Employee mobility restrictions: a review of India’s sustained approach at restraining the restraint, in light of global trends on non-compete bans

Gerald Manoharan

JSA, Bengaluru, Karnataka

gerald@jsalaw.com

Sonakshi Das

JSA, Bengaluru, Karnataka

sonakshi.das@jsalaw.com

Introduction

In a typical employer-employee contractual relationship, employment contracts and non-compete covenants have arguably enjoyed a yin-yang relationship. Non-compete clauses have been standard in employment contracts world-wide, operative both during and in almost the majority of cases, beyond the employment term for limited durations. Globalisation, increased employee mobility, expanding gig economy, flexible workplace dynamics and technological advancements have introduced additional workforce complexities for employers, resulting in an urgent need to protect legitimate business interests.

The popular rationale in support of non-compete has been to protect an employer from flight of its own intellectual property, confidential information and trade secrets along with an employee who is exiting its own fold to competition. However, over time, regulators worldwide have leaned towards a more liberal interpretation vis-à-vis enforceability of non-competes, fundamentally on the grounds that it impedes an individual’s right to free trade and employability, and from a growing economy perspective, restricts healthy competition.

Global developments in non-compete bans

Regulators, agencies of the government and courts around the world have rigorously scrutinised the necessity and impact of non-compete restrictions in employment relationships. For instance, recently on 23 April 2024, the US Federal Trade Commission (FTC) issued a new rule banning most non-compete clauses in employment contracts nationwide (excepting existing senior executive non-competes and sale of business agreements), with the aim to protect ‘fundamental freedom of workers to change jobs, increasing innovation and fostering new business formation’.^[1] The new rules are set to take effect six months following formal publication. Citing non-compete as an unfair method of competition, the FTC noted that employers can place reliance on alternate strategies to non-competes such as trade secret laws and non-disclosure agreements to protect business interests.

In the same breath, regulators in the UK have consistently demonstrated a perceptual shift from traditional non-compete arrangements, leaning towards newer reforms. A member representative of the UK’s Competition and Markets Authority (CMA) had earlier noted that these laws ‘may need updating’, following the CMA’s report published on 25 January 2024^[2] which revealed a significant prevalence of non-competes in the UK. Of course, this was not the first incidence of non-compete scrutiny in the UK.

Earlier in May 2023, the UK government announced the introduction of legislation to limit the length of non-compete restrictions.^[3] Deliberating on alternate strategies available for employers to protect business interests, it noted that non-compete bans (or limitations) could potentially lead to better employment opportunities, career progression and higher wages. Reasoning in favour of non-compete bans included benefits such as greater clarity for both parties, fewer legal disputes and litigation, fewer barriers to recruitment and ultimately, more labour mobility and the opportunity to further foster the UK’s start-up culture.

In contrast to developments in the US and the UK, the position at EU level is different. While there have been several conversations surrounding non-compete limitations, the European Commission (EC)’s views on non-compete bans in employment contracts may not be absolutely favourable to employees. Being mindful that employers often tend to insist on non-compete clauses, the EC in its policy brief in May 2024^[4] noted that ‘non-compete clauses are generally outside the scope of the Treaty on the Functioning of the European Union (TFEU)’ as they are not agreements between undertakings and hence, from an EU antitrust law perspective, so long as non-competes are compliant with national labour laws, the commission views it as a ‘less restrictive way’ of protecting employers’ interests.

Restrictive covenants and non-compete in India

In the context of Indian workforce management, non-compete restrictions have been heavily built around and reliant on contract law principles, strongly tied-in with judicial deliberations and precedents on the subject. The Constitution of India grants every citizen the right to practice any business, trade or profession. The (Indian) Contract Act 1872 (‘Contract Act’), the bedrock of contract principles and transactional engagements in India, governs enforceability of restrictive covenants and provides that any agreement which restrains a person from exercising a lawful profession, trade or business of any kind is, to that extent, void^[5] (excepting agreements for sale of goodwill, where parties can agree to certain reasonable restrictions for carrying out similar trade or business within an identified geographical area).

In India, unless a non-compete is unconscionable, inexplicably one-sided, unreasonable or excessively harsh, it has generally been upheld in its operation during the period of employment.^[6] Its validity in a post-separation scenario, however, is different. Enforceability of non-competes on conclusion of employment is generally unenforceable in India. Courts have even reviewed these restrictions on a case-by-case basis, and weighted several factors including reasonability of restrictions, threat to confidential and proprietary information and balance of convenience between contracting parties.

Enforceability of post-separation non-compete: an Indian judicial perspective

Driven by the underlying presumption that employers continue to retain and exercise stronger bargaining power in employer-employee relationships, Indian courts have historically interpreted trade restrictive covenants in favour of employees. Courts have generally held that an employee’s right to livelihood ought to prevail over an employer’s interests, notwithstanding agreements between them to the contrary.

