Government launches consultation on non-compete clauses in employment contracts

The Government has launched a new consultation on measures to reform post-termination restrictive covenants in employment contracts. The consultation closes on 26 February 2020. Full details on the consultation can be found here.

Background

The consultation follows a call for evidence, back in 2016, on the use of non-compete clauses. The call for evidence found that, on the whole, such clauses worked well and were a valuable and necessary tool for employers in protecting their business interests. As a result, no further action was taken by the Government at the time.

This new consultation is precipitated by the impact that the Covid-19 pandemic has had on the UK economy, highlighting that GDP is currently around 9% below the February 2020 level (before the outbreak), and the troubling rises in unemployment levels. In the light of this, the Government has stated that it seeks to encourage ways in which competition and creation of new jobs can be increased.

What are non-compete clauses?

Non-compete clauses are a type of post-termination restriction or “restrictive covenant”. Often, employers seek to include these in a contract of employment in order to restrict the employee’s ability to work for a competitor, or to set up their own competing business, for a specified period after their employment ends. Under the current rules, governed by common law, any contractual term restricting an employee’s activities after termination is void for being in restraint of trade and contrary to public policy, unless the employer can show that:

1. It has a legitimate proprietary interest that it is appropriate to protect;
2. The protection sought is no more than is reasonable having regard to the interests of the parties and the public interest.

Cases in this area therefore turn on their own facts. In general terms, the case law provides that post-termination restrictions will only be enforceable if they are no wider than is reasonably necessary to protect the employer’s “legitimate business interests”. Examples of legitimate interests include an employer’s trade connections with customers or suppliers, protection of confidential information and maintaining the stability of the workforce.

The proposal

During the consultation, the Government has focused on two key proposals:

Option 1: making post-termination non-compete clauses permissible only when the employer provides compensation (most likely to be a percentage of the employee’s basic salary) to the employee for the period the clause covers. This approach has already been taken across European countries such as France, Italy and Germany. In the consultation documents, the Government has suggested that advantages of this option include:

1. Ensuring that a fair settlement is reached for employees if they are to be restricted from joining or starting a competing business within their field of expertise;
2. Discouraging employers from inserting blanket non-compete clauses into contracts, only using them when absolutely necessary and for as little time as possible; and
3. Employees being less inclined to breach the restrictions in place where they have already received financial compensation for the duration of the restricted period. This should reduce litigation rates for breach of post-employment restrictions.

Option 2: imposing a ban on the use of post-termination non-compete clauses, making them void and unenforceable.  The Government has suggested that advantages of this option include:

1. Increasing labour mobility as it will be easier for individuals to start work at a new employer, or set up new businesses themselves; and
2. Providing greater certainty for the parties, assuming the scope of any ban put in place would be clearly defined, including any potential exemptions.

The consultation also discusses potential additional transparency measures and the possibility of imposing a statutory maximum duration on non-compete clauses. For example, an employer disclosing the exact terms of the non-compete agreement to the employee in writing before the commencement of the employment relationship. Failing to do so would render the clause unenforceable.

What this means for employers

It is well known that businesses of all sizes use non-compete clauses protect themselves from unfair and damaging competitive activity. With this in mind, it seems unlikely that the Government would implement the radical changes of Option 2 straight away. The Government should be mindful that businesses who do not feel their interests are sufficiently protected may be less inclined to invest in new talent in the first place. This would completely undermine the Government’s principal objective of the consultation, which is to remove barriers to innovation and economic activity.

Employers are encouraged to make their own views known to the Government prior to the closing of the consultation on 26 February 2021. The announcement of the consultation may act as a timely reminder for employers to reflect of their use of post-termination non-compete clauses and their enforceability, and consider how they may be used in the future. Having said that, employers may wish to hold off on any periodic review of covenants in staff contracts for the time being, pending the Government’s response to the consultation.

Whilst the Government is currently focusing specifically on non-compete clauses, the consultation paper asks whether similar reform should be applied to other types of post-termination restrictions, such as non-solicitation, non-dealing and non-poaching clauses; this consultation is likely to be just the beginning of a lengthy process. If the Government does decide to make changes, it is anticipated that they will take significant time to come into force.

This article is for information purposes only and is not a substitute for legal advice and should not be relied upon as such. Please contact Emily Edwards to discuss any issues you are facing.