First Reference company logo

First Reference Talks

News and Discussions on Payroll, HR & Employment Law

decorative image

Navigating the minefield: Court of Appeal reiterates distaste for restrictive covenants

Image: www.theglobeandmail.com

Hunter Harrison, the former Chief Executive Officer of Canadian National Railway (CNR), faces a dilemma in dealing with his obligations under a non-compete covenant to his former employer. The Globe & Mail has been reporting recently that Harrison is being pursued by CNR competitor Canadian Pacific Railway to assume the position of CEO, but taking that position might violate the non-compete agreement.

According to Jeff Gray at the Globe, CNR is relying not only on the specific provisions in the employment contract, but also pointing to the fiduciary duties Harrison owed CNR as a result of the senior position he occupied with that company. Canadian Pacific, on the other hand, takes the position that, as Harrison has been retired for two years, none of the information he has is confidential any longer. Is Gray correct in saying that such contracts are “nowhere near as ironclad as some employers might like to think”?

While the issue in the CNR and CP case will have to be sorted out by the courts of Illinois, where Harrison was based, Ontario courts have been grappling with this issue on a regular basis over the last few years. The issue usually comes before the courts when an employer seeks an injunction from the court to prevent a former senior employee from joining a competitor. Injunctions are orders that prohibit individuals or corporations from taking specified actions. In the employment scenario, the court is often asked to grant an injunction to enforce the terms of the non-competition clause by prohibiting the former employee from competing with her or his former employer.

In response to such an application, the court may choose to enforce the non-competition covenant exactly in accordance with its terms as to geographic and temporal limitation. Alternatively, the court can impose a reduced scope on the clause by “reading down” the provision in order to bring it in line with case law. When a court chooses to reduce the scope of the clause, it does so based on its determination of what is necessary to protect the legitimate business interests of the former employer, while protecting the employee’s ability to earn a living.

The decision in Mason v. Chem-Trend Limited Partnership is the most recent instalment in the Court of Appeal’s debate on the issue. In this case, the employee, a technical sales representative, having been terminated for cause, sought the court’s interpretation of the restrictive covenant in his employment agreement. The employee was attempting to determine what position he could apply for in an effort to find new employment. The non-competition provision of the employment agreement, which he signed when he was hired, stated:

I will not, for a period of one year following the termination, directly or indirectly, for my own account or as an employee or agent of any business entity, engage in any business or activity in competition with the company by providing services or products to, or soliciting business from, any business entity which was a customer of the company during the period in which I was an employee of the company, or take any action that will cause the termination of the business relationship between the company and any customer, or solicit for employment any person employed by the company.

The judge found that the clause was unambiguous and reasonable. He also found that the employer had come to court with “clean hands” as is required by the case law for an injunction to be granted. The courts have repeatedly held that, as injunctive relief is equitable relief, parties seeking such relief cannot have committed any equitable transgressions on their own part. The judge therefore granted the injunction. The employee appealed.

The Court of Appeal reviewed the three leading cases on the enforceability of such clauses, two from the Supreme Court of Canada and one from the Ontario Court of Appeal. One Supreme Court decision held that, while such clauses are contrary to public policy, as being a restraint on trade, they will be enforced if the court concludes that they are reasonable in the circumstances. It is important to note that the Supreme Court held that courts should be more inclined to uphold such clauses where they are part of an agreement for the sale of a business, and the principals of the vendor are prohibited from competing with the purchaser.

The Supreme Court also held that an “ambiguous restrictive covenant will be, prima facie, unenforceable because the party seeking enforcement will be unable to demonstrate the reasonableness in the face of such ambiguity.”

The Court of Appeal also referred to its own 2008 decision in H. L. Staebler for the governing principles that determine when restrictive covenants will be enforced. The court set out three questions to be answered:

  • Did the employer have a proprietary interest that it was entitled to protect?
  • Were the time and geographic limits reasonable in light of the interests being protected?
  • Is the covenant overly broad, in seeking to prohibit competition generally?

As a result, in Mason, The Court of Appeal agreed that the covenant was clear and that there was no ambiguity.

With respect to the reasonableness of the covenant, however, the Court rejected the lower court’s finding that a complete prohibition on competition was not overly broad. The Court referred to other clauses in the employment agreement that would protect the employer’s legitimate business interests, such as the provisions prohibiting the employee from disclosing trade secrets and other confidential information as an example of such provisions. The Court also found that the blanket prohibition on dealing with any former customers was overly broad, as most of the information that the employee had received regarding such customers over his 17 years could be “very stale” and therefore of no value to the employee in any case.

The fact that the employee was only part of a technical sales force, and not a senior officer of the company, meant that there was no justification for the broad prohibition against dealing with any former customers.

Finally, and perhaps most critically for the Court of Appeal, in the course of the employee’s 17 years of employment, the defendant had worldwide sales to many customers, most of which operated in countries outside of Canada. The employee would have no way of determining whether a potential customer he sought to contact had been, during the course of his employment, a customer of the company in some other country. As a result, he would potentially be prohibited from contacting any company which could possibly have been a customer of the employer anywhere in the world. The Court of Appeal felt that this was overly broad.

Thus, the Court of Appeal overturned the motion judge’s decision and held that the restrictive covenant was unenforceable.

What can employers take away from this decision?

In considering a non-competition covenant for a particular employee, employers should:

  • Review the employee conduct they are most interested in prohibiting
  • Consider what the true geographic scope of their market is
  • Consider what information the employee might have that would give him or her an unfair advantage should his or her employment be terminated
  • Ask themselves, given the nature of the employee’s job and responsibilities, would a prohibition on solicitation, rather than competition in general, protect the company’s legitimate business interests as well as a prohibition on competition generally?

Given the reluctance of the courts on all levels to enforce such clauses, proper legal advice on their preparation is critical.

Earl Altman
Garfinkle Biderman LLP

Follow me

Earl Altman

Legal consultant at EA Consulting
Earl Altman was a partner at Garfinkle, Biderman and now heads his own consulting firm. Earl has practiced commercial and employment litigation. Earl’s practice focuses on employment disputes, including acting for employees and employers in wrongful dismissal claims, and in breach of contract and breach of fiduciary duty claims. Read more
Follow me
Kindle

, , , , , , , , , , , , , , , ,

Comments are currently closed.