When buying a business, it is critical to consider how to protect the worth of your investment. If the previous owner establishes the same business next door then the price you paid for any goodwill in the business is likely worthless.
Restraint of trade terms in a sale of business contract can help to protect your interests in these circumstances. They enable a purchaser to restrict where and when a previous owner can establish a competing business. There are, however, applicable restraint laws that need to be considered.
In order for a restraint to be enforceable, it must be:
- Reasonable in the interest of the parties: Does the clause protect a ‘legitimate interest’ or does it go beyond (i.e. too much) protecting that interest? If it is the latter, a court may rule that the clause is unenforceable. For example, restricting a previous business owner from conducting ANY form of business would be unreasonable because it goes beyond protecting the legitimate interests of the purchaser. If, however, the clause does protect the reasonable interests of the purchaser (for example, protecting the business’ goodwill or trade secrets) it is more likely that a court will enforce the clause.
- Reasonable in the interest of the public: If the clause is unreasonable as to the public at large then a court may again rule that it is void and, therefore, unenforceable. As in the case Buckley v Tutty (1971) 125 CLR 353 at 380: the High Court said that “unreasonable restraints are unenforceable as it is contrary to public welfare that a person should be unreasonably prevented from earning a living in whichever lawful way he chooses and that the public should be unlawfully deprived of his services.”.
- Reasonable geographical area: If the restraint purports to put an unreasonable restriction on operating within a geographical area, a court may also find that it is void and of no effect. For example, a restraint which states that the previous business owner cannot trade in the whole of Australia or in the whole of the word, is likely to be unenforceable.
- Reasonable in duration: Excessive restraint upon duration of the restraint, such as restricting a previous business owner from competing ever again or for, say, 15 years, is again likely to be void to be unreasonable and unenforceable.
We have decades of experience in drawing and reviewing sale of business contracts including drafting and amending restraint terms with these common law principles in mind. Please don’t hesitate to contact Meghan Warren to discuss further.