Do Restrictive Covenants Protect Employers? The limits of ‘non-competes’ and other employment contract clauses

 

Most business owners have either experienced or heard about an ex-employee that resigned and joined a competitor or started their own business in the same industry. Many are surprised to learn that there is usually very little legal recourse for these actions, even if the ex-employee signed an agreement ostensibly prohibiting them from doing so.

Employers can be reassured there is a general duty of good faith and fidelity by an employee to their employer. These obligations go along with an employment relationship and would prevent an ex-employee from using a pricing strategy against them or taking advantage of an expired contract to steal customers; however, any other limitations on an ex-employee must be imposed by agreement.

Generally, a contract in restraint of trade (aka restrictive covenant) is an agreement in which one party promises not to do something or take a specific type of action. Depending on the purpose, they take different forms, such as non-competition clauses, non-solicitation clauses (in client-driven industries) and confidentiality clauses (in businesses where proprietary information is essential).

When it comes to enforcing these provisions, how they are drafted is essential. In general, the courts take the view that it’s in the interest of society that individuals be able to earn a living, so any covenant that attempts to preclude that right will have to be reasonable and justifiable. Non-competition clauses purporting to prevent an ex-employee from taking any job in the same industry will not be enforced by the courts.

An Employer Loses in Court
The recent case of People Corporation v. Mansbridge (2021, MBQB 170) illustrates these principles.

In that case, a benefits consultant working for a group benefits and insurance company in Manitoba quit his job, but not before emailing himself a list of his clients, potential clients, and other relevant information. He took a new job with a competing firm, after which his former employer tried to enforce the confidentiality, non-solicitation, and non-acceptance clauses he had signed in his contract.

In this case, the court found that all three restrictive covenants were unreasonable and unenforceable. In essence, they were found to be too broad and ambiguous. It was unreasonable that the employee be prevented from working “with anyone for whom his former employer has or will provide services or products” because the court found “he cannot reasonably be expected to know who this includes.”

This case shows that employers who put broadly stated prohibitions in their restrictive covenants do so at their peril. Employers should also note that a court will not ‘fix’ a solicitation covenant it finds unreasonable; it will simply strike it down, leaving the employer with no recourse.

When is a restrictive covenant enforceable?

When it comes to non-competition covenants, they are more likely to be enforceable if they accurately and fairly define specific terms, including duration, the geographic area they apply to, and where the clause specifically defines the scope of companies falling in the limitation to be enforced by the covenant.

The courts have been more willing to enforce non-solicitation agreements involving a specific and limited time (6 to 12 months); the test of reasonableness as set out above will also be applied.

The passage of Bill 27, Working for Workers Act, 2021

In December 2021, the Ontario government passed legislation that prevents employers subject to the Employment Standards Act, 2000, from entering into employee non-compete agreements. Under this new legislation, a non-compete agreement is defined as “an agreement between an employer and an employee that prohibits the employee from engaging in anything that competes with the employer’s business, once the employment relationship ends.”

There is an exception to this prohibition in the event of a sale or lease of a business and for “executive-level” employees, who are specifically defined.

There is a consensus that this legislation does not prohibit confidentiality and non-solicitation clauses. While an employer cannot mandate employment provisions that prevent an ex-employee from working with a competitor, they can enforce contractual provisions saying an ex-employee must keep confidential any trade secrets or proprietary information.

It is too early to know how the court will view non-competes signed before 2021 and whether Bill 27 impacts the common law or fiduciary obligations of employees. And it remains to be seen whether other jurisdictions will introduce this type of legislation.

The bottom line? Whatever Canadian jurisdiction you are in, it’s important to carefully consider the wording of any restrictive covenants in your employment contracts to ensure they can legally protect your business.

This is provided for general information purposes only and does not constitute legal or other professional advice or an opinion of any kind. ARAG does not warrant or guarantee the quality, accuracy or completeness of any information in this article.