If you are looking to set up a business in competition with an employer you have recently worked for, it is critical that this is well thought through. This is not only because careful strategy is required for any new start-up to be successful, but because setting up a competitor business can be particularly high risk. This area is heavily litigated and so the potential costs and practicalities need to be carefully considered; we have set out the main considerations below.
What obligations do you have from your previous employment?
There may be explicit and implied contractual obligations that apply both during and after your relationship with your previous employer, these have aim of reducing any action you might be able to take in setting up a competing business whilst employed. Provided that you are not a director, LLP member or partner with fiduciary duties (meaning you must act in the best interests of the business at all times, even at the expense of your own interests) you may generally take ‘preparatory steps’ towards setting up a competitor business without being in breach of your obligations. However, this will be dependent on what your obligations are stated to be and may not be found solely in your employment contract. They may be in a variety of places, including service agreements, shareholders’ agreements, membership or partnership agreements and long-term incentive plans, bonus, or other remuneration schemes.
There may also be implied terms. As an employee, you owe an implied duty of fidelity to your employer whilst you are still employed. Terms that would have previously been implied, such as the requirement to report your own and others’ wrongdoing or disclose information which if you do not could cause damage to the business, are more commonly being added to employment documents as explicit terms and these have generally been enforced by the courts.
What confidentiality and IP considerations are there?
If you have worked for a competing business, you are likely to have access to some of its confidential information until you return business property, hard and soft copies of documents, memory sticks and devices, and permanently delete documents on personal devices or email at the end of your employment. As there are only very few protections for business’ implied in the law, relating to confidentiality and keeping trade secrets once you leave the business, it is likely that there will be some express contractual terms limiting your use of confidential information relating to that business both during and after your employment with it.
Confidentiality restrictions, unlike other post termination restrictions, may not be time limited, although the confidential information may only be relevant or become public after a period of time, after which point there will be no requirement to keep it confidential. Again, confidentiality restrictions are likely to be contained in your employment contract and other employment documents, there may even be a separate confidentiality agreement which you have been asked to sign.
Confidential information is often defined widely to include information on clients and potential clients, pricing, strategies and business terms amongst and can generally be considered confidential if you know information to be commercially sensitive, particularly if this is marked ‘confidential’ and/or password protected and/or there are other security measures in place to prevent certain personnel or the public seeing the information. If you use this information in breach of your contract and this causes damage or might cause damage to the business you are exiting, it is likely that enforcement action will be commenced against you/your new business, as set out below. As an extension of this, businesses are required to keep certain personal data protected and so any attempt to knowingly or recklessly obtain or disclose personal data without the consent of the data controller is a criminal offence under the Data Protection Act 2018, this might include personal data of customers and so care must be taken and legal advice sought, if further guidance is needed.
There may also be limitations on what intellectual property (IP) you are able to use when you leave a business to set up in competition. Generally, any inventions, works, designs, databases or names you have come up with during the course of working for a business and which is relevant to it cannot be used to set up a competing business, without prior authorisation, otherwise you are infringing your employer’s IP rights.
Notice periods and garden leave
Notice periods are usually set out in your contract of employment, and if your employer gives you notice it must be at least the minimum statutory notice period of one week per full year of service up to a maximum of 12 weeks. Employers often have discretion within your employment contract to place you on garden leave, so that you remain away from the office and do not contact colleagues or customers, aside from when instructed to do so, but your other contractual obligations will continue to apply in full.
Garden leave is generally easier for employers to enforce than restrictive covenants and so is a useful tool for your employer to use to protect against the competitive threat you might pose. While you may think garden leave is a useful time to develop your new competing business, you are still restricted by the terms of your contract and your employer will be monitoring your activities carefully to ensure you do not breach those obligations. If there is no contractual right to place you on garden leave you may be able to argue that there has been a breach of contract and so the terms of your contract no longer bind you, but it is recommended you seek legal advice from an experienced employment solicitor first if you are hoping to run that argument.
