Latest From The Supreme Court Of Canada On Restrictive Covenants In The Commercial Context

by Dentons

On September 12, 2013, the Supreme Court of Canada issued its decision in Payette v. Guay Inc. Although this decision originated in the Quebec courts and involved the application of the Civil Code of Quebec, the Court’s decision also dealt with common law principles and so this case is applicable throughout the common law provinces.

This decision is noteworthy for anyone dealing with restrictive covenants in the context of the sale of a business and is welcome news for businesses seeking to endorse restrictive covenants in order to protect their interests.

The key points made by the Court are as follows:

  • The rules applicable to restrictive covenants relating to employment will differ depending on whether those covenants are linked to a contract for the sale of a business or to a contract of employment. This reflects the imbalance of power that generally characterizes the employer-employee relationship. No imbalance of power is presumed to exist in the vendor-purchaser relationship and so these rules will not have an equivalent in the commercial context.
  • The common law rules for restrictive covenants relating to employment do not apply with the same rigour or intensity where those obligations are assumed in the context of a commercial contract, particularly where the parties negotiated on equal terms, were advised by competent professionals and the contract did not create an imbalance between them.
  • In order to determine whether a restrictive covenant is linked to a contract for the sale of assets or to a contract of employment, it is important to clearly identify the reason why the covenant was entered into. The goal of the analysis is to identify the nature of the principal obligations under the master agreement and determine why and for what purpose the accessory obligations of non-competition and non-solicitation were assumed.
  • A restrictive covenant in the commercial context is lawful unless it can be established on a balance of probabilities that its scope is unreasonable. Thus the burden of proof will be on the vendor to prove that the restrictive covenant is unreasonable.
  • An acknowledgement by the parties subject to the restrictive covenant that the covenant is reasonable is not determinative, but it is a relevant factor and indicator that the Court will consider when determining whether the covenant is reasonable.
  • In the commercial context, a non-competition covenant will be found to be reasonable and lawful provided that it is limited, as to its term, territory and applicable activities, to whatever is necessary for the protection of the legitimate interests of the party in whose favour it was granted. The factors that may be considered include the sale price, the nature of the business’ activities, the parties’ experience and expertise, and the fact that the parties had access to the services of legal counsel and other professionals.
  • While in the case of a non-competition covenant, the applicable territory must be identified, a non-solicitation covenant may be considered reasonable and lawful absent a territorial limitation. In the modern economy, with new technologies and customers who are no longer geographically limited, territorial limitations in non-solicitation clauses have generally become obsolete.

Ultimately, on the facts before it, the Court found that the 5 year non-competition covenant with an expansive territory and 5 year non-solicitation clause were reasonable given the highly specialized and mobile nature of the purchaser’s business activities (crane rentals).

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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