Walker Morris' Commercial Dispute Resolution specialists Gwendoline Davies, Nick McQueen and Rebecca Jackson provide practical advice for businesses concerned to protect against shareholders and counterparties trading in competition.
Why is this case of interest?
Walker Morris has published advice in recent months about how businesses can protect themselves from the risk of employees or ex-employees using confidential information, strategic plans, customer/client details or other important information relating to their employer's business to benefit a rival business, through the imposition and enforcement of restrictive covenants in their employment contracts 1.
The recent case of Score Draw Ltd v PNH International Ltd 2 concerns breaches of restrictive covenants in the wider commercial context, where the restrictions were contained in a shareholders agreement (as opposed to an employment contract).
The case and Walker Morris' practical advice will be of interest to all businesses concerned to understand the strength and enforceability of restrictive covenants made between shareholders and/or commercial counterparties generally.
What practical advice arises.
.in relation to imposing valid restraint of trade provisions?
There can be various traps for the unwary when it comes to the drafting of non-solicitation provisions and restrictive covenants designed to protect against trading in competition. For example:
- The courts will not enforce provisions which are too vague or broad in nature.
- When considering the enforceability of a restrictive covenant, the courts must consider the doctrine of restraint of trade. In the commercial (as opposed to the employment contract) context, the doctrine provides that any contractual term restricting a party's ability to trade will be invalid unless (1) there exists a legitimate interest that the party imposing the restraint seeks to protect; (2) the restraint is no wider than is reasonable to protect that interest; and (3) the restraint is not contrary to the public interest.
- Alongside the doctrine of restraint of trade, a business seeking to impose restrictions on a party's ability to trade must comply with UK competition law 3.
Score Draw v PNH International confirms that restrictive covenants in commercial contracts are, however, generally viewed less strictly than those in employment contracts. In the purely commercial context, the courts will often seek to uphold well-drafted restrictions that have been freely negotiated between commercial parties of equal bargaining power. The courts are also likely to permit a wider range of legitimate interests than would be the case in the employment arena.
In Score Draw v PNH International, the High Court upheld a restriction that was designed to prevent PNH from soliciting or accepting custom from Score Draw's customer, Liverpool Football Club (LFC), for the duration of the shareholder's agreement between Score Draw and PNH and for 24 months after that. The court therefore upheld a much more lengthy restriction than would ever likely be permitted in the employment context.
In order to guard against the potentially devastating consequences of a breach of restrictive covenant, it is essential to ensure that restrictions in commercial contracts are drafted correctly from the outset, with these principles in mind.
.in relation to enforcing valid restraint of trade provisions?
Restraints are generally enforced by means of an injunction. Injunctions are an equitable remedy 4, which may be granted depending on what the court considers fair in all the circumstances.
Businesses may also seek to obtain financial recompense following breach of a restrictive covenant:
- An injured party may claim damages in respect of a breach of a valid restraint of trade provision and the general rule is that damages should place the injured party in the position it would have been in had there been no breach. Generally, this involves the injured party proving that it has suffered financial loss and being compensated accordingly.
- Sometimes, however, breach of a restraint does not necessarily result in easily demonstrable financial loss. Where a defendant has effectively taken something (such as information, contacts or the like), which allow it to solicit business/trade in competition, detriment suffered by the injured party claimant may not necessarily be purely financial. In such cases, damages may be available on the 'gain-based'/Wrotham Park 5 basis.
- Score Draw v PNH International dealt with a third scenario - that is, where assessment of loss to the injured party flowing from the defendant's breach of restrictive covenant involves consideration of the hypothetical actions of third parties. Here the issue was the prospect of LFC continuing to do business with Score Draw were it not for PNH soliciting the club directly, in breach of the valid restriction. The case confirms that, in such cases, damages will be assessed on the loss of chance basis 6.
Businesses should ensure sufficient monitoring and oversight of contractual relationships so as to minimise the risk of restrictive covenant breaches occurring or going unnoticed. IT systems and document retention policies should be reviewed to ensure that they adequately cater for, and mitigate against, the risk of valuable information being lost in the event of a breach.
To proactively prepare for the worst, businesses may wish to implement staff training for senior/key employees or executives, and to adopt policies and procedures, in relation to the urgent, efficient and effective conduct of investigations. Policies should direct the relevant individuals within the business to act quickly in instructing specialist advisers and gathering and preserving evidence (which may be in the form of emails, telephone records, social media accounts as well as traditional documents and witness statements) and to identify any system failures and/or areas of vulnerability.
In the event that breach of a restraint of trade provisions does occur, a business should commence an investigation, including seeking specialist advice 7 and obtaining evidence of damage/likely damage, as soon as possible. Delay can prejudice an injunction application.
How we can help
Protecting against the risk of trading in competition is a complex area of law. Cases can be highly sensitive and inevitably turn on their own facts and specific commercial circumstances. Walker Morris can work with businesses, both pre-emptively when it comes to ensuring that their contractual restrictions are valid, enforceable and offer the best possible protection; and if/when it comes to investigation and potential enforcement action in the event of any [suspected] breach.
Rebecca Jackson, Nick McQueen and Gwendoline Davies in Walker Morris' Commercial Dispute Resolution Team are all experienced and have expertise in all aspects of commercial contract risk management and dispute resolution. Please do not hesitate to get in touch if you have any queries or concerns, and Rebecca, Nick or Gwendoline will be very happy to help.
1. See Protecting employers from breaches of confidentiality and restrictive covenant and Employee injunctions: Recent cases on protecting confidential information for detailed legal and practical advice
2.  EWHC 756 (Ch)
3. Detailed consideration of UK competition law is outside the scope of this briefing. Please do not hesitate to contact Walker Morris' competition specialists, however, if you would like any information or advice in this area.
4. An 'equitable' remedy is underpinned by fundamental fairness and awarded by the court at its discretion, as opposed to a legal remedy that is available as of right to a successful claimant. When exercising its discretion, the court will consider whether the applicant has 'clean hands' (is free of wrong doing him/herself), and whether there has been any delay in bringing the application, which could cause unfairness. See our earlier briefing for further information on injunctions/equitable remedies.
5. See our earlier briefing for information and advice on gain-based/Wrotham Park damages.
6. PNH breached the restriction by trading with LFC directly, which caused LFC not to renew its licence with Score Draw. The court took into account the hypothetical prospect (an 80% chance) that LFC would have renewed that licence but for PNH's breach. It decided that Score Draw should be compensated for the lost chance to renew with LFC, and awarded 80% of the likely profits from a renewed licence.
7. Apart from providing advice on merits and strategy, the involvement of a legal specialist should ensure that the employer's overall position remains protected, and in particular that legal privilege applies, from the outset.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.