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Restraint - are all post employment restraints enforceable?

Restraint – are all post employment restraints enforceable?

Published on August 29, 2013

Post Employment Restraint

Post employment restraints are a common feature in many employment contracts, especially for employees who hold senior roles.  In order to be enforced, such a  restraint must be carefully drafted as, at common law, an unreasonable restraint is void for being contrary to public policy.

Post employment restraints are presumed to be unenforceable unless, the employer seeking to enforce a restraint is able to show that the restraint was reasonable at the time it was agreed to.  A post employment restraint cannot be imposed to merely protect the employer from competition from an ex-employee or to prevent a valuable employee from being employed elsewhere.  In seeking to enforce a restraint, an employer must establish that it has a legitimate interest in imposing the restraint and that the restraint is no wider than is reasonably necessary.

A post employment restraint may be enforced where:

  • an employee has had access to confidential information that goes beyond mere know how, and where the employee is in a position to use that information to the employer’s detriment;
  • the employee’s work involved personal contact with the employer’s customers and where the employee may be able to use those connections to entice customers away; and
  • to protect key staff from being recruited or poached by former colleagues.

Even where an employer has a legitimate interest to protect, the restraint must be reasonable in its duration, geography and in the activities that it seeks to restrain.
Recent Decision

In the Federal Court of Australia, decision of HRX Holdings Pty Limited v Pearson [2012] FCA 161, a post employment restraint was held to be reasonable and enforceable.

From its inception, HRX Holdings Pty Limited (“HRX”) had employed Mr Pearson in the role of Managing Director.  He and the company’s owner had established the business.  It was the intent of both HRX and Mr Pearson from the outset that he would build up the business by:

  • introducing innovative techniques, systems and practices;
  • employing staff; and
  • being the public face and primary contact for HRX.

Mr Pearson did everything required of him and HRX was very successful.  Mr Pearson was HRX’s key person and had an intimate knowledge of, and was involved in, all aspects of its business.
In view of Mr Pearson’s central role, it was accepted by both HRX and Mr Pearson that in order to protect the business, his employment contract would contain a post employment restraint.
The restraint clause, in the employment contract, restraint Mr Pearson from being concerned with or interested in a “restrained business” in any capacity (including as an employee) during the restraint period of two years.
“Restrained business” was defined as a business or operation similar to or competing with the business of HRX.  The restraint also contained acknowledgements by Mr Pearson that:

  • he had an intimate interest in the contracts, clients, knowledge and management of HRX;
  • he had obtained accounting and legal advice in relation to the restraint;
  • HRX shares given to him, at the commencement of his employment were given in consideration of his obligations under the restraint;
  • a breach of the restraint would have a detrimental effect on HRX’s legitimate interests; and
  • the restraints was reasonable to protect HRX’s goodwill.

The restraint clause provided that Mr Pearson would be paid for all but three months of the two year restraint period at his average monthly remuneration.  The payments were expressed to be made in consideration of Mr Pearson’s obligations during the restraint period.

After almost seven years with HRX, Mr Pearson resigned from his position after accepting a senior managerial position with a competitor.  Mr Pearson also:

  • encouraged the competitor to secure the services of two of HRX’s senior executives; and
  • emailed a client of HRX stating “I cannot solicit your business … but I believe that you can solicit my services if you know what I mean …”.

HRX commenced proceedings seeking to restrain Mr Pearson from commencing employment with the competitor in reliance on the restraint provision in the employment contract.  HRX argued that the restraint was reasonable at the time it was made.
Justice Buchanan agreed with HRX and restrained Mr Pearson from being concerned with or interested in the competitor in any capacity for the duration of the restraint period.
Justice Buchanan identified several matters to consider when construing the restraint covenants and testing it for reasonableness, including:

  • HRX’s well developed policy for imposing post employment restraints on staff (a position Mr Pearson was familiar with);
  • the fact that the parties agreed to the definition of restrained business;
  • the consideration given by HRX to Mr Pearson for the restraint (the shares and post employment remuneration);
  • the receipt of legal and accounting advice by Mr Pearson prior to executing the employment contract;
  • the detailed and lengthy negotiations that led to the signing of the employment contract; and
  • Mr Pearson’s acknowledgement that the restraint was reasonable.

