Restrictive Covenants Unenforceable
The Ontario Court of Appeal has made some interesting findings that should be considered when looking at your non-competition and non-solicitation covenants.
The case is Martin v. ConCreate. We commented on the original decision (here) and noted that it had a useful and comprehensive review of the law on restricting post-employment activities. The Court of Appeal agreed it was a careful survey of the law, but it disagreed in a couple of important ways about how the law was applied in Mr. Martin's situation.
The Non-Competition Covenant
The first problem was that the time period for the covenants ended 24 months after the sale of the former employee's interest in the business. That seems clear enough except for the fact that a sale was not possible without certain consents that might be required, from lenders for example. The court noted that it was not clear if and from whom such consents would be required. Also, the lenders would have no contractual obligation to the former employee to provide a consent, and might well have an incentive to withhold consent.
The court ruled that the covenant was for an indeterminate period with no fixed, outside limit. It was therefore unreasonable.
The Non-Solicitation Covenant
The court also commented unfavourably on the non-solicitation covenant. The problem was that it purported to cover persons and activities that the former employer would not necessarily know about. It is unreasonable to impose a covenant not to do certain things when the former employee may not know if a supplier, for example, was a supplier to the former employer, or if a certain type of business would compete with current or planned activities of the former employer.
This is a common problem with many non-solicitation covenants we see. A former employee has to be able know what he or she is restricted from doing.
The Limited Partnership Twist
Another particular twist was the fact that the former employee's ownership interest was in a limited partnership. A partner in a limited partnership is not allowed to take part in the management and direction of the business. The court stated that the reasonability analysis for a limited partnership is different from what applies to shareholdings in a corporation.
Look at the restrictive covenants you are using and read them carefully. They always have to be reasonable in length, geographic scope and scope of activities (and just because this case accepted 24 months in the context of a sale of a business does not mean such a lengthy period is always acceptable). The significant lesson from this case is that reasonableness requires the covenants to have fixed time limits and that they can be understood and followed.
- is it clear how long the covenant lasts and what it covers?
- would a former employee always know what type of activity is prohibited or what persons may not be solicited?
If a restrictive covenant is unreasonable in any way, it is unenforceable.
(For a more detailed analysis of the case, go to our Canadian Appeals Monitor.)
ConCreate former employee non-competition non-solicitation restrictive covenants