Protecting your business: gaps and opportunities with the Unfair Non-Competes Bill

If the Unfair Non-Competes Bill passes Parliament and becomes law, business will need to pivot and take various steps to protect its business. These steps will include:

• updating employment contracts;

• increase technological monitoring and protections;

• develop new strategies to protect against unfair competition; and

• focus on employee retention strategies.

In this article, the second in our series examining the Unfair Non-Competes Bill, we look at the gaps and opportunities with the Unfair Non-Competes Bill.

What about the duty of good faith and fidelity?

In every employment contract there is an implied duty of good faith and fidelity. The NSW Supreme Court in Digital Pulse Pty Limited v Christopher Harris and Ors [2002] NSWSC 33, provided a good summary of the duty:

20     An employee has a duty to act in the interests of the employer with good faith and fidelity…

21     The obligations imposed by the duty are not coterminous with the employee’s normal working hours: they govern all the activities of the employee, whenever undertaken, which are within the sphere of the employer’s business operations and which could materially affect the employer’s business interests. Whether a particular activity could materially affect the employer’s business interests is a question of fact and degree.

22     The duty of loyalty requires that an employee not place himself or herself in a position in which the employee’s own interest in a transaction within the sphere of the employer’s business operations conflicts with the employee’s duty to act solely in the employer’s interest in relation to that transaction. A fortiori, an employee may not take for himself or herself an opportunity within the sphere of the employee’s business operations without the employer’s fully informed consent.

23     When the employment ceases, the employee is free to compete with the employer unless subject to a valid contractual restraint on competition. The employee may take away and utilise the benefit of personal relationships built up with particular customers of the former employer and may solicit any customer whom the employee can recall without the aid of a list taken from the former employer and without deliberate memorisation of a customer list. The employee may not, however, use for his or her own benefit confidential information of the former employer, whether to solicit business from the former employer’s customers or to carry out work for such customers even if unsolicited. 

While employed, an employee must act in the best interests of their employer. It is obvious therefore that taking steps to compete, solicit clients and poach staff, whilst employed, would be a breach of the duty of good faith and fidelity. It would be acting in conflict with the employer’s interests and plainly disloyal.

There are also important statutory obligations in the Corporations Act 2001 (Cth) imposed on employees to not:

• improperly use their position to gain an advantage for themselves or someone else or cause detriment to the company; and

• improperly use information obtained during their employment to gain an advantage for themselves or someone else or cause detriment to the company.

Senior staff also have a duty to exercise their powers and discharge their duties in good faith for the best interests of the company.

As explained in our earlier article, the non-compete provisions in the Unfair Non-Competes Bill prevent a person from being involved in a competing business or employment subsequent to the employee’s employment ending. As such, any prohibition in the Unfair Non-Competes Bill would not prevent an employer stopping an employee having other employment or competing interests while employed.

The co-worker non-solicitation term however is not limited to when an employee can be restricted or prohibited from recruiting a co-worker. Presumably, they can do so at any time, including during employment. The Unfair Non-Competes Bill appears to fail to protect business in this respect.

The NSW Supreme Court said in Wilson HTM Investment Group Limited & Ors v Pagliaro & Ors [2012] NSWSC 1068, there are legitimate and illegitimate means of poaching talented staff. The using of one’s position and confidential information, contrary to the duty of good faith, would be illegitimate.

It therefore remains to be seen whether the Unfair Non-Competes Bill does encroach on the duty of good faith and fidelity when it comes to poaching employees during employment. It appears to us that the draft co-worker non-solicitation provisions are intended to be broad reaching rudely encroaching on the duty of good faith.

Retaining talent and preventing mass exodus

The Unfair Non-Competes Bill allows employment arrangements that provide for additional remuneration or other benefits to encourage retention of employees.

It is not uncommon for bonuses and incentives to be paid conditional on employees being employed at a particular time and not having resigned before payment is made. This is a retention strategy. However, once paid, an employee may choose to leave with others.

To the extent the duty of good faith is neutered, any incentive arrangements may need to be re-cast to encourage longevity with the business. You may have contractual ‘claw-backs’ if an employee leaves too soon after payment of any incentive.

Non-compete clauses – are they needed for all your staff?

Non-compete clauses are common in employment contracts but are often difficult to enforce.

