Most sale of business contracts contain a restraint of trade provision. This article explores the function of the restraint of trade with regards to buying or selling a business.
What is a restraint of trade?
A restraint of trade is a contractual clause that prevents a person, usually the person selling the business (vendor), from undertaking certain defined activities for a certain period in a certain area. The purpose of this is to stop a vendor from running a new enterprise that competes with the business they have just sold. The restraint of trade is a key term included in the sale of business contract.
If you’re using the standard form business contract in the relevant state, a restraint is usually contained in the general conditions, with the area and period to which that restraint will apply set out in the schedule, or on the first page.
Are ‘restraint of trade’ clauses always enforceable?
Most states of Australia have specific legislation that applies to restraint of trade clauses. The general rule is the restraint will only be upheld to the extent that is it ‘reasonably necessary’ to protect the legitimate business interests of the person seeking to enforce it, in this case, the purchaser.
What is reasonable?
What is reasonable will depend on the relevant facts at the time the restraint was entered into and, in the sale of business context, will involve the examination of such factors as;
- the nature of the business;
- location of the business;
- consideration paid for the business;
- the goodwill of the business;
- the negotiations entered into between the parties prior to entering into the agreement; and
- the terms of any specific special conditions that formed part of the business sale agreement.
Where valuable consideration has been paid for ongoing goodwill, as is usually the case when a business is sold as a going concern, the Courts have generally expressed a willingness to uphold restraints (subject, of course, to the way they are drafted!).
It is important that all the clauses contained in business sale agreements are well drafted and customised to the individual facts of the relevant business and transaction.
If you’re buying or selling a business, make sure your Sale of Business Agreement is drafted or reviewed thoroughly by an experienced contract lawyer. Call LegalVision today on 1300 544 755 for more information about selling a business or if you would like a contract lawyer to help you draft a restraint of trade clause into your business sale agreement.