The Court of Appeal recently released a judgment concerning the scope of a restraint of trade clause, following the sale of a business. The business bought by the purchaser involved the manufacture, distribution and installation of partitioning systems and door systems, commonly used in office fit-outs. Shortly after the sale, the vendors bought another business that was a supplier of components of partitioning and door systems.
The sale and purchase agreement signed by the parties included a restraint clause that sought to prevent the vendors from engaging in any business that was “the same or substantially similar to” the business being sold to the purchasers. Importantly, the restraint specified the business activities it sought to protect:
“namely the manufacture, importation distribution or installation of … partitioning systems or door systems”.
The purchaser believed that the vendor was in breach of the restraint of trade clause given the relatedness of the products being sold, and the High Court agreed. However, the Court of Appeal thought differently. Overturning the decision of the High Court, the three judges held that the business activity of each business was not the same or substantially similar on account of the fact that the business that was sold by the vendor dealt with complete systems, while the business that was bought dealt only with components of such systems.
In reaching its conclusion, the Court relied on the specific wording in the restraint clause. Because the clause named complete systems only, and because componentry could not be regarded as a complete system and only a small part thereof, there was no substantial similarity.
The decision has highlighted the importance of using wording in a restraint that will provide the parties with the certainty required for them to understand the parameters of what is being agreed. Had the clause used in this situation included the further wording:
“namely the manufacture, importation distribution or installation of … partitioning systems or door systems, and including componentry of such systems”,
There is a possibility this matter would have been decided differently or may never have made it before the Courts in the first place. Of course, expanding the scope of a restraint of trade clause too widely may result in it being deemed invalid. So, the specific wording used should be carefully considered and seek only to extend the scope of protection to a reasonable level.
If you need any advice or assistance in determining the reasonableness or validity of a restraint of trade clause, please remember that it is better to seek help prior to making any big decisions. You may save yourself the headache of being embroiled in legal action and be in a position to move forward with confidence.
Jeremy Sparrow
Tauranga
tel:+6479272758
mailto:jeremy.sparrow@hobec.co.nz
Melissa Chester
Rotorua
tel:+6473491530
mailto:melissa.chester@hobec.co.nz
Stevie Shaw
Tauranga
tel:+6479287099
mailto:stevie.shaw@hobec.co.nz
Sam Howell
Tauranga
tel:+6472620438
mailto:sam.howell@hobec.co.nz
You may also like ...
What protection do you have as a business purchasing goods? Contract and Commercial Law Act
Everyone knows about the Consumer Guarantees Act 1993 (CGA), which provides a “consumer” with remedies if a business has failed to provide goods or services to a reasonable standard. But what happens if you are a business purchasing goods? The answer is not found in the Consumer Guarantees Act 1993; it is found in the Contract and Commercial Law Act 2017 (the CCLA).
The CCLA implies seven conditions and/or warranties in a contract for the sale of goods:
right to sell;
conformity with description;
fitness for purpose;
merchantable quality;
conformity with samples;
rights of examination, and;
acceptance.
Not every breach of contract allows for rejection, but a trivial breach of a condition does. This means that a buyer can return goods supplied to a seller. Importantly, whether a term is a condition or a warranty depends on the construction of the sale of goods contract.
An important implied condition is “fitness for purpose”. This means that goods must be reasonably fit for purpose. But, unlike the CGA, this condition will only apply where the buyer makes known to the seller the particular purpose for which the goods are required, and that the goods are of a description that it is in the course of the seller’s business to supply. What this means is that when a buyer of a vehicle makes known to the seller that they will be using a vehicle to tow a caravan, then there is an implied condition that the vehicle is fit for that purpose; towing a caravan. This was the case in Finch Motors v Quinn (No 2) [1980] 2 NZLR 519. Mr Quinn, the buyer, told the seller that he wanted a car for towing a boat on extended trips. The seller, Finch Motors, told Mr Quinn they had the ideal car for the job. Not long after the sale, Mr Quinn used his car to tow the boat when it overheated. This, the Court found, was a breach of the implied condition that goods are fit for purpose.
There is also an implied condition that goods are of a “merchantable quality”. This is similar to “acceptable quality” under the CGA. The test for whether goods are of a “merchantable quality” is found in an old case, Taylor v Combiner Buyers [1924] NZLR 627. In that case, the Court asked the following question: Are the goods of such a quality and in such a state and condition as to be saleable in the market, as being goods of that description, to buyers who are fully aware of their quality, state, and condition, and who are buying them for the ordinary purposes for which goods so described are bought in that market?
Unlike the CGA, the CCLA allows contracting parties to vary or exclude the implied conditions and/or warranties. This includes fitness for purpose and merchantable quality. To do this, the contract must be clear as to the conditions and/or warranties that it purports to vary or exclude. In Wallis, Son & Wells v Pratt & Haynes [1911] AC 394 (HL), for example, the seller’s terms and conditions stated that there is “no warranty express or implied”. The Court found that this did not exclude implied conditions, only implied warranties. If the seller wanted to exclude the implied conditions, including fitness for purpose and merchantable quality, they had to do so expressly.
Holland Beckett has experience advising buyers and sellers. This is a complex area of law and Holland Beckett is available to assist.
With Strings Attached – Exit Strategies for Small Business Owners
It is not an easy time to be selling a small business. High inflation and waning consumer demand has lead to compressed margins and reduced revenue for many.
Uncertainty in the global markets due to wars, protectionism and the changing geopolitical landscape has blunted the confidence of prospective purchasers.
