Scottish Court of Session Decisions

 

OUTER HOUSE, COURT OF SESSION
	[2014] CSOH 14
CA79/13	OPINION OF LORD WOOLMAN   in the cause   AGRI ENERGY   Pursuer;   against   IAN LOGAN McCALLION   Defender:   ________________

 

Pursuer: J Brown; Balfour & Manson

Defender: D Maclean; Thorley Stephenson

 

28 January 2014

 

Introduction

[1] The pursuer purchased the defender's business in 2009. The sale and purchase agreement included a restrictive covenant. It prevented the defender from soliciting or competing with the pursuer throughout Scotland for a period of five years from the date of sale. The case came before me on the Procedure Roll to discuss the reasonableness of the covenant.

The facts
Background to the sale

[2] For a period of about 20 years, Mr McCallion operated a domestic oil business. He supplied oil to retail outlets, including fish and chip shops. He also removed the waste oil from the same outlets and sold it at a profit for conversion into bio-diesel. He held a licence from the Scottish Environment Protection Agency (SEPA) to carry out this task. Most of his customers were located in the North East of Scotland.

[3] The pursuer is an unlimited company involved in the same field of business. It changed its name from Agri Energy to Olleco with effect from 2 April 2013. It operates from ten locations throughout the United Kingdom and has a substantial turnover. In 2009, it approached Mr McCallion with a view to purchasing his business. Previously, it had purchased other similar businesses in Scotland, including MacLennan Oils and Richardson Oils.

[4] Following discussions, the parties reached agreement for the sale to take place. They each instructed a solicitor to negotiate the terms, which are recorded in a written contract dated 9 October 2009. The purchase price was £200,000, payable as follows: (a) £100,000 as the initial consideration; (b) a first instalment of £20,000 payable in October 2010; (c) an advance payment of £40,000 payable in October 2010; and (d) a final payment of £40,000 in October 2014.

 

The restrictive covenant

[5] The restrictive covenant is contained in clause 15 of the asset purchase agreement, which states:

"15.2 The Seller acknowledges that the consideration for the Business and the Assets includes a payment for the Goodwill and, in order to protect the Goodwill, the Seller hereby jointly and severally undertakes with the Buyer that he will not, whether alone or jointly with or through or on behalf of any other person (whether as a director, manager, consultant, adviser, employee, agent, partner, promoter, shareholder or otherwise) directly or indirectly:

(a) for a period of 5 years from Completion, operate, carry on or be engaged, employed, concerned or interested in or assist any business in the Prohibited Area which is in competition with or is likely to be in competition with the Business as carried on at Completion.

(b) for a period of 5 years from Completion, provide any advice, technical or otherwise, to any person carrying on business in the Prohibited Area which is in competition with or is likely to be in competition with the Business as carried on at Completion."

 

[6] The 'Prohibited Area' was defined as Scotland. 'Completion' meant 9 October 2009. 'The Business' was defined as "the business of special waste disposal (including without limitation, collecting and disposing of vegetable oils, and used cooking oils and fats and the delivery of new oils and fats) as that business was carried on by [the defender] at completion."

 

Breach of the covenant

[7] Both Mr McCallion and his son became employees of the pursuer. In October 2010, Mr McCallion ceased his employment with the pursuer. The terms on which he left are reflected in an amendment agreement dated 14 October and 1 November 2010. It did not alter the terms of the restrictive covenant.

[8] Mr McCallion's son resigned with effect from 30 May 2011. Under his employment contract, he was subject to a one-year restrictive covenant from the date of termination. The pursuer alleges that he breached the covenant in a number of respects. On 31 May 2011 he registered as a waste carrier with SEPA. Shortly afterwards, he commenced trading as Amber Waste Solutions in direct competition with the pursuer. He circulated a letter to its customers offering to provide the same services. The letter contained defamatory statements about the pursuer and its employees.

[9] The pursuer states that Mr McCallion has breached his obligations under the restrictive covenant. On 9 January 2012, he was seen with his son at commercial premises in Buckie occupied by Amber Waste Solutions and another business called Regency Oils. Mr McCallion was driving a forklift truck and unloading cooking oil containers from a lorry operated by Bensons Products Ltd. Bensons is involved in processing used cooking oil. Formerly, it was Mr McCallion's largest customer.

[10] On 7 February 2012, Mr McCallion visited Rothes Fish and Chip Shop in Rothes. He told the proprietor that the pursuer owed him money and that he had decided to commence trading again on his own account. He handed over a business card with the name of Amber Waste Solutions. He sought to win the shop's business by offering the proprietor favourable terms, including payment in cash.

[11] The pursuer seeks to enforce the restrictive covenant until it expires at midnight on 8 October 2014. Mr McCallion has been the subject of an interim interdict since 14 February 2014.

 

General principles
[12] The law in this field aims to balance two competing interests: freedom of contract and freedom of trade. The general rules are set out in a well-known line of authority, commencing with Nordenfelt v Maxim Nordenfelt Guns & Ammunition Company [1894] AC 535. In the case of a sale, a covenant will only be enforced if the restriction is reasonable. It must go no wider than is necessary to protect the legitimate interests of the purchaser.

 

The grounds of challenge

[13] Mr Maclean submitted that the covenant is unreasonable, because it goes further than is required. In particular, he contended that the pursuer is only entitled to protection in the North East of Scotland, where Mr McCallion's customers were located. Further, a restriction of five years is too long, given the rapidly moving nature of the market. Put short, he argued that there should have been a more targeted restrictive covenant.

