Shareholders agreements and restrictive covenants… An interesting case
DC Employment Solicitors acted in the unusual case of Gardiner Graphics Group Limited v Russell Pay, a sprawling, drawn out case lasting approaching three years from beginning to end. Initially, injunction proceedings in the High Court were threatened against Mr Pay. But as time passed by, the threat of an injunction withered on the vine (such proceedings must be launched very swiftly after a suspected breach is discovered). Instead, the Claimant decided to pursue Mr Pay in the County Court, claiming breach of contract, with the remedy being damages.
The Court had to consider whether the restrictive covenants were reasonable, whether they were breached by Mr Pay and, if so, whether any damage had been caused. As a general rule of thumb, restrictive covenants in a shareholders agreement are likely to be more enforceable than those in an employment contract. However, that does not mean the Company has authority to impose carte blanche any restrictions it wishes, and, in particular, in this case His Honour Judge Glen determined that the matter should be considered from an employment perspective because of the factual circumstances.
Mr Pay had been employed by the claimant group of companies for a considerable time. Following a number of corporate related changes, Mr Pay was offered the opportunity to receive shares in the business (in disputed circumstances), equating to a 0.35% shareholding in the Company. The focus of the case was in relation to the terms of a shareholders agreement, which included provisions that can be summarised as follows:
- Mr Pay was prohibited from being employed/engaged in any business in England and Wales which would be in competition with the Claimant for a period of 12 months after the party in question ceases to be a Shareholder;
- Mr Pay was prohibited deal with or seek the custom of any person that is, or was within the previous 12 months, a client or customer of the Claimant for a period of 12 months after the party in question ceases to be a Shareholder
The question was how and when Mr Pay would cease to be a shareholder. The Shareholders Agreement did not address the point, but the Claimant’s Articles of Association went some way towards dealing with it. They provided that if a shareholder ceased to be an employee of the Company, [he] shall immediately upon the written instruction of the Controlling Shareholder transfer the legal and beneficial ownership of such…Shares… to such person…as the Controlling Shareholder may direct.”
It can be seen that the difficulty for the Claimant in trying to show the restrictions were reasonable was that it had total control as to how and when Mr Pay should sell/transfer his shares. It might decide the transfer should take place immediately upon the termination of the employment. On the other hand, it may decide to never require a transfer. In such circumstances, Mr Pay could be held to the restrictions on working within his chosen career indefinitely.
Mr Pay’s employment ended on 30th September 2019 and within a relatively short time he found employment with another company which had been one of the Claimant’s suppliers.
In brief, the Claimant alleged that Mr Pay was in breach of the covenants in the Shareholders Agreement by (a) joining a competitor and (b) by dealing with 3 of the Claimant’s customers whilst employed by the competitor.
During the case, the main thrust of the argument involved Mr Pay’s contention that the covenants were unenforceable as being an unreasonable restraint of trade.
In a nutshell, the Court decided that the relevant covenants were unenforceable. In coming to this conclusion, the Court considered that in practical terms, the imposition of a restriction on Mr Pay of an indefinite duration.
As His Honour Judge Glen described this position in the Judgement: “A restriction of a potentially indefinite length in the context of a case of this kind was in my judgement unreasonable. Accordingly, clause 8.2 is unenforceable as being in restraint of trade. If this outcome appears harsh from the Claimant’s perspective, it is I fear a product of an attempt to impose restrictive covenants on an existing employee who had not previously been restrained in this way in return for a very modest if not illusory benefit.
The claim was dismissed and costs were awarded against the Claimant.
A more detailed/technical analyses of the case can be found at Gardiner Graphics Group Limited v Russell Pay