Time to check your restrictions – Are restrictive covenants enforceable?
A recent case has put the enforceability of restrictive covenants back in the spotlight
First of all, what is a “restrictive covenant”?
A restrictive covenant is a tool used in a contract to protect a party’s commercial interests. This is usually during the life of a contract and for a period of time after it has come to an end.
They are frequently found in employment contracts, franchise agreements, director service agreements, and shareholder agreements.
As the name suggests, it will restrict a party’s right to do something. For example, to do business in competition with another, similar company, in a fixed geographical area, for a fixed period of time.
Are restrictive covenant enforceable in court?
Although it is assumed that the parties to the contract will have freely agreed to impose the restriction, there is a growing body of law from the Court in recent years which has put them under greater and greater scrutiny.
Restrictive covenants which are deemed to be an unreasonable restraint on a party’s trade, or too widely drafted, or too vague, will nowadays likely be found to be unenforceable by a Judge, who will put a line through it.
What is the latest news on restrictive covenants?
In the recent case of Dwyer v Fredbar, the Court of Appeal considered this very issue.
Dwyer is a franchisor for Drain Doctor, who granted a franchise to Mr Bartlett, someone relatively inexperienced in plumbing and drainage. Despite taking a chance on Mr Bartlett, the franchise unfortunately only lasted 18 months of a 10 year contract.
After the contract was finished, Mr Bartlett set up another company in the same geographical area as he had before, in direct competition with Dwyer. This is in spite of the fact that there was a restrictive covenant within the contract restricting Mr Bartlett from doing this, within one year of the contract’s termination and within the area defined in the contract.
Dwyer took umbrage with this and sought an injunction from the Court stopping Mr Bartlett continuing his business in the area.
What happened when the case reached Court?
In its Judgment, the Court of Appeal upheld the High Court’s decision, that the restrictive covenant was not enforceable.
The Court held that, “not all potential franchisees are equal” and the relative bargaining strength of the parties when they entered into the contract was critical in determining whether it was enforceable. In this case, it seemed more like an employment contract than a franchise agreement. Entering the franchise agreement had placed a far great risk upon Mr Bartlett, the Court even noting that his family home could have been lost if the franchise failed.
The Court was also critical of Dwyer in not drawing a distinction in the contract, between what would happen in the event of early termination and if the franchise ran for all or most of the 10 year period.
Given the short life of the contract and the lack of other similar franchises within the area, the Court decided that the amount of goodwill that Dwyer was seeking to protect was not significant enough to justify enforcing the covenant against Mr Bartlett.
What are the take-home points of this case?
There is no “hard and fast rule” as to whether a restrictive covenant is enforceable. This will be determined on a case by case basis.
The Court is keen for parties to tailor their clauses to the specific circumstances for the parties and will not look kindly upon “standard” or “blanket” clauses. There is a balance to be struck between protecting commercial interests, without unduly restricting an individual’s ability to earn a livelihood.
In light of this decision, it would seem that the balance has tipped even further in favour of the restricted party in such cases.
It may therefore be time to review your restrictive covenants, to see whether they are at risk of being unenforceable. If you’re looking for advice on whether your restrictive covenants are enforceable get in contact with our specialist dispute resolution team today on 01752 203500 or email enquiries@GAsolicitors.com to ensure that your business is protected by these agreements.