Supreme Court of NSW|1998-05-14|Before: Young J

Matter No 1599/98 [1998] NSWSC 170 (14 May 1998)

The Supreme Court of New South Wales Equity Division

HIS HONOUR: This is a dispute between a managing director and his former employer which focuses upon what the managing director now intends to do with his business life.

By clause 9.1 of the deed, the defendant, Mr Bourke, covenanted that he would not "be employed engaged or interested directly or indirectly in any capacity whatsoever and whether as employee agent manager director partner shareholder or otherwise" for three several years after his termination in any of the following businesses:

"(i) the business of manufacturing or selling biscuits within

(ii) a business which competes with a business which at the

Termination Date is being conducted by the Company or

any of its subsidiaries in Australia and/or New Zealand

and/or in one or more countries in Asia and which, viewed

at that date, constitutes a substantial part of the total

business of the Company or the relevant subsidiary,

Mr Bourke left the employment of the plaintiff on 8 January, 1996. The parties entered into a deed of release on that date. The deed of release provided that Mr Bourke's employment terminated on the basis that he was "resigning for good cause" within the meaning of the deed of employment. It also provided Mr Bourke would receive the termination benefits under clause 7 of the employment deed. Clause 15 of the deed of release was as follows:

"The provisions of clause 9 of the Deed of Employment will continue to bind the Employee to their full force and effect."

On the same day, the defendant was paid $1,507,044.00. It is admitted on the pleadings that this amount represented three years of total gross salary payable in accordance with the termination formula in the deed of employment.

In late 1997, Mr Bourke was "head-hunted" by personnel consultants and in February 1998, was offered the position of managing director of Cadbury Schweppes Pty Ltd Confectionery Division. He was to commence employment with Cadbury Schweppes on 28 April 1998. This induced Arnott's Limited to commence these proceedings on 4 March 1998 for an injunction. The proceedings were heard by me on 6 and 7 April 1998 and at the end of the oral hearing I announced that I dismissed the claim for injunction and because I had done that, the great urgency in the case vanished and I would reserve further consideration of all other issues and give a reserved judgment in due course. These reasons now fulfil that commitment.

It appeared at the hearing that the issues that I needed to consider were: (A) of clause 9.1 of the employment deed;

(B) the significance of the Restraints of Trade Act 1976;

(D) the question as to whether Cadbury Schweppes is a biscuit

Before dealing with these matters, however, I should indicate why it was that I dismissed the claim for injunction. Essentially, it is that the witnesses for the plaintiff gave the very firm impression to me that they did not really feel that Mr Bourke's activities in Cadbury Schweppes would injure the plaintiff's dominant position in the biscuit market. However, they were quite incensed that a man whom they had paid $1.5 million, virtually his salary for three years, should both collect his salary and also take a position with a competitor in the field. On that view of things, the case was one for damages or equitable compensation rather than an injunction because damages would be an adequate remedy.

I now turn to consider the four matters that I have noted above.

(A) It was fairly conceded by Mr Finch SC, who appeared with Mr C Henderson for the plaintiff, that if one read the clause in a strictly literal fashion, it was too wide. This is obvious enough because the words would prohibit Mr Bourke from working as a check-out operator in a rural supermarket which sold biscuits, a position which could hardly cause any difficulty to the plaintiff at all. However, Mr Finch SC said that the proper construction of the clause was that it was limited to managerial and executive employment. He says that when one reads the clause conjunctively and reads out inapplicable words there is a covenant against being employed or engaged as manager, director, partner in a business of manufacturing or selling biscuits within Australia or New Zealand. Mr Finch SC says that one gets to this by merely applying the blue pencil rule by severing the clearly invalid from the rest and what is left is a properly binding covenant which deals with the situation that has arisen. He says, and this is a matter to which I will return in section (D), that Cadbury Schweppes is a company carrying on the business of manufacturing or selling biscuits within Australia or New Zealand.

I do not really consider that this is a case for the blue pencil rule. The striking out of the words upon which Mr Finch SC places no reliance would effectively create a new covenant. Apart from reading out directly or indirectly in any capacity whatsoever which seem to be key words in the covenant, there is also a divorce of the words "employee and agent" from the word "manager" and the consequential linking of the word "manager" with director and partner. I do not consider that the blue pencil rule can save the clause.

Apart from that submission, it was conceded that the clause was bad under the general law. However, Mr Finch SC said that it was only bad for the third year, and that it was only the time restraint that made the covenant invalid under the general law.

