Commercial contracts, such as for a business sale, share sale or shareholders agreements often include a ‘restraint of trade’ clause as a means of protecting the goodwill of the relevant business or company.
What is it?
A restraint of trade clause restricts a party from certain acts or conduct. For example, a restraint clause in a business sale agreement might restrict the vendor from starting a new competitive business within a defined area of the business premises and for a defined period after completion of the business sale.
Restraints can also restrict a party from:
- using or disclosing confidential information or ‘trade secrets’ relating to the business;
- approaching a party’s customers, clients, suppliers, contractors and employees with the aim of soliciting business or employment from them; and
- interfering with the relationship between a party and its customers, clients, suppliers, contractors and employees.
Why do you need one?
The purpose of a restraint of trade clause is to protect a business’s interests and goodwill.
Often when a business is sold, a substantial proportion of the value of the business will be attributable to existing customer, supplier and contractor or employee relationships.
If, after completion of the business sale, a vendor starts a competing business and takes clients, suppliers, employees or contractors with them, the value of the business purchased by the buyer may be substantially reduced, or entirely diminished.
A restraint seeks to prevent such diminution of the value of the business sold.
How do you enforce a restraint?
If a party has breached a restraint clause the other party can apply to the Court for orders to enforce the restraint.
In Australia, the law is that on the face of it, a restraint of trade clause is void and unenforceable unless the party seeking to rely on it can prove that it is reasonable.
In determining whether the restraint is reasonable, the Court will consider whether the party imposing the restraint has a legitimate interest that requires protection. The Court will consider the geographical area of the restraint, the duration, the acts covered by the restraint and the nature of the business.
If the Court finds that the restraint provides adequate protection but goes no further than is necessary and is not against public interest, it will be reasonable and enforceable.
If the Court finds a restraint clause to be unreasonable, it will be void and cannot be relied upon.
Are you adequately protected in your commercial dealings? Please contact Kalus Kenny Intelex if you need advice on your commercial contracts.
