Restraint of Trade Clauses

15 February 2022 in Contract Lawyers | 5 min read | skip to FAQs

Restraint of trade (RoT) clauses are often found in contracts, typically in employment and business sales contracts. Their purpose is to preserve business interests by preventing employees and business vendors from engaging in conduct that would harm the business interests of the company. This article focuses on RoT clauses in employment contracts. We look at the types of RoT, relevant legislation, public policy and case law examples. The expert contract lawyers at Brander Smith McKnight Lawyer Sydney are able to explain how these legal considerations apply to your individual case.

Types of Restraint of Trade Clauses

Non-compete clauses

These clauses prevent or restrict employees from working for the company’s competitors during and for some time specified after their employment. A non-compete clause is generally also location based to restrict an employee’s work within specific locations.

Non-solicitation clauses

These clauses prevent or restrict employees from soliciting or engaging clients and other employees of the company for some time specified after their employment.

Non-disclosure clauses

These clauses prevent or restrict employees from disclosing specified company information including confidential information, especially for the benefit of a competitor. Confidential information is also protected at law, Coco v AN Clark (Engineers) 1968 FSR 465. However, a contractual obligation to keep specified information confidential provides the employer with additional protection and rights.

Restraint of Trade Act

In most jurisdictions, RoT clauses are governed under common law (that is, laws based on court judgements in earlier cases), where there is a rebuttable presumption that such clauses are unenforceable. This presumption operates in light of policy considerations that a mobile workforce and freedom of employment is productive and should be preserved. However, in NSW such clauses are primarily subject to the Restraint of Trade Act 1976 (NSW) (The Act) which flips this presumption. In NSW, these clauses are presumed by default to be enforceable under section 4, subsection 1 of the Act, on the condition that such clause is not contrary to public policy.

Under subsection 3, where a clause is found to be contrary to public policy, rather than determining it to be invalid altogether (although this option exists), the court may instead restrict its validity by reading it down to the extent that it is no longer contrary to public policy. The result is that portions of the clause may be deleted, but not rewritten or added to, by the court.

The impact of the Act can be observed by comparing the proportion of upheld RoT clauses in NSW to those outside the state. A 2016 study in the Australian Journal of Labour Law found that while 56.1% of RoT clauses were upheld in NSW this figure decreased to 33.3% regarding clauses outside NSW.

The Courts’ Approach

In the case of Orton v Melman [1981] 1 NSWLR 583, before considering whether the RoT clause is valid, there must first be an assessment of whether the former employee’s conduct actually constituted a breach of the clause. Only after determining that said conduct actually breached the clause can the court then examine whether the clause itself is valid and enforceable due to not being contrary to public policy.

Factors Determining Enforceability

The public policy concern regarding RoT clauses is the balance between the benefits of upholding contracts and protecting business interests against ensuring a mobile workforce and competitive employment market.

The benefit of upholding contracts and allowing parties to enter into contracts on the terms that the parties have agreed is a principle that was confirmed in cases that date back as far as the nineteenth century. In the case of Printing and Numerical Registering Company v Sampson (1875) LR 465 Sir George Jessell MR stated that, “If there is one thing which more than another public policy requires, it is that men of full age and competent understanding  shall have the utmost liberty of contracting and that their contracts when entered into freely and voluntarily shall be held sacred and shall be enforced by Courts of justice”.

If a RoT clause is determined to be reasonable to protect a company’s business interests, and not against public policy, it will be enforceable.

Woolworths Limited v Mark Konrad Olson [2004] NSWCA 372, affirmed several key principles regarding validity:

1. Restraint of Trade clauses that protect trade secrets will be reasonable even though the law already offers protection against former employees disseminating trade secrets;
2. While the court will afford considerable weight to what the employee and company have agreed to in their contract, a contractual agreement is not conclusive; and
3. A Restraint of Trade clause’s validity should be assessed in reference to when the contract was agreed to and what it entailed or required of the parties rather than by reference to intent or actual actions.

Cascading Clauses

Hanna v OAMPS Insurance Brokers Ltd [2010] NSWCA 267 upheld the validity of cascading RoT clauses. Cascading clauses operate by providing multiple options for restraint regarding multiple factors such as duration, location, and what conduct is being restrained. For example, duration options might range from 2 years to 6 months, while location options could range from the entirety of Australia to metropolitan Sydney, cascading downwards in terms of restriction.

Each option is considered an independent clause, which allows for the less restrictive option to be enforceable even if the more restrictive option is determined to be invalid or unenforceable. To ensure validity, each restraint must be able to be interpreted individually, allowing severability from the other restraints. Drafting clarity is an essential factor for any RoT clause, especially cascading clauses.

Other Considerations

Apart from its determinations regarding cascading clauses, the case of Hanna also determined that an employee’s seniority is a factor to consider when determining a RoT clause’s validity.

Cactus Imaging Pty Ltd v Glenn Peters [2006] NSWSC 717 considered a stable workforce to be a legitimate business interest, allowing for RoT clauses that prevented former employees poaching current employees to be enforceable.

Koops Martin Financial Services v Reeves [2006] NSWSC 449 held that the determination of what length was a reasonable time for companies to be protected against solicitation depended on how long it would take a reasonably competent replacement to show their effectiveness and build a rapport with customers.

AEI Insurance Group Pty Ltd v Martin (No 4) [2024] FCA 1110 found that when it came to assessing whether a RoT clause had been breached, direct evidence isn’t always required, as the court can draw inferences from the facts before it.

Anticipated Developments

The Treasury recently released a report titled “Non-competes and other restraints: understanding the impacts on jobs, business and productivity”, identifying what it considered to be undesirable effects of RoT clauses: such as a restrictive effect on workers’ mobility and their workplace rights, the expenses of associated litigation, and the impact of an inflexible workforce on broader productivity.

This report preceded the announcement by the government that they will limit employers from imposing non-compete clauses on employees who do not meet the high-income threshold set by the Fair Work Act 2009 (Cth). This threshold currently sits at $175,000. Moreover, the government are also seeking to prevent employers using restraint of trade clauses to block employees from being poached by competitors. These new measures are expected to come into force in 2027, following consultation, with the view to increase worker flexibility in the job market.

How can BSM Sydney Lawyers assist you?

When drafting and negotiating contracts, Restraint of Trade clauses are among the terms that need to be given consideration by both companies and prospective employees. The highly experienced contract lawyers at BSM Lawyer Sydney are able to answer any questions and assist in the review of contracts with restraint of trade clauses. We can provide expert legal advice in relation to the enforcement of the clause or conversely we can challenge an unreasonable restraint of trade clause. Our contract lawyers will attempt to resolve the issue without litigation through negotiation, mediation, conciliation and arbitration. We are expert negotiators and work hard to resolve differences over these clauses in the most cost effective manner. If these avenues are unsuccessful and litigation is required we will fight for your rights in court. Possible positive outcomes for enforcement are injunction or financial compensation for damages. The contract lawyers at BSM provide a free 20-minute initial consultation.

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