I am not at all sure whether this is correct, but it really does not matter very much. The evidence suggests that managing directors are generalists and that they have some basic organisational skill which means that it does not really matter too much what are the details of the business which they are managing. Furthermore, as Mr Ellicott QC who appeared with Mr J Fernon for the defendant put, it is in the public interest that managing directors move freely. There is no real need to protect businesses against a former managing director for as long a period or for as wide an area as might be the case with a senior employee who had particular skills in a discrete part of the detailed workings of the company concerned.

However, even though the covenant is clearly bad, it is useful to look at what the words of the covenant mean because in the exercise to be done under the Restraints of Trade Act in section (B), this information will be useful.

The initial oddity of the clause is in the word "business". The clause seems to suggest that a person is engaged or interested in a business and that the person can be so engaged or interested as employee, agent, manager, director, partner, shareholder or otherwise.

Thus it is not so much employment in the entity that is the company or partnership or even trust which carries on the business that is prohibited, but employment in the actual business of doing the specified things. Accordingly, there is no problem about being employed by a company, one of whose businesses is biscuit selling, provided that the employee is not employed in that business by that company.

Mr Finch SC says that business does not necessarily mean the dominant activity of a particular company or other entity and what is the subject of the covenant is that the person will not be employed by a company in any one of its businesses whether the dominant business or not is the prohibited business. I must confess I cannot see how this could be so on the words that are used. Indeed, Mr Ellicott QC, in his address, gave what I would think is the answer to this argument. He put that suppose a company has its businesses of biscuit manufacturing and coal mining. How could it be supposed for a moment that a person could not be employed in the coal mining activity of that company even though the company also carried on biscuit manufacturing.

Mr Ellicott QC said that "business" really meant business activity. This is clear, he says, and I would agree, with the wording of (ii), that is, one must look at a business undertaking which at the relevant date is being carried on by Arnott's and then look to see whether the business activity in which the former employee is involved is one which competes with Arnott's business activity.

However, then one has to look at why it is that the covenant has included both (i) and (ii). Mr Ellicott QC says that (ii) would be otiose if "business" meant dominant business. Mr Finch SC says that (ii) could not be otiose; it was inserted to deal with the situation that the company may change its business or some of its businesses between the time of entry into the employment agreement and the time of termination.

If one is looking at (ii), then one must identify a business of Arnott's which constitutes a substantial part of its total business and then look to see whether the other business activity being engaged in by the former employee competes with that business. What is a substantial part is a question of fact and is to be assessed in accordance with the way in which the word "substantial" is being construed by the courts in cases such as Tillmanns Butcheries Pty Ltd v Australasian Meat Industry Employees Union [1979] FCA 85; (1979) 42 FLR 331, 348 and Dowling v Dalgety Australia Ltd (1992) 34 FCR 109, 138. The evidence shows that if one can compartmentalise Arnott's business activities into biscuit manufacturing/selling/distribution activities on the one hand and confectionery manufacturing/selling/distribution on the other hand, whilst the former is a very substantial part of the business of Arnott's, the latter is relatively insignificant. If it is valid to split the two businesses, then in my view on the evidence in this case, Arnott's confectionery business is not a substantial part of its total business.

With these thoughts in mind I now pass to the Restraints of Trade Act.

(B) There are two basic provisions in s 4 of the Restraints of Trade Act, the first in subsection (1) is that "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 second is in subsection (3) where the court may, on application by a person affected by the restraint, having regard to the circumstances on such terms as it thinks fit, order that the restraint be valid to such extent as the court thinks fit.

The most recent exposition of s 4 is by the Court of Appeal in Kone Elevators Pty Ltd v McNay (1997) 19 ATPR 41-564. The court said that under subsection (1), if the court can read down a covenant it may restrain a particular breach even though the covenant is expressed in wide terms. Thus, the court does not consider all the possibilities as to how far the covenant restrains the former employee, but rather focuses on the actual set of facts which present themselves. As McLelland, J said in Orton v Melman [1981] 1 NSWLR 583, 588, "In applying s 4(1) the court should consider the circumstances of the particular case before it and determine the validity of the restraint to the extent that it purports to operate in those circumstances ...".

Here, the covenant purports to restrain, amongst other things, a person being the manager of a business of managing or selling biscuits within Australia or New Zealand. The defendant is about to engage in a managerial position with Cadbury Schweppes. Ignoring all other possibilities, if the covenant can be read down to cover this situation, then it is enforceable to that extent.

