What if you buy a business and the seller returns a year later and sets up next door?
Restraint of Trade Watchouts
Anyone who has watched Fatal Attraction especially the final scene will know how hard it is to get rid of some people. Many people who buy businesses find the sellers to be helpful people. They transfer the business and then fade away. Other purchasers find that the vendor is a ratbag who will not go away and keeps popping up again and again in their lives.
At first you will be pleased that the vendor has not died of the life threatening illness and/or has overcome the family crisis which was his declared reason for selling. You will appreciate his advice and continued support with your customers and referrers but there comes a time when he must go.
“But he sold the shop, he can’t come back, the contract says so” I hear you say. Well yes, there is usually a “restraint of trade” clause. But these clauses need to be approached with caution and where they are unreasonable they will not be allowed.
“But people wouldn’t buy businesses if owners did not get lost”. Well yes, however judges don’t exactly see it this way. They say, as a starting point, that restraint of trade is contrary to public policy and basically get all funny about it.
Judges want the restriction to stop the vendor from trading in circumstances which would unreasonably detract from the goodwill sold but not further. If you ask for too much they can throw the clause out.
Here is the type of test that a Judge may apply:
1. What activity needs to be protected?
2. Does the restraint protect it?
3. Did the restraint go further than needed?
Academically this works a treat but in practice it is difficult to apply with any certainty.
So here is an example. You bought a Brazilian Wax Business and one year later the owner sets up down the road. You tell him he cannot do that and he replies that restraint of trade clauses are against public policy.
You sue. You find yourself in court within a few days asking for an injunction to close him down. This hearing is an important but preliminary skirmish and a full trial of the issues will take place a year or so down the track. Injunction proceedings are quick but expensive.
The Judge will examine the restraint of trade clause in the contract. It is likely to have three elements:
1. Distance - say a radius of 50 kilometres.
Once you have explained to the Judge what a Brazilian Wax business does he would probably accept that there should be some geographical distance between shops due to the crying and shouting. However 50 kilometres? You would need to emphasise the intimate nature of the business. It is not just a “drop ‘em, rip and tear” operation but requires a degree of intimacy. The judge might liken it to his hairdresser or his tailor. Examples of other clients who are prepared to travel that distance to be tortured would be useful. But maybe 50 km is too far, especially if the shop is in a built up area.
2. Duration - say five years. If the Vendor was to return to the area and start up a competing business within 5 years would this damage the business that he sold to you? I would say yes unless he had developed cold hands.
3. Type of business. Brazilian wax is a very small area of business to restrain. Say the contract restrained “waxing” rather than just “Brazilian Waxing”. It is difficult to know if the judge would allow you to expand the restriction to legs, backs and chests or top lips. He would want to protect the goodwill sold to you. Finger nails may be out of the question.
In practical terms the judge would take into account that you had paid good money and would hopefully stop the vendor carrying on a Brazilian Wax business and maybe a waxing business.
Here are five tips:
1. Think carefully about the terms of the restraint clause. There can be all sorts of restraints: business activities, assisting competition, acting for clients, soliciting past or existing clients and disclosing confidential information.
2. For those “back of a cigarette packet” business purchasers. Make sure you have a restraint of trade clause and get a lawyer to draft it. Mistakes such as not putting in a duration or geographical area can be fatal.
3. Don’t ask for the world; try to limit your request for restraint of trade to what you need.
4. If the business is in a highly populated area insist on a much narrower geographical restriction.
5. Take a careful look at the vendor and ask: Is this person likely to break their word? Are they young? Is their story plausible? Do they seem lazy or simply worn out?
So are judges just out of touch? No, they usually work hard to get the right answer. In one case a judge adjourned a trial while he took a ride on a bus - his first. If the judge in your case decides to have a “Brazilian”, my advice is - sell tickets.
(c) Paul Brennan 2007. All rights Reserved.