Introduction:
The Hon'ble Delhi High Court (“Delhi HC”), in a recent judgment titled Lily Packers Private Limited Vs. Vaishnavi Vijay Umak and connected matters [1] delivered an interesting opinion on the arbitrability of employment disputes pertaining to negative covenants in employment agreements. The Judgement validated the legality of the lock-in period and other negative covenants during employment. The Delhi HC also held that employment disputes pertaining to negative covenants are arbitrable under Indian laws.
Brief Facts:
The Petitioner (“Company”) and the Respondent (“Employees”) have entered into an employment agreement during 2021-2022. The employment agreement contained a lock-in period clause which stipulated that after the successful completion of the probation period, the Employees would be on a lock-in period for three years with the Company from the date of joining, and the Employees would not be entitled to terminate the employment within this lock-in period. Besides this lock-in period clause, the employment agreement also contained various other negative covenants such as non-compete, non-solicitation, protection of confidential information and trade secrets, etc.
Further, the employment agreement also provided for a dispute resolution clause, which stipulates that in case of any dispute arising out of the employment agreement or any communication, transaction, or dealing with the Company, its division, or its management shall be adjudicated through arbitration.
The Employees went on leave and never returned to work and practically worked only for one year and two months, as opposed to the lock-in period of three years, which led to disputes between the parties. In 2023, the Company issued a notice to the Employees to invoke arbitration as per the dispute resolution clause in the employment agreement. In reply, the Employees did not agree to submit the dispute to arbitration. Aggrieved by the replies of the Employees, the Company moved to the Delhi HC under section 11(6) of the Arbitration and Conciliation Act, 1996 (“Act”).
Submissions of the Parties:
The Company submitted before the Delhi HC that the disputes in the present petitions arise out of the Employees not abiding by the respective employment agreements. Further, the Petitioner company submitted that the employment agreement contains a dispute resolution clause, as per which any dispute that arises between the parties to the said agreements ought to have been referred to arbitration.
On the other hand, the Employees submitted that the present dispute is not arbitrable, because the lock-in clause prohibiting the employee from terminating the employment before three years of joining is violative of the fundamental right to life and employment of the employees, as provided under Article 19, and 21 of the Constitution of India. In support of their arguments, the Employees placed reliance upon various Supreme Court judgments, including Lombardi Engineering Limited Vs. Uttarakhand Jal Vidyut Nigam Limited [2], and Kaushal Kishore Vs. State of Uttar Pradesh & Ors.[3]
Hon’ble Delhi High Court’s Observation:
The two core questions before the Delhi HC in the present matter were:
i. Whether a lock-in period in employment contracts is valid in law, or does it violate the fundamental rights enshrined in the Constitution of India?
ii. Whether disputes relating to a lock-in period in employment contracts are arbitrable in terms of the Act, 1996?
To answer the first question, the Delhi HC referred to an 1885 judgment of Calcutta Civil Appellate Court by the name of The Brahmaputra Tea Co. Ltd Vs. Scarth [4], wherein it was held that restricting an employee to pick a new employment post termination of employment is void, however, such exclusive employment covenants during employment are valid.
Delhi High Court further referred to a 2006 judgement of the Hon’ble Supreme Court titled Niranjan Shankar Golikari Vs. Century Spinning And Manufacturing Co.,[5] which is based on the judgment in Brahmaputra (above), herein too, the Supreme Court had observed that a negative covenant providing for exclusive service during the course of employment are generally not contrary to law. Further, similar observations were also made in the judgement of Percept D’ Mark (India) (P) Ltd. Vs. Zaheer Khan & Anr.[6]
Furthermore, the Delhi High Court relied on Affle Holdings Pvt. Limited Vs. Saurabh Singh [7] wherein it was held that a covenant prohibiting employment or competition post termination of employment is unenforceable.
Based on the above rulings, the Delhi HC held that a three-year lock-in period would not constitute a restraint on the employment of the respondent employees and did not violate any fundamental rights of the Respondent employees.
To answer the second question, the Delhi HC had put reliance upon a 2008 ruling of Delhi HC titled BLB Institute of Financial Markets Ltd. v. Ramakar Jha [8] wherein, there was a lock-in clause of 3 years in the employment agreement, and the employee left the employment only after just one year of service. The court has held that negative covenants during employment are valid, and thus, any employment dispute arising out of such negative covenant shall be arbitrable.
Based on all referred judgments, the Delhi HC finally concluded that negative covenants during the term of employment are valid and enforceable, and any dispute arising out of such covenants shall be arbitrable if the employment agreement provides for arbitration.
The court further observed:
“In the present cases, this Court holds that reasonable lock-in periods in employment contracts that apply during the term of employment are valid in law and do not violate Fundamental Rights as enshrined in the Constitution of India. Hence, in the opinion of this Court, disputes relating to lock-in periods that apply during the subsistence of employment contracts, are arbitrable in terms of the Act, 1996.”
Considering the above discussion, the Delhi HC allowed the petition and appointed a sole arbitrator to arbitrate the dispute between the parties.
Future Implications for Employers:
The Hon’ble Delhi HC has opened a new avenue of discussion for all employers by upholding the arbitrability of employment disputes arising out of negative covenants such as lock-in periods. The judgement is in line with some other High Court rulings, including Weiss Technik India Private Limited Vs. Ms. Bollupalli Madhavilata,[9] wherein the Telangana High Court has held that where a valid arbitration clause exists in an employment agreement or as a separate agreement which encompasses all disputes arising out of the employment agreement, it shall be referred to an arbitrator, and it will not be permissible to retract from arbitration.
The judgement will not only protect employers against the financial burden as a result of training costs of new employees but will also encourage employers to choose arbitration over the labour courts for adjudication of employment dispute resolution.
Going Forward:
Considering this judgement, it becomes pertinent for employers to draft reasonable and robust negative covenant and arbitration clauses in the employment agreement that protect the business interest of the employers.
[1] MANU/DE/4537/2024
[2] (2023) SCC OnLine SC 1422
[3] (2023) 4 SCC 1
[4] MANU/WB/0175/1885
[5] AIR 1967 SC (1098)
[6] (2006) 4 SCC 227
[7] MANU/DE/0152/2015
[8] (2008) SCC OnLine Del 1075
[9] MANU/TL/0403/2021
Authors:
Gyanendra Mishra
Partner
Maruti Nandan
Trainee Associate
Disclaimer: The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.