For many businesses, senior executives form a large part of the value of its goodwill. They have formulated the strategy, developed the intellectual property, created the relationships with customers, prospective customers and suppliers and are the reason for the loyalty of the employees.
A good senior executive can be the making of a successful business and it therefore naturally follows that they could also be the breaking of it on their departure absent the necessary protections.
The actions of a departing senior executive can pose a huge risk for a business and its shareholders. The greatest concern is often that they will join a competitor or set up in competition. We have seen situations where a managing director leaves and effectively walks off with the business, taking the clients and employees and replicating the existing strategy and arrangements with suppliers.
How to protect your business
There is no automatic prohibition on former employees joining a competitor, which comes as a surprise to some. Whilst the law offers some limited protection against the misuse of confidential information after termination of employment, to the extent that such information is akin to a trade secret, this protection is often not adequate and a breach is difficult to prove.
Restrictive covenants: be prepared for the worst
Businesses can prepare for the risk to some extent with the use of restrictive covenants (sometimes referred to as post-termination restrictions or protective covenants). Whilst it may seem counter-intuitive to be planning for an employee’s departure upon their appointment, businesses should consider reference to such restrictions in any offer letter and the inclusion of restrictive covenants in the employment contracts of key individuals.
Restrictive covenants exist to limit an employee’s conduct post-termination, with the aim of preventing them from damaging their former employer’s business. It is common to see restrictive covenants that, for a defined period, prevent employees from working for a competitor, soliciting or dealing with clients or poaching employees.
Meticulous drafting for an effective outcome
Due to the nature of restrictive covenants, which encroach on an employee’s freedom, their enforceability relies on careful drafting. The restrictions should go no further than necessary to protect the legitimate business interest(s) that the business is seeking to protect, for example, client connections, confidential information and the stability of the workforce. If they are excessive in scope or duration, they will not be enforceable.
Careful consideration should be given to the scope of any restriction, including its length. If the objective behind the restriction is to protect confidential information (such as knowledge of strategy, contract terms and pricing), consider for how long the information remains valuable and capable of benefiting a competitor.
In our experience, it can be difficult to get a business to engage with the preparation of restrictive covenants at the outset of the employment relationship as, understandably, the focus is not on the end of the employment relationship. Fast-forward say, two years, when the executive is leaving and suddenly the finer detail of the restrictive covenants occupies the time and attention of the business if the restrictions already in place are too wide or not clear, they will not be enforceable and the business will not be protected.
We therefore advise businesses take the time during the initial negotiations to ensure that any restrictive covenants are carefully drafted and also to think about updating them as an employee moves up the hierarchy into a senior position or takes on a new role.
Because of the difficulty in enforcing restrictive covenants, a business should also make sure it has the contractual option to use garden leave where appropriate.
Breaching a restrictive covenant
If a business suspects that a former employee is acting in breach of a restrictive covenant it may be possible to obtain an injunction, which is a court order that would compel the employee, and potentially their new employer, to refrain from certain acts.
Alternatively, financial compensation may be sought if the damage has already been done and is quantifiable. A business should be aware that if it employs someone who it knows is misusing confidential information or acting in breach of their covenants then it can also be “on the hook” in any litigation.
It is, however, often the case that such disputes will be resolved out of court after the ex-employer has highlighted the potential breach and the possible consequences via its lawyers. A common resolution is that the employee will give the ex-employer undertakings in relation to their past and future actions. If a business suspects wrongdoing it should seek legal advice at the earliest opportunity as delay could prejudice its position.
The risks posed by ex-employees can be mitigated with foresight and careful planning.
Laura Conway is a senior associate and Blair Adams a partner at law firm Wedlake Bell.