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Latest from the Supreme Court of Canada on restrictive covenants in the commercial context

On September 12, 2013, the Supreme Court of Canada issued its decision in Payette v. Guay Inc. Although this decision originated in the Quebec courts and involved the application of the Civil Code of Quebec, the Court’s decision also dealt with common law principles and so this case is applicable throughout the common law provinces.

This decision is noteworthy for anyone dealing with restrictive covenants in the context of the sale of a business and is welcome news for businesses seeking to endorse restrictive covenants in order to protect their interests.

The key points made by the Court are as follows:

  • The rules applicable to restrictive covenants relating to employment will differ depending on whether those covenants are linked to a contract for the sale of a business or to a contract of employment. This reflects the imbalance of power that generally characterizes the employer-employee relationship. No imbalance of power is presumed to exist in the vendor-purchaser relationship and so these rules will not have an equivalent in the commercial context.
  • The common law rules for restrictive covenants relating to employment do not apply with the same rigour or intensity where those obligations are assumed in the context of a commercial contract, particularly where the parties negotiated on equal terms, were advised by competent professionals and the contract did not create an imbalance between them.
  • In order to determine whether a restrictive covenant is linked to a contract for the sale of assets or to a contract of employment, it is important to clearly identify the reason why the covenant was entered into. The goal of the analysis is to identify the nature of the principal obligations under the master agreement and determine why and for what purpose the accessory obligations of non-competition and non-solicitation were assumed.
  • A restrictive covenant in the commercial context is lawful unless it can be established on a balance of probabilities that its scope is unreasonable. Thus the burden of proof will be on the vendor to prove that the restrictive covenant is unreasonable.
  • An acknowledgement by the parties subject to the restrictive covenant that the covenant is reasonable is not determinative, but it is a relevant factor and indicator that the Court will consider when determining whether the covenant is reasonable.
  • In the commercial context, a non-competition covenant will be found to be reasonable and lawful provided that it is limited, as to its term, territory and applicable activities, to whatever is necessary for the protection of the legitimate interests of the party in whose favour it was granted. The factors that may be considered include the sale price, the nature of the business’ activities, the parties’ experience and expertise, and the fact that the parties had access to the services of legal counsel and other professionals.
  • While in the case of a non-competition covenant, the applicable territory must be identified, a non-solicitation covenant may be considered reasonable and lawful absent a territorial limitation. In the modern economy, with new technologies and customers who are no longer geographically limited, territorial limitations in non-solicitation clauses have generally become obsolete.

Ultimately, on the facts before it, the Court found that the 5 year non-competition covenant with an expansive territory and 5 year non-solicitation clause were reasonable given the highly specialized and mobile nature of the purchaser’s business activities (crane rentals).

Latest from the Supreme Court of Canada on restrictive covenants in the commercial context

Méfiez-vous des clauses restrictives ambiguës!

La Cour d’appel de l’Ontario a récemment rendu sa décision dans l’affaire Veolia ES Industrial Services Inc. v. Brulé et confirmé que le retrait de termes ambigus dans une clause de non-concurrence ou de non-sollicitation n’est permis qu’en de rares occasions. En 2009, dans l’affaire KRG Insurance Brokers (Western) Inc. c. Shafron, la Cour suprême du Canada a statué que la réécriture de clauses restrictives ambiguës peut prendre deux formes : (i) la divisibilité fictive – attribuer une interprétation atténuée à une disposition contractuelle de façon à la rendre légale et applicable et (ii) la technique du trait de crayon bleu – la suppression d’une partie d’une disposition contractuelle. La cour a confirmé qu’il est possible d’avoir recours à la technique du crayon bleu pour une clause restrictive ambiguë uniquement dans les cas où la partie retranchée peut clairement être séparée du reste de la clause, est dénuée d’importance et ne fait pas partie de l’objet principal de la clause restrictive.

Lorsqu’elle a rendu sa décision dans l’affaire Veolia v. Brulé, la Cour a déterminé que les parties à la clause de non-concurrence n’auraient pas accepté de retirer les mots jugés ambigus sans modifier d’autres dispositions de la clause. La juge Hoy, qui s’exprimait au nom de la Cour, a conclu que les termes ambigus n’étaient pas futiles, puisqu’ils concernaient la durée de la restriction (l’une des parties les plus importantes d’une clause de non-concurrence). La Cour a par conséquent infirmé la conclusion du juge de première instance selon laquelle la clause de non-concurrence avait été violée.

Cette affaire est la plus récente d’une longue liste de décisions canadiennes confirmant clairement que les clauses restrictives ne sont pas perçues de manière favorable par nos tribunaux et qu’elles seront généralement annulées, sauf dans des cas spéciaux. Si les clauses restrictives sont essentielles pour votre organisation, demandez l’avis d’un professionnel et veillez à ce que vos ententes soit claires, car les tribunaux ne déploieront pas d’efforts particuliers pour dissiper les ambiguïtés, le cas échéant.

