Run Corp Limited v McGrath Limited [2007] FCA 1669 (2 November 2007)

TRADE AND COMMERCE – restraint of trade by agreement – sale of business –not to be party to agreement ‘which concerns or relates’ to the business – construction – validity

Restraints of Trade Act 1976 (NSW) s 4(1)

Amoco Australia Pty Ltd v Rocca Bros Motor Engineering Co Pty Ltd [1973] HCA 40; (1973) 133 CLR 288
Austra Tanks Pty Ltd v Running [1982] 2 NSWLR 840
Australian Broadcasting Corporations v O’Neill (2006) 227 CLR 57
Australian Securities Commission v Lord (1991) 33 FCR 144
Buckley v Tutty [1971] HCA 71; (1971) 125 CLR 353
Commissioners of Inland Revenue v Maple & Co (Paris) Ltd [1908] 1 AC 22
Davies v Davies (1887) 36 Ch D 359
Fountain v Alexander [1982] HCA 16; (1982) 150 CLR 615
JQAT Pty Ltd v Storm [1987] 2 Qd R 162
Lindner v Murdock’s Garage [1950] HCA 48; (1950) 83 CLR 628
Lloyd’s Ships Holdings Pty Ltd v Davros Pty Ltd (1987) 17 FCR 505
Nordenfelt v Maxim Nordenfelt Guns and Ammunition Co Ltd [1894] AC 535
O’Grady v Northern Queensland Company Ltd [1990] HCA 16; (1990) 169 CLR 356
Orton v Melman [1981] 1 NSWLR 583
Peters Ice Cream Vic Ltd v Todd [1961] VR 485
PMT Partners Pty Ltd (in liq) v Australian National Parks and Wildlife Service [1995] HCA 36; (1995) 184 CLR 301
Project Blue Sky Inc v Australian Broadcasting Authority [1998] HCA 28; (1998) 194 CLR 355
State Transport Authority v Apex Quarries Ltd [1988] VR 187

RUN CORP LIMITED, RUN PROPERTY PTY LTD and RUN PROPERTY (MPM) PTY LTD v MCGRATH LIMITED, JOHN DAMIAN MCGRATH, MCGRATH SALES PTY LTD and MCGRATH AUSTRALASIA PTY LTD

VID 872 of 2007

FINKELSTEIN J
2 NOVEMBER 2007
MELBOURNE

IN THE FEDERAL COURT OF AUSTRALIA
VICTORIA DISTRICT REGISTRY	VID 872 of 2007

BETWEEN:	RUN CORP LIMITED, RUN PROPERTY PTY LTD and RUN PROPERTY (MPM) PTY LTD Applicants
AND:	MCGRATH LIMITED, JOHN DAMIAN MCGRATH, MCGRATH SALES PTY LTD and MCGRATH AUSTRALASIA PTY LTD Respondents

JUDGE:	FINKELSTEIN J
DATE:	2 NOVEMBER 2007
PLACE:	MELBOURNE

1 The applicants, companies in the Run Property group, provide property management services, principally in Melbourne, Sydney and Brisbane. In 2005 the group expanded considerably its then existing operation by the acquisition of property management or "rent roll" businesses from about 20 estate agents. The acquisitions were funded by a public offering under which Run Corp Ltd (Run Corp) (the first applicant) raised $25 million. McGrath Ltd (the first respondent) is one firm that sold its rent roll business to Run Property Pty Ltd (Run Property) (the second applicant) by selling its shares in McGrath Property Management Pty Ltd (McGrath Property Management) now called Run Property (MPM) Pty Ltd (Run Property (MPM)) (the third applicant). McGrath Ltd received approximately $12.5 million in cash and shares by way of consideration. The agreement that gave effect to the sale contained a non-competition clause. An issue in this litigation is whether the clause has been breached. The applicants contend that McGrath Ltd has indirectly, and McGrath Australasia Pty Ltd (McGrath Australasia) (the fourth respondent) has directly, breached the non-competition clause and will continue to breach it in the future. The applicants seek an injunction pending trial to enjoin future breaches.

