Commercialisation of Restraint Clauses

25 May 2018

Although there is an inherent duty of fidelity and good faith in all employment relationships, this ceases when employment does. The reach of equity to protect truly confidential information does not go far enough, however restraint clauses which are neither unreasonable nor injurious to the public interest can be enforced by court order – normally by injunctive relief, to protect the legitimate business interests of the employer.

Strategic trends have emerged from both employers and employees to reach their desired outcomes. This article will focus upon the commercialisation of the restraint agreement for greater enforceability by employers.

Entering into a commercial restraint

A reasonable restraint clause will afford no more than adequate protection to the employer. As such, it is important for restraints to distinguish between the employer’s protectable proprietary interests, and those which attach to the personal skills or attributes of the employee (these personal attributes or qualities cannot be restricted).

The same principles apply to restraints to both employment and commercial restraints. However, the courts have traditionally been less inclined to enforce restraint clauses in employment contracts; this is partly due to beliefs about disparity of bargaining power.

Courts are more likely to enforce a restraint clause when it is encapsulated within a commercial agreement, particularly where third parties are involved who are not directly related to the employment arrangement. As such, a savvy employer may offer an executive employee a restraint agreement separate to the employment contract for which valuable consideration – including equity or profit share – is provided.

Seven Network (Operations) Limited & Ors v James Warburton (No 1) and (No 2)

In Warburton the court considered the enforceability of a restraint agreement against a highly skilled and talented television production executive.

The restraint agreement was separate to the employment contract, and was executed as part of a separate Management Equity Partnership Participation Deed (MEP Deed).

The MEP Deed was designed to protect the multi-million-dollar investments of Seven Network (Mr Warburton’s employer), Kohlberh Kravis & CO (KKR) and the Seven Media Group (SMG). At the time the hearing commenced, Mr Warburton’s employer, Seven Media Group, was the parent company of Seven Network Operations and KKR was a private equity investment firm based in New York but operating worldwide.

The MEP Deed imposed lengthy restraints on the executive participants of the scheme, and prevented them from competing with SMG or its related entities after the employee ceased being “employed or engaged” by Seven Network.

Upon his resignation to take up a role with Channel 10, steps were taken to enforce the restraint agreement against Mr Warburton.

Enforceability of the commercial restraint

When assessing the enforceability of the restraint agreement, the court recognised the commercial purpose of the MEP Deed, which was to protect SMG, Seven Network and KKR during the 12-month period after Mr Warburton ceased to have access to the confidential information, clients and staff to which he had been exposed during his employment.

Mr Warburton argued that Seven Network should be estopped from enforcing the terms of the restraint agreement because he alleged that he had discussed his proposed transition and had received informal consent from Seven Network.

Despite Mr Warburton’s version of events being preferred, the court applied a high threshold given the commercial nature of the restraint. It was held that Seven Network had not expressly or indirectly implied that it and each of the stakeholders to the MEP Deed would refrain from enforcing the restraint within it. Furthermore, it was held that Seven Network did not have authority to make such a statement on behalf of all stakeholder parties.

It was noted that Mr Warburton had received both employment law and taxation advice prior to signing the MEP Deed and that he had acknowledged the restraints were fair and reasonable regarding their subject matter, area and duration and that they were reasonably required to protect the business, financial and proprietary interests of the stakeholder parties and the value of the investor’s group securities.

Even if Mr Warburton had forgotten about the existence of the MEP Deed, its enforcement as a commercial contract did not depend on his knowledge of the terms; contracts are meant to be observed, and decisions are made on the understanding that obligations will be observed and solemn commitments will not be ignored.

Lessons for employers

  1. When implementing a restraint agreement, ensure that it is reasonable and goes no further than required to protect the employer’s legitimate business interest.
  2. For executive employees, consider implementing a commercial restraint agreement separate to the employment contract and including any other relevant stakeholders as parties – a restraint that protects the interests of subsidiaries and investors is capable of being enforceable by a court.
  3. Employees should be required to acknowledge in writing the reasonableness of the restraint and seek legal advice

Restraint clauses are notoriously complex and difficult for employers to enforce. For further advice, contact the workplace relations team at Hentys.