(1) The covenant can be read down to prevent a person managing another biscuit business.

(2) Managing another biscuit business is what the defendant is going to do.

(3) The restraint on the defendant from so doing in the third year after he left his employ was not against public policy.

(4) The answers to the relevant questions are the same whether one asks them as at the time the contract was entered into or as at today's date (this needs to be said because in Geraghty v Minter (1949) 142 CLR 177, 178 the High Court said that the validity of the covenant is to be decided at the time the agreement is made though one can look at future factors that the parties may well have had in contemplation).

Mr Finch SC puts that three years was a reasonable time period to take. The evidence shows that strategic plans in this industry extend over five years and there was the benefit of payment of three years salary after the employment had terminated.

Mr Ellicott QC says that the matter is not that simple. First of all he says that the process of reading the concatenation of words down to just manager is not just reading down but is reconstructing. The plaintiff concedes that the word "manager" is too wide because that would include, for instance, a person who was a manager of a retail shop which just sold biscuits. The word has to be reinterpreted to mean executive manager or chief manager. Again, one cannot get to the result by focusing on the word "director". The real complaint here is that Mr Bourke is to act as managing director. It is more than an exercise of just reading down to convert "manager, director" to "managing director".

It is clear not only from what Needham, J said in A Buckle & Son Ltd v McAllister (1986) 4 NSWLR 426, 434, but also from later authorities (see eg the Kone case in the Court of Appeal at p 43,833), that the court is not able to remake the covenant, but may only read it down to the current situation if that is possible. However, whilst lip service is paid to this concept, it does seem to me in practice that what is involved in reading down is getting into an expanded category. It may well be that this is the real difference between my decision in Kone and that of the Court of Appeal. Furthermore, there is a little difficulty in working out what the word "down" means in the expression "reading down". If it means, as I think it does, reading something as more particular than the general term used, then executive manager or chief manager is a more particular occupation than manager. I have a little more doubt as to whether managing director is a particular form of director because whilst on the one hand the people who fall into the category of managing director are a smaller group than fall under the heading "director", it can also be said that a managing director's powers are often more extensive than a non-executive director. However, it does seem to me that within the current interpretation of "reading down" a manager in the office of a managing director is a reading down of the word "manager" and this is sufficient for present purposes.

I now have to look at the time period. Mr Ellicott QC says that the third year of the term of the restraint is far too wide. He says that if one looks at the employment deed one can see that under clause 2.1(a) of the employment deed, the plaintiff could give the defendant six months' notice of determination of employment. The deed was not a deed for employment for a fixed term, but rather one which was determinable on six months' notice. As the covenant has to be judged as at the date it was entered into, one judges it no later than 8 December 1993. At that stage, there was no knowledge as to how long the executive would remain as the managing director or what confidential or other information he may absorb, or how long it would be for that material to become so dated that its possession would be virtually useless. Even if one did look at subsequent events, one could see that managing directors are people who are generalists and that there is no specific confidential information which is still valid that Mr Bourke possesses, and indeed, Mr Roberts who succeeded Mr Bourke as managing director has now been in office for two and a quarter years and is completely on top of the situation.

Mr Ellicott QC also says that it is erroneous to take the deed of release into account. He submits that this deed did not impose any new obligations or give any new benefits. The obligations and benefits were already existing. All the deed of release did was to put it beyond argument as to the basis of the termination. I agree with this submission. There is a very real difference between creating a right and recognizing a pre-existing right and the form of the deed of release is such that it is clearly in the latter category.

When a person is suing on a covenant in restraint of trade, it is necessary for that person to prove that the restriction is reasonable in all the circumstances. So far as time is concerned, reasonableness will usually be demonstrated if it is shown that the customer connection or trade secrets need to be protected for a certain time. Beyond this, as Heydon says in The Restraint of Trade Doctrine (Butterworths London 1971) p 198, there is very little discussion in the cases of the problems of time. As far as I am aware, there is no case which deals with the proposition that if an employer pays an employee a salary for three years after termination, that that in itself will support a three year clause.

If it were only a matter of protecting confidential information, I would have thought that at least after two years it would be very questionable whether the information had sufficient status to protect it against the public interest of allowing people to work wherever they can. However, I consider that one does need to look at all the terms in the deed of employment and a very core term was the payment that was to be made to the executive after termination. It may be that the executive was only in the employ of the plaintiff for six months, but whether that be so or not, it would seem to me that he was entitled to three years' salary after termination and three years was the same period as the restraint clause. It seems to me impossible to say that the two were not, at least in some ways, linked.

