Readers will be familiar with the principle that covenants in service agreements are more likely to be struck down as unreasonable restraints of trade than those in share sale agreements. One reason for a court’s greater propensity to uphold the latter is the assumption that businessmen of equal bargaining power are the best judges of what is reasonable, in contrast with the inequality of bargaining power inherent in many employer/employee relationships.
From this perspective it might be thought that a covenant included in an agreement negotiated between two law firms would be likely to be upheld. One of the interesting features of the decision in Harcus Sinclair LLP v Your Lawyers Limited and others [2019] EWCA Civ 335 is that that was not the approach or the conclusion reached by the Court of Appeal (“CA”).
The case concerned the enforceability of a covenant contained in a Non- Disclosure Agreement (“NDA”). The covenant prevented Harcus Sinclair LLP (“HSL”) from accepting instructions from Claimants “in the contemplated Group Action” for a period of 6 years. The context in which the NDA had been concluded was as follows. Your Lawyers Ltd (“YL”), a relatively small firm, had been representing a group of thousands of claimants in a group action. Their funding broker suggested that they collaborate with a more experienced firm and introduced them to HSL. The two firms signed the NDS so that YL could provide HSL with information on the group action. HSL agreed in the NDA to keep that information confidential.
YL applied for an injunction to prevent HSL from breaching the covenant. The judge granted the injunction. A number of interesting points emerge from the decision of the CA, which overturned that decision and discharged the injunction.
First, there was an initial dispute about the construction of the clause. The CA upheld the judge’s interpretation. In doing so there was some reference to the principle articulated by the CA in Turner v Commonwealth & British Minerals [2000] IRLR 114 that there was “some interconnection between the question of construction and the doctrine of restraint of trade”, and that in cases of ambiguity, a narrow interpretation should be adopted if that upheld the covenant. This principle has long been a “get out of jail card” deployed by advocates for employers seeking to enforce a covenant that appears to be too wide. The CA declined to consider the principle, on the grounds that there was no real ambiguity in the meaning of the covenant. That approach is consistent with the decision of a differently constituted CA in the case of Tillman v Egon Zehnder Ltd [2018] ICR 574 in which the need for there to be a “genuine ambiguity” before the principle can be invoked was emphasised. If the meaning of the clause is tolerably clear, there is no scope to try to save it by relying on this principle.
Secondly, the CA rejected a submission that the applicability of the doctrine of restraint of trade was a question of fact with which the CA could not interfere. It held that the “main question” was whether the restriction was fair between the parties, and that the test of fairness was whether the restrictions were both “reasonably necessary for the protection of the legitimate interests of the promisee and commensurate with the benefits secured to the promisor under the contract” [70, 81]
The first limb of this test is very familiar. The second – whether the restriction is “commensurate with the benefits secured to the promisor under the contract…” is less so. The way in which the test of enforceability was formulated raises the possibility that a covenant might be struck down even if it extends no further than is reasonably necessary to protect the legitimate interests of the promisee, on the grounds that it is not commensurate with the benefits secured to the promisor under the contract. It is also unclear (and not discussed in the decision) how the test of being commensurate with the benefits under the contract is to be squared with the well-known line of authority (e.g. Herbert Morris Ltd v Saxelby [1916] 1 AC 688) that adequacy of consideration is not relevant when assessing the enforceability of a covenant.
Thirdly, the CA held that the covenant was unenforceable notwithstanding the fact that HSL could be considered the stronger party. It held that “the bargaining position of the parties might be relevant but not when the interest that the covenantee is seeking to protect is one what does not arise under the agreement itself” [87]. The key point for the CA was that the only interest that warranted protection under the NDA was YL’s confidential information, rather than a period of collaboration.
This focus on legitimate interests was crucial to the CA’s decision. Properly understood, the NDA’s sole purpose was to protect YL’s confidential information that it was disclosing to HSL for the purposes of seeking HSL’s legal advice. The NDA was not a collaboration agreement. Had it been, it might have been reasonable for YL to prevent HSL from acting for other claimants outside that collaboration. “The judge’s error was to think that the NDA allowed for a period of information collaboration, which YL has a legitimate right to protect. YL might have had such a right if it had entered into any kind of collaboration agreement, but it did not” [84].
Conclusion
The case highlights the need to identify with precision the legitimate interest(s) said to underpin a covenant in restraint of trade. It is only once this has been done that the exercise of assessing its “fairness” can proceed. In this case, the legitimate interest was discerned by considering the nature of the NDA. In many cases the identification of such interest(s) will normally require evidence – for instance of the nature or shelf life of relevant confidential information, or customer goodwill.
Dan Tatton-Brown QC
