Supreme Court of Canada rules against geographic restriction
The Supreme Court of Canada has ruled a restrictive covenant prohibiting an insurance broker from working within a certain geographic area is invalid because it was too ambiguous.
Morley Shafron owned a Vancouver insurance agency until late 1987, when he sold it to KRG Insurance Brokers. After the sale, he stayed on as an employee of KRG and signed an employment agreement that included a non-competition clause. Shafron and KRG renewed the contract several times, up to a 1998 agreement that expired on Dec. 31, 2000.
The non-competition clause in each contract stipulated Shafron would not be involved in the insurance brokerage business “within the Metropolitan City of Vancouver” for a period of three years after the termination of his employment. The only exception would be if KRG terminated him without cause.
Shortly before his latest contract expired in December 2000, Shafron left KRG. In January 2001, he began working as an insurance salesman for another agency located in Richmond, B.C., a suburb of Vancouver.
KRG sued Shafron for violating the non-competition agreement, claiming Richmond qualified as part of Metropolitan Vancouver. It also said Shafron breached his fiduciary obligations to KRG by using confidential information to solicit its clients for his new employer.
B.C. Supreme Court finds no fiduciary obligation
The B.C. Supreme Court found the restrictive covenant in Shafron’s contract was unreasonable and unenforceable because it did not define the specific geographic area where Shafron couldn’t work after he left KRG. It also found Shafron owed no fiduciary obligation to protect KRG’s confidential information.
KRG appealed the ruling to the B.C. Court of Appeal which, while upholding the decision on Shafron’s lack of fiduciary obligation, had a different view on the non-competition clause. The Court of Appeal agreed the wording of the covenant was ambiguous but found the covenant could be made reasonable by applying the principle of “notional” severance, in which an illegal provision in a contract is “read down” to clarify it and make it legal.
The Court of Appeal used notional severance to determine the term “Metropolitan City of Vancouver” referred to “the City of Vancouver, the University of British Columbia Endowment Lands, Richmond and Burnaby.” This made the covenant enforceable and Shafron should be prohibited from working as an insurance salesman in Richmond for three years, said the Court of Appeal.
Supreme Court of Canada finds covenant unreasonable
That ruling was appealed to the Supreme Court of Canada, which overturned the B.C. Court of Appeal’s decision and restored the B.C. Supreme Court’s original finding that the restrictive covenant was unreasonable.
“For a determination of reasonableness to be made, the terms of the restrictive covenant must be unambiguous,” said the Supreme Court of Canada.
“An ambiguous restrictive covenant will be prima facie unenforceable because the party seeking enforcement will be unable to demonstrate reasonableness in the face of an ambiguity.”
By applying either notional severance or the second type of severance, “blue-pencil” — which involves striking out part of an illegal clause to make it legal — a court is altering the terms of the contract, said the Supreme Court. Severance is used, it said, to achieve the intention of the parties when they entered into the contract but, for one reason or another, were unable to make their intention clear when the contract was written.
However, the intention of both KRG and Shafron was not clear in the restrictive covenant of their contract, said the Supreme Court. The ambiguity of the wording, by definition, made it unreasonable and unenforceable.
The Court of Appeal used notional severance to rewrite the covenant to reflect its view of the parties’ intention, but not necessarily their real intention. This changing of the wording was subjective, said the Supreme Court, and not appropriate.
“There is no evidence the parties would have ‘unquestionably’ agreed to remove the word ‘Metropolitan’ without varying any other terms of the contract or otherwise changing the bargain,” said the Supreme Court of Canada.
The Supreme Court of Canada also ruled out the use of blue-pencil severance to correct the wording.
“There was nothing to indicate what the parties intended by the use of the term ‘Metropolitan’ when they entered into the covenant and nothing to indicate that they agreed on an area and then mistakenly wrote down ‘Metropolitan,’” it said.
The B.C. Court of Appeal had incorrectly applied notional severance to subjectively make the restrictive covenant reasonable, when in fact the covenant could not be amended because of its ambiguity, found the Supreme Court.
“The Court of Appeal imposed what in hindsight seemed to be a sensible arrangement that the parties might have made, but did not.”
For more information see:
•Shafron v. KRG Insurance Brokers (Western) Inc., 2009 SCC 6 (S.C.C.).
Jeffrey R. Smith is the editor of Canadian Employment Law Today, a sister publication to Canadian HR Reporter that looks at employment law from a business perspective. For more information, visit employmentlawtoday.com.
