FEATURE


The law governing restraint of trade continues to evolve, with new and innovative ways in which to prevent employees from leaving and joining a competitor.

Restraint of Trade Clauses in Employment Contracts

Introduction
 
Restraint of trade clauses are common in Singapore as in most other jurisdictions in a variety of different types of relationships. One of the most common relationships where one finds restraint of trade clauses in one form or another are in employment relationships. The restraint clauses range from non-competes during the period of the employment, which is typically fair, as well non-competes which extend beyond. Non-compete clauses are typically drafted alongside non-solicitation clauses as well as preservation of confidentiality clauses.
 
The restraint clauses have over time evolved with elaborate permutations with due consideration being provided on how such clauses are to be drafted. Yet, there is no absolute certainty as to when a particular restraint can be effective or otherwise. What is clear is that a restraint that applies whilst the employment relationship continues to subsist will generally be upheld, whilst that which seeks to impose barriers post the employment could be struck down, particularly where well crafted confidentiality clauses can effectively achieve the protection that an employer seeks. 
 
The law in Singapore regarding restraint of trade clauses is not set out in legislation, but rather is left to case law to provide guidance on the effectiveness of such clauses. The last decade or so has seen an increasing number of cases in Singapore where employers have endeavoured to enforce restraint clauses or where ex-employees have sought to strike down restraint clauses. This article provides a broad overview of recent developments in relation to restraint clauses in employment law.
 
As a preliminary point, it is important to note that whilst general cases involving restraints of trade are useful in determining the validity of restraint clauses in an employment scenario, there are nevertheless important differences.  This is perhaps best articulated by the Singapore Court of Appeal in CLAAS Medical Centre Pte Ltd v Ng Boon Ching[2010] SCGA 3. Having discussed certain general principles associated with restraints of trade, the Court here noted as follows:
 
These being the general principles applicable in this area of the law, we would, however, hasten to add that the courts take a more liberal approach when considering restrictive covenants in the context of a sale of business as compared to the situation where such a clause is contained in a contract of employment.
 
The Court had also cited the earlier decision of Man Financial (S) Pte Ltd v Wong Bark Chuan David  [2008] 1  SLR(R) 663 stressing that in an employment scenario, the employer is not deprived of what he has paid for pursuant to the contract of employment (the employee’s services) when the employee leaves his employ nor are the parties (employer and employee) always in an equal bargaining position. This article is thus written bearing these basic principles in mind, although cases involving the sale of business are nevertheless reviewed.
 
Scope of Restraint Clauses
 
Restraint of trade clauses, non-compete clauses and non-solicitation clauses are all restrictive covenants, imposing restrictions on different activities, but all with the aim of restraining an employee from engaging in particular activities. Post employment, the restraint of trade clause operates as a means by which an employer can prevent departing employees from competing with the business for a period of time after they leave.  A non-compete clause is a way for the employer to make the employee promise not to take away what they have gained while under the employment of the company and use it against the company while working for a competitor. Last, a non-solicitation clause prevents a former employee from soliciting clients or employees away from the prior employer.
 
The classic definition of a restraint of trade clause can be found in Petrofina (Great Britain) Ltd v Martin [1966] Ch 146 and Esso Petroleum Co Ltd v Harper’s Garage (Stourport) Ltd [1968] AC 269 as “one in which a party (the covenantor) agrees with any other party (the covenantee) to restrict his liberty in the future to carry on trade with other persons not parties to the contract in such a manner as he chooses”.
 
On this, two recent Singapore cases have seen the Courts delve into whether a purported restraint clause was indeed a restraint of trade clause. In the first case, ie, Chua Chian Ya v Music & Movements (S) Pte Ltd[2009] SGCA 54, the Court of Appeal held that with respect to performing artistes, a distinction must be made between restraints imposed on an artiste’s ability to make a living (ie, by writing or performing music), and restraints on the sale by an artiste of his or her proprietary interest in his or her musical compositions.  The Court held that a restraint of the former would be caught as a restraint of trade. Given this, on the facts of Chua Chian Ya’s case, the Court held that the provision in question was not a restraint of trade as it only assigned the rights in the plaintiff’s compositions to the defendant and did not affect the plaintiff’s ability to make a living.
 
