Enforceability of Non-Compete Clauses in Employment Contracts

“The Employee shall not, for a period of 2 years after termination of the employment contract, carry or be engaged, concerned or interested, directly or indirectly, in any business which competes with the business of the Company”

Introduction

These clauses are known as “non-competes” because it signifies the employee’s agreement to not compete with the employer’s business by joining a competing business once they leave the company. It is very common to find such clauses (or similarly drafted terms) in employment contracts because employers generally want to safeguard their business by preventing employees from competing against them after learning trade secrets and contributing to its growth.

One can understand why employers do this in anticipation of employees who leave to work for a competitor after they’ve been provided with a considerable amount of resources, training, and opportunities by employers. In a sale of goods business, an employee moving to a competing company may not be so detrimental. But in a service-focused business where the company relies on its front-liners or service providers, there is valuable goodwill built that can be imperative to a company’s business.

On the other hand, employees should not be unreasonably barred from switching jobs and deciding to work for another company. This would amount to an infringement of a very basic right everybody is entitled to. So how are these two competing interests balanced? In this article, we will discuss the legal framework governing these situations.

General Rule

When disputes revolving around non-compete clauses come before the Courts, the Court must first decide if such clauses amount to a restraint of trade post-employment. In the event the Court finds that the clause is a restraint of trade, such clause is rendered void in the face of Section 28 of the Contracts Act 1950 which invalidates clauses that restraint a person from exercising a lawful profession, trade or business of any kind. 

This is different from the Common Law approach where the English Courts apply the “reasonableness test”. In Malaysia, once the Court finds that the clause is a restraint of trade post-employment, there is no discretion and the clause must be declared void subject to the exceptions explained below. Restrictions during the course of employment is allowed and this ties in with an employee’s duty to not be in a conflict of interest.

It must be highlighted that there is a stark distinction between an employee utilizing their personal skills and experiences in a competing business versus an employee stealing trade secrets and confidential information. The former is legal but the latter is not. The Court of Appeal in Vision Cast Sdn Bhd & Anor v Dynacast (Melaka) Sdn Bhd & Ors [2014] MLJU 506 emphazised that the plaintiff must identify sufficiently the confidential information that was stolen and misused in order to claim for a breach of confidentiality. Relying on the wide generic ambiguous clause will not be helpful as employers must ascertain what information/secret specifically was misused by the wrongdoer employee before mounting an action against them.

Employees must remember that even though they are generally allowed to work in a competing business after leaving their previous employer, they still owe certain obligations for confidential and proprietary information obtained during their previous employment. Information such as customers’ names, client lists and details have been recognized as being confidential in nature. 

Exceptions

There are 3 exceptions to Section 28 – i) agreements involving the sale of goodwill; ii) agreements between partners prior to dissolution; and iii) agreements between partners during continuance of the partnership. As employees generally never come within these exceptions, all restriction of trade clauses become void post-employment.

Conclusion

The next question is, why do employers still include such clauses in employment contracts when they are usually void post-employment?

While such clauses can be rendered void, there is no prohibition against including such terms in employment contracts. If an employee is kept in the dark and does not seek legal advice, they may voluntarily avoid joining a competing business. Given that a large portion of employees do not understand their legal rights, many fall victim to the false belief that they are prohibited from working in another company in a similar business.

What can employers do to reduce the number of employees leaving to join competitors?

Employers should simply focus on employee-retention and reducing turnover rate. Investing in iresources to recruit, train and develop employees only to have them leave for a competitor can be hurtful and detrimental to a business. To safeguard themselves, employers must continue incentivizing its employees to stay and grow with the business.