can draw on for quite a long time.
What pre-action step should employees take when they anticipate a potential dispute related to restricted covenants? So, how can they best position themselves for a favourable outcome?
Dan: That's a good question. A lot of the pre-action steps which are quite helpful are kind of what Gemma was talking about, in terms of thinking about data and thinking about managing people's exits, thinking about having policies and procedures in place, things like, for example, monitoring emails when it comes to printing off of documents or sending of documents to Hotmail addresses is a classic one, you know, if someone's about to resign, so they, they ping off everything they possibly can to their Hotmail address and try and take it that way. And having an awareness that, in order to have a successful conclusion to try and enforce some of these restricted covenants, you need to have the evidence and up front and it's often, you know, important to have the IT procedures in place to be able to recognise when these kind of things happen.
So you have touched a little bit upon it there and talked about the data and specifically Hotmail email addresses, but what other type of evidence is typically gathered?
Dan: Well it's a tricky one that because obviously, you know, individuals do not often realise how serious some of this is but they often realise that it's something which they should not be doing. So they often will not be doing any of this openly, you know, they’re sort of staying late at night and printing documents off or, you know, forwarding documents to their Hotmail accounts is often something which is done slightly secretly.
So it's a difficult one in terms of disclosure because really in order to get these kind of injunctions, you need to be able to have some sort of evidence in front of court that it's happened. You cannot go, for example, or it'd be very difficult to go in front of a judge and say look, I think that someone may have been doing something, but I am not really sure, that never really goes down that well.
It doesn’t have to be slam dunk evidence, but certainly some sort of prima facie kind of demonstration that something's gone on, there's something happening somewhere and actually, what you find in practice, is often it comes from clients. So if you have clients and, you know, you have got good relationships with clients, they may well forward an email to you saying look, this person's approached me and he's trying to get my work and that can work, that can work very powerfully and it's certainly something that's always worth thinking about if an important person in the business is leaving.
How often do disputes related to restricted covenants get settled or resolved through mediation or settlement negotiations?
Dan: Many, many cases settle before they go to court and, you know, there's a few places where that might well happen in these kind of disputes.
I talked a bit about the sending of a letter and asking for undertakings. That's often a very easy place for a case to settle, you know, an individual gets some, gets some of their own legal advice and their lawyers will turn around and say, “well look, you really shouldn’t have been doing this, I know you have been doing it, you shouldn’t have been doing it, the best way out of this for you is for you to sign these undertakings and enter into some sort of settlement agreement saying that you are not going to do anything bad going forward”.
They often also settle after an injunction has been granted, an individual will say, “well, okay now I am in trouble if I do breach any of these, this injunction, I am in real trouble. I ought to settle this and I don’t have the legal fees to continue”.
So they do often settle but it's often, these kind of disputes are rarely about, you know, they are often about trying to get the individual to stop doing a piece of conduct. So, unlike many of the cases which I work on where it's a commercial benefit and there is a settlement to be had because there is a number that one party will accept and the other will offer, this is really very much about trying to get someone to stop doing something. So, they do tend to be more litigious and less likely to end up in dispute resolution to be honest.
Anything else to add?
Gemma: The one thing that I will often say to clients when they are talking about non-competition clauses, I will look at, I will say to them what are you really trying to protect? Because actually will a confidential information clause do the same as your non-competition clause effectively?
Because if you’re trying to protect your employee from disappearing off with confidential information to a competitor, it's the confidential information clause that you really want to be looking to enforce, and that might be easier to enforce potentially than non-competition one. Because you can have an employee disappear off to a competitor, but he's of no use to that competitor unless he can bring something that's useful, over and above his skills and abilities which he's allowed to take with him, for obvious reasons.
But sometimes it's actually the confidential information clauses which are the ones that you really want to look at trying to enforce and might, Dan will comment on this I am sure, might potentially be less difficult to enforce than a non-competition, I don’t know. What do you think, Dan?
Dan: Yeah I think, I think that's right because the difference there is fundamental from a legal perspective in that restricted covenants are obviously restraining trade, whereas confidential information, the starting point with confidential information is if you are an employee you should not take it with you, it's confidential. So you are in breach of your duties as an employee by taking it. So it then becomes, you know, less of, “oh well we are trying to get through this barrier of restricted covenants and more into this is some information which belongs to us that we want back”.
I think the thing that goes with that as well, which is very common when you talk to clients about this kind of thing is an understanding that the outset, the expense and effort that goes into these kind of injunctions, it's very common and completely reasonable and, you know, very understandable that employers would be quite cross about an individual going off and trying to poach other clients or poach employees and that's entirely right and entirely normal.
But I often wonder, and the conversations that we often have is how, how dangerous is this person, how much damage is this person actually going to do? If they have left, it may be because they are getting a better job somewhere else, but it may also be because they have not been promoted or you don’t actually think they are that great. And if that's right, is it worth spending tens of thousands of pounds (and it is tens of thousands of pounds, typically, going for an injunction at court), or is it best just to write a few letters, slightly threatening letters; put a couple of shots across the bow and see where things go. And I think that's an assessment which, although is quite a difficult assessment for clients to make, is one that's important. There isn’t a huge amount of- there's not a huge point in throwing large amounts of money after someone who you’re not particularly sad about them leaving, frankly.
Gemma: Yeah, no I completely agree with that Dan, you couldn’t be more right. And also, if they are not that great, they are unlikely to be much of a threat to be honest. So why waste the money trying to enforce covenants and take action that you are not really that bothered about?
That's a good point well made. Gemma and Dan thank you very much for your time.