 

Is the restraint reasonable?

General

[14] In Dawnay, Day & Co Ltd v D'Alphen [1998] ICR 1068, Robert Walker J (as he then was) stated (at page 1080):

"In the simple business sale case, the purchaser's legitimate interest lies in protecting the value of the business which he has acquired, at a price, as a going concern. The purchaser has an obvious interest in preventing the vendor from competing in such a way as to erode the value of what he has sold. The law recognises that as a legitimate interest, especially if the vendor seeks to compete by attracting customers of his former business, or by attracting employees of his former business, or by using confidential information relating to the former business. But in otherwise unqualified prohibition against competition (for a specified period and in a specified area of business) may be upheld as reasonable and enforceable. The court has consistently taken the view that in commercial dealings, the parties, negotiating at arm's length, are the best judges of what is reasonable, and of how the vendor of the business can best obtain the value of what he has to sell ..."

[15] Later in the same judgment (1095H-1096A), he quoted with approval the words of Millet J in Weisinger [1988] IRLR 60, 65 that the court is called on to perform "a balancing exercise which is not in reality capable of being carried out and which is best left to the parties to resolve by the process of negotiation". It is their task to adjust the price upwards or downwards, depending upon the extent of the restriction to be imposed in the covenant. The Court of Appeal approved the judgment at first instance, describing it as "admirable" (at 1100 D-E).

[16] In my view, there are two significant factors in the present case. First, this was an arm's length transaction where Mr McCallion had the benefit of legal advice. Second, the pursuer paid a significant price. As the tangible business assets were of modest worth, the real value of the business lay in the goodwill. The pursuer acquired a ready-made customer base. If Mr McCallion was free to set up in competition, either on his own or with a rival business, the value of the goodwill would have been materially diminished. Taken together, in my view these factors point strongly toward the covenant being a reasonable one. The parties freely negotiated and agreed the terms upon which they were to be bound. It is against that background that I turn to consider the grounds of challenge.

 

The area restriction
[17] Mr Maclean submitted that the clause is prima facie unreasonable, as it imposes a blanket prohibition against competition over an area greater than the one in which Mr McCallion transacted business. It therefore covers businesses with which he had no trading relationship. Mr Maclean contended that a non-solicitation clause would have been more appropriate: Agma Chemical Co Ltd v Hart 1984 SLT 246.

[18] There is force in that contention. The law, however, takes a broader view of matters. In Herbert Morris Ltd v Saxelby [1916] AC 688, Lord Parker stated (at p 708):

"The covenant against competition is ... reasonable if confined to the area within which it would in all probability inure to the injury of the purchaser."

 

[19] The Privy Council approved that statement in Connors Bros Ltd v Connors [1940] All ER 179, at pp 194H - 195. Viscount Maugham added: "The words 'in all probability' are important, for the question of law as to reasonableness does depend on probability." In that case, the seller had covenanted not to carry on a sardine business throughout Canada. He contended that it was unreasonably wide. The court, however, stated (at p. 194F-G) that a purchaser did not require to prove that the business had been carried on throughout the whole area of the covenant:

"the goodwill of a business ... could not adequately be protected if the restrictive covenant had to be limited to the towns and villages where actual sales could be proved, whilst leaving the vendor free to establish a business, which would almost certainly be competitive, in all the adjoining places."

 

[20] If Mr McCallion sets up in competition (whether on his own or with a rival business) in any part of Scotland, there is a high probability that he will cause damage to the pursuer's business. He has useful commercial information about its customers and operations. It is not necessary for him to be physically located within the North East of Scotland to attract or deal with his former customers. He could send vehicles direct to their premises.

 

Temporal restriction
[21] Mr Maclean argued that a five year restriction was not justified. In particular, he maintained that Mr McCallion could not provide unfair competition in circumstances where the pursuer itself recognised that "the waste oil business was ... undergoing a period of rapid change and consolidation". He referred to Randev v Pattar 1985 SLT 270, where Lord Wylie expressed doubts about the reasonableness of a five year covenant. In my view, however, that case can be readily distinguished because it involved the sale of a hotel, where the customer goes to the business, rather than the other way around.

[22] In Connors, Viscount Maugham linked (at p 195) area and time restrictions:

"If the restriction as to space is considered to be reasonable, it is seldom in a case where the sale of a goodwill is concerned that the restriction can be held to be unreasonable because there is no limit as to time."

 

[23] In my view, a period of five years is reasonable in the circumstances of this case. The pursuer was entitled to a proper opportunity to develop its customer connection. Further, it is the same period as the one for the payment schedule. The parties clearly envisaged that their reciprocal rights and obligations should extend for that whole time.

 

Specification

[24] Mr Maclean argued that the pursuer failed to specify (a) the confidential information and trade secrets on which it relies; and (b) the identity of the customers whom Mr McCallion was "actively engaged" in pursuing. On my approach, this issue is redundant. He had full knowledge of the legitimate interests it was attempting to protect and the ambit of the restriction. These matters can be readily inferred from the terms of the covenant. I would however, in any event hold that the pursuer did give fair notice of these matters in the pleadings. In the circumstances of this case it was not necessary to set them out in detail.

Conclusion

[25] I shall refuse the defender's motion to dismiss the action and put the matter out by order to determine future procedure, meantime reserving all questions of expenses.