Restraint of Trade

Overview

Contracts in “restraint of trade” are void.  This is because it is a fundamental principle, that a person should be free to use his labour or exercise his trade whether as employee or trader.

Restraints are permissible where the agreement not to trade is for an objectively justifiable reason and extends no wider than necessary. An agreement not to compete for a period on the sale of a business is enforceable as long as their restriction is no more than necessary in order to protect the goodwill.

A clause in an employment contract prohibiting working for competitors for a period may be justified, where there is a risk to highly sensitive confidential information, provided that the restriction is strictly limited and reasonable. It should be tailored to the legitimate interest which is to be protected.


Historical Background

The common law renders void, a contract which provides for an unreasonable restraint of trade. Restraint of trade refers to a purported contractual provision, which restricts a person’s ability to carry out his trade, profession or business with others.  The restriction may restrict the person from setting up business in a particular field, within a certain geographical area for a period.

Historically, all covenants in restraint of trade were rendered void at common law.  This was to counter the creation of monopolies.  Over time, the courts came to recognise that a party might have a sufficient legitimate interest in upholding a restraint for a limited period.  However, if the restraint was too wide or too prolonged, and accordingly oppressive, it would be void.

In the 19th century, a restraint might be effective, if it was limited to a particular radius or distance from the covenantee’s place of business or the adjoining region. At the end of the 19th century the House of Lords recognised that in some cases, a worldwide restraint might be justified depending on the nature of the business.  This may be appropriate where a person had sold his business and the business had an international market.

Restraints and restrictions on trade may be upheld if they are fair and reasonable.  The entirety of the circumstances must be examined. If the restraint can be justified as being in the legitimate interests of the parties, and it is not contrary to the public interest, it may be upheld.


Basic Principles of the Doctrine I

This basic principle is that a restraint of trade is in itself, contrary to public policy and void. Contracts providing for such restraints are therefore potentially void, unless justifiable with reference to a legitimate interest. If the clause is too wide, it is invalidated as an unlawful restraint of trade.

The restraint of trade doctrine applies to express restraints of trade.  It appears likely that it also applies to de facto and effective restrictions on trade.  The Supreme Court has taken different views on the matter.

If there is a sufficient justification and the restriction is reasonable to meet it with reference to the interest of the parties, then provided the restriction is framed and tailored so as to afford no more protection than reasonably necessary while not injuring the public, it is potentially valid.


Basic Principles of the Doctrine II

The key issue is the reasonableness of the restriction in the context of the interests of the protected party. Restraint of trade clauses may be valid where they protect a legitimate interest of a party such as an employer or the buyer of a business and go no further than reasonably necessary to protect this legitimate interest.

The restraint of competition in itself is not a legitimate interest for protection.  There must be a separate legitimate interest, which is protected.  Provided that such a legitimate interest exists, the fact that the restriction incidentally restraints trade is not objectionable.

Traditionally, there was a further requirement that the agreement must be consistent with the interests of the public. Under this particular element, a restraint which would be otherwise reasonable might be unreasonable as being contrary to the public interest.


Test of Reasonableness

There are two aspects to the test of reasonableness.  The restriction must be reasonable as between the parties. It must be reasonable with reference to the public interest.

Reasonableness in the context of the restraint of trade is considered with reference to the protection of a legitimate interest, most commonly a business or proprietary interest. The restraint of competition in itself is not a legitimate interest for protection.  There must be a separate legitimate interest, which is protected.  Provided that such a legitimate interest exists, the fact that the restriction incidentally restraints trade is not objectionable.

The modern approach to the restraint of trade doctrine considers whether the restraint goes further than necessary to afford adequate protection to the party whose interest is protected.  If this is the case, it is presumptively void.

Greater latitude applies in the sale of a business than in an employer-employee relationship.  In the former case, the seller will have received money for the goodwill so that the buyer has a very legitimate interest in protecting that goodwill.  It is common that the seller of a business is not permitted to compete for a period, in the same field or trade within a certain geographical area.

An otherwise restrictive covenant may be upheld if the claimant has affirmed and acquiesced in it.  If he had the opportunity to take legal advice, took legal advice, had relatively equal bargaining strength, then these factors will go towards upholding reasonableness of the restriction.


Public Interest

A secondary, and now considerably less significant consideration, is that it must be reasonable, from the perspective of the public interest.  Where the restraint is reasonable as between the parties, it may nonetheless be unreasonable in the context of the public interest.  This may occur where the effect is to limit the supply of certain services or commodities in the market.

Public policy considerations are reflected in restraint of trade cases. The restraint of trade doctrine upholds the principle that a person should be free to exercise his business or trade.  It is in the broad public interest that a person should be free to earn a livelihood.  However, as against this, it is also in the public interest that contracts negotiated should be upheld.


Further Extension of Doctrine and Competition Law

The classes of case to which the doctrine applies, are not closed.  In modern times, the courts have countenanced the possibility that the doctrine might be applicable to joint ventures and similar arrangements.

In the last thirty years, the restraint of trade doctrine has been supplemented by competition law.  Many of the transactions traditionally subject to the restraint of trade principles, are too minor or local to cause a significant risk of competition law breach.

