Enforcing Restrictions In Employment Contracts

Restrictive covenants, such as non-competition and non-solicitation clauses, are common contractual tools for business owners trying to protect intangible assets, such as goodwill and customer bases. They are frequently found in business purchase agreements, for the purchaser does not want the vendor to be a competitor and draw away customers, thereby decreasing the value of the business. These clauses are often found in employment contracts. An employer does not want to take an employee in confidence, introduce him or her to the businesses techniques and customers, just to have the employee take this knowledge and use it against the employer in another venture. Restricting a vendor of a business or a former employee from competing or soliciting customers can help protect the value and future of a business.

While restrictive covenants are found in both types of agreements, how Judges enforce these clauses can be quite different. In an agreement for the sale of a business, Judges often enforce the non-competition or non-solicitation clauses as drafted by the parties. However, in employment contracts, Judges are wary of enforcing restrictive covenants, especially non-competition clauses, unless they clearly protect a legitimate proprietary interest of the employer’s and go no further than absolutely necessary to protect this interest. If an employer tries to be too aggressive, the clause will likely be struck down in its entirety, leaving no protection for the employer.

The Supreme Court of Canada reinforced this distinction in the decision in Payette v. Guay inc., [2013] S.C.J. No. 45 (S.C.C.). While a decision from Quebec, which has its civil code rather than the common law, its general principles will apply in Saskatchewan and in reaching its decision the Court referred to a number of important, past decisions on restrictive covenants that were decided under the common law.

In this case, Guay Inc. purchased a crane rental business from Payette and his partner. As part of the agreement for sale the parties negotiated restrictive covenants. Payette agreed that he would not compete against Guay for a period of five years from the closing date of the sale, or the end of his employment with Guay, within the province of Quebec. He also agreed that he would not solicit customers or employees of Guay for a period of five years from the closing date of the sale, or the end of his employment with Guay. Payette, by way of a separate agreement, later became employed as operations manager for Guay. Several years into his employment, Payette was terminated without cause. He then began working for a competitor of Guay as its operations manager in Montreal. Seven of Guay’s most experienced employees went to the competitor as well.

Guay was unsuccessful in the Quebec Superior Court in obtaining an injunction restraining Payette from competing with Guay and soliciting its customers. This decision was appealed by Guay to the Quebec Court of Appeal. The Court of Appeal, with one judge dissenting, overturned the Superior Court decision and granted the injunction. Payette appealed this to the Supreme Court of Canada, who dismissed the appeal, affirming the injunction.

In dismissing the appeal the Supreme Court of Canada emphasized the underlying rationale for why there is a distinction in the treatment of restrictive covenants in the employment context as compared to the sale of a business. In an employment relationship, there usually is an inequality of bargaining power. Indeed, this imbalance is presumed to exist. However, the situation is usually quite different in the sale of a business. Here, the parties to the sale often negotiate on equal terms and are represented by legal counsel during these negotiations. Further, in paying the vendor for goodwill, the purchaser is, in a sense, paying the vendor to not compete with and not solicit the businesses customers. This equality of bargaining power and payment for goodwill distinguish the Court’s approach. The parties have a greater freedom to contract in the sale of business context and the Court is less likely to find a restrictive covenant unenforceable.

That Payette was later an employee of Guay did not change the Court’s approach. Based on the wording of the sale agreement, the purpose of the transaction to acquire the goodwill, employees and customers of Payette and the fact that the employment agreement was subsequent led the Court to conclude that the restrictive covenants were negotiated as part of the sale of business transaction and not within the employment context. The Court did not rigorously scrutinize the clauses as is done in employment relationships.

With this analytical framework in mind, the Supreme Court of Canada found the non-competition and non-solicitation clauses to be enforceable. One factor was that Payette acknowledged in the sale agreement that the clauses were reasonable. While this term of the agreement did not bind the Court, it was a factor in determining if the clauses were reasonable. There were several contextual factors that supported enforceability. These included that the parties were experienced business people, they were represented by legal counsel in negotiating the sale agreement and the negotiations were lengthy.

In analyzing the clauses the Court kept in mind that they were the result of negotiation between well informed persons of equal bargaining strength. The five year duration of the non-competition clause was found to be reasonable as the crane rental business is highly specialized and the parties recognized this to be so. The territorial scope of the province of Quebec was also reasonable. Even though most of Payette’s business had been in the Montreal area, not all of it was. Further, the crane rental business is mobile; the location of the rentals being wherever projects were in Quebec. As such, the geographic scope was not larger than necessary.

Payette argued that the non-solicitation clause was unenforceable because there was no geographic limit. The Court disagreed, finding that a territorial limit was not necessary. The restriction in the clause was easily identifiable, being Payette’s customers. Further, in modern economies with modern technology, the location of customers is not limited geographically so such limitations in non-solicitation clauses are becoming obsolete.

This decision by the Supreme Court of Canada is not ground breaking. New law was not created. However, it is an important decision in that highlights the differences in approach the Court will take to interpreting and enforcing restrictive covenants depending on whether they are found in a sale of business agreement or an employment contract. The Court emphasized the underlying rationale for this distinction; the absence of inequality of bargaining power and the purchaser’s payment for goodwill in the sale of business context.