Can you rely on the non-compete provision in your business sale agreement?

It is becoming increasingly popular for buyers to request non-compete provisions in business sales agreements, to prevent the seller of the business from undertaking any activity that could compete with the buyer. Often these clauses restrict the activities of the seller for a fixed period of time following completion of the sale.

However, if the non-compete provision is incorrectly drafted, it could (if challenged) be deemed unreasonable and therefore, unenforceable. This happened in the case of Ivy Technology Ltd v Martin [2022] EWHC 1218 (Comm). In this case, the High Court considered whether a non-compete covenant given by the seller was unenforceable on the basis that it went further than reasonably necessary to protect the buyer’s legitimate business interest.

Below we explore the facts of the case and the decision reached by the court – which provides a helpful reminder of the principles the courts will apply when considering the enforceability of non-compete restrictive covenants in business sale agreements.

Facts

The claimant (Ivy) entered into a share purchase agreement (SPA) with the defendant under which Ivy acquired the shares in several corporate entities (Target Companies) that together comprised an online gambling business.

The defendant was a shareholder of the companies purchased by Ivy under the SPA and was a party to the SPA. The court agreed that some of the defendant’s objections to the wording of the covenant raised serious concerns.

Analysis

Under the non-competition provision, the defendant agreed that he would not (for a period of five years):
(i) compete with Ivy in any activity which is identical, similar or otherwise;
(ii) interfere or seek to interfere, directly or indirectly, with any relationship between Ivy and/or the Target Companies and any client, customer, employee or supplier of any business related to the business of any of the Target Companies and/or Ivy; or
(iii) solicit for employment, or hire, any employee or consultant of any of the Target Companies and/or Ivy.

In respect of the third limb of this clause, the defendant argued that there was no limitation on the seniority of those employees or consultants, nor any requirement that they held any confidential information. The employee or consultant could have been recruited after the date of the SPA, and after termination of the defendant’s relationship with Ivy. The defendant need not even have known that the individual was an employee or consultant of Ivy to fall foul of the prohibition.

The defendant also objected to the five-year period of the restriction and the fact that it applied to every element of the clause. In respect of the length of protection required, it was argued that Ivy made no attempt to distinguish between less invasive elements such as non-interference with clients and non-poaching of employees and the more invasive bare and broad non-compete provision.

Principles applied by the Court

Three questions have to be decided when considering the enforceability of this type of covenant:

1. First, the court must decide what the covenant means when properly construed.
2. Secondly, the court should consider whether the party relying on the covenant has shown on the evidence that it has legitimate business interests requiring protection.
3. Thirdly, once the existence of a legitimate protectable interest has been established, the covenant must be shown to be no wider than is reasonably necessary for the protection of those interests.

In this case, the court was not persuaded that Ivy had discharged the burden of showing that the clause was reasonable. Despite Ivy’s legitimate interest, a covenant lasting as long as five years was a serious imposition requiring specific justification. The same applied to the potential application of the clause to employees or consultants however insignificant their role and even if they joined the business after the sale.

If you are looking to enter into a business sale agreement and/or want to impose a non-compete covenant on a seller, please do get in touch with our Corporate Team, who would be happy to support you with this.