Whilst you are still employed and bound by the terms of your contract of employment, you are only able to make acceptable preparatory steps so as not to depart from your obligations. As long as there are no express obligations preventing you from doing so, you can purchase an off-the-shelf company, arrange business premises, meet investors and other potential business contacts, take professional advice and prepare a business plan, as long as these things are done outside of your working hours whilst you are still employed and not using your current employer’s resources or contacts.
Restrictive covenants, or post-termination restraints are designed to protect an employers legitimate business interests by limiting activities by former directors, employees, partners, LLP members or shareholders to protect against competitive activities of a rival business. These limitations must be limited in scope and must not go further than reasonably necessary to protect the employer’s legitimate business interests. Legitimate business interests can include protecting confidential information and trade secrets, client contacts, goodwill, relationships with suppliers and maintaining a stable workforce. How reasonable a restriction is will depend on what was reasonable at the point the restriction was agreed and must apply for a fixed period immediately after your relationship with the business ends. If the restrictions are unreasonably restrictive, they will be void for being in restraint of trade and will be unenforceable.
Restrictive covenants are often reduced by the length of time an employee is on garden leave and you should argue this if you have been placed on garden leave immediately before the end of your employment.
Restrictive covenants may include restrictions on your ability to compete, solicit or deal with clients or prospective clients, or non-poaching of employees and non-interference with business contacts like suppliers after you leave your employment. These restrictions will depend on your status within the business and what is reasonable for your particular role in your industry. For more information read our article ‘A guide to restrictive covenants in employment law’.
If two or more people leave a business at the same time to join another competing business, this is a team move. A team move might breach an explicit post termination restriction in your employment contract prohibiting moving and working with another individual you worked with at your former employer. If this destabilises the workforce, particularly if you and/or the other individuals are influential within the business, this might be an enforceable restriction.
It may also constitute a breach of an implied obligation in your contract of employment if you have been discussing moving elsewhere with a current colleague, whilst you both still work for an employer, so that you can both move on to compete with that employer. Considering your own position and future prospects is likely to be seen as more reasonable than recruiting one or more colleagues to organise a competitive business whilst working for the same employer or shortly after having worked together.
If restrictions are reasonable and enforceable and you breach your duties or restrictive covenants, or threaten to do so, and your employer can prove this, they could be entitled to terminate your employment contract without paying you for your notice period or any payment in lieu of notice (PILON). There will also be a loss of any bonus, commission or benefits from any incentive plan if you are still employed.
If you are no longer employed and breach your post termination restrictions your former employer could seek damages from the courts for loss suffered or profit made as a result of your breach. They may also apply for an injunction to prevent you from working for or dealing with a new employer. An interim injunction can be sought within a few days, pending a full hearing, to ask the court to enforce express restrictive covenants or order springboard relief to cancel out any unfair advantage from a departing individual because of the individual’s breach of obligations. If you are sent a letter before action asking for satisfactory undertakings to be given, otherwise the business will issue court proceedings, you should have a strategy for legal advice and inform anyone else involved in the competing business. This is because any financial backers, as well as your new competing business, may be liable for knowing inducement of a breach of contract, causing loss by unlawful means, conspiracy, dishonest assistance in breach of fiduciary duty or misuse of confidential information. You will want to seriously look at what undertakings you could give and remain focused on the interests of your competing business. This may mean avoiding expensive litigation and compromising on a solution, as the cost of defending such claims and potential risk for backers could result in the closure of your competing business.
You could put your former employer on early notice that you consider the restrictions to be unenforceable and that you intend to breach them, to see if they intend to enforce them. Otherwise, you could seek a declaration from the courts as to whether the restrictions are enforceable. This strategy could really help in releasing you from restrictions you might otherwise be bound by, but could be prohibitively expensive and so it is worth seeking specialist advice from an early stage to deploy the best strategy for your business.