In the second case, ie, Mano Vikrant Singh v Cargill TSF Asia Pte Ltd[2011] SGHC 241, the Singapore High Court had to decide whether a clause in the employee’s incentive bonus plan, which allowed the employer to forfeit the employee’s deferred bonus if he were to quit and join a competitor during the effective period of the non-compete clause, amounted to a restraint of trade. The Court held that the clause in question was not a restraint of trade as the clause only financially discouraged the employee from competing with the employer but did not prohibit him from doing so. The Court, in making its decision, went back to the fundamentals of the doctrine on restraint of trade, which was that the subject of the clause in question must be to prevent an employee from plying his trade or skills. On the facts of this case, the Court found that society was not deprived of the employee’s skills and competency as he was free to join any competitor.  Given this, there was no restraint of trade that had to be struck down.
 
These two cases illustrate that with careful crafting and ingenious incentive mechanisms, employees could be discouraged from plying their trade but without and express “hardcore” prohibition preventing them from doing so.  
 
Why are Restraint of Trade Clauses Prohibited?
 
The evil brought about by restraint of trade clauses was summarised by the Court of Appeal in the case of  Man Financial (S) Pte Ltd v Wong Bark Chuan David  [2008] 1  SLR(R) 663 (“Man Financial”), as being contrary to public policy and hence illegal. As such, such clauses were deemed prima facieunenforceable. If a contract has a restraint of trade clause which cannot be legitimately justified, then the contract will be deemed void to the extent that the restraint clause cannot be severed from the contract. 
 
On this, the Singapore High Court in Smile Inc Dental Surgeons v Lui Andrew Stewart[2011] SGHC 266 reiterated the point, which has been made in a number of cases, that a bare covenant not to compete will not be upheld.  It is critical that there be a reasonable legitimate interest to be protected. In this regard, the Court held, borrowing from Man Financial (S) Pte Ltd v Wong Bark Chuan David  [2008] 1  SLR(R) 663, that the test was three-fold and all three limbs had to be satisfied, namely:
1.Is there a legitimate proprietary interest to be protected?
 
2.Is the restrictive covenant reasonable in reference to the interests of the parties?
 
3.Is the restrictive covenant reasonable in reference to the interests of the public?
 
Establishing the All Important Criteria of Legitimate Proprietary Interest
 
Case law in Singapore has shown that a restraint of trade clause will be deemed enforceable if there is a legitimate proprietary interest to be protected and the clause is reasonable with respect to the interest of the parties concerned and to the interests of the public. These principles are enshrined in the seminal case of Thorsten Nordenfelt v The Maxim Nordenfelt Guns and Ammunition Company, Limited [1894] AC 535, where Lord Macnaghten observed that:
 
All interference with individual liberty of action in trading, and all restraints of trade of themselves, if there is nothing more, are contrary to public policy, and therefore void. That is the general rule. But there are exceptions: restraints of trade … may be justified by the special circumstances of a particular case. It is sufficient justification, and indeed the only justification, if the restriction is reasonable - reasonable, that is, in reference to the interests of the parties concerned and reasonable in reference to the interests of the public, so framed and so guarded as to afford adequate protection to the party in whose favour it is imposed, while at the same time … [being] in no way injurious to the public. (Emphasis added).
 
The principle as set out above was recently adopted by the Court of Appeal in CLAAS Medical Centre Pte Ltd v Ng Boon Ching[2010] SCGA 3. The Court noted that “all covenants in restraint of trade are prima facievoid. However, they can be held to be valid if the party seeking to rely on the restructive covenant can show that, firstly, the clause concerned is reasonable in the interest of the public. Additionally, there must be a legitimate proprietary interest to be protected. As was held in Man Financial, the Court will only enforce the covenant if it goes no further than necessary to protect the legitimate interest. There cannot be a bare and blatant restriction of the freedom to trade … Moreover, even where a legitimate proprietary interest is shown, the court will ensure that the covenant in restraint of trade goes no further than what is necessary to protect the interest concerned”.
 
Whether a restraint of trade clause will be deemed by the Courts to be reasonable with respect to the interest of the parties concerned and to the interests of the public will vary on a case by case basis. Indeed, Parker J in Panayiotou v Sony Music Entertainment (UK) Limited[1994] EMLR 229, as cited in Chua Chian Ya v Music & Movements (S) Pte Ltd[2009] SGCA 54, noted that “[b]y the nature of the doctrine of restraint of trade … it is dangerous to attempt to extrapolate by reference to the decision in a particular case, or to apply a decision on one set of facts to cases with different facts”. This is an important reminder that cannot be taken lightly.
 