2 At the centre of this dispute are two agreements. The first is called a "Share Sale and Purchase Agreement". Two members of the Run Property group and several members of the McGrath group are parties to this agreement. So also is Mr McGrath (the second respondent), who controls the McGrath group. This is the agreement by which Run Property purchased the shares in McGrath Property Management. The sale was dependent upon the success of the public offering. One of the conditions to the sale proceeding was approval for the quotation of Run Corp shares on the ASX.

3 The recitals to the Share Sale Agreement record that McGrath Property Management owned the management rights to certain properties listed in a schedule and defined as the "Rent Roll". The purpose of the non-competition clause, cl 13, was to prevent the McGrath group being involved in the management of rental properties. In the agreement this is referred to as the "Restrained Business". Clause 13.7.2 defines "Restrained Business" as: "(a) the business of managing rental properties; (b) any other business which is the same as or substantially similar to the business of managing rental properties; and (c) any business which is competitive or likely to be competitive with the Buyer’s [Run Property’s] business of managing the Rent Roll; but for the avoidance of doubt does not include the business of the licensed sale of properties conducted by the Seller [McGrath Ltd] or any of its subsidiaries, franchisees or any Related Person from time to time."

4 The exclusion is important. In part it reflects the fact that the McGrath group operated both a traditional estate agent business (acting as agent on the sale and purchase of properties) as well as a rent roll business. It was contemplated that following the sale of McGrath Property Management, McGrath Ltd would continue to conduct its estate agent business. To prevent any confusion cl 10.3.1 of the Share Sale Agreement provided that McGrath Property Management would change its name to exclude the word "McGrath, or any similar words [and] [a]ny word that is likely to cause confusion between the present name of the Company and its new name."

7 It is alleged that McGrath Ltd has permitted McGrath Australasia (a Related Person) to breach cl 13.1.1. In this connection the applicants rely on cl 13.2, which is a deeming provision of sorts. Clause 13.2 specifies the kinds of acts which, when engaged in, will constitute a prohibited act for the purposes of cl 13.1. Relevantly, cl 13.2 provides:

As the argument proceeded, attention was focused on cl 13.2.4 with little being said about cl 13.2.2.

8 There are three additional subclauses of cl 13 to which it is necessary to draw attention. The first is subclause 13.5, a protective provision which, if triggered, avoids a party being in breach of cl 13.1. Clause 13.5 provides that a party is not in breach of cl 13.1 if the franchisee under a franchise agreement covered by cl 13.2.4 enters into an agreement "to sell the rent roll (if any) owned by it at that time to [Run Property]; or if this sale does not occur, it subcontracts to [Run Property] the future management of any Restrained Business it wishes to conduct".

9 The other subclauses are designed to support the validity of cl 13.1. Clause 13.4 provides that the "protective restrictions agreed to by [McGrath Ltd] ... are separate from one another. If any of them or any part of them is unenforceable, the rest are unaffected." Clause 13.6 contains an acknowledgment by McGrath Ltd "that each of the protective restrictions agreed to by it is reasonable, having regard to the interests of each of the parties to [the agreement], and that they are necessary to protect the interests of [Run Property]."

10 The second agreement is a "Strategic Alliance Agreement". The parties to that agreement are McGrath Property Management (now called Run Property (MPM)), McGrath Sales Pty Ltd (McGrath Sales) (the third respondent) and Mr McGrath. The applicants have identified what they say are the key provisions of this agreement. Clause 8 requires McGrath Sales to refer property management opportunities to Run Property (MPM) in return for a commission of 22 per cent. Clause 9 requires Run Property (MPM) to refer certain sales inquiries from landlords to McGrath Sales in return for a commission of 20 per cent. Clause 1.5 imposes an obligation on McGrath Sales to refer property management leads exclusively to Run Property (MPM). Clause 3.2.1 requires McGrath Sales to exercise all due care and act honestly and in good faith in carrying out its obligations under the agreement.

