The efficacy - or otherwise - of covenants
13 August 2007
4 December 2013
11 February 2014
15 January 2014
4 November 2013
22 August 2013
Partners in law firms are more mobile than ever before. Firms are prepared to adopt aggressive expansion policies. The legal press is full of reports of firms making raids for the partners of other firms and of star performers being prised away from their current firms with lucrative remuneration packages. But is it that easy for a partner to move their practice from one firm to another?One factor often overlooked by partners making moves to other firms is the extent to which they are restricted by their current partnership agreements. A firm has a number of ways in which it can restrict the movement of partners. The firm will often require a partner to agree to being placed on gardening leave while remaining a partner, for example.
On leaving the partner may be subject to restrictive covenants. Typically these will be: a non-solicitation covenant, which prevents the partner from soliciting the clients and prospective clients of their former firm; a non-dealing covenant, which prevents the partner from acting for clients of their former firm, whether or not they have solicited their business; and an area covenant, which will prevent the partner from practising in a specific area or acting for clients based in that area.
It is quite remarkable that, in a global marketplace with wireless communication, firms still consider it reasonable to include area covenants in their agreements. These covenants will usually be accompanied by a non-poaching covenant that will prevent the partner soliciting other partners or employees to leave the firm. This may be extended into a covenant not to employ employees of the firm, whether or not the partner has solicited them. There may also be a provision restricting the partner from joining a firm where their former partners are now partners in order to prevent a team move situation.
It is surprising that many partners making their first moves assume that any restrictive covenants they have signed up to are not enforceable. A common complaint of partners in relation to a non-dealing restriction that extends to all the firm's clients is that they have only dealt with a limited number of clients of the firm and have had no contact with the majority of clients and therefore may not know if any particular person was a client of the firm.
It is worth remembering the case of Bridge v Deacons (1984). The covenant in Deacons' partnership agreement was a five-year restriction on acting for any person who had been a client of the firm in the three years prior to leaving. The court upheld the covenant even though the defendant could show that he had had no dealings with 90 per cent of the firm's clients.
So if these covenants are not as useless as may be assumed, why do they not prevent partner moves? High-profile enforcement cases are not common; many firms do not have restrictive covenants; US firms are not allowed to restrict the client's right to choose a lawyer by operating restrictive covenants; clients may be in a position to force a firm to relax its restrictions.
Should firms dispense with covenants? Is it a sign of weakness that a firm has to include restrictive covenants in its constitution, an admission that it has clients that have not become firm clients with many points of contact within the firm? Quite the opposite. Restrictive covenants work best where a client has been integrated within the firm, as they stop the outgoing partner chipping away at the client after leaving. Where a partner has jealously protected his client base, covenants make less sense because the client is generally less willing to work with an alternative from the current firm and more willing to move to the partner's new firm.
Partners will find that, whichever situation the firm finds itself in, restrictive covenants almost always give the firm some bargaining power. If the firm is really serious it will be prepared to pay for its opportunity to win a client away from a leaving partner by putting the partner on gardening leave.