The extra factor dealing with the three year payment seems to me to put the case over the line in favour of the plaintiff that the time restraint was reasonable.

Accordingly, unless there is some joy for the executive in section (D) of these reasons, the plaintiff would be entitled to some relief.

It became clear at the oral hearing that the thing that rankled with the plaintiff more than anything else was the fact that the defendant would be working with a company which it considered to be a competitor during a period when he had been paid a salary by the plaintiff virtually to freeze him from other employment, or that at least is the way the plaintiff saw it.

The restraints under the covenant would ordinarily last until 7 January 1999. From 28 April 1998 when the contract with Cadbury Schweppes commenced until 7 January 1999, is on my calculations 256 days or 0.701% of a year. If one calculates the proper proportion of the $1,507,044 (for three years) over 256 days, the result is $352,331.21. The plaintiff says that this is the proper measure of the equitable compensation which should be paid to it because of the defendant's breach.

The fallacy in this approach, according to Mr Ellicott QC, is to make two unwarranted assumptions, (a) that the payment is in respect of the covenant for termination; and (b) that if (a) is incorrect, every breach of the covenant means that the pro rata termination sum for the relevant period is to be refunded.

In my view, submission (a) is correct. The document itself does not say that the termination moneys are in consideration of the covenant. It could easily have done so, the document was in the control of Arnott's whilst being drafted, yet it does not say so. The only tentative link between the two are the fact that the periods are the same. It is not at all uncommon in senior employment contracts to pay for a period after the employment has terminated because usually there will be a period during which the employee may, even if he wished to, find it difficult to get immediate employment and the company does not want him to get immediate employment at least in the same industry because of his then current knowledge. There is also nothing to prevent employers and employees agreeing that the payment for current work shall be partly paid for after the employment has terminated.

Clause 7.1 of the employment deed does not say that the termination benefit is an additional payment for work already done and there is some indication that it is not in this category, the indication being the three year period and the fact that the benefit was fixed under clause 7 no matter how short or how long the employee may work. However, there are also indications the other way, the most telling of which is that the moneys were to be paid on the executive's death or upon him retiring because he was totally and permanently disabled in neither of which case could it be said that the termination payment was in any way linked with the obligation not to compete. Looking at all these matters it seems that the latter is by far the most significant, and accordingly it is not right to class the amount which Mr Bourke was to receive under clause 7.1 as a payment for the non-competition clause which should be abated proportionately if he competed.

As to proposition (b), this is probably also correct, though it is not necessary to look at it in detail in view of the decision I have just reached on proposition (a). However, viewed in this way the amount which Mr Bourke would have to forfeit for a breach, even a slight breach, would bear no relation to the amount of damage which the plaintiff may have suffered. In this sense, to allow the construction of the deed contended for by the plaintiff would virtually be to permit the imposition of a penalty.

Accordingly, in my view, as no particular damages have been proved and as it would be wrong to proportion the 256 days, the only damages or equitable compensation which Arnott's could achieve for breach of the covenant would be nominal which I would tentatively assess at $5,000.

(D) Is the position that Mr Bourke is about to take with Cadbury Schweppes a position of a managing director of a business which manufactures or sells biscuits within Australia or New Zealand, or is a business which competes with a business which constitutes a substantial part of the total business of Arnott's?

As I have already indicated, being managing director of a company which carries on the proscribed activity is not sufficient. The executive must be involved in managing the actual business of either selling biscuits or which competes with a substantial part of the plaintiff's business.

Is the defendant then, in his role at Cadbury Schweppes, to be a chief manager of a business which sells biscuits?

The main debate here has focused on the boundaries between the marketing of biscuits and the marketing of confectionery. Mr Bourke says that Cadbury Schweppes Pty Ltd manufactures and distributes confectionery and soft drinks in Australia. He will be responsible as managing director of the confectionery division in respect of chocolate snack bars, block chocolate, children's chocolate bars, Pascall confectionery, chocolate flavouring and 0.6% of the division's work involves the sale of chocolate biscuits. He says the sale of biscuits is a relatively insignificant issue. He says that Arnott's Tim Tam and Mint Slice bars are not sold in the confectionery sections of supermarkets and in any event only cover about 1% of Arnott's total sales.