 

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Méfiez-vous des clauses restrictives ambiguës!

Beware the ambiguous restrictive covenant!

In the case of Veolia ES Industrial Services Inc. v. Brule, the Ontario Court of Appeal recently confirmed that the severance of ambiguous terms in a non-competition or non-solicitation restrictive covenant will only be permitted on rare occasions.  In the 2009 Supreme Court of Canada decision in KRG Insurance Brokers (Western) Inc. v. Shafron, the court stated that severance of ambiguous restrictive covenants takes two forms: (i) notional – the reading down of a contract term to make it legal and enforceable; and (ii) blue pencil – the removal of part of a contract term.  The court confirmed that blue pencil severance of an ambiguous restrictive covenant will only be permitted where the portion being removed is trivial.

In the Veolia v. Brule decision, the court determined that the parties to the non-competition covenant would not have agreed to remove the words which were ambiguous, without varying other terms of the covenant.  Justice Hoy, writing for the court, found that the ambiguous words were not trivial, as they went to the duration of the restriction (one of the most important parts of a non-competition covenant).  As a result, the court overturned the trial judge’s finding that the non-competition covenant had been breached.

This case is the latest in a long line of Canadian decisions which make clear that restrictive covenants are not viewed favourably by our courts and will generally be overturned other than in special cases.  If restrictive covenants are critical for your organization, seek legal advice and try to ensure that there are no ambiguities in the agreement, as the courts will not go out of their way to help cure those ambiguities.

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Beware the ambiguous restrictive covenant!

Oilfield Employee Free to Compete with Former Employer

The recent Alberta decision of ADM Measurements Ltd. v. Bullet Electric Ltd. provides a useful summary of post-employment obligations and the extent to which ex-employees may compete with their former employer.

ADM is an instrumentation business for oilfield companies. As the business grew, ADM decided to hire Gregory Young, through Young’s company Bullet Electric Ltd., to help manage the business. The relationship between the parties eventually broke down and Young and a business partner formed a new competing company, Bullet Energy (Canada) Inc.  Bullet Energy became more and more successful and ADM faltered. ADM commenced an action against Bullet Electric and Young for breach of fiduciary duty.  ADM further made a claim against Bullet Energy, Young and his business partner for unjust enrichment and unfairly interfering with ADM’s contractual relations with its customers and employees.

In reaching its decision to dismiss ADM’s claim, the Court considered a number of issues, as discussed below.

Existence of an Employment Relationship

The first issue considered was whether Young was an employee of ADM.  Young clearly provided services to ADM through Bullet Electric; however, the Court found that Young was an employee of ADM, rather than an independent contractor, based on the following factors:

• Young’s management activities were clearly subject to ADM’s direct control;

• Young assigned work to and supervised other ADM employees and independent contractors, suggesting integration into the business of ADM;

• Young used ADM’s office infrastructure and supplies rather than supply his own;

• Young contracted for his services alone, no subcontractors were used to provide services to ADM; and

• Young received a fixed monthly salary from ADM without any associated risk of expenses.

Post-Employment Obligations

Once it was determined that Young was an employee of ADM, the Court considered whether Young owed any post-employment obligations to ADM and if so, whether he breached those obligations.  The Court found no evidence of any contract prohibiting Young from opening a competing business.  The Court also held that Young was not a fiduciary of ADM: Young did not possess the necessary control over ADM typical of a key employee. Finally, the Court held that ADM had constructively dismissed Young, and that even if Young had contractual non-competition obligations or fiduciary obligations, the wrongful termination ended those obligations.

Interference with Contractual Relations & Causation

The Court went on to consider whether any damages could be awarded against Young, Warnock and Bullet Energy for interference with contractual relations, as a result of former customers and employees of ADM moving to Bullet Energy. Firstly, the Court determined that there was no interference with contractual relationships between ADM and its customers given the precarious nature of the customer relationships in the industry.  Contracts were made for individual “piece-work” tasks and any long-term interaction was informal and not contractual. Young and his business partner, through Bullet Energy, were simply willing to compete with ADM and did so in an aggressive manner. The Court further accepted that while a new employer may be liable for damages caused by interfering with an employee/employer relationship of a competitor, such liability would not be found without extensive evidence. More must be proven than employee migration from the old company to the new one; instead, the old company must prove that the employee migration was due to inappropriate solicitation of former employees. ADM failed to supply any evidence to support such an argument.

The Court further dismissed ADM’s argument that ADM’s shrinking revenues were directly caused by Bullet Energy taking its business. Rather, the Court found that while ADM’s revenue was clearly shrinking, Bullet Energy’s success was most likely caused by Bullet Energy “out hustling” ADM rather than “stealing work” from ADM.

In the result, Young and his new company, Bullet Energy, were entitled to freely compete with ADM.

ADM Measurements Ltd. v. Bullet Electric Ltd.: http://canlii.ca/t/fqhgj

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Oilfield Employee Free to Compete with Former Employer