A non compete clause limits employees from doing things that may impact their employer’s business. This includes activities such as starting a competing business or working for a competitor of the employer. A non-compete clause restricts the use of private information, ideas, or customer connections. This restriction is in place to prevent harm to the employer’s business.
A non-compete clause is another term for a restraint clause. They can apply to a specific time period, location and industry. They may also apply to specific competitors of an employer.
Employers may not have a clear understanding of how non-compete clauses work and their consequences. Non compete clauses can be confusing, and unclear, and fail to offer the desired legal protection for employers.
Employers cannot enforce ineffective non-compete clauses, rendering them worthless. However, a valid non-compete clause can lead to successful lawsuits against employees.
This article explains everything about a non-compete clause that employers and employees should be aware of. Farrah Motley, Director of Prosper Law and a qualified Australian lawyer wrote this article. Farrah has provided non-compete advice to hundreds of employees and employers across Australia. She has successfully defended employees and advised employers on the enforcement of non compete clauses.
What is a non compete clause?
Non compete clauses limit an employee’s ability to compete with their employer for a certain period. They can also apply to a particular location and often restrict an employee’s ability to carry out certain activities.
A non-compete clause may take effect during the employment period and after an employee leaves the company.
What is the purpose of the restraint?
The purpose of a non compete clause is to do one or more of the following:
- limit an employee from competing with the employer by starting their own business;
- place limitations on an employee’s ability to work for a competitor;
- attempt to prevent an employee from working for previous, current or future clients; or
- poaching staff, customers, suppliers or contractors.
Confidentiality clauses and intellectual property clauses can protect the use of the information. A non-compete clause goes a step further. However, a non compete clause is not always enforceable. They may be partly enforceable, or they may be completely unenforceable.
Employees may not need to use stolen information to start a competing business. Over their employment period, employees are likely to have gained valuable knowledge and skills. The employee remembers and learns that insight as they develop experience.
A non-compete clause ensures that an employee cannot use this acquired knowledge to the detriment of their employer. This article discusses some limits to this.
A non-compete clause can protect an employer from having current and former employees compete with the business. Therefore, a non compete clause in a contract is important to protect an employer’s legitimate business interests.
This clause is a means by which employers can do the following:
Prevent employees from stealing your clients
A non compete clause Australia can assist in deterring employees (or ex-employees) from stealing your clients.
However, your clients may choose to purchase goods or services from your former employee. An effective restraint may still prevent employees from doing this.
Prevent employees from hiring your staff
A non-compete clause can prevent former employees from soliciting current employees. A properly drafted non compete clause will ensure an employer has legal rights against former employees. These rights help if former employees solicit existing employees. And if those employees leave their employment and accept a position with the competing business.
However, employers may be putting the interests of their business at risk. This can occur if you don’t phrase the clause correctly or if an employment agreement lacks a non-compete clause.
Why is it important to include a non-compete clause in employment contracts?
Non-compete clauses protect employers. They prevent employees from using company knowledge or trade secrets to compete with their old employers.
If the work agreement doesn’t have a valid non-compete clause, employees can start a rival business legally. There are no restrictions on the industry or location of the competing business. This can be a problem for businesses. Particularly if they are heavily reliant on customer traffic from a particular location or where there is limited demand.
From our experience as lawyers, a non-compete clause may have a deterrent effect. For instance, it’s a way for employers to notify employees that starting a competing business would breach the contract.
A non-compete clause cannot prevent an employee from breaching their employment contract. However, it may provide an employer with legally valid rights against the employee.
How do you write a non-compete clause?
Employers must understand the legal aspects of restricting the income-earning activities of an employee. You should understand this before attempting to include a non-compete clause in your company’s employment agreement.
Just because an employment contract contains a non-compete clause, it does not necessarily mean that the clause is legally enforceable.
The non-compete clause must be specific, but not too restrictive or harsh. You can set aside the clause for being too restrictive. For instance, if the clause goes beyond what is necessary to protect the employer’s legitimate business interests.
It is therefore advisable to obtain legal advice from an employment law firm to write a non-compete clause.
In order to draft an appropriate non-compete clause, your employment lawyer may need to understand the following:
- What activities do you want to stop the party from performing?
- What time period would you like to stop the party from doing the activity?
- Do you want to prevent the party from doing business worldwide or in a specific geographic area?
- Are the locations appropriate to protect your interest?
- What is the interest you are trying to protect?
There are no set rules for enforcing a non-compete clause in a work contract.
Rather, each case depends on its own facts and circumstances and the wording of the particular clause. However, when drafting a non-compete clause for employment contracts, you can consider the following things:
A non-compete clause needs to be reasonable
Only reasonable non-compete clauses are legally enforceable. Thus, they should be no more restrictive than is necessary to protect the employer’s legitimate business. As for the meaning of the term ‘reasonable’, we have a detailed article about the reasonable person test.