Competition law may come to regulate such agreements exclusively if the courts interpret statutory competition law as the exclusive regulatory framework. It appears that competition law and the restraint of trade doctrine may operate side by side, covering the same ground.

Competition Act renders void agreements and arrangements between businesses, which restrict trade or competition unless there is a justifiable interest.  An apparent restraint on competition, may not be, in fact, a restriction on competition at all, because of how competition operates in the particular market. The Competition Act provides for potential justifications, where there is a restriction on competition, which is justifiable for a legitimate objective.

Competition law, where applicable may apply in much the same manner as the restraint of trade doctrine.


Enforcement and Invalidation

Breaches of restrictive covenants are typically enforced by an application for an injunction. The question on the grant of the injunction turns principally on the so-called balance of convenience and the possibility of irreparable damage, rather than the merits of the legal position.  An injunction may not necessarily be granted and damages may be appropriate.

In practice, the injunction may determine the matter, given its immediate effect and the long delay that usually follows, before the matter comes to trial.

The onus of proving that the restraint is reasonable is on the party who alleges so. The burden of proving the reasonableness of the restraint rests on the person asserting it.  The court will look at the substance rather than the form of the restraint. It will look at the actual circumstances in which it operates.

The general principles of interpretation apply to clauses in restraint of trade.  Where they are negotiated between parties of unequal bargaining strength, they are interpreted against the interests of the stronger party.  A clause may be interpreted in a more restrictive way, so as to be more reasonable and may be given effect accordingly.


Severance

The courts may sever the whole or parts of restrictive covenants so that the rest of the contract is upheld.  Where the offending clause is part of a series of clauses, severance of a whole clause may be readily available.  The balance of the agreement stands and may be enforced. However, severance within a clause is more difficult. The courts will not rewrite the agreement.

There are different views as to the extent to which a clause might be given effect in amended terms that do offend the doctrine. There is some support for a broad freedom to take such an approach, thereby giving effect to the clause in the amended terms.  The court may, of course, interpret the course a manner which complies with the doctrine, where this is a possible interpretation.

However, most courts uphold the traditional position that the courts should not rewrite agreements. Clauses which offend the doctrine may be severed only if the balance that remains can take sensible effect in the circumstances. Where the changes would be so significant as to undermine the original wording, the clause will not be severed.  Where the clause cannot be severed, it is wholly invalid.


References and Sources

Irish Textbooks and Casebooks

Clark, R. Contract Law in Ireland 8th Ed. (2016) Ch. 15

Friel, R. The Law of Contract 2nd Ed, (2000)

McDermott, P.  Contract Law (2001) 2nd Ed (2017) Ch. 16

Enright, M. Principles of Irish Contract Law (2007)

Clark and Clarke Contract Cases and Materials 4th Ed (2008)

English Textbooks and Casebooks

Poole, J. Casebook on contract law. (2014) 12th edition

Stone and Devenney, The Modern Law of Contract 10th Ed (2015)

McKendrick, Contract Law 10th Ed (2013)

Chen-Wishart, Contract Law 5th Ed (2015)

Anson, Reynell, Beatson, J., Burrows, Cartwright, Anson’s law of contract. 29th Ed (2010)

Atiyah and Smith, Atiyah’s introduction to the law of contract. 6th Ed.

Chen-Wishart, M. (2015) Contract law. 5th Ed.

Cheshire, Fifoot and Furmstons, Furmstons and Fifoot Cheshire, Fifoot and Furmston’s law of contract. OUP.

Duxbury, Robert (2011) Contract law. 2nd Ed.

Halson, Roger (2012) Contract law. 2nd Ed.

Koffman & Macdonald’s Law of Contract. 8th Ed. (2014)

O’Sullivan, Hilliard, The law of contract. 6th Ed. (2014)

Peel, and Treitel, The law of contract. 13th Ed. (2011).

Poole, J.Casebook on contract law. 12th Ed. (2014).

Poole, J.  Textbook on contract law. 12th Ed. (2014)

Richards, P Law of contract. 10th Ed. (2011)

Stone, R.  The Modern law of Contract. 10th Ed. (2013)

Treitel, G. H.  An outline of the law of contract. 6th Ed (2014).

Turner, C Unlocking contract law. 4th Ed. (2014).

Upex, R. V., Bennett, G Chuah, J, Davies, F. R. Davies on contract. 10th Ed. (2008).

UK Casebooks

Stone,Devenney, Text, Cases and Materials on Contract Law 3rd Ed (2014)

McKendrick, Contract Law Text, Cases and Materials 6th Ed (2014)

Stone, R, Devenney, J Cunnington, R Text, cases and materials on contract law. 3rd Ed (2014)

Burrows, A. S.  A Casebook on Contract. 4th Ed.

Beale, H. G., Bishop, W. D. and Furmston, M. P. Contract: cases and materials. 5th ed. (2008)

Blackstone’s Statutes on Contract, Tort & Restitution 2017 (Blackstone’s Statute Series)

UK Practitioners Texts

Chitty on Contracts 32nd Edition, 2 Volumes & Supplement (2016)

The above are not necessarily the latest edition.