Non-Compete Clauses in Employment Contracts
Our Associate, Habiba Mokhtar explains the effect of non-compete clauses in employment contracts.
Habiba Mokhtar ([email protected]) – Associate
Non-Compete clauses are commonly included in employment contracts or agreements to ensure the protection of an employer’s business post-termination of the employment relationship. Due to the employee’s access to the business’s trade connections (clients, customers, suppliers), trade secrets and confidential information during their employment, should the employee choose to practice the same profession within the market, they will undeniably hold an unfair competitive advantage that may be used to prejudice the previous employer’s interests. This agreement seeks to limit the employee’s ability to engage in unfair competition by restricting them from starting a competing business, working for a competitor, exploiting their previous employer’s confidential business information or the solicitation of their customers and employees for a specified period after termination. Given the gravity of the restriction on the employee’s right to practice their profession and earn a living, the enforceability of the restriction is not without limitation and will be subject to heavy scrutiny by the courts, only being upheld where certain conditions are satisfied, to ensure that the legitimate interests of the employer are safeguarded and the employee’s right to practice their profession is not unreasonably restricted. This article will address the effect of non-compete clauses in employment contracts by assessing the legal position without their inclusion, and the legal position when they are included and the extent of their enforceability, as well as the legislator’s approach when compensation is pre-estimated in said clause.
Legal Position without a Restrictive Clause
Decree Law No. 36/2012 Issuing the Labour Law in the Private Sector (the “Labour Law”) regulates non-compete-clauses under Article 73 by stipulating that “If the work performed by the employee allows him to know the employer’s clients or to access the work’s secrets, the parties may agree that, after the termination of the contract, the worker may not compete with the employer or participate in any competitive project”. The main principle upheld under this Article, is the preservation of an employee’s freedom to practice their profession, and so in alignment with said principle,the restriction is subject to the parties’ agreement, and if a non-compete clause has not been agreed upon, employees shall be under no contractual or legal obligation to restrict competition with their previous employer post-termination. This is confirmed by the Bahraini Court of Cassation in Challenge No. 25 J.Y. 2021 wherein it was held that “The former employer shall not be entitled to any compensation due to the loss suffered as a result of the employee working at a competing company due to said employer failing to prove that the parties agreed on a non-compete clause in accordance with Article 73 of the Labour Law”.
Legal Position with a Restrictive Clause and Enforceability
Article 73 of the Labour Law further outlines that for a post termination restriction clause to be enforceable the following conditions must be satisfied: (i) the work performed by the employee allows him to know the employer’s clients or to access the work’s secrets, (ii) the employee has completed 18 years of age at the time the contract is concluded, and (iii) the restriction is limited in terms of time to a period not exceeding one year after the expiration of the employment contract, and limited in terms of place and type of work, to the extent necessary to protect the interests of the employer. In addition to said conditions, the employer may not uphold this clause if the contract was terminated through no fault of the employee or if he commits any fault justifying the employee’s termination of the contract.
It is observed that the courts only uphold a non-compete clause where specifically and narrowly tailored to protect the legitimate interests of the employer, without being unduly burdensome on the employee. If the conditions provided in the above article are not satisfied, leading to the unnecessary limitation of an employee’s rights, the agreement shall be considered void, and the employer will lose the protection provided under said clause. An example is observed in the ruling held by the Bahraini Court of Cassation in Challenge No. 131 J.Y. 2008 wherein it was held that “A clause restricting an employee from working in a competitive company without specifying a period for said restriction shall be deemed void”. Additionally, the Bahraini Court of Cassation in Challenge No. 415 J.Y. 2006 held “It is not permissible for the employer to enforce this agreement if the contract is terminated or not renewed without justification. Similarly, the employer cannot enforce this agreement if they commit an act that justifies the employee’s termination of the contract”.
If the above conditions are satisfied, the employer shall be able to pursue a civil claim for the contractual breach, subject to actual damages being materialized and being a direct result of the employee’s breach. While this route allows for compensation for any damages the employer may suffer, it does not provide a way to stop the breach before the damage materializes since an injunctive relief is not applicable under Bahraini Law. Additionally, for said route to succeed it must be proven that the loss suffered by the employer, if any, was a direct result of the employee’s breach. Nonetheless, stipulation of a non-compete provision in employment contracts can ensure that the employer is reimbursed for any actual loss that may be suffered. This was upheld by the Bahraini Court of Cassation in Challenge No. 175 J.Y. 2012 wherein it was found that “The employee shall be liable to pay damages to their past employer, due to the expert report proving that the employee worked in the same field and enticed some of said employer’s workers to join their establishment which led to a decrease in the employer’s sales volume”.
Liquidated Damages in Non-Compete Clauses
In disputes concerning post-termination restrictions, the employer typically bears the burden of proving their losses resulting directly from the breach. However, with a liquidated damages clause, the employer can bypass proving actual losses by stating a predetermined estimate of potential damages. This shifts the burden to the employee to demonstrate that the stipulated amount does not accurately reflect the employer’s actual losses. While at the outset, this may be viewed as a more favourable approach to the employer, since it can be difficult to quantify and link actual losses, it is relevant to note that under Article 630 of Decree-Law No. 19/2001 Issuing the Civil Code (BCC) , the legislator provides that where the compensation agreed upon is overestimated, the clause shall be void in its entirety, even if the conditions required under Article 73 of the Labour Law are satisfied.
In doing so, the legislator deviates from the legal principle upheld in liquidated damages by virtue of Article 226 BCC, which provides that if the stipulated compensation is deemed to be overquantified, the courts have the authority to reduce it in proportion to the actual damages, and the invalidity of a penalty clause does not invalidate the entire agreement; rather, the agreement remains valid and only the pre-estimated amount is nullified. Due to said deviation, should the pre-estimated compensation be considered onerous by the courts in proportion to the damage, the non-compete clause shall be considered void in its entirety, removing any protection that may have been available to the employer. Since it is generally difficult to accurately quantify the actual damages that may materialize, increasing the risk of overestimating losses, it is best that employers refrain from specifying damages in penalty clauses, to ensure that the clause remains enforceable.
Concluding Remarks
While the default position under the Labour Law upholds the protection of an employee’s freedom to practice their profession, the law allows the parties to agree on restricting an employee’s competition post-termination to also protect the employer’s legitimate interests. This is not without limitation and will be subject to (i) the employee being above 18 years of age, (ii) the employee having access to the business’s secrets, (iii) the restricted activity being specified (iv) the geographical extent being specified, (v) the restriction not exceeding one year, and (vi) the employment relationship ending through no fault of the employer. In acknowledgment of an employee’s weaker bargaining power, the courts heavily scrutinize the restriction, only upholding them if the required conditions are satisfied and the breach is sufficient to materialize actual damage to the employer.
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