Overview
The Supreme Court’s judgment on the interpretation of post-termination restrictive covenants is the first decision on this issue by the highest UK court for a century. The outcome reiterates that whilst non-compete clauses must be carefully tailored to address the specific threat posed by a particular individual upon leaving, they do represent a legitimate and often crucial element of an organisation’s approach to protecting its assets. Their importance in the MES sector, which relies heavily on marginal competitive advantages and the retention of key talent, cannot be overstated.
In addition, the Court confirmed that to the extent that a judge considers a post-termination restriction to go further than reasonably necessary, that judge is able to delete – or “sever” – unreasonable elements of restrictive covenants and enforce the remaining provisions provided that this would not generate any major legal change to the restraints.
Background
Ms Tillman was employed by Egon Zehnder in 2004 as a recruitment consultant in its financial services group. She made swift progress through the firm and was eventually promoted to co-global head of its financial services practice in 2012. Her employment contract contained a non-compete clause which applied for 6 months after her employment ended. It stated that she should not “… directly or indirectly engage or be concerned or interested in any business carried on in competition with any of the businesses of the Company or any Group Company…“.
When she left the firm to join a competitor, Egon Zehnder sought an injunction to prevent her from doing so. The High Court initially granted the injunction, before the Court of Appeal overturned its decision on the basis that the words “interested in” – without any relevant carve out for shareholdings – unjustifiably prevented a theoretical minor shareholding in a competitor. The Court determined that: (i) this restriction was impermissibly wide; and (ii) it could not sever the offending words from within the individual non-compete clause and enforce the remainder. The entire non-compete clause was therefore struck out as an unenforceable restraint of trade. The Claimant appealed to the Supreme Court.
Lessons from the Supreme Court
In a wide ranging judgment, the Supreme Court discussed, restated and clarified the principles applicable to the drafting, interpretation and enforcement of post-termination restrictions which have developed in case law over the last 100 years. By reversing the decision of the Court of Appeal, and restoring the injunction granted at the High Court decision, it has provided the following key takeaways:
- The basic principle at common law remains that any restriction on an employee’s ability to work following the termination of their employment is void on public policy grounds as an unlawful restraint of trade unless it: (i) seeks to protect a legitimate business interest; and (ii) goes no further than is reasonably necessary, assessed at the time at which the contract was entered into, to protect that interest. Recognised “legitimate business interests” include the need to protect confidential information, client connections and workforce stability, whilst “reasonableness” depends on the envisaged scope of the restriction; primarily in terms of its length, the definition of the business to be protected and – less commonly in a globalised world – its geographical scope.
- Interpreting “interested in“: the Supreme Court was satisfied that this wording would cover any shareholding regardless of its size. Any non-compete clause which contains this phrase, and does not contain an appropriate carve out for passive minor shareholding, is therefore void as an unlawful restraint of trade unless that element of the restraint can be severed by a judge (on which see below).
- Restricting shareholdings = restraining trade: Tillman also claimed that a post-termination prohibition on the ability to hold shares should not engage the restraint of trade doctrine on the basis that it was not – in itself – seeking to inhibit competitive activity. The Court rejected this argument. In its view, a restriction on shareholding formed part of the overarching restraint on the Respondent’s ability to work and/or trade after her employment and could not be extracted from the non-competition covenant as seeking to serve a separate purpose.
- Can a court strike out parts of an individual covenant and enforce the rest? Yes, said the Supreme Court; deciding that it could delete the offending words “interested in” and enforce the remainder of an otherwise valid non-competition covenant. In its opinion, its ability to sever was not limited to entire, separate provisions; any element of a clause can be severed provided that the employer is able to demonstrate that:
- the “blue pencil” test is satisfied, namely that the offending words can be deleted from the provision without needing to add to or modify the remainder in order for it to retain sense;
- the remaining terms continue to be supported by adequate consideration; and
- the removal of the provision would not generate any major change in the overall legal effect of all of the post-termination restraints in the contract.
- The Supreme Court felt that all three tests were satisfied, that the phrase “interested in” could be severed and that the remaining covenant was enforceable as a valid restraint of the Respondent’s trade.
- The concept of “legal litter” and its impact on costs: The general rule in the UK is that the unsuccessful party pays the legal costs of the successful party. Here, however, the Supreme Court sounded a warning for employers who successfully enforce post-termination restrictions, but have to rely on the court’s ability to sever provisions in order to achieve this result. It suggested that the severed, and unenforceable, elements of post-termination restrictions amount to “legal litter” which the employer should bear at least some responsibility for “clearing up” by way of the ultimate costs order.
Implications for employers
There is little question that this decision represents a positive development for employers, particularly those operating within the media, entertainment and sports sectors in which the protection of intangible assets and talent is key.
This is likely to lead to a reduction in employees challenging covenants due to the way they are “split up” or presented within a contract. Employers should be aware, however, that relying on judicial severance could be costly if the “legal litter” principle referred to above is applied.
Now that this long-running case has been heard by the Supreme Court, businesses should consider reviewing their employment contracts and service agreements to ensure that any post-termination restrictions are suitably tailored to particular individuals and roles and do not fall foul of the legal litter rule. Given the fast pace of change in MES organisations, it is worth reviewing internal processes to ensure that restraints are reviewed and restated depending on individual role changes, at which point the “threat” posed by individuals and the permissible scope of a reasonable post-termination restraint may increase.
A full copy of the Supreme Court’s judgment is available here.
