Contracts relating to employment or the sale of a business

The three requirements of restraint

Examples of this kind of restraint would include a restriction on a sales representative from soliciting the customers of a former employer, or a restriction on the seller of a business from setting up in competition to the buyer. For such restraints to be valid, there are three requirements which must be fulfilled:

  1. There must be a valid interest which the party imposing the restraint is trying to protect;
  2. The restraint must be no more extensive than is reasonable to protect that interest; and
  3. The restraint must not be contrary to the public interest.

Must have a valid interest

Looking at the first of these requirements, an employer will have a legitimate interest in restricting the activities of a departing employee, where that employee has either acquired trade secrets, or has gained influence over the employee’s customers, either because they rely on the employee’s skills and judgment, or because they have dealt exclusively with that employee. As was made clear by the House of Lords in Herbert Morris Ltd v Saxelby, it is not sufficient simply that the employee may compete with the former employer, or use ‘skill and knowledge acquired by the employee in his employer’s business.’

In relation to the sale of a business, the interest which the buyer is trying to protect is likely to be the ‘goodwill’ in the business, that is, the existing trade which has been built up by the seller. The buyer will probably have paid a substantial sum as part of the purchase price for the benefit of taking over the ‘goodwill.’ In that context, the buyer has a legitimate interest in preventing the seller from setting up a business which will attract all the old customers.

The courts have been prepared to recognise that the categories of legitimate interest are not closed. For example in Greig v Insole, which concerned restrictions placed on professional cricketers by the cricketing authorities, Slade J  recognised that there might be a public interest that the game of cricket should be properly organised and administered.

Restraint must be reasonable

The reasonableness or otherwise of the restraint must be looked at in the context of the interest which is being protected. There are three main factors to consider: (1) the geographical area covered; (2) the length of time involved; and (3) the scope of the activities covered.

For example, if a business is sold in one town, a restriction preventing the opening of a similar business anywhere in the country would be unlikely to be regarded as reasonable. In Mason v Provident Clothing Co, a canvasser who had been employed to sell clothes in Islington was restrained from entering into similar business within 25 miles of London. This was held to be too wide.

As regards time, this will again depend on the type of contract. In many employment cases, a restraint of one or two years at most will be all that is reasonable. In Fitch v Dewes, however a lifelong restraint on a solicitor’s managing clerk was upheld. The justification was that the business was one to which clients were likely to return over a long period.

The type of activity restrained must also be related to the interest being protected. A clause restraining someone who had been employed as a chiropodist from working as a hairdresser would be unlikely to be regarded as reasonable.

Public interest

There is some controversy as to whether the public interest part of the rules concerning enforceable restraint of trade does in fact exist. If it does, then it means that even if a restraint satisfies the other conditions (that is, of legitimate interest and reasonableness), it may still be struck down as being contrary to the public interest. This might be the case, for example, in relation to a restraint on the work of a leading artist, playwright, doctor or scientist, whose work might well be for the public benefit. The principle was stated in Wyatt v Kreglinger and Fernau. The Claimant’s pension was made contingent upon his not taking any part in the wool trade. The Court of Appeal held that this stipulation was void, irrespective of whether it was reasonable as between the parties, because it was contrary to the public interest. This was followed in the similar case of Bull v Pitney Bowes. It seems difficult, however, to find later authorities that have applied the principle, though Lord Denning supported it in relation to a solicitor in Oswald Hickson Collier & Co v Carter Ruck. In subsequent cases, such as Deacons v Bridge and Kerr v Morris, the courts have refused to apply the principle to the circumstances before them, while not denying its existence.

Effect of a breach of contract

As regards employment contracts, restraints will be unenforceable if the contract has been terminated following a repudiatory breach by the employer. This does not mean, however, that a restrictive covenant contained in a contract which purports to make it enforceable after a repudiatory breach is therefore automatically unreasonable. Thus if the employee simply resigns, the restraint will be enforceable, provided it is otherwise reasonable according to the tests outlined above.