Restraint of Trade Clauses – Getting it Right
By Marianne Marchesi, Associate, MST Lawyers
Restraint of trade clauses (sometimes referred to as non-compete covenants) are commonplace in franchise agreements. Their purpose is to protect the Franchisor’s interests, including, amongst other things, the Franchisor’s goodwill and business model.
A restraint of trade clause refers to a clause that restricts the liberty of the Franchisee to conduct a similar business once the franchise agreement comes to an end. It might also refer to a restriction on the Franchisee having another business during the term of the franchise agreement.
Generally speaking, restraint of trade clauses are prima facie void as they are considered to be anti-competitive in nature and against public policy. However, a clause may be upheld if the Franchisor can show that the clause does not exceed what is reasonably required in the circumstances and protects a legitimate business interest of the Franchisor.
The enforceability of a clause is, therefore, dependent on it being reasonable and necessary to protect a legitimate business interest. As such, “reasonableness” is a crucial element of a restraint of trade clause, the necessity of which is highlighted in the case of Cafe2u Pty Ltd v Bishambu Pty Ltd [2013] FCA 191.
Facts:
Cafe2U is a franchisor of mobile coffee vans in Australia. In 2011 they entered into a five year franchise agreement with Bishambu Pty Ltd (Bishambu). Cafe2U claimed that Bishambu had breached its franchise agreement with Cafe2U by failing to pay fees due under their agreement and running a mobile coffee van and cart in competition with Cafe2U called “Café Metro”. The Café Metro website replicated the Cafe2U menu items and descriptions. It also appeared that the Franchisee was purchasing products from Cafe2U, however using them for the Café Metro business.
Cafe2U terminated the franchise agreement on the grounds of the Franchisee voluntarily abandoning the franchise business, and sought an injunction preventing the Franchisee and Guarantors from carrying on the Café Metro business (or any similar business) for a period of 6 months within the Territory (Glen Waverley).
Decision:
The court found that a non-compete period of six months and the restraint area of Glen Waverley was reasonable, and that the franchise agreement had been validly terminated. It granted the Franchisor an injunction, preventing the Franchisee from continuing to operate a mobile food and beverage business in Glen Waverley for the 6 month restraint period.
The necessity of a reasonable clause is also examined in the New Zealand case of Health Club Brands Limited v Colven Botany Limited [2013] NZHC 428.
Facts:
Health Club Brands (HCB) operated a gym franchise in Auckland, New Zealand. Between 2009 and 2011, Colven entered into franchise agreements with HCB to operate three gyms. In 2013, Colven terminated each franchise agreement on the grounds that HCB had made a misrepresentation to Colven. Following the terminations, the gyms were immediately rebranded and continued to trade under a new name. HCB claimed that Colven’s actions amounted to a repudiation of each of the franchise agreements, and sought to rely upon the restraint of trade clauses in the agreements that prohibited Colven from conducting or being interested in any health and fitness business within an area of five kilometres from the premises formerly operated by them as a HCB franchise gym. If this argument was upheld, the rebranded gym would have to be shut down.
Each of the three agreements involved the same four alternatives as to length of time and area. The clause was to be read as including four successive covenants so as to facilitate the severance of any unreasonable aspect of the clause so that a narrower restraint may still operate. However, in two of the three agreements, additional detail regarding the area had not been completed and in the third agreement there had been a handwritten insertion concerning the area. The first two agreements were incomplete and although the third agreement specified an area, no time limit was stipulated. As such, the incomplete nature of the clauses meant the injunction HCB was seeking had nothing to attach itself to.
Decision:
The court held that due to the incomplete nature of the restraint clauses, the restraints were unenforceable. Although HCB was unable to rely upon the restraint of trade clauses, it was able to enforce the provisions of another clause in the agreement that required the assignment of the lease of each of the premises, thus achieving the same outcome as a restraint of trade clause by compelling Colven to cease trading from the premises.
Both of the above cases serve as a reminder of the importance of properly drafted restraint of trade clauses to ensure that the interests of the Franchisor are protected. In NSW, courts have the ability to enforce a reasonable restraint of trade clause by reading down provisions which may on their face be too widely expressed in terms of area, time or extent. In all other states where there is no such ability, restraint of trade clauses should be carefully drafted and cascading clauses (where there are multiple options) and which allow any unreasonable restraint to be severed should be considered.
For further information on restraint of trade clauses, please contact our experienced Corporate Advisory and Franchising Team on +61 3 8540 0200 or email the author of this article, Marianne Marchesi.
