From time to time, we see restraint of trade clauses making headlines in the media, either because an employer seeks to enforce the clause or an ex-employee is challenging the terms and wants to start a new job.
The majority of rulings by the Employment Relations Authority (ERA) and the Employment Court have been that restraints of trade (also known as non-compete clauses) are generally unenforceable and that people have a basic right to earn money and work in their chosen field.
So why is it that employers still regularly include restraint of trade clauses in employment agreements and why do employees agree to them when they sign?
This blog post takes a close look at restraint of trade and non-solicitation clauses. We cover what they are, how they can be used, whether you need them, and if you do, how to make yours compliant and enforceable.
What is a restraint of trade?
A restraint of trade is literally what it sounds like: a clause in an employment agreement that restrains an employee who leaves your company from starting a business or working for one that is in direct competition to you.
Sometimes known as non-competition or non-compete restraints, they can be useful to protect your intellectual property (IP) or trade secrets, especially if you are in a highly-specialised area.
It means someone cannot leave with things like your exclusive technology or specialised ways of working and set up an organisation in direct competition with you or go work for your direct competitors.
Restraints of trade are typically for a set period of time (e.g. 3 or 6 months), a defined geographic radius or area (e.g. all of NZ or the wider Auckland area), and scope (e.g. specific to your company’s product or area of specialisation).
Differences between restraint of trade and non-solicitation clauses
The difference between a restraint of trade and non-solicitation clause is that a restraint of trade restricts the ability for an employee to work or set up a business somewhere else in competition with you, while a non-solicitation clause means they cannot poach your clients, employees, suppliers or other stakeholders.
A non-solicitation clause is pretty easy to uphold legally for a wide range of roles. It protects your commercial interests, while not putting onerous restrictions on any employee who leaves.
Depending on your industry, it's important to remember customers are free to choose to move, and you would need to prove someone solicited them to enact this clause.
A restraint of trade is much harder to enforce because it restricts the employee’s freedom to earn a living and/or work in their field of expertise.
Key differences between restraint of trade and non-solicitation clauses
| Focus | Restraint of trade clause | Non-solicitation clause |
| Restricts where the employee can work or set up business | Yes | No |
| Difficult to enforce | Yes | No |
| Broad in scope | Yes | No |
| Time bound | Yes | Yes |
Are restraint of trade clauses enforceable in New Zealand?
Restraint of trade clauses are notoriously hard to enforce. That is because case law has established that every person has a basic right to earn money and work in their field of expertise.
From a review of previous cases in the ERA, there are many more times they are NOT enforced, than times that they are. Courts are especially reluctant to rule in favour of employers if it means the employee is going to struggle or be out of pocket for a length of time.
So often, in practice, workers do have the right to leave your business and work for a similar business (or start their own).
Principles for determining whether a restraint of trade clause is enforceable
From a legal perspective, there are a few questions you can ask yourself to determine whether a restraint of trade clause in your employment agreement is enforceable, should it come to that. Those are:
- Do I have a legitimate business interest that must be protected, e.g. confidential information, trade secrets, or specialised skills that are unique to my business?
- Does the clause clearly define the activities the employee is restricted from performing, e.g. opening a rival business nearby?
- Is the period of restraint reasonable? 3 months is typical, though in some cases 6-12 months could be justified.
- Are the geographical limits of the restraint reasonable? For example, the employee should be free to work in Christchurch if you’re based in Auckland and your markets don’t overlap.
Should my business use restraint of trade clauses?
Whether you need to include restraint of trade or non-solicitation clauses in your employment agreements really depends on your industry, operations, and the employee’s role.
We don’t recommend having restraint of trade clauses across the board for all your staff, unless you are in such a specialised area that it is necessary, e.g. you make niche products or offer a unique service.
We do recommend restraints of trade for senior or executive roles, as they typically have access to commercially-sensitive information. We also recommend non-solicitation clauses for all employees, as they give you good protection and are enforceable.
If you are thinking about using restraint of trade clauses for your employees, here are some questions to ask yourself:
- What is the position? Is this a senior enough position to warrant it?
- What level of access does the person have, i.e. will they have access to sensitive strategic information, trade secrets, IP, or key client relationships?
- What potential risk does this pose? This needs to be more than just “the person sees how our operations work” - they need to have significant enough knowledge to be able to potentially damage your business if they leave and take that information or expertise elsewhere. In most scenarios, this would be your executive team and no one else.
- Is your industry highly-specialised or do you have proprietary technology?
Remember, if you do include restraint of trade clauses, you have an obligation to act in good faith. They are to protect your business interests, not to discourage people from leaving the company or to stop them working in their chosen field when they go. Placing significant pressure on an employee to agree to the clause may also make it unenforceable.
So, to increase the likelihood of the restraint of trade being enforceable, it needs to be reasonable while not unfairly restricting a person’s ability to earn a living. This means the combination of the time period (not too long), geographic radius (not too broad), and scope of coverage should not be unreasonable.
Providing compensation for restricting the person’s ability to earn a living for the duration of the restraint period will also help make the clause enforceable. This is so, if the person leaves, they can get by without working for the period of time the restraint covers.
Editing your current restraint of trade clauses
If you have restraint of trade clauses in your existing employment agreements, you may want to review and edit them.
As mentioned before, have a look at the radius, breadth, time length, and compensation. If you don't have these things in your current clauses, or they are unreasonably restrictive, you should amend them.
In doing so, you must consult with the affected employee before you make changes to their employment agreement, even if they are beneficial to them.
Legal precedents for enforcing a restraint of trade clause
Here’s an example: Billie Beans is an Account Manager for a coffee roastery, based in Hamilton. She has clients across the North Island, and her employer has clients all around the country. As Billie is in a senior role and has access to commercially-sensitive information, such as customer and supplier lists, a restraint of trade would be justifiable, but it would have to be specific to her role and only restrict her ability to work as an Account Manager for a rival coffee company or roastery in close proximity to Hamilton (say, a 30km radius) for 3 months (not 6).
What should I do if an ex-employee breaches a restraint of trade or non-solicitation clause?
Step 1: Serve them with a cease and desist letter that points out the breach and the evidence you have, and asks them to respect the clause in their employment agreement and stop.
Step 2: If they don’t stop, contact the ERA and ask for an injunction to stop them.
How can MyHR help with restraint of trade clauses?
As we’ve said, restraint of trade clauses can be notoriously difficult to enforce, so they need to be fair and water-tight. If you need help drafting or reviewing any of the terms of your employment agreements, the team at MyHR are the experts. We prepare hundreds of customised agreements for clients each week, all delivered on our feature-rich HR platform.
