Restraints of trade clauses become important in the sale of business context and also in employment and other contracts.  This article is written in the context of a sale where the contract contains a restraint of trade clause so as to give some general understanding for readers.

Imagine this…

You might have sold your business some months ago.  On the sale date you resigned as a director, shareholder and employee of the business sold.

Alternatively, the purchaser may have paid a significant purchase price which represents significant goodwill being acquired. You then realise that the purchaser is claiming that your subsequent business or professional activities are in breach of the restraint of trade.

Sometimes allegations of a breach of restraint clause are without merit and are merely about the purchaser being able to assert and unreasonable market capitalisation. The legal position in Australian law and some general tips are set out in this article below.

What is a Restraint of Trade Clause?

A restraint of trade clause is often constructed by a “matrix” in terms of the period, distance and operates commonly in a sale of business context to restrain a person from providing a competing business whether personally or in the capacity as an employee, officer or subcontractor.

In Victoria, the legal position regarding restraints is determined by common law principles.  New South Wales is the only jurisdiction that has enacted legislation regarding restraints of trade.[1]

In considering whether a Court would likely find a restraint to prevent a person from work in a subsequent business it is necessary to consider whether or not the Restraint is valid and whether or not it in fact applies.

Is A Restraint Valid

The common law presumption is that a restraint of trade is void and unenforceable if its sole purpose was to protect against competition because competition is generally encouraged at common law.[2]

Additionally, the Competition and Consumer Act 2010 (Cth)(“CCA”)[3] generally prohibits a company from entering into arrangements, contracts or dealings that substantially lessen competition.  However, restraints made in the context of a sale of business agreement are one of those exceptions to this prohibition.[4]

A restraint in a sale of business contract will generally be considered enforceable when:

(a) there is a legitimate interest;

(b) the restraint is reasonable in consideration of the interest;

(c) the restraint is consistent with the public interest; and

(d) the restraint is not void for uncertainty.

Legitimate interest

Courts have held that Goodwill in an acquired business is a legitimate interest capable of being protected by a restraint.[5]  A Court would generally recognise trade secrets and confidential information as further legitimate interests deserving protection.[6]  The Court would assess the legitimate interest as it existed at the time the agreement was entered into.[7]

A restraint must also be reasonable in order for such restraint to be enforced. 

Reasonableness of Restraint

The reasonableness of the Restraint is considered in light of the legitimate interests being protected.[8]  A restraint is considered valid if it is not more restrictive than necessary to protect the interest.

In determining the reasonableness of the Restraint a Court would look at (a) the Restraint Period; and (b) the Restraint Area.[9] 

Restraint Period

In a sale of business context the courts are more willing to allow a longer period of restraint, provided it is reasonably necessary to protect the legitimate interest.[10]

Courts are willing to take a stricter view in restraints contained within sale of business contracts where a substantial amount of consideration has been paid as the purchase price. For example in Southern Cross v Palmer[11] the Victorian Supreme Court determined that a restraint of four years was reasonable in the context of a purchase price paid to acquire a business for the amount of $3.5 million.

Restraint Area

The Restraint provides a geographical application in the context of a restraint.

The geographical extent of the restraint need be reasonable before a restraint can be enforceable.  In recent cases Courts have been willing to determine an entire State jurisdiction as reasonable.[12]  

The Public Interest

In some circumstances courts have determined that a restraint is invalid because it is not consistent with the public interest. Consideration of the public interest is a factor in sale of business restraints.[13]

However, where parties have negotiated, understood and agreed on a restraint in a sale of business contract it is more likely to be considered as reasonable.[14] It could be unlikely a Court would determine the Restraint to be invalid in the circumstances of the significant goodwill has been acquired.

Void for uncertainty

An uncertain term in a contract can be deemed void for uncertainty.[15]

A matrix, otherwise known as a cascade clause, with respect to the Period and Restraint Area are

generally considered effective where there is no uncertainty or inconsistency between the clauses.[16]

A Court could sever the provision if a severance clause is included in the Agreement, or by operation of law. Whether you are restrained requires consideration of the scope of the Restraint and in light of the legitimate interest sought to be protected.  

For more information contact us at AMK Law so we can give you the advice you need.  The article is of a general nature only and is not to be construed as legal advice nor be relied on in the absence of specific and unique legal advice for your circumstances.

Important disclaimer: The material contained in this publication is of a general nature only and it is not, nor is intended to be, legal advice. This publication is based on the law as it was prior to the date of your reading of it. If you wish to take any action based on the content of this publication, we recommend that you seek professional legal advice

[1] Restraints of Trade Act 1976 (NSW)

[2] See for example Crowe Horwath (Aust) Pty Ltd v Lone (2017) VSCA 181.

[3] Competition and Consumer Act 2010 (Cth) s45

[4] Competition and Consumer Act 2010 (Cth) s51(2) and Part 4M

[5] HRX Holdings Pty Ltd v Pearson [2012] FCA 161.

[6] See Cactus Imaging Pty Ltd v Peters (2006) 71 NSWLR 9.

[7] Lindner v Murdock’s Garage [1950] HCA 48

[8] Nordenfelt v Maxim Nordenfelt Guns and Ammunition Co Ltd [1894] AC 535 at 565; Amoco Australia Pty Ltd v Rocca Bros Motor Engineering Co Pty Ltd (1973) 133 CLR 288 at 315.

[9] See Heydon JD, The Restraint of Trade Doctrine, 3rd Ed (2008) Sydney.

[10] Southern Cross Computer Systems Pty Ltd v Palmer (NO 2)(2017) VSC 460.

[11] Southern Cross Computer Systems Pty Ltd v Palmer (NO 2)(2017) VSC 460.

[12] Auto Parts Group Pty Ltd v Cooper & Ors [2015] QSC 155

[13] Mason v. Provident Clothing and Supply Company Limited (1913) AC 724 at 745

[14] Southern Cross Computer Systems Pty Ltd v Palmer (No 2) [2017]

[15] Neville Rochow Toward A Modern Reasoned Approach To The Doctrine Of Restraint Of Trade, The Western Australian Jurist (Volume 5) p25.

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