Chris Fick & Associates

CF-A2bWhen you sell a business including its “goodwill”, you will likely be prevented from opening up in competition with your old business by a “restraint of trade clause” in the sale agreement.

Your 5 year restraint period lapses – what next?

Restraint clauses have to be reasonable in duration, so somewhere along the line your restraint period will lapse.  And when that happens, you may think that you are now completely free to set up shop again.

But as an important High Court decision has highlighted, this is not entirely correct.  In this particular case the restraint clause itself lapsed after 5 years, whereupon the key individuals involved (effectively the owners of the company that had sold the business), started up again in competition with the buyer.  One can perhaps understand their confident assertion that they were perfectly entitled to do so and to actively canvas their former customers – after all, the buyer had happily agreed to the 5 year non-competition period.

But that’s not all …..

However, held the Court, the restraint clause was not the only restriction on the seller. Because the sale had included “goodwill”, the seller was, even after 5 years, still bound by an “implied prohibition” against the canvassing of former customers.

Critically, held the Court, such an implied prohibition applies to the seller regardless of whether or not the parties have agreed on a specific restraint clause.  In this case therefore, although the buyer and seller had specifically agreed on only a 5 year restraint period, the seller still remained at least partially bound after the 5 years lapsed.

Sellers, Buyers – word your restraint clause correctly

Sellers: Even if by some chance there is no specific restraint clause in the sale agreement, you are still subject to an implied prohibition against canvassing existing customers if the sale includes the “goodwill” of the business.  Avoid doubt and dispute with a restraint clause that specifically overrides any implied prohibitions (unless of course you are happy to never trade in the same field again).

Buyers:  The implied prohibition in your favour is certainly better than nothing, but as illustrated in this case it leaves you vulnerable in certain critical respects –

  • Only the seller itself is bound by the implied prohibition, not key individuals. Thus the seller in this instance (a company) was bound, but the individuals who were merely the seller’s representatives were personally off the hook after 5 years,
  • The prohibition is limited both as to which of a business’ customers it applies to and as to what activities it actually prohibits (a restraint clause will typically prohibit more than just canvassing of existing customers), and
  • Your remedy for certain breaches of the prohibition is a damages claim rather than an interdict – and you may find it hard to prove what damages you have actually suffered.

Have your lawyer check that you are covered by a comprehensive and tightly-worded restraint clause.

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