Restraint of Trade Clauses in Commercial Contracts

26 MAY 2022

 

What is a restraint of trade clause?

Restraint of trade clauses in commercial contracts (i.e. shareholder agreements, franchise agreements, business sale agreements, share sale agreements etc.) act as a safeguard of a party’s valuable commercial interests and assets.

A restraint of trade is when one party agrees with another party to restrict its future conduct.

Restraint of trade clauses will typically prevent parties from doing things such as:

  • using or disclosing confidential information;
  • competing with the other party by being involved in or establishing a business or entity within a particular industry or specific geographic area; and/or
  • approaching or inducing clients, suppliers, customers and staff of a business.

Enforceability of a restraint of trade clause

At common law, a restraint of trade clause is prima facie void, meaning that they are not enforceable due to being contrary to public policy (i.e. they limit the ability of a party from earning a living and can limit competition). In New South Wales, the presumption is reversed under the Restraints of Trade Act 1976 (NSW) where a restraint of trade clause is presumed to be valid.

However, a restraint of trade clause will be considered to be, or will upheld to be, valid and enforceable if it is reasonably necessary to protect the legitimate interests of the party seeking to rely on it (which will depend on the unique facts at the time the parties agreed upon and entered into the restraint). The onus of proving this rests with the party that the restraint benefits.

If a restraint is not reasonable or does not protect a legitimate interest, then it will be void and unenforceable. However, in New South Wales the Restraints of Trade Act 1976 (NSW) gives the Courts the power to read down the scope and application of a restraint clause and therefore enforce what would otherwise be a void restraint clause.

What is the takeaway?

Given restraint of trade clauses can be considered void and unenforceable or, in New South Wales, read down in terms of scope and effect, it is essential that restraint of trade clauses in commercial contracts are drafted carefully.

Ensuring careful drafting will increase the likelihood of the enforceability of a restraint of trade clause and will better protect a benefitting business’ commercial interests by being able to enforce the restraint contemplated by the parties when entering into the contract.

 

If you would like advice or assistance in relation to restraint of trade clauses or any other commercial matters, please contact, Commercial Law Associate Josef Ferraro on jferraro@marsdens.net.au or our accredited business law specialists and Partners Justin Thornton on jthornton@marsdens.net.au and Rahul Lachman on rlachman@marsdens.net.au or otherwise by calling them on (02) 4626 5077.

 

The contents of this publication are for reference purposes only. This publication does not constitute legal advice and should not be relied upon as legal advice. Specific legal advice should always be sought separately before taking any action based on this publication.

 

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