Contract law update – Repudiation and how restraint of trade benefits may be lost post termination

Last month the Victorian Court of Appeal handed down judgment in a case which serves as a salient warning for companies or firms when acquiring a business. The case is Crowe Horwath (Aust) Pty Ltd v Loone [2017] VSCA 181.

It  can be common in such circumstances for the new owner to set about reviewing the business practices of the acquired business in its various aspects. They may consider making changes to synergise with the new owner’s own business models. However in doing so, this case demonstrates that the new owner ought take care not to repudiate employment agreements. They may lose the benefit of terms intended to operate to protect the employer post-termination.

More broadly this case also demonstrates that even where a contract provides for certain obligations or restraints to continue to operate post-termination, repudiating the contract may lose the repudiating party those benefits, in certain circumstances.

Repudiation – Key Principles

Before turning to the decision itself, I first set out my distillation of the key principles relating to repudiation and termination of contracts –

  1.  Repudiation is –
    1. Conduct which evinces an unwillingness or an inability to render substantial performance of the contract; evinces an intention no longer to be bound by the contract, or to fulfil it only in a manner substantially inconsistent with the party’s obligations:   Koompahtoo Local Aboriginal Land Council v Sanguine Pty Ltd (2007) 233 CLR 155 at [44]
    2. Any breach of contract which justifies termination by the other party. May include breach of an essential condition, or a sufficiently serious breach [Comment: often multiple breaches] of a non-essential term:  Koompahtoo at [47]-[49]
  2. It is a serious matter, not to be lightly found; it requires a clear indication of the absence of readiness and willingness to perform the contract. Not all breaches will amount to repudiation:  Shevill v Builders Licensing Board (1982) 149 CLR 620, 633
  3. Objective test:  Whether the party’s conduct would convey to a reasonable person, in the position of the other contracting party, renunciation of the contract as a whole or of a fundamental obligation under it:  Koompahtoo at [44]
  4. Response to repudiation can be –
    1. Accept it, and elect to terminate, or
    2. Elect to continue performance of the contract.
  5. To accept and terminate, one must communicate this by words or conduct; the latter must be enough to make the election manifest to the other party:  Karacominakis v Big Country Developments Pty Ltd [2000] NSWCA 313 at [155]
  6. If a party chooses to accept and terminate, the parties are discharged from further obligations to perform, though accrued rights and obligations remain.
  7. Obligations required to be performed in future can survive termination if, on the proper construction of the contract, such obligations are intended to, ie performance is not contingent on the contract’s subsistence. Examples typically can include dispute resolution procedures, choice of law, exclusion of liability, agreed damages, return of property, sometimes restraint of trade. However it is always a question of the proper construction of the relevant contractual term: Richmond v Moore Stephens Adelaide Pty Ltd [2015] SASCFC 147 at [195]-[199].

Facts of the case – as found by the Court

Crowe Horwath (Aust) Pty Ltd (CHA ) acquired an accounting business which included a Launceston office, run by Mr Loone. At all relevant times Mr Loone was the most senior executive and accountant in the Launceston office, and up until 2015 Mr Loone exercised full autonomy in the running of the Launceston office.

In January 2015 CHA was acquired by Findex Group Limited. Through 2015 Findex sought to rationalise and streamline CHA operations across all the CHA offices. These changes were said to be the brainchild of the new owner of CHA. Their nature and implementation were identified by the catchy phrases ‘one best way (to build the business)’, the ‘family office model’, the ‘family office structure’, and the ‘family office initiative’. (See [31] and [124]-[125])

A dispute arose over changes to Mr Loone’s duties under the restructure, and the payment of bonuses to him. As to the former, under the employment contract Mr Loone’s position was that of ‘Managing Principal’. Clause 1.4 provided that the company could require him to occupy a different position, but only if it had consulted with him in relation to the change, and if the other position had at least equivalent status to, and a level of remuneration equivalent to, the position he held. The trial judge found that CHA had breached that clause, and that such breach was so serious as to constitute repudiatory conduct by it.