11 The manner in which it is alleged McGrath Ltd breached the non-competition clause is by permitting McGrath Australasia to enter into franchise agreements with at least eight franchisees. By those agreements McGrath Australasia has franchised the "McGrath brand" (including the McGrath trademarks) to the franchisees for use in relation to "Real Estate Services". Those services are described in a schedule. In relation to residential property, each franchisee is required to provide the following services:

As regards commercial property, the services that each franchisee may provide, subject to the terms of the franchise agreement, are:

12 The relevant provisions of the franchise agreement that deal with the provision of Real Estate Services are set out below. The clauses are taken from the "McGrath Manly" franchise agreement dated 7 September 2006:

13 In summary, these provisions establish the following regime. First, a franchisee cannot provide property management services without the consent of McGrath Australasia. Second, if consent is given the franchisee may provide those services but is not entitled to use the McGrath brand in connection with that side of its operations. Third, if McGrath Australasia insists, a franchisee must conduct a property management business and, in that event, the franchisee is required to use the McGrath brand and pay a fee.

14 As far as is presently known, McGrath Australasia has given permission to at least four franchisees (the precise number is not clear) to provide property management services. It has not, however, required any of them to provide those services. In other words, McGrath Australasia has given its consent under cll 8.3 or 8.4(2) to those franchisees but in no case has it exercised its right under cl 8.4(3) to impose an obligation to conduct a property management business on any franchisee.

15 The applicants seek an interlocutory injunction restraining the respondents from entering into any franchise agreement in relation to the marketing and sale of real property in New South Wales unless the prospective franchisee agrees to sell its rent roll to Run Property, or sub-contracts its present and future property management business to Run Property and promises to refer any future management opportunities to Run Property. On any view this relief goes beyond the restraint imposed by cl 13. The clause seeks to insulate from competition only the Run Property group’s rent role business. If the applicants are entitled to any relief it will be confined to conduct that concerns property management.

16 This being an application for interlocutory relief it is not appropriate for me to resolve finally any issue between the parties, including their dispute about the construction of cl 13. All that is to be done is, first, to consider whether the applicants have shown a prima facie case of breach, or, as Gummow and Hayne JJ put it in Australian Broadcasting Corporations v O’Neill (2006) 227 CLR 57, 82 to consider whether the applicants have "show[n] a sufficient likelihood of success to justify in the circumstances the preservation of the status quo pending the trial." If the applicants get over the first hurdle the second issue to be considered is whether the balance of convenience favours the grant of an injunction. There it will be necessary to consider matters such as whether damages will be an adequate remedy and is it otherwise just in all the circumstances that an injunction should be granted: State Transport Authority v Apex Quarries Ltd [1988] VR 187, 193.

17 The applicants contend that each franchise agreement between McGrath Australasia and its franchisees is, in the words of cl 13.2.4, a "Franchise Agreement which concerns or relates to the Restrained Business". The authorities show that expressions such as "concerns" and "relates to" have a wide and general operation which should not usually be read down: Commissioners of Inland Revenue v Maple & Co (Paris) Ltd [1908] 1 AC 22, 26; Fountain v Alexander [1982] HCA 16; (1982) 150 CLR 615, 629; Australian Securities Commission v Lord (1991) 33 FCR 144, 149. The expressions import the existence of a connection or association between two things; here a connection between the franchise agreement and the Restrained Business. But, when assessing the connection or association, it is necessary to be careful because the expressions are wide enough to cover any conceivable connection and that may not be intended: O’Grady v Northern Queensland Company Ltd [1990] HCA 16; (1990) 169 CLR 356, 367. The closeness of the relationship that is required by the expressions "concerns" or "relates to" when considering a particular restraint is to be determined by reference to the nature and purpose of the restraint when understood in its context: PMT Partners Pty Ltd (in liq) v Australian National Parks and Wildlife Service [1995] HCA 36; (1995) 184 CLR 301, 313. If the context is not taken into account there is a risk that an association will be found to exist that is so remote that it has no bearing on the protection the parties were attempting to achieve: compare Tooheys Ltd v Commissioner of Stamp Duties (NSW) [1961] HCA 35; (1961) 105 CLR 602, 621; Project Blue Sky Inc v Australian Broadcasting Authority [1998] HCA 28; (1998) 194 CLR 355, 387.

