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How to enforce a restraint of trade clause in an employment contract

Introduction

Restraint of trade clauses are becoming increasingly common in employment contracts. A typical clause will prohibit a former employee from working in a specific area of employment in a specific geographical area for a limited period of time. These clauses are enforced by suing the ex-employee, usually in the Employment Court.

The purpose of a restraint of trade clause is to prevent the employee from later using the employer's trade secrets or confidential information to aid one of the employer's competitors.

What action can I take to enforce the clause?

If you believe that an ex-employee is breaching a restraint of trade clause, you can bring proceedings for breach of contract. If the clause is in an employment contract the Employment Court has exclusive jurisdiction to deal with your claim.

How will the court decide the issue?

Formerly the courts were reluctant to enforce restraint of trade clauses, on the grounds that an individual's right to work should not be limited. But this attitude has been relaxed and now the courts will look at the restrictions imposed by the clause and the general history of the ex-employee's period of employment.

However, the starting point is that the clause is assumed to be invalid, and you, the ex-employer, have the burden of showing that the clause is reasonable and should be upheld.

In deciding whether the restraint should be enforced, the courts will consider whether it is:

  • unfairly restrictive
  • essential to protect your business interests
  • against the public interest

In general the greater the restraint – whether in terms of geographical area, time or the type of business – the more likely the court will be to hold that the restraint clause is invalid.

The parties' respective bargaining strengths when the contract was entered into will also be a factor in determining whether the restraint is reasonable. The court will be more likely to hold that the clause is invalid if there was an imbalance of bargaining power in your favour.

If you are a small business with localised interests, you are unlikely to be able to enforce a restraint of trade clause preventing somebody from working in the same industry in another part of New Zealand.

The court can modify the clause

If the court believes the clause is unreasonable, it has the power to modify its terms and then put in place a mechanism to enforce it.

Cautionary notes
  • It is advisable to think carefully about this area when entering into an employment contract (see generally How to enter into an employment contract as an employer). A lawyer can help you to draft a clause that is likely to be enforced.

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