From PSUs To Private Companies: Enforceability of Employment Bonds in India

Introduction:

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In India, employment bonds are legally valid but subject to judicial scrutiny. The increasing importance of employment bonds stems from organisations makingsignificant investments in the training and development of their employees tobuild a skilled workforce aligned with their long-term goals. However, this becomesa concern when employees exit the organization prematurely, impacting the organisation's investment, interests and goodwill. Therefore, companies developed the practice of requiring employees, particularly those selected for training or skill-development programs, to sign employment bonds. An employment bond is a legal agreement between employers and employees that requires the employee to serve the organization for a specified period. If the employee chooses to resign before the completion of this period, they are obligated to compensate the employer with a predetermined amount as stipulated in the agreement.

Isan Employment Bond Legally Valid?

Section 27 of the Indian Contract Act, 1872 (“Act”) prohibits agreements that restrain a person from exercising trade, lawful profession, or business of any kind are to that extent void. The validity of employment bonds can be challenged under Section 27 of the Act. Employment bonds can be challenged under this section if they impose unreasonable restrictions on an employee's right to livelihood. An agreement is generally presumed to be valid under Section 23 of the Act as long as its consideration and object are lawful. It is when a court finds the agreement to be immoral or contrary to public policy that it is declared void. While employers may protect their interests through such bonds, especially after investing in training, courts consistently emphasize that these conditions must be fair, proportionate, and not coercive. Somewhere, there must be a line between contracts that restrict trade and whose reasonableness the courts may consider and those contracts which merely regulate the ordinary commercial relations between the parties.

Judicial Development

Historically,Indian courts have assessed the enforceability of employment bonds based on theactual loss suffered by the employer due to premature resignation. In the cases of Sicpa India Limited v. Shri ManasPratim Deb ^[1], Kailash Kumar v. M/S SyndicateBank Limited ^[2], Union of India vs Sh. Vineet Laroia^[3], M/S. Sopra India Pvt. Ltd vs Mr Akhil Singhal ^[4], courts awarded compensation considering factorssuch as training expenses, duration of service, and hiring costs, oftenreducing the claimed amount if it appeared excessive or disproportionate. InMay 2025, the Supreme Court brought further clarity in Vijaya Bank & Anrvs Prashant B Narnaware ^[5]. The case revolved around a clausein the appointment letter requiring a 3-year minimum service or payment of INR2,00,000 as liquidated damages. Narnaware resigned early, paid the amount underprotest, and challenged the validity of the bond.

The Supreme Court analysed the bond under Section 27 (restraint of trade) and Section 23 (public policy) of the Act, alongside relevant constitutionalprinciples and established case laws.

Toexamine the validity of the bond under Section 27 of the Act, the Supreme Courtrelied on Niranjan Shankar Golikari v. Century Spinning & Manufacturing Co. Ltd ^[6], which drew a clear distinction between restrictive covenants during employment, which are generally valid, andthose post-termination, which may be void. The Supreme Court clarified thatrestrictions imposed on an employee during the term of employment, such asclauses preventing them from working for another employer or engaging insimilar trade, are generally not considered a restraint of trade under Section27 of the Act. The primary legal concern regarding restraint of trade ariseswhen restrictions extend beyond the term of employment. This position wasreaffirmed in Superintendence Co. (P) Ltd. v. Krishan Murgai^[7],which held that employment agreements containing negative covenants thatrestrict an employee from taking up other work during the term of employmentare not void under Section 27 of the Act.

Since Narnaware was compelled to sign the contract under an unequal bargaining position and forced to accept an illegal condition, he challenged the validityof the contract on the grounds of public policy under Section 23 of the Act. The courts'view on public policy has not been inflexible. The current rule is thatboth general and partial restraints are valid if they are reasonable andlawful. Any restriction on the freedom to contract must be justified asreasonably necessary to protect trade. If the restraint fairly protects theinterests of the covenantee, it will stand unless it violates public policy. TheSupreme Court then referred to Central Inland Water Transport Corp. v. BrojoNath Ganguly ^[8] and opined that if standard contracts areunfair or unreasonable, these contracts or clauses should be declared void toprotect the public and reduce legal burden.