A sensible and knowledgeable person uses their perception of reason in the situation to determine what they consider ‘reasonable’. Therefore, the test depends on the facts and circumstances of each case. The courts ultimately decide whether an agreement containing a non-compete clause is valid and appropriate. And this will depend on the facts of each case.
A non-compete clause should have a sliding scale for the area covered by the restraint
You may find it necessary to include a geographic restriction in the non-compete clause. A geographic restriction means that the employee may not compete with you in a particular area. It may also mean they cannot solicit customers who do business with you in a particular location.
However, we must clearly define the geographic region in which we restrict competition. A non-compete clause is not valid in an unreasonably large territory.
As a general rule, the larger the area covered by the clause, the more difficult it is to enforce. Narrow and specific geographic limits may be more likely to be legally valid.
The reasonableness of a geographic limit in a non-compete agreement depends on the circumstances of employment. For example, consider what the company does and the industry it operates in. Find where potential customers are and see how the rule affects the worker’s ability to make money.
Further, if there are too many options to choose from, the non-compete clause may be invalid for this reason. This is because offering too many alternatives may make it difficult to comply with the clause. This may be because an employee is not reasonably able to determine what the extent of the restraint is.
What geographical area is reasonable for the restraint to apply to?
There is no rule defining an appropriate geographic limitation in kilometres or boundaries. In general, however, people are likely to consider a geographic limit reasonable if it:
- It is important to protect the employer’s business, like its customer relationships, but not to prevent competition where the employer operates.
- Does not seriously prevent the former employee from earning a living in their profession.
Courts are more likely to enforce narrow and specific geographic restrictions than broad ones. However, courts may enforce broad geographic limits in non-compete agreements with senior employees. This is particularly true if the company can demonstrate that:
- The broad geographic limits are necessary to protect the company’s highly confidential information; and
- The other restrictions in the non-compete clause are narrowly drawn. This may include a specific list of customers with whom the executive may not contact. It may also list competitors for whom the executive may not work. Or, products or services with which the executive may not work in a subsequent job.
It is therefore advisable to obtain legal advice from an employment law firm to write a non-compete clause.
The non-compete should have a sliding scale for the length of time the restraint applies
Non competition clauses cannot last forever, so an employer must include a reasonable time limit in the agreement. It would be unreasonable for an employer to expect a former employee to comply with the non-compete rules forever. Because of this, a non-compete that has no end date will be invalid.
The agreement should only last as long as needed to protect the employer’s business interests. The definition of ‘reasonable’ changes depending on the business and needs careful thought about the non-compete clause’s details and situation.
A reasonable period of time for a non-compete clause can range from 1 month to 12 months. Further, the period of time the employer chooses will depend on the nature of the work and the industry.
A court may not enforce an agreement that prevents an employee from competing for 2 years after they leave their job.
The non-compete clause should clearly outline what activities it applies to
A non-compete clause must specify the ‘competitive activities’ that the employee may not engage in after the end of employment. A clear definition of ‘competitive activities’ helps to ensure the clause is legally enforceable.
Competitive activity can involve working for a rival company. It can also involve being part of the management team of a similar company. This similar company aims to attract the same customers.
For example, someone works as a sales representative for an engineering firm. The non-compete agreement should outline the activities related to the person’s sales activities.
However, what if that person decides to work for another company in human resources or operations? The information they learned in sales won’t be useful or important in their new job. Access to confidential information is not enough to show that the non competition clause is reasonable.
A general non-compete would stop the employee from taking a new HR or operations job. Such a restriction would not be valid. An employment contract lawyer will be able to provide legal advice to ensure such clauses are enforceable.
When will a non-compete clause not be legally enforceable?
You may use non-compete clauses to protect your business interests after an employee leaves your company. However, keep in mind that courts consider non-compete clauses void and unenforceable on their face. That is unless you can show that they are necessary to protect your business interests.
It is up to you to prove that the clause is not unreasonably broad or it will not be enforceable. An employment lawyer will be able to advise on the enforceability and wording of a non-compete clause.
Our lawyers are careful when drafting non compete clauses. We consider what the employer wants to protect and find a fair way to phrase the clause. To do this, you need to look at the employer’s location, their customers, and the industry they work in.
There is no legitimate business interest to protect
Employers may not impose unreasonable limits that unreasonably limit an employee’s ability to earn a living. If an employer wishes to restrict an employee, they must have a legitimate business interest that they want to protect.
Legitimate interests generally include business interests or goodwill (intangible assets such as reputation, customer relationships, and proprietary technology).
Australian courts consider non-compete clauses acceptable if they safeguard the legitimate business interests of the party involved. A workplace lawyer will be able to advise on the current legal understanding of non-compete clauses.
When does an employer have a legitimate interest?
There have been situations in which the courts have confirmed that an employer has a legitimate interest in requiring a non-compete:
- When a worker can access secret data and potentially use it against their previous employer in a harmful manner.