Yet, from the evolving case law, there are certain consistent elements that surface which aid in determining whether a restraint is indeed a prohibition or otherwise. In this regard, the following are but some of the more important elements that are taken into consideration:
1.the length of a purported restriction;
 
2.the geographical scope that it extends over; and
 
3.the scope of activities that are sought to be caught.
 
Put in very simple terms, the length and the scope must not exceed the legitimate interest to be protected.  Generally, the more onerous the restraint of trade clause, the more difficult it will be to prove that it is intended to serve a legitimate proprietary interest.
 
With respect to the length of time of the restraint, whilst in the slightly old case of Heller Factoring (Singapore) Ltd v Ng Tong Yang[1998] 3 SLR 299, the Court had held that a two-year non-compete period was deemed to be reasonable with respect to the factoring industry and hence the clause was enforceable, this cannot be taken as the norm. The nature of the work performed by the particular employee, his seniority level, his skill level, and the particular industry in which the employee operates are critical factors that aid in determining what a reasonable length of restraint is justifiable. Arguably, the more specialised and skilled an individual is, the more likely that the period of restraint would have to be shorter, with periods of three months being acceptable, whilst periods of six months may nevertheless be pushed for in employment contracts as the legitimate interest is established and properly documented. 
 
With respect to the geographical area of a restraint of trade clause, in Buckman Laboratories (Asia) Pte Ltd v Lee Wei Hoong[1999] 3 SLR 333, it was held that the area should be co-extensive with the protection of the legitimate interests of the employer. The aim must be to protect the actual and existing business interest rather than to protect the possibility of acquiring future business. An illustration from a more recent case relating to a dental practice, ie, Smile Inc Dental Surgeons v Lui Andrew Stewart[2011] SGHC 266, the Singapore High Court held that a geographical limit of three miles was a reasonable restraint. The point here really is that this is a factual exercise that must be reviewed on a case by case basis as has been reiterated several times in this article.
 
With respect to scope of activities covered by the restraint in trade clause, the legitimacy of a particular scope must depend on the particular facts as exists in that case. Here more so than under any of the other criteria, it is not possible to state purely from a principle of law precisely what scope of activities will pass muster whilst another will not. For example, in Man Financial, the Court discussed a scenario about a non-solicitation clause which covered employees whose work entailed very minimal (or even no) expertise and did not form an integral part of the employer’s operations. The Court stated that such a clause would not be reasonable unless there were very special circumstances.
 
Drafting Restraint of Trade Clauses
 
It is evident from the discussion thus far that a well crafted restraint clause can be upheld. The aim is to ensure that the clause which is drafted is a reasonable one. The time at which the reasonableness or otherwise of the restrictive covenant in question must be ascertained is at the time at which the contract is made, as observed again in Smile Inc Dental Surgeons v Lui Andrew Stewart[2011] SGHC 266 quoting Man Financial (S) Pte Ltd v Wong Bark Chuan David  [2008] 1  SLR(R) 663.
 
What then is a well drafted restraint of trade clause? As a broad guide, the clause must at the very least only seek to protect what is reasonable to be protected, ie, be reasonable as regards:
1.the geographic scope, bearing in mind the nature of the business and the scope of the employment duties of the employee;
 
2.the scope of activities, bearing in mind the specific duties that the employee had undertaken, who he came into contact with, the type of information he acquired, and what specifically his employment duties extended to; and
 
3.the length of the restraint imposed on the employee, bearing in mind the specific skills sets of the employee, the nature of specialisation that he has and the seniority of his position.
 
Additionally, restraints can be carefully crafted as non-solicitation clauses, where there is proprietary client, customer, supplier or other business information to be protected. The non-solicitation has been effectively used to prevent poaching of employees by an ex-employee in limited circumstances. Crafted with a well drawn up confidentiality clause, the non-solicitation can be an effective tool and function effectively to protect the iegitimate interest of the employer, without an outright non-compete or other restraint clause.
 
