Restrictive covenants on the sale of a business – are they enforceable?
5 September 2024
When selling a business, sellers will commonly give restrictive covenants in the sale contract. These will prevent the sellers from setting up a competing business, and from poaching staff and customers. Buyers will be heavily reliant on these covenants to protect the goodwill of the business. However, buyers need to be careful not to over-extend the reach of these restrictive covenants; they might otherwise find they are unenforceable.
Unreasonable covenants
In Literacy Capital Plc v Webb [2024] EWHC 2026 (KB) (31 July 2024) D sold her shares in the business of M Limited. D agreed to a set of non-compete covenants that were unusually broad in that:
- they were potentially in force for up to 10 years (the maximum period in which all deferred payments would be paid to D)
- they restricted D not only from carrying on a business that would compete with M Limited but also any other business carried on by the buyer
- they applied to the whole of the United Kingdom and the Channel Islands even though there was no evidence that M Limited operated its business outside two counties in eastern England.
After the sale the buyer sought an injunction against D to essentially enforce the restrictive covenants. The court dismissed the application on the basis that the restrictive covenants were wholly unreasonable, and the buyer therefore had no real prospect of enforcing them.
The Birketts view
The case underlines the importance of carefully considering the remit of restrictive covenants. Generally speaking, covenants should not go further than what is reasonably necessary to protect the goodwill of a target business in terms of duration, geographical location and business activity. It would be unusual, for example, to see restrictive covenants on a business sale in excess of three years’ duration. Geographical reach and scope of activities covered by the restrictive covenants will typically dovetail with the operations of the target business and what may be viewed as necessary to protect that target’s business interests.
Our team of corporate lawyers is experienced in successfully advising both sellers and buyers through the entire business sale process including the issue of business protection. They can advise how to best draft or negotiate the restrictive covenants to meet the seller/buyer client’s needs.
-
Pamela Blore
Services
The content of this article is for general information only. It is not, and should not be taken as, legal advice. If you require any further information in relation to this article please contact the author in the first instance. Law covered as at September 2024.