This article has been written by Yamini Jain, pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.
An employee is the “human face” of a company who interacts with the clients and has in-depth knowledge about the employer’s client relationships, trade secrets, technological supremacy, etc. In this era of globalization, where competitiveness is at its bloom, every company would seek to protect such confidential information from leaking out to their competitors.
Generally, companies make use of restrictive covenants like non-compete agreements, non-solicitation agreements, non-disclosure agreements, etc. to safeguard their legitimate business interests. These restrictive covenants can range from prohibiting the employee from not starting a business similar to that of the employer, prohibiting the employee from not using proprietary information gained while working with the employer, restriction on working in a specific geographic market, restriction on soliciting the clients and other employees of the company, etc. The purpose of such restrictive covenants is to not allow the other party to use sensitive information and insider knowledge gained by working with the employer to set up a separate business or help the competition.
India has started to accept the concept of such restrictive covenants in light of the prevailing competitive climate prevailing in the market. However, these covenants have been kept on a short leash and are only enforceable based on the scope and type of agreement. For example, a non-solicitation agreement has a better chance of being enforced than a non-compete agreement. Therefore, it is extremely essential to understand the difference between these two kinds of restrictive clauses in an agreement.
Meaning of non-compete and non-solicit clauses
A non-compete clause in an agreement or a non-compete agreement bars the employee from competing with the employer. This kind of clause generally includes a restriction on working for a direct competitor of the employer and entering into a business that would compete with the employer for the same clients. They are applied during the period of employment and after the termination of employment.
For example, Nestle India employs Rachna as manager of the sales department for Maggi of its company. Nestle India can prohibit Rachna from working with Unilever(Knorr) and ITC Limited( Yippie) , its direct competitors during and after the course of her employment.
A non-solicit clause governs the rights of an employee to solicit clients and other employees of the employer after the course of his employment. A business spends a lot of time and resources creating a good customer base and training its employees. Therefore, it’s only natural that they bar the employees leaving the firm to use the relationships that they have formed during their course of employment with the employer unfairly to solicit the customers and employees of the employer.
For example, when J Sagar and Associates hires a lawyer as a partner in their firm, they can include a non-solicitation clause in their employment agreement to prevent the partner from soliciting the clients and employees of JSA that were a part of the firm during his employment. Now the partner wants to leave the firm and start his own practice, he cannot in accordance with the non-solicit clause, solicit the clients and employees of the firm to join him instead.
It would be pertinent to note here that a non-solicitation clause is different from a non-poaching agreement. Where a non-solicitation clause restricts the former employee to solicit clients and employees, a non-poaching agreement is entered into by competing firms/businesses to enter into an arrangement where one party does not poach clients and customers of the other party without following a specific procedure laid down in such agreements.
The enforceability of the restrictive covenants discussed above varies in each jurisdiction. In India, Article 19(g) of the Constitution of India, 1950 guarantees the right of a person to carry on any business, trade, or profession. This right, though not unrestricted, is generally interpreted liberally as it also corresponds with the right to livelihood provided under Article 21. Further, Section 27 of the Contract Act, 1872 provides that any contract which is in restraint of trade would be void. It needs to be ensured that the Non-Compete and Non-Solicit Clause do not infringe the above provisions to be held enforceable.
The courts while determining the enforceability of non-compete agreements have differentiated between the applicability of such agreement during and after the course of employment of the employee. The Apex Court in the case of Niranjan Shankar Golikari v. Century Spg & Mfg Co. Ltd held that a negative covenant operating during the course of employment of the employee wherein the employee is bound to exclusively serve his employer is not void and unenforceable. And even then, the clause should not be unreasonable, unconscionable, one-sided, or excessively harsh. Furthering the argument laid down in this case, the court in the case of Superintendence Company of India v. Krishan Murgai held that a non-compete operating after the course of his employment would be violative of Section 27 of the Contract Act and hence void.
- A restrictive covenant beyond the term of the agreement is void.
- The doctrine of restraint of trade applies only after the termination of the agreement.
- This doctrine applies to all kinds of contracts and is not restricted to employment contracts.
It is clear from the above discussion that a non-compete clause that operates during the course of employment of the employee is valid and can be enforced in a court of law. However, a non-compete operating after the termination of employment will be void and unenforceable.
The cause of such rationale is that if such agreements are enforced post-termination of employment, an employee won’t be able to make use of his skill acquired during the course of his employment to further advance in the business. The employee won’t be able to work in his/her area of expertise. This would infringe the fundamental right of the employee of being able to conduct any trade, business, or service whether under his name or any other employer. This would force the employee to either work for the original employer or sit idle. Hence, it would not benefit the public interest, if a non-compete is enforced post-termination of employment.
The Delhi High Court has upheld the validity of a non-solicit clause as early as 2006 in the case of Wipro Ltd v. Beckman International. In this case, the parties entered into an agreement where they agreed on the operation of a non-solicitation clause for two years after the termination. The respondent looking to operate directly in the market advertised for positions of employees and also specifically mentioned that people who have worked with respondent’s products before would be preferred. The petitioner claimed this as a breach of the non-solicitation clause. It was held by the High Court that a non-solicitation would not be hit by Section 27 of the Contract Act since it is a reasonable restriction.
In another case before the Madras High Court, the scope of non-solicitation was examined by the court. It was held that “merely approaching the customers would not amount to solicitation. It needs to be proved by the petitioner that only on account of such solicitation; customers placed orders with the respondents.” It further listed down certain reasonable restrictions like time, distance, protection, non-usage of trade secrets, and goodwill of the employer which can be imposed on the employees.
The tests applied by the courts in determining the enforceability of the restrictive covenants can be thus encapsulated as such:
- the clause should be reasonable,
- it should be in furtherance of legitimate business interest,
- it should not be restrictive of the employees’ right to trade and livelihood.
To summarise, a non-compete restricts the right of an employee to seek other employment in the same industry completely, whereas a non-solicitation clause only imposes reasonable restrictions on the employee as he is free to work wherever he wants. Therefore, a non-compete is much harder to enforce and is put through a narrower test of reasonability than a non-solicitation clause.
The importance of protecting trade secrets has evolved with the mounting industrialization and along with it, the need for such restrictive covenants. These covenants have now become an undeniable part of every employment contract today. Even the Law Commission of India has recognized this demand and suggested amending Section 27 of the Contract Act to include the test of reasonability within it. However, it has not been incorporated by the legislature yet. Therefore, it is the courts that have to keep the balance between the right of the employer to protect his trade secrets and the right of the employee to carry on any trade or business that he wishes to.
LawSikho has created a telegram group for exchanging legal knowledge, referrals, and various opportunities. You can click on this link and join: