PARTNERSHIP LAW - Restriction of movement.
Clare Murray and Bettina Bender assess the effectiveness of
Clare Murray and Bettina Bender assess the effectiveness of
Do the restrictive covenants in your firm’s partnership agreement really work? Could they realistically prevent a partner from dealing with his former firm’s clients for three years after his departure or from working for any competing firm within the City? The answer is probably yes. However, many restrictions are drafted without proper thought as to what protection is actually required by the firm or without shoring up loopholes that allow creatively-minded partners to slip through gaps.
Despite the highly-mobile culture now prevalent within the accountancy sector, very few prospective partners actually consider what restrictions will apply to them on their eventual departure from their new firm.
Many partners with a client-following which they bring to their new firm, automatically assume those clients belong to them. They believe they are not covered by post-termination restrictions on soliciting, or dealing with any clients of the firm. In the absence of an express carve-out of their clients from those restrictions, the reality comes as a shock and can have a severe impact on the partner’s subsequent marketability.
Typical restrictive covenants found in accountancy partnership agreements include prohibitions, usually for a period of 12 months or more, on the departing partner working for a competitor within a specified geographical area; soliciting or employing other partners and members of staff; and soliciting and doing business with the firm’s clients.
We are more frequently seeing restrictions that seek to prevent team moves, by stating that for a certain period post-departure, a partner cannot go to a firm to which another partner from the firm has recently transferred. Such a provision is as yet untested in the courts; however, subject to proper drafting, there seems little reason why such a clause should not, in principle, be potentially enforceable.
The starting point for construing all restrictive covenants – whether against partners or employees – is that they are void on the grounds of public policy unless they are: (i) necessary to protect a legitimate business interest; (ii) no more than is reasonable between the parties to protect that interest; and (iii) reasonable in the public interest.
Restrictive covenants in employment contracts are typically open to challenge because of the inherent inequality between the bargaining position of the employee and the employer. Restrictions against partners are – apart from the basic starting point referred to above – treated differently, and a separate body of law has developed in the partnership context.
Unlike employees, partners are regarded as parties of equal bargaining power and have greater freedom to determine the terms on which they wish to contract. Partners are also normally regarded as owning the goodwill of the partnership business. When a partner exits a partnership, the remaining partners are entitled to protect their business from the competing activities of the departing partner.
The leading authority on the issue of enforceability of restrictive covenants against partners is a decision taken by the Judicial Committee of the Privy Council in Bridge v Deacons (1984). It decided that, in principle, restrictive covenants in partnership deeds were likely to be reasonable because: (i) they were mutual, i.e. every partner enters into the covenant and may become bound by it (and benefit from it in relation to the activities of his fellow partners); and (ii) the partners were of equal bargaining power and therefore must be regarded as the best judges of what was reasonable in a commercial bargain.
It was considered relevant that the partners in that particular case were lawyers, although there seems little reason why the basic principle should not also apply to professionals in the accountancy context. The decision in Bridge v Deacons means partners can be validly bound by covenants that are much more onerous than those that may be validly imposed on employees.
Whether a particular covenant against a partner is enforceable will depend on the nature of the business the partnership is seeking to protect.
In Bridge v Deacons, a five-year restriction on a solicitor acting for any client for whom the law firm had acted in the previous three years was held to be enforceable, even though the partner in question had only had contact with approximately 10% of the firm’s client base.
The enforceability of a post-departure restriction on soliciting and employing former members of staff, even in a commercial context, has been thrown open by the recent cases of Dawnay Day & Co Ltd and Anor v de Braconier d’Alphen & Others (1997) and TSC Europe (UK) Ltd v Massey (1999). Careful thought needs to be given to the drafting of such clauses, which may otherwise be potentially unenforceable.
The eventual emergence of limited liability partnerships is likely to create difficulties regarding restrictive covenants as it is intended that partnership law will not apply to LLPs.
Further, the move towards true multi-disciplinary partnerships will also create issues for consideration regarding restrictions on soliciting and dealing with any clients of the firm, where certain clients are only being serviced by lawyer partners of the departing accountant partner. All are issues for the management committee and departing partner to bear in mind in future.
– Clare Murray and Bettina Bender specialise in partnership and employment law at City law firm, Fox Williams. This article is one in an occasional series on partnership law
WHERE IN THE WORLD? GEOGRAPHICAL RESTRICTIONS
In relation to many covenants in partnership agreements drafted in recent times, these will seek to restrict the activities of partners worldwide.
They will further seek to include non-solicitation or non-dealing clauses covering not only the clients of the partnership in the country in which the partner is based, but also clients of practices that are associated to the practice at which the departing partner is based. Worldwide covenants may well be held enforceable under English law, especially if there is a worldwide umbrella entity in which each partner has a stake.
Looking at non-competition clauses that seek to prevent a partner working for a competitor within a defined geographical area, once the geographical extent of the covenant is held to be reasonable, the duration of the covenant will generally be upheld. In Nash v Thorp Wright & Puxon (1998) the court held that an eight-year non-competition clause against a vet relating to an area of a 14-mile radius, was enforceable in the particular circumstances.
A non-competition clause that seeks to prevent a partner from working for a competing accountancy firm in the City, or within a limited area surrounding the office where they were previously based would in principle be enforceable.