The Supreme Court of India and several high courts have consistently opined that enforceability of negative covenants is likely to be based on reasonableness^[7] but the restraint ‘must not be greater than necessary to protect the interest of employer’.^[8] Indian courts have noted that to obstruct an employee who has left service from obtaining gainful employment elsewhere is not fair or proper.^[9] Even tests of reasonability can be overlooked by the judiciary where an employee’s right to free trade and employability is in question. It has been abundantly clear that negative covenants operative post-separation, restricting an individuals’ right to seek employment and/or to do business in the same field as the employer, is in restraint of trade and therefore, a stipulation to this effect in the contract would be void. In other words, no employee can be confronted with the situation where he has to either work for the present employer or be forced to idleness.^[10] Post-separation restraints have been frowned upon on grounds that it limits an employee’s economic mobility, consequently encroaching on their freedom of choice to work and earn a livelihood.

India’s booming IT sector: under scrutiny for enforcing non-competes

India boasts a powerhouse of intellect and an abundance of resource pools. This, coupled with cheaper labour costs, has driven a global preference for talent hiring and resource acquisition from the Indian market. With increasing domestic and global demand for manpower supply, spending on India’s information technology (IT) sector is booming at unanticipated margins.^[11] In the ordinary course, IT employees in India continue to demonstrate frequent entity migration tendencies. Naturally, while advocating protection of business interest in the ultra-competitive IT sector in India, employers are resorting to strengthening existing restraints in fear of competitors gaining unfair business advantages on account of unpredictable labour mobilities.

However, as noted above, such restrictive measures have rarely projected positive considerations for employers. Recently in 2022, IT giant Infosys came under severe scrutiny for enforcing non-competes on exiting employees, preventing them from joining its competitors upon separation. Pune-based IT Employee Union, Nascent Information Technology Employee Senate (NTES) filed a complaint with the Ministry of Labour and Employment seeking removal of such clause on the basis that it is ‘arbitrary, unethical and illegal’ under the Contract Act.

Alternate strategies to protect business interests

Despite its unenforceable nature, provision of non-competes operative post-separation continue to find a place in almost all employment contracts, mostly from a deterrent perspective. Employers have also resorted to restricting employees from starting a competing business after separation, and in some cases, engaging in professional capacities with family and relatives in a similar line of business. With the linear view to protect business interests, employers adopt certain alternate restrictive strategies which, on a fact-specific evaluation, could be enforceable under law.

For instance, proscription on use and disclosure of proprietary confidential information remains enforceable in India. In a landmark case,^[12] it was recognised that the maintenance of confidence is in the public interest and no one should be allowed to profit from wrongful use of information received in confidence. Even where the obligation to maintain confidentiality is not expressly spelt out in contract terms, Indian courts have held that employees have an implied duty to protect confidential information, beyond employment.^[13] Needless to say, in order to protect legitimate business interests, organisations should revisit existing exit formalities, at least for those employees whose exit or movement out of the company may prove beneficial for competitors. In these cases, since a confidentiality breach could be more practically enforced against the employee, efforts can be taken to clearly document and spell out the extent of access and nature of confidential information in possession of the employee at the time of exit, usage of which is likely to unfairly benefit competition and resultantly, cause damage to the employer.

Another preventive measure for employers is to restrict exiting employees from soliciting existing customers and employees. Unlike non-compete clauses, post-separation non-solicits have not been expressly declared as unenforceable under Indian law. Indian courts do not perceive this limitation as a restraint of trade.^[14] Practically, an assertion of a non-solicit right is often challenging in a court of law, as employers would be required to demonstrate, through evidence, that a customer or an employee was actually ‘solicited’, as opposed to having them separate from their own free will. Courts typically may not grant a specific injunction to enforce a non-solicit and may be more inclined towards damages, in certain cases. Non-solicits may be valid depending on reasonability of restrictions on usage of trade secrets and goodwill, dependent on the extent of confidential data in possession of an employee. For instance, merely approaching customers may not strictly amount to ‘solicitation’, unless an active transaction arises out of or results from such approach.

A more prevalent restrictive measure spreading in the Indian market is the provision of garden leave. Employers typically resort to placing exiting employees on garden leave during notice, indirectly aiming to restrict them from joining competitors immediately on separation. Access to office premises and company data is restricted, while the employee continues to receive remuneration for such period. Strictly, since such restriction prevents employees from joining competitors ‘during the employment term’, the validity of garden leaves is not likely to be questioned, provided it is reasonable and does not extend for inordinate durations.

While not the norm, the tendency to seek alternate job opportunities in India is often driven by and is seen to be around the time of revised retainers, increments and bonus announcements. Indian companies have re-structured their financial models and implemented deferred incentive strategies, in a bid to retain senior talent for longer durations and prevent undesirable exits. Deferred incentives have been introduced in senior employees’ salary structures in an attempt to hold them back for extended periods, amidst high attrition and prevailing competition in the job market.^[15]

Conclusion

Restrictive covenants have sustained a traditional presence worldwide. The growing new economic and organisational environment has visibly questioned its existence, and notably, paved the way for an increased urgency for change. Some countries continue with their choice of maintaining old rules, reforms and interpretational adaptations through judicial pronouncements on the subject. Undoubtedly, with the recent amendments in reforms across some of the larger economies, it is only a matter of time before other economies may likely adapt to similar, if not the same, approaches to restrictive covenants and in restraining the restraints.