The Victorian Court of Appeal has recently held that restraint of trade clauses in employment contracts are unenforceable against a former employee if they have been repudiated by the employer and the employee has accepted the repudiation and terminated the contract.

Background

The respondent, Mr Loone, was a senior accountant employed by the financial services provider Crowe Horwath Australia (CHA). Following a dispute over the payment of his bonuses and changes to his position within the company, Mr Loone left CHA and started his own accounting firm.

The applicant, CHA, argued that a restraint of trade clause in Mr Loone’s contract of employment precluded him from:

  • engaging in competition with CHA in a business situated within 5 kilometres of the location where Mr Loone had worked for CHA; and
  • soliciting work from CHA clients that he had dealt with directly.

The period of restraint was 12 months following the termination of employment and this was to survive the termination of the employment in all circumstances and for any reason.

Issue to be determined

The primary issue was whether CHA could enforce the restraint of trade clause in Mr Loone’s contract of employment post termination.

The respondent, Mr Loone, contended that when he accepted the applicant’s repudiation of the contract it was terminated and the restraint of trade clause ceased to apply. This will be further explained below.

Restraint of trade clauses

Restraint of trade clauses are commonly used in contracts of employment to prevent or restrict former employees from practising their trade or profession for a period of time and/or within a particular geographic area of their former employer. Their purpose is to protect employers by preventing employees from utilising confidential information and trade secrets or from poaching former clients when they resign.

Traditionally a restraint or trade clause is considered to be void at common law unless they are considered reasonable from the perspective of the public’s interest as well as between the parties to the restraint as per the Court in Nordenfelt v Maxim-Nordenfelt Guns Co Ltd (1894) AC 535.

Crowe Horwath Australia’s submissions

CHA on appeal from the Victorian Supreme Court argued that:

  • Justice McDonald had erred in his determination that the contract was terminated by Mr Loone’s acceptance of the repudiatory conduct by CHA; and
  • That even if the contract did terminate in those circumstances, the restraint of trade clause continued to operate.

CHA further argued that upon discharge by breach, not all obligations contained in a contract are divested or discharged. The intentions of both parties combined with the purpose and object of the restraint clause demonstrated that it was intended to regulate Mr Loone’s post-employment conduct. It had a manifest purpose, namely, the protection of CHA’s goodwill and customer connections.

Further, CHA submitted that because they had performed the whole of the contract they had unconditionally acquired the benefit of the restraint clause. The parties had bargained for the contract and agreed to a post-employment restraint, the nature of which would not vary with the termination of the contract. This was because, while the contract might come to an end, the employer’s need for protection of that interest remained.

Mr Loone’s submissions

The respondent, Mr Loone contended that CHA had repudiated the contract through their conduct which included:

  • their failure to comply with their contractual obligation to make bonus payments in full when they sought to defer 20% of the amount for three years without Mr Loone’s consent; and
  • the diminution of Mr Loone’s responsibilities as Managing Principal.

When Mr Loone then elected to terminate his employment because of this repudiatory conduct, CHA argued that the restraint of trade clause survived termination.

In regard to the power to repudiate, counsel referred to the High Court’s decision in Shevill v Builders Licensing Board (1982) 149 CLR 620 which found that:

“A party may repudiate a contract by renouncing its liabilities under it whether by evincing an intention no longer to be bound by it or by showing that it intends to fulfil the contract only in a manner substantially inconsistent with its obligations and not in any other way.”

Mr Loone submitted that the unilateral action taken by CHA to strip him of his management responsibilities and withhold his bonus payments would have conveyed to a reasonable person in his position the renunciation by CHA of a fundamental obligation under the employment contract.

These breaches went to the heart of the contract amounting to repudiatory conduct by CHA.

Therefore, when Mr Loone accepted this repudiation it terminated both the contract and the application of the restraint clause.

Court of Appeal’s findings

Justices Ashley, Priest and Beach dismissed the appeal and affirmed the decision of Justice McDonald in the Supreme Court.

CHA was held to have repudiated its contract of employment with Mr. Loone when they made changes that effected the payment of bonuses and Mr Loone’s employment duties. As such, Mr Loone’s acceptance of this repudiatory conduct terminated the application of the restrictive covenants in the contract.

In their decision the Court referred on a number of authorities, including the turn of the century decision by the House of Lords in General Billposting Company Ltd v Atkinson [1909] AC 118 and the High Court in Kaufman v McGillicuddy (1914) 19 CLR 1. The Court found that the authorities demonstrated a consistent trend in their juridical explanations namely that:

“The employer, having breached the contract and brought it to an end, should not be permitted to rely upon the restraint clause contained within it.”

This notation underlies subsequent authority, as no Australian or English authority was identified in which a court had made orders enforcing a restraint clause against a former employee in such circumstances. Further, no High Court Authority has overturned these judgments.

In considering whether the restraints would survive termination effected by acceptance of the repudiation, need to consider whether continued operation would be inconsistent with the ‘substantive consideration’ for the restraint clause. The Court referred to Geraghty v Minter (1979) 142 CLR 177, where Gibbs J said:

“The answer to the appellants’ arguments that the respondents may be in default under the deed and yet enforce the restraint lies in the principles of equity. He who comes to equity must do equity, and parties who seek equitable relief by injunction to enforce a covenant in restraint of trade cannot obtain such relief unless they allege and prove that they have performed their part of the bargain hitherto and are ready and able also to perform their part in the future.”

In Mr Loone’s contract, the substantive consideration for the restraint clause was the agreement to pay remuneration in accordance with his entitlement to receive his full bonus. As such, the parties intention as manifested in the contract is that the post-employment restraints would not operate where the termination arose out of Mr Loone’s acceptance of CHA repudiatory conduct where such conduct constituted a failure by CHA to comply with the prescribed criteria which underpinned the assessment and payment of Mr Loone’s bonus.

CHA did not comply with the mandatory criteria prescribed in Mr Loone’s contract of employment. The Court found that these breaches amounted to repudiation of the contract which in turn permitted Mr Loone to lawfully terminate the contract and as such the restraint of trade clause could not survive.

Implications

While each situation will turn on the precise terms of the contract, employer’s need to take care to ensure that they comply with the material terms of a contract of employment. Failure to do so, may amount to a repudiation of the contract which may permit the employee to terminate the contract in circumstances where the employer may not have the benefit of relying on restraint clauses.