Closer to home, sub 3% interest rates are now a fading memory and house prices have come off their peak, so fewer aspiring business owners can easily ‘top up their mortgage’ to fund the purchase of a business.
How can sellers respond?
Business owners looking to sell and wanting to achieve the best price for their business may need to consider options to reduce a purchaser’s reliance on third party finance to fund the acquisition of their business. This may include:
Asset restructuring: Premises, plant and equipment are restructured to reduce the capital investment required by a purchaser. For example, valuable machinery could be retained by the seller and leased to the purchaser, meaning that the purchaser does not have to finance the upfront cost of purchasing that asset.
Vendor finance: The seller advances a portion of the purchase price to the purchaser to be repaid by the purchaser over time. Vendor loans vary widely in terms of whether they bear interest, whether they are amortising (repaid gradually over the term) or repaid in a lump sum on a fixed date.
Earn Outs: The purchaser agrees to pay part of the purchase price in instalments contingent on the business achieving certain financial targets. Payments could be fixed or adjusted based on the level of revenue generated by the business.
Vendor Shares: The vendor retains shares in the business. The vendor might give the purchaser options to acquire 100% of the shares over time.
Objectives and Risks
From a seller’s perspective, the most common objective of using any of the above mechanisms is to achieve a better price for their business.
Compared to fully bank or finance company debt funded transactions, vendor funded transactions generally expose the seller to risk of purchaser default over a longer period. This is because repayment of vendor loans or achievement of earn-out targets depend on the success of the business under new ownership. These risks can be reduced by, for example:
Requiring the purchaser to pledge security to the seller (mortgages, personal guarantees, registered security interests).
Giving the seller a right to appoint a director for so long as they continue to hold shares in the business.
Contractual provisions that exclude artificial reduction of gross profits for the purposes of earn out calculations.
Complexity and Cost
If not managed well, transactions that include vendor funding mechanisms can be more complicated and take longer to negotiate than similar deals that are not vendor funded (and increased legal costs as a result). Also, the downstream consequences of vendor funding arrangements need to be carefully thought through to avoid unforeseen negative consequences. For example, if the vendor registers a security interest in the business assets, how will that affect the purchaser’s ability to raise finance or obtain trade credit moving forward?
In our experience, the best outcomes typically start with a well-designed structure. Convoluted and legally complicated structures are generally less effective in practice than more straight forward, logical structures. Complexity can often be avoided if the transaction is properly designed from the outset.
Business owners considering vendor funding options should:
Discuss potential structures with their business broker or lawyer to identify fit-for-purpose options that could be offered to potential purchasers;
Focus on the characteristics of the business and the specific circumstances and objectives of the seller and buyer when designing a transaction structure - do not start with a particular structure in mind and adapt it to fit the circumstances (this is a recipe for legal complexity); and
Try to aim for a structure that makes commercial sense and avoids risks being transferred to a party who cannot control it or who would not naturally be exposed to it.
A well designed vendor funding structure should be easy for all parties to understand and give the purchaser sufficient freedom and control to ensure the business remains successful while minimising the default risk faced by the seller.
Our commercial team at Holland Beckett is experienced in business sale transactions from $50,000 to $100 million including vendor funding arrangements of all types and would be happy to discuss how to make the sale of your business a success for you and your purchaser.
Incorporated Societies Act 2022 – How do I reregister?
The Incorporated Societies Act 2022 (“New Act”) came into force on 5 October 2023. The New Act replaces the Incorporated Societies Act 1908 (“1908 Act”).
All existing incorporated societies must apply to reregister under the New Act before April 2026 if they wish to continue as an incorporated society. Failing to do so will result in the society being deregistered.
The online registration process is now open to existing societies on the Companies Office website.
What do I need to do?
In order to reregister, the society must first:
Update its constitution to comply with section 26 of the New Act.
Develop a membership record and membership consent form to comply with section 76 of the New Act;
Have at least 10 members to comply with section 74 of the New Act;
Hold consent in writing from each of the committee/board members (officers) to be an officer and ensure that each officer meets the criteria recorded in section 47 of the New Act;
Provide at least one person’s contact details to enable the Companies Office to contact the society.
What must the constitution contain?
Section 26 sets out all matters which must be included in a constitution. These matters are largely administrative. One of the most important additions is the requirement to have a dispute resolution procedure. The compulsory provisions include:
The name of the society.
The purposes of the society.
How a person becomes a member of the society, including a requirement that a person must consent to be a member.
How a person ceases to be a member of the society.
Arrangements for keeping the society’s register of members up to date.
The roles, functions, powers, and procedures of the committee/board.
How the contact person or persons will be elected or appointed.
How the society will control and manage its finances.
The method by which the constitution may be amended.
Procedures for resolving disputes, including providing for how a complaint may be made.
Arrangements and requirements for general meetings.
The nomination of a not-for-profit entity, or a class or description of not-for-profit entities, to which any surplus assets of the society should be distributed on a liquidation of the society or on, or to enable, the removal of the society from the register.
It is also an opportune time for you to review the society’s objects and any procedures that may no longer be fit for purpose.
How do I vary/replace the constitution?
You must refer to your current constitution. Most constitution contain a ‘variation/amendment’ provision describing the procedure that must be followed to formally vary or amend the constitution. You are likely to find that the proposed changes must be circulated prior to a general meeting and can only be adopted if a resolution is passed by the majority stipulated in the constitution.
How can Holland Beckett assist?
Holland Beckett can assist you with reviewing and updating your constitution, reviewing and developing policies to comply with the New Act and navigating the reregistration process. Please do not hesitate to contact us if you require assistance with this transition.