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18 February 2011 Preserving your business through restraint of trade clauses

By Richard Ottley, Partner and Nathan Day, Law Clerk


In brief – Employee contracts need confidentiality and restraint of trade clauses

The value of a business is typically measured by its goodwill, assets and ability to retain staff. In order to preserve and protect this value, it is important that employers include suitable confidentiality and restraint of trade clauses in their employees' contracts of employment.


Why are restraint of trade clauses important for your business?

The value of a business becomes tested when long-standing employees leave. From the employee's perspective, they will often have developed close relationships with both colleagues at work and the client base of the business, learned the trade secrets of the business and be keen to continue working in the industry by either establishing their own business or working for a competing business.

It is in these circumstances that the business will either breathe a sigh of relief for including suitable restraint of trade and confidentiality clauses in the employee's contract or rue its failure to do so. In the former scenario, employers need to understand that even a well-drafted restraint clause may not provide protection in all circumstances. In the latter scenario, employers need to be aware that not all hope is lost because the law may offer some assistance.

What interests can a restraint of trade clause protect?

The interest of the employer which a restraint seeks to protect is known as its protectable interest. There are essentially two categories of protectable interest which may support a court order to restrain an employee. One is goodwill, which includes customer connection and staff connection. The other is confidential information.

In the latter category, a distinction is to be drawn between trade secrets of a business, which give it an advantage over competitors and “know-how”, which is general knowledge and skills gained by an employee during the course of employment.

The law generally requires that employees are free to use know-how but may be restrained from using or disclosing trade secrets. However, where know-how includes information concerning the business of the employer (not having the status of a trade secret) and this information is covered by an express confidentiality provision, that information may be protected from use or disclosure by the employee.

Protecting these interests through a restraint of trade clause

A restraint of trade clause will generally be included in a contract of employment at the commencement of employment, although sometimes they are introduced during the currency of the employment, often through a deed.

The clause will typically include restraints which prevent the employee from:

  • Soliciting clients of the business post employment (non-solicitation clause)
  • Poaching employees of the business post employment (non-poaching clause)
  • Establishing or working in a competitive business to that of the employer post employment (non-competition clause)
  • These clauses will invariably be supported by a confidentiality clause imposing obligations of confidentiality on the employee and defining what information is to be protected as "confidential information".

Restraint clauses are often qualified by reference to geographical area and time. The reason for including such qualifications is the recognition that a restraint of trade clause will only be enforced to the extent that it was reasonable to protect the employer's legitimate interests. Accordingly, restraining an employee from working for a competitor of the employer for an unlimited time and geographical area will generally be unreasonable in protecting the employer's interests and thus be unenforceable.

What if your employee’s contract did not have a restraint clause?

In the event that an employer fails to include a restraint clause in an employee's contract, there are various legal avenues which may be able to protect confidential information.

The first avenue concerns the employee's implied duty of good faith and fidelity. This duty applies during the currency of the employment and requires the employee not to act in a manner inimical to the interests of their employer. It carries with it an obligation not to divulge confidential information or use it in a way that is detrimental to the employer’s interests. For example, if the employee copies customer lists for use after the employment ends, it is a breach of the duty of good faith and fidelity and can give rise to legal remedies by the employer.

The second avenue available for employers seeking to restrain employees post termination is the equitable duty of confidence. In order to enforce this obligation, an employer will need to show that:

  • The confidential information is specifically identifiable
  • The confidential information has the quality of confidence about it and is not common/public knowledge
  • The confidential information was imparted in circumstances giving rise to a duty of confidence
  • There is misuse or threatened misuse of the confidential information without the former employer's consent

Importantly, the courts have established that the use of the employee's general know-how post-employment will not constitute a breach of this duty. Rather, this equitable duty of confidence relates to the misuse of trade secrets or highly confidential information which meet the four criteria listed above.

Another possible employer remedy lies in section 183 of the Corporations Act 2001 which prohibits employees of a company from improperly using information to gain an advantage for themselves or someone else or cause detriment to the company. Significantly, this duty continues after the employment has ended. The courts have found that there will be no breach of this section where there has been no finding of any breach of the equitable duty of confidence (See Del Casale & Ors v Artedomus (Aust) Pty Limited [2007] NSWCA 172).

For further information please contact:

Richard Ottley, Partner  |  Phone: +61 2 9233 5544  |  Email: rbo@swaab.com.au

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This article is not legal advice and the views and comments are of a general nature only. This article is not to be relied upon in substitution for detailed legal advice.

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