Given the ever-increasing mobility of today’s workforce, employers need to protect themselves from the damage that can be caused by departing employees. The traditional view of Canadian courts towards restraints of trade is skeptical. The characterisation of a contractual provision as being a restraint on trade is very important in this regard. Once a clause is so designated, Canadian courts will strictly scrutinize it and will not hesitate to strike it down should the Court view the clause as unreasonable.
The British Columbia Court of Appeal recently endorsed a functional approach to the interpretation of restraint of trade clauses. This approach opens up the potential for many more clauses to be subject to strict judicial scrutiny, and in turn findings of invalidity. This decision runs contrary to the current approach in Ontario and could signal a change in the approach of the Canadian judiciary to this critical question.
The plaintiff employee, a young veterinarian, entered into a 3-year associate’s contract with a veterinary clinic primarily engaged in providing services to several dairy farms around Creston, British Columbia. There were no other Canadian veterinary clinics within 100 miles.
The contract included a provision entitled “Non-Competition.” That clause did not prohibit the employee from competing with the employer. However should the associate set up a veterinary practice within 25 miles of the clinic, she would be liable to pay to the clinic a sum of money calculated on the period of time between the end of the contract and the creation of the new practice.
The associate left the practice prior to the end of the contract, and sued for a declaration that the clause was unenforceable.
A key issue was whether or not the clause constituted a restraint on trade, which would render it subject to more scrutiny for reasonableness. The employer argued that the clause contained no prohibition, and was therefore not a restraint of trade.
The Court disagreed.
The effect and size of the penalty (ranging from roughly 1 ½ to 2 ½ times the annual salary under the associate’s agreement) effectively stifled the ability of the employee to compete with her former employer. The Court embraced English law which provided that clauses that burden employees with financial consequences that they would not otherwise have suffered in competing, are a restraint of trade.
Ultimately, the employer succeeded, because despite being a restraint of trade the clause was reasonable. However, the Court was clear that this clause was to be evaluated as a restraint of trade.
How does this affect the law in Ontario?
In Ontario, the leading authority on what comprises a no-compete clause is a 1941 decision called Inglis v Great West Life. The clause in that case ended payments to a departed employee upon that employee starting business with a competitor. The Court of Appeal applied what is called the formalist approach. Under that approach, only clauses that explicitly preclude an employee from competing against their employer are considered to be restraints on trade.
Inglis is still binding authority in Ontario, although trial decisions have indicated that some judges may be more comfortable with the functional analysis employed in this decision. Given that it has been over 70 years since the last decision by an Ontario appellate court on what constitutes a restraint on competition, it could be argued that the approach is due for refreshment. Of course, Inglis dealt with a ‘carrot’ encouraging the employee to abstain from competing, while Rhebergendealt with a ‘stick’.
Restraint of trade clauses are commonplace, but require a great deal of care and planning in order to execute properly. The creativity and careful drafting of this clause enabled it to survive a substantial shift in the law, and to help protect a business from being raided for its customers. Have a look at our previous article on drafting do’s and don’ts. It is critical that employers are aware of the delicacy and vulnerability of such clauses and work with counsel to maximize their protection.