The difficulty arises because Courts generally consider such restraints are against the public interest. An employee has the right to work and earn a living. Businesses are often adequately protected by restraints against misuse of confidential information and non-solicitation of client clauses. However, some employees in senior roles or client facing roles have access to confidential information that provides them with an unfair advantage against their employer in competition. It is hard to separate that information from their knowledge and even harder to protect in this technological age. In that context, non-compete clauses have a real advantage if limited in scope and time.

As such, employers need to worry about these amendments with respect to their employees that have access to confidential information or direct influence over customers where restraints against soliciting customers is not itself adequate protection. Employers will need to develop different strategies to protect customer connection.

Other than for those critical staff, there may be an argument that the provisions of the Unfair Non-Competes Bill may have limited practical impact on other staff.

What makes up an employee’s earnings?

Under the Unfair Non-Competes Bill, non-compete terms are unlawful for employees whose annualised full-time equivalent earnings are equal to or less than the high income threshold. An employee’s earnings are essentially their wages and the agreed monetary value of non-monetary benefits. Earnings do not include superannuation, reimbursements and payments the amount of which cannot be determined in advance (like bonuses and incentives).

Where non-compete clauses are needed, employers are best to consider their reward structures more carefully and determine whether incentives etc. are best included in the employee’s earnings to be entitled to have the benefit of non-compete clauses.

What is not a non-compete term?

Employees earning equal to or less than the high-income threshold, have the right to be free of a non-compete term. A non-compete term does not include a term or condition that:

• restricts, prohibits or prevents the employee from using or disclosing confidential information that has come to the knowledge or possession of the employee by reason of their employment;

• provides for additional remuneration or other benefits to encourage retention of the employee; or

• relates to agreed notice periods.

Employers need to pivot to:

1. update and strengthen protections against misuse of confidential information that includes multi-faceted strategies addressing contractual and technological protection;

2. update and strengthen incentive arrangements to encourage retention; and

3. increase notice periods for critical staff to provide a de facto non-compete period through gardening leave arrangements.

What is not an employment arrangement?

An employment arrangement cannot include non-compete terms. As said in our earlier article, what is an employment arrangement is broadly defined. The definition includes “a deed between the employer and the employee”. Under the FW Act, an employee and employer have their ordinary meaning: s 11. You are only an employee whilst employed. After employment has ended, you are a former employee and not an employee.

An employment arrangement is any other agreement that regulates the employment relationship. There can be no employment arrangement without an employment relationship.

A question arises whether, after the employment relationship has ended, a business can settle a dispute that includes a payment in return for a non-compete or co-worker non-solicitation term. If such a term is permitted after employment has ended, in a settlement agreement, the restraint will presumably be subject to the common law.

An employment arrangement will also not include sale agreements or shareholder agreements to the extent it regulates the sale or shareholding. Businesses need to consider the utility of these arrangements to restrain key staff.

The “necessary and reasonable” test

The High Court of Australia in Lindner v Murdock's Garage (1950) 83 CLR 628 said:

It is well established that prima facie all restraints upon trade are invalid, but that they may be upheld if the party seeking to enforce them shows that circumstances exist which make the restraint reasonably necessary for protection of a covenantee's business and that it is not contrary to public interests. 

Many commentators say the Unfair Non-Competes Bill seeks to codify the common law. It has not been missed by us that Treasury says the Unfair Non-Competes Bill “strengthens” the law on restraints. It remains to be seen whether the language of “necessary” means that a more onerous test is applied in determining the enforceability of restraints.

Cascading clauses – choosing the lowest period to enhance reasonableness

Given the prohibition on cascading clauses, and the “necessary and reasonable” statutory test, businesses are encouraged to adopt the lowest effective restraint.

Adopting a restraint for 12 months, when you only need 6 or 3 months, will mean that a prudent business will be best placed by adopting 3 months than trying for 6 months in hope. Better use of gardening leave provisions, more sophisticated client retention policies and technology is encouraged as the stopgap.

Takeaway

It can be seen that there is a bit in these new laws. Business needs to be more sophisticated in their approach to protecting the business. This extends beyond contractual terms and considering reward, customer connection and technological strategies.

We recommend businesses give serious consideration to a comprehensive protection plan to ensure departing employees do not unfairly interfere with business interests.

Author: James Mattson

See also:  Protecting your business - getting ready for significant change with post-employment restraints

This publication is intended as a source of information only. No reader should act on any matter without first obtaining professional advice.