Acknowledging the post-liberalisation challenges faced by public sector banks in retaining skilled personnel, the SupremeCourt found that the clause in question in the present case served a legitimatecommercial interest. The liquidated damages of INR 2,00,000 were deemedproportionate and non-punitive, reflecting the actual costs of recruitment andtraining. Additionally, the Supreme Court distinguished K.Y. Venkatesh Kumarv. BEML Ltd ^[9], noting that the facts in that caseinvolved broader, more restrictive conditions on future employment, unlike thepresent case, which involved a specific, time-bound service requirement.

Ultimately, the Supreme Court upheld theemployment bond, ruling that (a) The clause operated during employment and thusdid not violate Section 27 of the Act;(b) It was not against public policy under Section 23 of the Act, as it was neitherunconscionable nor punitive; and (c) The liquidated damages were proportionateand served a legitimate business interest in retaining trained personnel.

Whilethe judgment specifically addressed a public sector undertaking (PSU), it hasreignited debate around the legality and enforceability of similar employmentbond clauses in the private sector, particularly within private limitedcompanies. The validity of such clauses, whether in public or private sector employment,ultimately hinges on their reasonableness, fairness, and alignment with publicinterest. Notably, the legal status of employment bonds in the private sectorremains under judicial consideration, with a related plea still pendingadjudication before the Telangana High Court ^[10]

Recommendation

TheSupreme Court’s recent affirmation of employment bonds in the public sectorcontext provides a cautiously optimisticpathway for private companies to adopt similar frameworks provided such clausesare reasonably drafted, proportionate, and commercially justified.

UnderIndian law, an employment bond containing a minimum service requirement isenforceable if it meets the following conditions: (a) the tenure prescribed isreasonable; (b) the compensation for breach is a genuine pre-estimate of loss,such as costs of onboarding, training, or relocation; and (c) the clause doesnot constitute coercion or unconscionable terms, as prohibited under Sections23 and 27 of the Act.

Thecore principle is that employment bonds are not, per se, illegal. However,their enforceability depends on reasonableness, fairness, and a clearcommercial purpose.

Clausesthat restrict future employment or broadly bar employability are unlikely towithstand judicial scrutiny. Enforceable restrictions should be limited to theperiod of employment and must directly relate to the recovery of investmentmade in the employees.

In the context of employer-employee relationships, factors like technological advancements, evolving job roles, the need for re-skilling, and retaining specialised talent in a free market must be taken into account when evaluating employment contract terms against the test of public policy.

References

[1]   Sicpa IndiaLimited v. Shri Manas Pratim Deb  (2011)11 DEL CK 0262

[2]   Kailash Kumar v. M/S Syndicate Bank Limited(2017 SCC OnLine Del 12532)

[3]Union of India vs Sh. Vineet Laroia decided on 06 January 2022 – Tis HazariCourt (Delhi)

[4] M/S. Sopra India Pvt. Ltd vs Mr Akhil Singhal decided on 05 December 2012 –Karkadooma District Court (Delhi)

[5]Vijaya Bank & Anr. VERSUS Prashant B Narnaware, 2025 LiveLaw (SC) 565.

[6]Niranjan Shankar Golikari v. Century Spinning & Manufacturing Co. Ltd, AIR1967 SC 1098

[7]Appeal Civil 1933 of 1979

[8]Central Inland Water Transport Corp. v. Brojo Nath Ganguly, (1986) IILLJ171SC

[9]W.A No. 2736 of 2009

[10]https://www.barandbench.com/news/plea-before-telangana-high-court-declare-employment-bond-signed-private-company-illegal

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