- If an employee talks to the employer’s customers during work and could use those connections to get customers; and
- When an employee is in a position to solicit colleagues from his or her former employer.
In each of the above situations, the courts have recognised a legitimate interest that is reasonable to protect.
The employee’s previous job is important in determining if any of the above situations apply to them. A limit might be better for senior employees with trade secrets or customer contact.
Where a non-compete clause is not reasonable
You cannot use a non-compete clause to protect your business from competition. People view competition in an industry or market as a good thing. And companies should not use non-compete clauses to get around this.
If you try to enforce an unreasonable non-compete clause, it may be contrary to public policy and the principles of a market economy. This is because such a clause may prevent a party from participating in.
A clause can be unfair if it stops someone from using their skills or doing more business. In other words, the clause should not be too broad and should not prevent anyone from making a living.
Courts are able to set aside a non-compete clause if they deem it unreasonable. However, a series of overlapping restrictions is more likely to uphold a non-compete clause. ‘Step clauses’ or ‘cascading clauses’ are another term. These clauses often lead the court to accept the least broad scope of the restriction.
Thus, the court has a range of options to choose from. Therefore, a modified version of the clause may be enforceable. That is, after the court has decided which combination of cascading criteria is appropriate.
Case law examples of non-compete clauses
You need to know precisely what is fair and legal when including non-compete clauses in employment agreements. The easiest way to do this is to engage a workplace lawyer.
The following cases show the approach of the Australian courts in deciding whether to enforce non-compete clauses in employment agreements:
The Supreme Court of Western Australia granted an interlocutory injunction in favour of an employer that prevented a former assistant project manager from moving to a competitor while the court determined whether or not the restriction was reasonable.
In ordering the injunction, the court noted that the new employer was a direct competitor against whom the former employer had just lost a bidding process. The employee had current knowledge of confidential operations at his former employer and confidential information about current tenders. As a result, there was a real risk that the employee might reveal confidential information and harm the employer’s interests.
This case considered a non compete clause NSW. The New South Wales Supreme Court refused to grant an injunction against a former head of sales. This was because there was no evidence that the employee had taken secret information with him when he left.
The court didn’t enforce the NSW non compete clause because it wasn’t justified. This was because the employee didn’t move directly to a competitor but to a subsidiary.
The Supreme Court of New South Wales looked at whether an employee breached his post-termination obligations when he disclosed customer information to his new employer.
The employee tried to argue that the customer information was easily accessible on Facebook and was not the confidential information of the employer. According to the court, customer data contained more details than just the individuals’ contact information and included financial information. As a result, the court ordered an injunction in favour of the former employer and a claim for damages.
People will not take a non-compete clause at face value. The court will only uphold it if it’s reasonable. For example, a court will not enforce a clause that unfairly limits an employee’s right to contribute his or her own labour.
The High Court of Australia stated:
“Unreasonable restraints are unenforceable as it is contrary to the public welfare that a person should be unreasonably prevented from earning a living in whichever lawful way he chooses and that the public should be unlawfully deprived of his services.”
The employee (Ms Tokody) moved to a direct competitor in the travel insurance industry. She was one of the most senior employees of AGA.
In her role, she had direct contact with key clients with long contracts of up to three years and was privy to important confidential information. In addition, she had signed a contract that contained several non-compete clauses. This stopped her from being employed by a direct competitor in the travel insurance industry.
The court found that 12 months was a reasonable period of time to protect her employer.
A senior employee of Freshfood Management Services Pty Ltd resigned with two months’ notice. He wanted to move to Cantarrella Bros, a direct competitor in the new coffee industry. As a senior executive, the employee had secret information, including sales and management information.
The worker attempted to bypass a clause in his contract. The clause prohibited him from accepting employment with a competing company in NSW for one year following his departure.
The judge found that Freshfood had to show the reasonableness of the non-compete clause. Courts usually do not allow non-compete clauses because they go against public policy. However, Courts allow them if there are special circumstances that justify the restriction.
The judge found that the limit of one year was unreasonable because:
- it was contrary to the public interest to deprive the community of the employee’s services;
- it would impose a heavy financial burden on the employee without good cause; and
- there was no threat to Freshfood over an extended period.
He said the rule only applied to NSW, but the worker wanted to stay in Sydney, which was fair.
The non-compete clause was mostly fair. The non-compete clause was fair. It stated that the employee couldn’t work for a competitor for six months after leaving Freshfood. Additionally, the clause prohibited the employee from using any sales, management, blending, or technical process information.
- non-compete clauses can be difficult to enforce
- restraint clauses must be carefully drafted by expert contract lawyers
- clauses that prevent employees from competing with their employer are more likely to be enforced in NSW
- employees should not assume that non-competes are unenforceable and be careful when leaving a job to work for a competitor or start a business