18 It may be accepted that, in a broad sense, there is a relationship between each franchise agreement and the Restrained Business. The relationship exists because each franchise agreement specifies when and in what circumstances a franchisee is permitted to conduct a Restrained Business: cl 8.4. The relationship also exists because each franchisee requires permission to conduct such a business: cll 8.3(1) and 8.4(2).

19 In my view, however, this is not the kind of connection that is contemplated by cl 13. Clause 13 has several purposes. In general terms the purposes all fall under the umbrella of protecting the goodwill of the Run Property group’s rent roll business, especially the expanded rent roll business put together as a result of the purchases in 2005. There are several specific purposes as well. One important purpose is to keep the respondents away from property management for five years. None of these purposes are undermined if McGrath Australasia enters into a franchise agreement under which it reserves the power to prevent an estate agent from carrying on a property management business. If a franchise agreement was confined to the activities of the franchisee in relation to "listings and sales; accredited property, valuation services; and auctions" and is silent about the franchisee’s ability to commence or continue to operate a property management business, that would not fall within the general objectives of cl 13. That arrangement is in substance the same as one where, as here, the franchise agreement expressly prohibits the franchisee from carrying on property management activities unless permitted to do so by McGrath Australasia. In my view, the franchise agreements entered into by McGrath Australasia do not offend cl 13.2.4 merely because they inhibit a franchisee from carrying on a property management business.

20 On the other hand, if McGrath Australasia were to exercise its power under cl 8.4(3) of the franchise agreement to require a franchisee to include property management among its Real Estate Services and to provide that service by use of the McGrath brand, the conclusion would be different. That conduct would not fall under cl 13.2.4 which directs attention to the provisions of the Franchise Agreement. It would, however, be a breach of cl 13.1.1 which prevents the McGrath group from having even an indirect involvement in a property management business.

21 Indeed, the view I presently hold is that if McGrath Ltd or McGrath Australasia becomes involved in any way in the property management business conducted by a franchisee there is a good chance that they will contravene cl 13.1. The kind of involvement I have in mind is this. There is evidence that one franchisee (Yellow Brick Road Property Pty Ltd) is conducting a property management business under the name OpenDoor. The franchisee connects this business with the McGrath brand. I have a letter from OpenDoor which advises that the property management business is "[l]ocated at McGrath Neutral Bay / Mosman, 3 Young Street, Neutral Bay." This is, as it seems to me, a deliberate attempt to establish a relationship or link between the OpenDoor business and the McGrath name. I suspect it is done with the tacit consent of the McGrath group. That is likely to constitute an indirect involvement by McGrath Ltd, through a Related Person, McGrath Australasia, in the franchisee’s property management business and thus be contrary to cl 13.1.

22 In any event, there is, I think, a real risk of there being an indirect involvement in every case where a franchisee conducts a property management business from the same premises it conducts its McGrath franchise. The risk arises because it is all but inevitable that there will be a spillover of the McGrath brand for the benefit of the property management business. Thus, whenever McGrath Australasia gives permission to a franchisee to operate a property management business it is likely that cl 13.1.1 will be breached.

23 To this point, then, provided cl 13.1 is valid, this is a strong case for the grant of an interlocutory injunction to restrain the respondents from giving permission to any of its franchisees to operate a property management business. If an injunction is not granted and these businesses do start up it will be almost impossible to reverse things if the applicants ultimately succeed at trial. The applicants would be left to a claim in damages and that, to my mind, is not an appropriate remedy when the potential is that the applicants’ goodwill may be eroded, perhaps for the long-term.