As to the dispute as to bonuses, CHA proposed to institute an ‘incentive model’ under which, 20% of bonus entitlements would be deferred for a 3-year period. There was a dispute as to the proper construction of clause 7.5 of the employment agreement, which governed annual entitlement’s to bonuses. In the end, the trial judge concluded that the effect of CHA’s decision to implement the new model constituted repudiatory conduct by CHA. There was further repudiatory conduct found, relating to a proposed exclusion from the calculation of the Launceston bonus pool.

In the end Mr Loone left CHA and started his own accounting firm.

CHA argued that restraint of trade clauses in Mr Loone’s employment contract prevented him for 12 months from engaging in competition within 5kms of the prior location, and soliciting work from CHA clients that he had dealt with directly.

Mr Loone argued that the employer CHA had repudiated his contract, he had relied on that repudiation and terminated the contract, and the restraint of trade clause cased to apply and was not enforceable in those circumstances.

The Judgment

At first instance the trial judge agreed with Mr Loone, holding that CHA had repudiated Mr Loone’s employment contract, Mr Loone’s acceptance of the repudiatory conduct terminated the contract, and the restraint of trade clause was unenforceable in those circumstances. [155]

The Court of Appeal agreed, in a unanimous judgment. Their Honours acknowledged that the restraint of trade clause was designed to protect the interests of CHA, and was intended to operate after the contract terminated. [193(1)]. However there is clear authority that language such as that used in the restraint of trade clause will not save the restraint clause where an employer’s repudiatory conduct is accepted by an employee. [193(12)] Their Honours took the view that it was not necessary to conclude there was a ‘rule of law’ which dictates this result in every factual situation involving an employee’s acceptance of an employer’s repudiation of the contract between them. But having said that – all cases considered to date have produced the same outcome. [193(6)]

Indeed the Court noted that for over 100 years a series of decisions in the High Court, and in courts of higher authority in England and Canada have stated that a restraint clause is not enforceable against an employee whose employment ends by the employer’s wrongful conduct. That conduct might be wrongful dismissal, or the employee’s acceptance of the employer’s repudiatory conduct. But researches of all counsel involved, the trial judge, and the Court of Appeal had revealed no reported case in a court of superior jurisdiction in Australia or England which had decided otherwise. [193(3)-(4)]. From paragraph [196] onwards the Court then reviewed many of those decisions, concluding at [271] that the authorities show a consistent trend – though with different juridical explanations – denying an employer who has repudiated a contract of employment, which repudiation has been accepted by the employee, from relying upon a restraint clause against the employee.

In this case, the Court of Appeal took the view that termination of a contract by an employee’s acceptance of an employer’s repudiatory conduct could be said to stand outside the contractual provisions relating to termination. On the proper construction of this contract, the intention of the parties, objectively ascertained, was that the clause would not operate in those circumstances. Acknowledging that the contract provided that: “The obligations in this Schedule 2 [including the restraint of trade clause] survive the termination of the Employment in all circumstances and for any reason“, the Court held that the words in bold should be understood to embrace any and all of the circumstances of termination set out in the contract, together with repudiatory conduct of the employee accepted by the employer – but not the converse. Their Honours reasoned that:

Such a construction is compatible with the fact that the restraint clause was designed to benefit the employer but recognising that there is good reason to differentiate, on objective consideration of the contract, between the consequences of gross default by the party claiming the benefit of such a clause and gross default by a person bound by the burden thereof.” (See [193(11)])

Takeaways

Care ought be taken after a business is acquired when the new owner may move to implement changes to business practices to increase synergies and improve efficiencies. Whilst those changes may be worthwhile from a business perspective, care ought be taken to avoid repudiating employment agreements. This could lead to key staff leaving and setting up business in competition, unfettered by the restraint of trade clauses that ought to have endured to protect the business they have left.

More broadly this case also demonstrates that even where a contract provides for certain obligations or restraints to continue to operate post-termination, repudiating the contract may lose the repudiating party those benefits, in certain circumstances.

* This case review was one part of a presentation I was asked to give on 15 August 2017 to the Leo Cussen Centre for Law’s 2017 Corporate Counsel Conference, on recent cases and developments in contract law. I thank Leo Cussen for their agreement to my publishing this case review here.