What is “restraint of trade”?

Restraint of trade is an economic injury that involves interfering with another person’s ability to do business freely.  Restraint of trade is part of antitrust law, but the topic covers a wide range of activities, including:

  • forcing or coercing someone to quit doing business or to change their business so as not to compete in the market;
  • agreeing to fix prices to drive other competitors out of business;
  • creating a monopoly;
  • using noncompete clauses or other contract provisions to keep someone out of business;
  • tortious interference with a contract or business agreement that negatively affects someone else’s ability to do business freely.

In short, a “restraint of trade” is any activity that hinders someone else from doing business in the way that he would normally do it if there were no restraints.  While federal, state, and local governments can pass laws and regulations that create obstacles for certain kinds of businesses, it is generally considered improper for individuals to restrain one another’s trade in certain ways.  Someone who loses business or suffers another injury may have a tort case against another individual whose trade-restraining behavior injured him.

The federal Sherman Antitrust Act makes unreasonable restraints of trade illegal, as well as actionable under the civil law.  The Sherman Act also affects some reasonable trade restraints, such as non-compete clauses, if they are used to drive others out of business, to fix prices, or as a means to create any other result that the Sherman Act forbids.

A non-compete clause, also known as a worker restraint clause or a covenant not to compete, is one type of restraint of trade that is generally considered acceptable as long as it is reasonable.  A non-compete clause usually appears in a contract between a worker and an employer.  It states that the worker will not compete with the employer’s business in a certain way or for a certain amount of time.  Non-compete clauses often require workers to keep proprietary information confidential.

In order to be reasonable, a non-compete clause must:

  • Protect a legitimate interest, such as the employer’s interest in protecting its trade secrets or business connections, and
  • Be limited to reasonable bounds as to time, place, and type of work the employee cannot perform.

For instance, suppose that after ten years working for an engineering company, a mechanical engineer decides to start his own business in the same town as the company he once worked for.  His contract with the engineering company, however, contains a non-compete clause preventing  the engineer for working for anyone else – including himself – in the same kind of engineering field as the company.

A court will be likely to find the terms of the non-compete clause reasonable if they are limited to the geographical area in which the engineering company actually works (such as the city limits) and/or a reasonable amount of time, such as two years.

However, if the clause is too broad, the court may find that it cannot be enforced.  For instance, if the clause states that the engineer cannot work on any kind of engineering project in the world ever again, the court will almost certainly find that it is unreasonably broad.

In order to save a non-compete clause that has unenforceable parts, some courts apply what is known as the “blue pencil test,” after the blue pencils once used by editors to make corrections on written manuscripts.  The “blue pencil test” crosses out the unenforceable parts of the non-compete clause, then re-reads the clause.  If the rest of the clause is reasonable, can be understood by both parties, and can be enforced, the court may uphold that part of the non-compete clause while striking the rest.  The blue pencil test is used to save as much of the parties’ original agreement as possible, while recognizing that some kinds of non-compete agreements are so bad for the market that they should not stand.

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