Non-Competitive Agreements are executed all over the industry. But sometimes it is deemed to be invalid. In the following case study, we shall try to understand the validity of Non-Competitive Agreement in India and what are the two primary provisions for it to become legally binding upon the parties.

 

Case Study

Mr. Singh, who was a software engineer by profession and formed a start-up named ‘Singh Software Private Limited’ in India. Due to his professional skill, he was able to grow the startup many folds and finally sold it to a Multinational Company at a premium. While selling his company Mr. Singh signed a Non-Competitive agreement, where he agreed that he or any of his immediate relatives or through any of his representatives, directly or indirectly will not form any business in the line of activities of Singh Software Private Limited within a range of 100KM for the next five years from the date of execution of the Agreement.

After a couple of years, Mr. Singh met a friend who wanted to form a company. The idea interested him but the problem was that the new company would be operating close to the old entity. They visited a local Chartered Accountant who said that Non-Competitive Agreement is barred as per Indian Contract Act,1872. Hence, they can definitely form their company.

Post this the new company was incorporated and the operational level activities began. After few days Mr. Singh received a notice from the legal team of the multinational company that they are in breach of the Non-Competitive Agreement. To get the issue resolved the parties approached the Arbitration Panel.

 

Verdict of the Arbitration Panel

After giving the opportunity of being heard to both the parties the panel headed by an ex High Court Judge deliberated-

 Article 27 of the Indian Contract Act, 1872 states

Every agreement by which anyone is restrained from exercising a lawful profession or trade or business of any kind is void to that extent with an exception about ‘goodwill’ where the Act allows ‘non-competitive’ clause on the same.

However, considering the advancement of corporate practice throughout the world which is both competitive and integrated, various Indian Courts have interpreted the same in a way where it allows reasonable restraint among the parties to the agreement. In the case of ‘Niranjan Shankar Golikari Vs the Century Spinning and Manufacturing Company Limited’,  the Hon’ble Supreme Court observed that-“restraints or negative covenants in the appointment or contracts may be valid if they are reasonable”. Thus, when a contract have a reasonable Non-Competitive clause (which specify a specific period and geographical area) and is not against the public policy it can be enforceable.

Over here the Non-Competitive clause mentioned by the buyer clearly highlights a specific period (i.e. 5 years) and place (i.e. 100 KM within the range of activities of the company) and is not against the public policy. Hence, it can be interpreted as a perfectly valid clause and Mr. Singh is in violation of the same. Mr. Singh should immediately stop the operation of the new business and compensate the multinational for the breach of Agreement.

 

Conclusion

It should be noted that any type of Non-Competitive Agreement should have a specific geographical area and time period for it to become valid. Non-Competitive Agreements whether between employer and employee or investor and the founders are quite common in today’s start-up scenario. However, it should be properly executed so that it stands the test of law.