Mr Roberts, the current managing director of Arnott's, says that his company's core business is biscuits as opposed to chocolate confectionery. However, there is an interface between the categories of chocolate biscuits and chocolate confectionery. He says the Cadburys Doubles biscuits are visually similar to Arnott's Tim Tam, and are made of similar biscuit and filling.

It is not at all unusual for there to be doubt into which category an article falls. The cases on the Sales Tax Classification Act give countless examples where an article could be, for instance, a toy being a fantasy garment that a child could don, or an article of clothing. This is often important as sometimes the sales tax is considerably more if it is in one category than the other. Re Sterns Playland Pty Ltd and The Collector of Customs (No 2) (1982) 4 ALD 562. A decision has to be made and it is made initially by the taxing authorities and nowadays on appeal by the AAT. Tribunals having to make this sort of decision consider the statutory definitions, they also look at the dictionary definitions of the categories and also consider how the relevant article is sold. The definition of biscuit in the Macquarie Dictionary is primarily "A stiff, sweet mixture of flour, liquid, shortening and other ingredients, shaped into small pieces before baking or sliced after baking." The dictionary definition of confectionery is "Confections or sweets collectively". It will be seen that whilst the two categories overlap, the term "confectionery" is the wider of the two. The way in which the product is sold is relevant but not conclusive as to its categorization, Sterns Playland case at p 569. In the instant case, it is common knowledge as well as being the evidence in these proceedings that in a supermarket confectionery and chocolate biscuits and indeed biscuits generally are sold in separate areas though occasionally they may adjoin. I do not consider that the application of these tests enable me to find that the business of selling confectionery which includes a small amount of product closely similar to a biscuit is the business of selling biscuits.

Returning again to clause 9(i) of the employment deed, the earlier discussion showed that the clause referred to the dominant business of the competitor being selling biscuits. On the evidence, Cadbury Schweppes is not putting Mr Bourke in such a position.

So far as (ii) is concerned, one has got to focus on the word "competes". Does a confectionery business which has a 1% overlap with the biscuit selling business, compete with it?

It is to be noted that it is not the company operating the business but one must look at a business activity in which the former employee is an executive manager which competes with a business activity of Arnott's which constitutes a substantial part of Arnott's total business.

The word "competition" is, as the Trade Practices Tribunal said in Re Queensland Co-operative Milling Association Ltd (1976) 25 FLR 169, 188, a very rich concept containing within it numbers of ideas.

The clause does not indicate the degree of competition that is involved in the paragraph. Anyone who is in the same market place or has a similar product to someone else's product, is in competition. However, if the clause were read that widely, the restriction would be invalid because the restriction would be an unreasonable restraint of trade being far greater than was required for the protection of the employer's goodwill or trade secrets. Accordingly, one must either construe the word "competes" or alternatively read down that word so that it means something like competes in a substantial way or is a serious competitor of an Arnott's biscuit activity. So construed or read down, the activities of Cadbury Schweppes in the business in which Mr Bourke is to be employed does not compete with Arnott's biscuit business, the overlap being only about 1%.

It follows from the above analysis that the proceedings must fail.

I should note finally that Mr Finch SC did put forward a further argument that there was an unjust enrichment of Mr Bourke by his retaining his pay whilst working for a competitor as well. This argument must fail for three reasons, (1) because on the above analysis the payment on termination was not just a payment in lieu of working for three years; (2) there is no traditional principle of unconscionability or otherwise which would warrant a court making a restitutionary order in this case; (3) in any event, there was no freeze on Mr Bourke taking further employment. He could have become a managing director of say, a company organising the Olympic Games at a very high salary, and could have recovered both that salary and also retained his termination payment. There is no logical reason why things would be different if he joined a competitor.

Accordingly, the proceedings must be dismissed with costs. The exhibits may be returned after 28 days.

ARNOTT'S LIMITED v BOURKE

At a glance

Court

Decision date

Before

Source

Judgment (71 paragraphs)

Matter No 1599/98 [1998] NSWSC 170 (14 May 1998)

Parties

Legislation Cited (2)

Cases Cited (5)

**ARNOTT'S LIMITED v BOURKE**

At a glance

Court

Decision date

Before

Source

Judgment (71 paragraphs)

Matter No 1599/98 [1998] NSWSC 170 (14 May 1998)

Parties

Legislation Cited (2)

Cases Cited (5)

ARNOTT'S LIMITED v BOURKE