Yet another method to try and protect a legitimate business interest in the employment setting is through the provision of additional consideration to the employee for accepting a non-compete or other restraint. The simple approach for this is to have a side agreement signed off which provides for separate consideration for the effective duration of the restraint. An alternative to this is to provide for garden leave. This, however, can be an expensive approach. The increasingly common approach in some industries now is that of providing for deferred bonuses and forfeiture of the same if the employee leaves to join a competitor within a pre-agreed period of time. This was the case in Mano Vikrant Singh v Cargill TSF Asia Pte Ltd[2011] SGHC 241.
 
Whilst an employer can impose restrictions, which could vary in time from three months to two years as an illustration, no employer can seek to restraint an employee from engaging in the skills, experience, know-how and general knowledge that he has acquired as part of his job during his employment, even though that has equipped the employee as a potential employee of a competitor. This is a well known principle established by the English Court of Appeal in FSS Travel and Leisure Systems Ltd v Johnson [1999] FSR 505, which was cited in the Singapore case of HRnet One Pte Ltd v Choo Wai Ying Adrian[2006] SGDC 202. Hence, the best of drafting will not assist.
 
Another critical factor to note is the careful use of language to avoid ambiguity. Specific descriptive words were debated considerably in Smile Inc Dental Surgeons v Lui Andrew Stewart[2011] SGHC 266 as an example. As another illustration, in SeaCad Technologies Pte Ltd v Tan Siew Meng Aaron and another [2007] SGHC 192, the High Court found that there were several words missing from a non-competition clause which resulted in ambiguity as to whether the first defendant could join a competitor of the plaintiff during the effective period. The High Court considered whether this omission rendered the non-competition clause uncertain and hence invalid; but erred on the side of finding validity. On this, the High Court noted that the plaintiff and the first defendant were untroubled by the omitted words and that both parties understood that the clause was to prohibit the first defendant from joining a competitor of the plaintiff during the effective period. The Court also considered whether to apply the contra proferentumrule to remove the common understanding of the clause, but held that justice would not be served by releasing parties from obligations where the poorly drafted clause was not intended to vary the common understanding. Not for this common understanding, the decision would likely have been very different.
 
In drafting restraint clauses, parties have been known to insert options into clauses coupled with a severance clause in the hope that if a scope is found to be too wide, the Court will simply sever the offending portions. In Smile Inc Dental Surgeons v Lui Andrew Stewart[2011] SGHC 266, the High Court discussed whether the Courts can use the doctrine of discretionary severance to read down the restraint of trade clause in the employment contract so that it will be reasonable and hence enforceable. The Court stated that it did not favour the discretionary severance approach as it was wont to only encourage employers to try their luck by initially imposing the maximum protection they can get an employee to agree to and then try to rely on a reading down of the provision when it seemed that the provision was unenforceable. It also stated that the best way for employers to protect their trade connections and customers would be to draft a reasonable restraint of trade provision rather than to try and get the maximum protection which their employees will agree to. Another recent illustration of where the Court refused to severe the allegedly offending portions of a restraint clause was in the recent English case of Francotyp-Postalia Ltd v Kevin Whitehead  [2011] EWHC 367.
 
At the end of the day, both employers and employees need to have an agreement on what it is that they aim to achieve and to ensure that the drafting of the language adequately covers their respective interests. Oftentimes, however, the one or the other rushes into a contract and then finds oneself constrained. Having said this, in an employment scenario, the employee can nevertheless still allege that he has been pushed into an unreasonable restraint. Hence, greater caution needs to be exercised loy the employer.
 
Non-Poaching and Agreements Between Employers
 
For completeness, the issue of non-poaching agreements is discussed. Rather than a restraint that is imposed on an employee by the employer, the non-poaching agreement contemplates two employers agreeing not to poach each other’s employees for a period of time. Where there is indeed poaching, then typically the agreements would provide for a fee to be paid or some other retribution to be met. Suffice for the purposes of this article to simply state that such agreements between employers will be deemed anti-competitive and are prohibited under the Competition Act, Cap 50B.
 
Conclusion
 
The law governing restraint of trade continues to evolve, with new and innovative ways in which to prevent employees from leaving and joining a competitor. Much can be achieved with careful drafting, and both employers and employees are encouraged to review their respective positions very carefully before signing off on a contract.


Kala Anandarajah
    Rajah & Tann LLP
    E-mail: [email protected]