Wed 10 Jul 2019

How enforceable are restrictive covenants?

On 3 July 2019 the Supreme Court issued an important decision on the enforceability of restrictive covenants in the case of Tillman v Egon Zehnder Ltd [2019] UKSC 32.

The facts of the case were straightforward. Ms Tillman was a senior employee at the defendant company. She was subject to a restriction which provided that she would not "directly or indirectly engage or be concerned or interested in any business carried on in competition with any of the businesses of Egon Zehnder" within a 12 month period prior to the termination date and "with which she was materially concerned during such period".

Ms Tillman then left the company's employment and started work at a competitor. She intended to comply with all of her covenants with the exception of the non-compete covenant which she said was an unreasonable restraint of trade and thus void. As an aside, in Scotland at least, the use of the word "void" which appears in a lot of the leading authorities is thought to be slightly misleading as the effect of a finding that the term is a restraint of trade is merely that the contractual provision is unenforceable (McBryde, The Law of Contract in Scotland, 3rd ed., p.537, para.19 -137). Accordingly, any use of that term by the Supreme Court should be read in that context.

The court had to consider the enforceability of the non-compete covenant in light of the words "interested in" and whether these words unreasonably prevented Ms Tillman from holding any shareholding in a competitor. If so, the question for the court was whether the offending part of the restrictive covenant could be severed from the rest of the clause leaving that enforceable. The Judge at first instance had found that severability was possible but the Court of Appeal had disagreed and, accordingly, had found the covenant to be an unreasonable restraint of trade.

The Supreme Court was faced with a problem on the construction of these words because counsel for the company was unable to come up with any meaningful explanation for what the words meant in the context of what was a fairly standard clause. Indeed, the company's position was that the words were possibly just "casual surplusage". The court, understandably, did not think that position was good enough. The natural construction of the words was that it covers a shareholding, whether large or small, and that it is, therefore, an unreasonable restraint of trade unless it is capable of being severed from the rest of the clause.

The court started its analysis of the position on severance by looking at the historical position starting with the well-known case of Chesman v Nainby (1726) 2 Ld Raym 1456 in which Miss Chesman left Miss Nainby's employment as a draper and then helped her husband start a competing business. The court had no difficulty with the notion of severance in that case saying that "if a bond is given, with condition to do several things, and some are agreeable to law, and some against the common law; the bond shall be good as to the doing the things agreeable to law, and only void as to those that are against the law". So historically, there was not an overly restrictive approach to severance.

The court goes on to explain that a markedly different (and more restrictive approach) to severance was suddenly taken in the early 20th century in a series of cases culminating in Attwood v Lamont [1920] 3 KB 571 which also involved a draper's business (drapers apparently moving around as much in the last few centuries as lawyers do in this one!). The defendant had been employed by the business as a tailor and he left to set up a competing business. The impugned covenant provided that he was not entitled to work as a "tailor, dressmaker, general draper, milliner, hatter, haberdasher, gentleman's, ladies' or children's outfitter" and it was argued that this list of prohibited trades was too wide, resulting in the covenant being void.

The divisional court agreed that it was but held that the covenant should be severed so as to enable the reference to all trades to be removed other than that of tailor. The Court of Appeal unanimously disagreed with that conclusion and effectively held that severance was restricted to situations where the covenant was just a combination of different covenants. Severing the list of trades, it held, would entirely alter the scope and intention of the agreement.

The Court of Appeal was not alone in adopting a restrictive approach. In Mason v Provident Clothing & Supply Co Ltd [1913] AC 724 Lord Moulton held that "It would in my opinion be pessimi exempli if, when an employer had exacted a covenant deliberately framed in unreasonably wide terms, the Courts were to come to his assistance and, by applying their ingenuity and knowledge of the law, carve out of this void covenant the maximum of what he might validly have required". Neville J went even further in Goldsoll v Goldman [1914] 2 Ch 608 saying that the doctrine of severance as it applied to restraints of trade was a blot on the jurisprudence and that "It seems to me to be in accordance both with principle and justice that if a man seeks to restrain another from exercising his lawful calling to an extent which the law, even as it now stands, deems unreasonable, the contract by which he does so, whether grammatically severable or not, should be held to be void in toto".

By the turn of this century, however, the courts were beginning to take a very different approach. Beckett Investment Management Group Ltd v Hall [2007] EWCA Civ 613, [2007] ICR 1539 held that severance could apply to a provision in an employment contract whereby the agents of the company's clients were deemed to be clients for the purposes of a covenant. The deeming provision was severable leaving the remainder of the covenant in force.

The Supreme Court recognises the importance of taking a cautious approach to severance. Most employees, it holds, would not be able to decline to accept covenants which would simply be a standard part of the employment contract which they are presented with. On the other hand, high-ranking employees are capable of doing significant damage to the legitimate interests of their employers following termination of employment and they may well have been on a stronger footing to negotiate suitable covenants with their employers. As Lord Denning said in Drapers v Reynolds [1957] 1 WLR 9, 19 "A managing director can look after himself".

The Court of Appeal's extreme decision in the Attwood case was both "controversial and unsatisfactory". Why, asked the Supreme Court, should an unreasonable restraint which was entirely insignificant in the context of the dispute, fail to qualify for severance just because of its place in a single covenant? There was no obvious public policy reason for that rule to exist.

Accordingly, the Supreme Court held that the approach in Beckett was the correct one. Three rules apply. First, that the "unenforceable provision is capable of being removed without the necessity of adding to or modifying the wording of what remains" (i.e. the blue pencil test).  Secondly, the remaining terms continue to be supported by adequate consideration, although normally this part of the test won't arise in a post termination situation. Thirdly, that the removal of the unenforceable part of the covenant doesn't affect the character of the contract.

With that test in mind, Ms Tillman's situation was straightforward. The words "or interested" could be severed without the need to add or modify the words of the remainder of the covenant and by doing so there was no major change in the overall effect of the restraints.

This is an important decision and serves as useful clarification of the law in this area. There is very little authority on this point in Scotland and in the area of restrictive covenants, the Scottish courts have, by and large, sought to follow the approach south of the border. There is some evidence, however, to suggest that the concept of severance isn't as controversial in Scotland as it has been in England. Two cases of particular are worth a read. In Hinton v Higgs (UK) Ltd 1988 SC 353 Lord Dervaird held that part of a covenant relating to confidentiality was severable from the remainder of the covenant (although there is no detailed reasoning provided as to why that was the case). And in Living Design (Home Improvements) Ltd v Davidson 1994 SLT 753 Lord Coulsfield held that the court could sever the unreasonable part of a restriction where that could be done by deletion of the offending part without, in consequence, rewriting the contract or altering the scope of the clause or the intention of the agreement. The latter case in particular seems broadly on a par with the position now reached by the Supreme Court. 

Make an Enquiry

From our offices we serve the whole of Scotland, as well as clients around the world with interests in Scotland. Please complete the form below, and a member of our team will be in touch shortly.

Morton Fraser MacRoberts LLP will use the information you provide to contact you about your inquiry. The information is confidential. For more information on our privacy practices please see our Privacy Notice