Case law: Non-compete and other restrictions in business sale agreement can be wider than similar restrictions in employment contract

Buyers negotiating to buy a business should carefully consider what non-compete, non-solicitation and other restrictions on the seller's future business activities to press for in the sale agreement, as such restrictions may be more widely drafted than comparable provisions in an employee's terms of employment, the court has made clear.

A franchisee running hairdressing salons in Windsor and Maidenhead sold her franchise back to the franchisor. The sale agreement provided that she could not compete with the franchisor within an area of two miles around the salons, or employ named stylists, for two years.

Non-compete and non-solicitation clauses are only enforceable to the extent they are necessary to protect the legitimate interests of the person relying on them, otherwise they are unlawful as being 'in restraint of trade'. The seller later claimed the restrictions were in restraint of trade.

The High Court said that restrictions contained in a business sale agreement were more likely to be treated as necessary to protect the legitimate interests of the other party than similar restrictions imposed on, say, an employee who leaves their job.

In this case, the buyer was paying a part of the (significant) purchase price for the goodwill of the business, which included the value of relationships between individual stylists and their clients. The Court therefore said the buyer had a legitimate interest in preventing the seller from poaching those stylists for any new business she set up.

A factor when determining whether restrictions in business sale agreements are in restraint of trade is whether there is inequality of bargaining power between the parties. Here, the Court found that the importance of the factors above outweighed the fact the buyer was in a stronger bargaining position than the seller.

On the issue of whether two years was an unnecessarily long period for the restrictions to apply, the Court said that it had seen such periods in restrictions in business sale agreements before and it had never seen them successfully challenged, so decided they were reasonable. This was in contrast to employer/employee disputes, in which one year was considered the starting point when determining reasonableness.

The Court also held that the geographical two-mile restriction was reasonable. Even though the seller lived in one of the two towns where the salons were located, these were relatively small towns so the danger of losing customers if the seller set up in competition there was therefore greater than in a larger town and could legitimately be guarded against.

Operative date

  • Now

Recommendation

  • Buyers negotiating to buy a business should consider carefully what non-compete, non-solicitation and other restrictions on the seller's future business activities to press for in the sale agreement, as such restrictions may be more widely drafted than comparable provisions in an employee's terms of employment, the court has made clear

Case ref: Rush Hair Limited v Gibson-Forbes [2016] EWHC 2589

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