24 This brings me to the validity of cl 13. First it is said by the respondents that the clause, or at least those parts of it that are presently under consideration, are contrary to the public interest and therefore illegal. The modern law on this topic was stated by Lord Macnaghten in Nordenfelt v Maxim Nordenfelt Guns and Ammunition Co Ltd [1894] AC 535, 565 in a passage accepted as part of the law in Australia: Lindner v Murdock’s Garage [1950] HCA 48; (1950) 83 CLR 628, 642-643; Buckley v Tutty [1971] HCA 71; (1971) 125 CLR 353, 376; Amoco Australia Pty Ltd v Rocca Bros Motor Engineering Co Pty Ltd [1973] HCA 40; (1973) 133 CLR 288, 305-306. Lord Macnaghten said: "The public have an interest in every person’s carrying on his trade freely: so has the individual. All interference with individual liberty of action in trading, and all restraints of trade of themselves, if there is nothing more, are contrary to public policy, and therefore void. That is the general rule. But there are exceptions: restraints of trade and interference with individual liberty of action may be justified by the special circumstances of a particular case. It is a sufficient justification, and indeed it is the only justification, if the restriction is reasonable – reasonable, that is, in reference to the interests of the parties concerned and reasonable in reference to the interests of the public, so framed and so guarded as to afford adequate protection to the party in whose favour it is imposed, while at the same time it is in no way injurious to the public. That, I think, is the fair result of all the authorities."

25 Section 4(1) of the Restraints of Trade Act 1976 (NSW) does not add to the law in a case such as the present. It provides: "A restraint of trade is valid to the extent to which it is not against public policy, whether it is in severable terms or not." The Act only validates a clause that does not offend public policy. The validity question must be considered in the circumstances of the particular case having regard to the extent to which the restraint purports to operate in those circumstances: Orton v Melman [1981] 1 NSWLR 583, 587-588.

26 In my view a good case can be made out that cl 13 is reasonable in both senses discussed by Lord Macnaghten. As explained in the prospectus, the context in which the non-competition clause was written was the acquisition by the Run Property group of several rent roll businesses and the entry into Strategic Alliance Agreements. The purpose of the acquisition was to expand considerably the Run Property group’s operations, with many of the vendors of the rent roll businesses obtaining a stake in the operation through the issue and allotment of shares in Run Corp. The operation, which was largely conducted in Melbourne, Sydney and Brisbane, was according to the prospectus to be a springboard over time for an "[e]xpansion into other capital cities, major regional centres and other international locations". When viewed against this background the restrictions do not seem unreasonable. They are not excessively broad in scope having regard to the Run Property group’s intended activities, they do not affect the McGrath group’s right to engage in any trade other than property management and only there within certain geographical and temporal limits, and they do not prevent third parties from entering into real estate franchises with the McGrath group to engage in any business other than Restrained Business. The restraints protect the Run Property group’s legitimate interests in the purchase of the McGrath group’s rent roll business. I also take into account the parties’ views on the reasonableness of the arrangement as provided for in cl 13.6 of the Share Sale Agreement. It is, after all, a matter of commercial judgment, and the parties are the best judges of their own interests.

27 The second ground of invalidity alleged is that cl 13 is too vague for the court to enforce or that, because of its "cascading" effect, it is really no agreement at all. The leading case on this topic is the Court of Appeal decision in Davies v Davies (1887) 36 Ch D 359. There a retiring partner covenanted to "retire wholly and absolutely from the partnership, and so far as the law allows from the trade or business thereof in all its branches ..." The court held these words were too vague to enforce. Cotton LJ said (at 387-388): "If parties wish to ask the court to assist them in restraining those with whom they are dealing from breaking a limited covenant against carrying on a trade they must, in my opinion, themselves fix the limits within which there is to be no carrying on of the trade, and then they do it at their peril ... . There is no definite fixed rule as to the limits within which trade can be restrained. That must depend upon the circumstances of each case; and in my opinion it is wrong to make a convenant in this form, and wrong for the Court to enforce it ... there are no limits fixed by law which can be regarded as introduced into this covenant. A covenant in this form, indefinite as it is in my opinion, is one which neither a Court of Equity nor a Court of Law ought to enforce. The parties must make up their minds to say what they agree to as regards the limits of time or space within which there is to be no trading."

