Digital, Commerce & Creative 101: Do I need a non-compete obligation?

What is a non-compete obligation?

A non-compete obligation is a contractual obligation restricting a party from carrying out certain activities (e.g. providing services or supplying products) that compete with the business of another party. These obligations are also commonly referred to as exclusivity clauses and fall within the wider remit of restrictive covenants and restraint of trade clauses (along with other contractual obligations such as non-solicitation, non-interference and non-dealing clauses).

Do I need a non-compete obligation in my agreement?

While non-complete obligations are often included in employment contracts (to protect a former employer’s competitive edge in the marketplace), this note focuses on non-compete obligations in a commercial context.

A contractual party might require another party to comply with a non-compete obligation to protect its business interests; take the following examples:

• In a supply of services or goods agreement, the supplier might obtain or develop know-how, trade secrets or techniques that the customer does not want third parties to benefit from. By going further than imposing confidentiality obligations on the supplier, the customer could impose non-compete obligations which would prohibit the supplier from providing services to the customer's competitors and giving such competitors a competitive edge;

• In a franchise agreement, a non-compete obligation can protect the franchisor's business model, trade marks, and operating methods. After the franchise relationship ends, the franchisee may be restricted from opening a similar business in a competing market. This protects the franchisor from having its business model duplicated by former franchisees who now possess in-depth knowledge of the franchisor’s successful operations.

• In the entertainment industry, a non-compete obligation may be included in an artist’s recording or publishing contract to prevent the artist from signing with a competing label or publisher during the agreement term. This ensures that the label or publisher retains exclusive rights to exploit the artist’s music without the risk of the artist releasing competing works through other channels. Similarly, with an endorsement deal, a brand may include a non-compete obligation to prevent the talent from promoting competing products to ensure that the brand maximises its association with the talent’s image without other activities diluting its exclusivity.

Are non-compete obligations enforceable in England and Wales?

Under English law, non-compete obligations are generally viewed as void and unenforceable under the doctrine of restraint of trade. This is because they interfere with an individual's or a company’s ability to earn a living and are considered contrary to the principles of freedom of trade. However, the courts recognise that in some situations, a party has legitimate business interests that require protection. Therefore, non-compete clauses can be enforceable if they meet certain requirements.

To be enforceable, a non-compete obligation must protect a legitimate interest. The legitimate interests that may be relied on depend on the facts and circumstances but may include the protection of trade secrets, know-how, customer connections, business efficiency, the protection of previous investments made and any goodwill generated. When considering whether there is a legitimate interest, the court can consider the parties' intentions and what was contemplated when entering into the contract.

Second, the protection must be reasonable with reference to the interests of the parties. This means that the non-compete obligation should not go further than necessary to protect the legitimate interest. When considering this , the courts will consider a variety of factors, including:

• the duration, geographical scope and the activities covered by the non-compete obligation. 

• the character of the business, the relevance and level of the consideration being provided for the non-compete obligation, the inequality of bargaining power, the standard forms of contract, whether the non-compete obligation operates during or post-contract and the surrounding circumstances and factual background.

Third, the protection must be reasonable with reference to the interest of the public. This is a wide concept, but generally, the non-compete obligation must not have a detrimental impact on the general public (e.g. it must not negatively impact choice for consumers, negatively impact the environment, or be overly oppressive to a party in a weak bargaining position).

Ultimately, enforceability is judged on a case-by-case basis, with the courts weighing the necessity of the restraint against its impact on trade and the public interest. Non-compete clauses that strike a reasonable balance between protecting legitimate business interests and preserving free competition are more likely to be upheld.

What happens if a non-compete obligation is considered a restraint of trade?

If the non-compete obligation is considered a restraint of trade, the obligation is void unless it is possible for the unreasonable part of the obligation to be severed from the enforceable part of the obligation. The drafting of a non-compete obligation is important to maximise the chance of the courts being able to sever the unenforceable parts.