Justice Buchanan concluded that the restraint was not void as against public policy and was enforceable.

Severance and Reading Down
A court will not re-write a restraint clause.  As a result, restraint clauses are often drafted as cascading and overlapping restraints.  This means any clause which is too wide or too long may be severed leaving the employer free to enforce what’s left of the clause.

Severance requires deleting the parts of the restraint which are too wide or too long.  If a court is satisfied that the remainder of the clause is reasonable and consistent with the parties’ intent, it may enforce what is left of the restraint.

Generally, courts are not willing to read down restraint clauses.  However, in New South Wales the Restraint of Trade Act 1976 confers an express power on the courts to read down otherwise invalid restraints and enforce them to the extent that they are reasonable.

The Act allows the restrained person to apply for a court order either invalidating or narrowing a restraint where there has been a manifest failure by the drafter to attempt to keep it within reasonable confines.  An employer in New South Wales may also rely on this Act to obtain at least partial enforcement of the restraint.  The Act focuses on the validity of a restraint as it applies to a particular breach as opposed to a theoretical potential breach.

Although damages are recoverable for any loss suffered by an employer as a result of a breach of an enforceable restraint, the usual enforcement application is for an injunction to restrain the employee from performing certain work, contacting clients and/or making use of particular information for a period of time and in a specified area.

Conduct of Employer
Employers may have problems enforcing a post employment restraint where their own wrongful conduct has brought the employment contract to an end.  In such circumstances, the employer may be taken to have forfeited the right to enforce a post employment restraint which is contained in the employment contract.

In the Supreme Court of New South Wales decision of Northern Tablelands Insurance Brokers Pty Limited v Howell [2009] NSW SC 426 Justice Barrett held that Northern Tablelands Insurance Brokers Pty Limited (the “Employer”) had repudiated the employment contract and therefore could not rely on the post employment restraint contained in it.

Mr Howell commenced employment with the Employer in 2001.  On 1 July 2005, he signed an employment contract which contained a termination clause providing for termination of employment by either party on written notice.  The notice period was set out in the employment contract and was determined by the length of service.

In regards to Mr Howell’s employment, written notice of 28 days was required to terminate his employment.

The post employment restraint clause (which was very poorly drafted) purported to restrain Mr Howell from, amongst other things, soliciting clients of the Employer for a period of time following termination of his employment.

In February 2009, Mr Howell and the Employer discussed with the Employer, voluntary redundancy of his position.  The Employer made an offer of redundancy which Mr Howell rejected.
On 10 February 2009 Ms Carlon, on behalf of the Employer, informed Mr Howell “effective immediately you are redundant”.  Ms Carlon demanded Mr Howell return his keys and that he sign a key register, which he did.  He then collected his personal belongings and left the Employer’s premises.

That same day, Ms Carlon provided Mr Howell with a letter detailing the entitlements which would be paid to him.  This letter made no reference to the employment contract.

Mr Howell was not provided with written notice of termination as required by the employment contract.

In the judgment of this matter, Justice Barrett stated [at 31]:

“By acting outside and in disregard of the contractual provisions concerning termination, and dismissing the [employee] by way of unilateral declaration of “redundancy”, the [employer] brought the employment to an end, albeit in breach of contract by way of wrongful dismissal.  There was, accordingly, a repudiation of the contract of employment by the [employer] … “.

As the Employer repudiated the employment contract and Mr Howell accepted the repudiation by returning his keys and leaving the premises, the contract was discharged.
As the contract was no longer on foot after 10 February 2009, the Employer has no post employment restraint to enforce.

Post employment restraints must be very carefully drafted.

The success of HRX was due to a number of factors namely, the well drafted restraint of trade covenant, the monetary compensation and shares provided for and the fact that the employee had had his own legal and accounting advice on the relevant restraint clause before entering into it.

Whether as an employer or as an employee, it is recommended that legal advice be obtained prior to entering into any post employment restraint agreement.

Employers should also be very wary when terminating an employee in circumstances where they seek to rely on a post employment restraint.

By Nicole Dunn, Senior Associate
Carroll & O’Dea Lawyers (As first published by Aventedge)

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