The use of non-compete provisions, coupled with other forms of post-termination restrictions, has become increasingly commonplace in employment contracts – particularly for senior executives and those in key business or development roles.
The purpose of a post-termination non-compete, in its purest form, seeks to prevent an employee from joining a competing business. For such a restriction to be capable of enforcement, it must go no further than is necessary to protect the employer’s legitimate business interests (and therefore conform to strict drafting conventions in terms of its duration and scope). An employer will also need to be able to persuade the courts in any enforcement action that other forms of post-termination restriction, such as restrictions on solicitation and dealing with clients, are not enough to protect its business – thereby in effect making the non-compete necessary.
Government consultation
The Department for Business, Energy and Industrial Strategy (BEIS) previously conducted a call for evidence on the use of non-compete clauses in 2016, but no further action was taken at the time. The majority of responses expressed the view that the restrictive covenants were a “valuable and necessary tool to enable employers to protect their business interests” and “do not unfairly impact on an individual’s ability to find other work.”
Recently however, the UK government has launched a consultation into potential reforms to post-termination non-compete clauses in employment contracts. The impact of COVID-19 is cited in the consultation paper as having been the catalyst for this – its “profound effect” leading the government to look at measures to “unleash innovation, create conditions for new jobs and increase competition”.
The consultation seeks responses to the following proposals:
- Requiring the payment of compensation to the employee during the term of the non-compete clause;
- Introducing additional transparency measures (for example, to ensure the employee is aware of the restriction);
- Introducing maximum limits on the term of non-compete clauses; and
- Making post-termination non-compete clauses unenforceable altogether.
It should be noted that the focus of the consultation relates to pure non-compete clauses, as described above – and not other post-termination restrictions (for example, which seek to prohibit solicitation of, and dealing with, clients). Furthermore, the consultation does not cover clauses dealing with confidentiality, intellectual property, or “other means to protect legitimate business interests.”
Key reasons for consultation
The government suggests that reform in this area could boost innovation and competition, aligning English law with the more “entrepreneurial spirit” of Silicon Valley that prohibits the use of non-compete clauses under California law.
The government hopes reform could also encourage job creation, and help to alleviate the adverse impact of the coronavirus pandemic on the labour market. Nevertheless, restrictive measures are unlikely to be welcomed by businesses who invest significant resources in key employees and will doubtless consider that the existence of a non-compete greatly enhances the likelihood that its business will continue to thrive and survive even if key employees depart.
The proposals
The government’s consultation is seeking views on the following proposals:
- Requiring the payment of compensation by the employer for the duration of the prohibition on competing, and supplementing this with additional transparency measures, such as early disclosure of the proposed terms of the prohibition prior to entry into the contract, and statutory limits on the length of non-compete clauses; and
- Rendering post-termination non-compete clauses in contracts of employment unenforceable.
The consultation deals only with clauses in contracts of employment and not, for example, with agreements with self-employed contractors.
Payments for non-competes
The first proposal aims to discourage widespread use of non-compete clauses by introducing a requirement for mandatory compensation where employees are restricted from being employed by, or starting a business within, their field of expertise. The consultation seeks views on whether the level of any such compensation should be set to 60 percent, 80 percent or 100 percent of average weekly remuneration. Mandatory compensation for the use of non-compete clauses in contacts of employment is already required in some European jurisdictions, including Germany, France and Italy.
This would be a departure from the form of covenants the vast majority of English employers impose at the moment – with payment for covenants being relatively rare. What is much more common however, and is used as a tool to ensure enforceability of non-competes, is to use such a restriction in conjunction with “garden leave.” During garden leave, which usually runs concurrently with the employee’s contractual notice period, the employee will remain employed and in receipt of salary and benefits, but will not undertake any work for their employer and will therefore effectively be excluded from the relevant market. Commonly (although there is no strict legal requirement to do so) any time an employee spends on garden leave will be deducted from the duration of his/her non-compete (and any other post termination restrictions). This is not least because garden leave has historically been much easier to enforce than a non-compete – and has the additional benefit of the employee remaining employed, which means that he or she continues to owe the employer obligations of loyalty, fidelity and confidentiality. The gGovernment’s consultation references that a change to the law on non-compete periods may mean that even more use is made of garden leave, but appears accepting of this since the employee “still stands to benefit in some form.”
The consultation suggests compensation could also be complemented by additional measures, such as:
- A requirement for the employer to disclose the terms of the non-compete agreement to the employee before they enter into the employment contract; or
- A statutory restriction on the maximum term of the non-compete clause – the consultation seeks views on whether this restriction should be limited to three, six or twelve months or some other period after termination.
The government states that the aim of these measures is to improve transparency and legal certainty, allowing employees to make informed decisions about the terms of their employment. It is difficult to see how the requirement to disclose the term of a non-compete will change current practices – since an employee must sign up to a contract containing these clauses in any event in order for the restriction on competition to be enforceable. Whilst not entirely clear, it may however be the case that the government will expect a detailed explanation to be provided to prospective employees about how such a clause will impact their future ability to enter into alternative employment. It is not clear whether the government intends to prohibit restrictive covenants being introduced at a later stage during employment – but this approach would seem counter intuitive to the desired aim of the proposals to alter this position and prevent non-competes being agreed at a later stage, particularly if the individual rises through the ranks to become more key to the business.
As regards the proposal to introduce statutory time limits on restrictive covenants, this may in fact be welcome for employers – since it would hopefully assist to reduce the uncertainty as to whether a covenant is too long to be enforceable.
Prohibiting non-competes
The second proposal would amount in effect to a ban on the use of non-compete clauses, rendering all non-compete clauses unenforceable. The precise scope of the proposed prohibition, and any associated exemptions, are still to be determined. This proposal mimics the approach taken in California, widely regarded as home to some of the most innovative organisations, where all non-compete clauses are void.
While this proposal would increase certainty for all parties, and potentially incentivise greater innovation and competition by enabling individuals to start new businesses and share skills and ideas more freely, it is unlikely to be popular with employers who invest significant time and resources in key, client-facing employees. However, as set out above, the consultation paper does envisage that employers will remain able to use garden leave, which essentially achieves the same result as a non-compete – albeit that in certain situations the employer may have to choose between ensuring an effective handover of the employee’s work, and restricting their access to the employer’s market and customers by placing the individual on garden leave. Other restrictions on confidentiality, use of intellectual property and other restrictions (on solicitation and dealing with clients, for example) will also remain available. The difficulty with having to rely on other forms of protection alone – for example the non-solicitation of clients and prohibition on using confidential information – is that those provisions are much more difficult to police than a blanket non-compete.
Conclusion
The consultation is open to responses until 26 February 2021. It is important to note that the consultation itself is part of a much longer process, and that any changes to the law surrounding non-competes are not guaranteed, although the government has made clear its willingness to make significant strides away from the current position with non-competes.
While at first blush any change to the law on non-compete clauses may seem like an attack on an employer’s ability to protect its business, all is not lost. This is because even if any of the government’s proposals do become law, there will still be a wealth of options available to protect a business from departing employees – and perhaps more certainty around whether or not a non-compete (if they remain lawful) will be enforceable. It is also perhaps unlikely that the government would impose an outright ban on these clauses – not least because that would be such a significant departure from the current position.