28 Bowen LJ said (at 392): "[I]f [the covenant] only means that the covenant in restraint of trade is not to be unlimited, but that the limit is to be found by an appeal to the law, then it seems to me that the obvious answer is that the covenant is too vague for us to deal with. I think myself it would have been too vague even if it had remained in the nature of an executory contract to execute a deed in that shape. The parties would still be asking the law to do for them what they had not made up their minds about themselves. In fact they would be asking the law to make a contract instead of making a contract themselves. But in any view it seems to me that this is too vague. It is said that .... we are to ask the law what is to be the restraint imposed upon the generality of the covenant. The law is absolutely incapable of answering a question so put."

29 Fry LJ said (at 395-396): "I think the object of the contracting parties was to leave the law to make the contract between them. I think that it is the function of the Courts of Law to interpret contracts; to say whether a contract is or is not reasonable, to say whether it is or is not void, but that it is not the duty of the Courts to make contracts between parties ... So, again, if a limit of time be necessary in order to make the contract reasonable, the Court cannot lay down what length of time is requisite. When the parties to the contract have settled all those matters between themselves, then the Court can attend to the suggestions of those who say that looking at all the particulars of the contract the contract is or is not unreasonable. I repeat that the substance of the document seems to me to throw upon the Court the making of the contract between the parties. For that reason I think it is too vague to be enforced."

30 See also Peters Ice Cream Vic Ltd v Todd [1961] VR 485, 490-491; Austra Tanks Pty Ltd v Running [1982] 2 NSWLR 840, 845-846.

31 What may save cl 13.1 from falling under the principle of these cases is cl 13.4. That clause, to remind the reader, provides that each of the restrictions in cl 13.1 is "separate from one another [and if] any of them or any part of them is unenforceable, the rest are unaffected." A similar provision was considered in JQAT Pty Ltd v Storm [1987] 2 Qd R 162. That case involved a "cascading" restraint by which, upon the termination of his employment, an employee was restrained from engaging in:

There was also a provision that the restraint "shall be construed and have effect as if it were the number of separate sub-clauses... each such resulting sub-clause being severable from each other such resulting sub-clause, and it is agreed that if any of such separate resulting sub-clauses shall be invalid or unenforceable for any reason, such invalidity or unenforceability shall not prejudice or in any way affect the validity or enforceability of any other such resulting sub-clause." The Full Court of the Supreme Court of Queensland found the restraint to be valid. The reason it gave was that each restraint operated separately and cumulatively although they overlapped. That was said not to result in an inconsistency of a kind that would result in uncertainty.

32 There is also a discussion of this topic in Lloyd’s Ships Holdings Pty Ltd v Davros Pty Ltd (1987) 17 FCR 505. There Spender J said (at 520): "If, however, [a cascading] clause contemplates all of the combinations applying with severance of those found to be an unreasonable restraint of trade, then no uncertainty exists. The clauses operate cumulatively with any overlap between the obligations thereby imposed not being regarded as an inconsistency of the kind discussed by Bowen LJ in Davies v Davies." There is a strong argument that this reasoning applies to cl 13.

33 For the forgoing reasons there should be an injunction pending trial preventing the respondents from entering into a franchise agreement with a franchisee unless the agreement restricts the franchisee from providing its own property management services, and also be restrained from permitting any of their existing franchisees from providing those services. The injunction is to be prospective only. I will hear the parties on the form the injunction should take.

I certify that the preceding thirty-three (33) numbered paragraphs are a true copy of the Reasons for Judgment herein of the Honourable Justice Finkelstein.

Counsel for the Applicants:	J W S Peters SC A T Broadfoot

Solicitor for the Applicants:	Lipman Karas

Counsel for the Respondents:	A C Archibald QC D Ryan SC

Solicitor for the Respondents:	Freehills

Date of Hearing:	23 October 2007

Date of Judgment:	2 November 2007

Federal Court of Australia

Run Corp Limited v McGrath Limited [2007] FCA 1669 (2 November 2007)