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Blog Bite: Can a Franchise Enforce a Restrictive Covenant Against Its Competitors?

In an interesting case for parties seeking to impose a geographic boundary on competitive operations, an Ontario Court has held that a franchisor was not entitled to enforce a restrictive covenant because it did not have a legitimate interest to protect within the geographic area prescribed in the covenant.

In MEDIchair LP v DME Medequin Inc. (2016), the Ontario Superior Court of Justice held that MEDIchair LP (“MEDIchair”), the franchisor, could not enforce a restrictive covenant against Medquin Inc. (“Medquin”), the franchisee. MEDIchair operated a franchise network that sold home medical equipment.

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DME had owned and operated a MEDIchair franchisee located in Peterborough, Ontario for approximately 20 years. MEDIchair’s franchise agreement with DME contained a restrictive covenant which prevented DME from engaging in “any business similar to the business carried on by MEDIchair or any of its authorized franchisees” for 18 months, within 30 miles of DME’s store or any other franchisee.

In 2008, 2169252 Ontario Inc.

(“216”) purchased the DME franchise and agreed to comply with the restrictive covenant.

In 2015, the original franchise agreement between MEDIchair and DME expired and DME began operating an identical business under a new name.

MEDIchair sought to enforce the restrictive covenant against DME. The court held that while the covenant was not ambiguous or unreasonably broad, it was not enforceable because MEDIchair did not have a legitimate or proprietary interest to protect within the territorial scope of the covenant since it did not plan to locate a new franchise in the area prescribed in the covenant.

Take-Away:

FOR A FRANCHISOR TO ENFORCE A RESTRICTIVE COVENANT, IT MUST HAVE A LEGITIMATE INTEREST TO PROTECT WITHIN THE TERRITORIAL SCOPE OF THE COVENANT.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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Proceed with Caution when Using a Zero-Hour Contract

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In the United Kingdom, ‘zero-hour’ contracts seem to be popular among the youth due to the lack of job availability for the youth. In such zero-hour contracts, an employer does not have to guarantee work hours or duties to their employees. However, in some cases, employers still include an exclusivity clause in the zero-hour contracts which deny workers the right to work for any other employers. Due to the controversial nature of such contracts, it has been rumored that the United Kingdom government may outlaw zero-hour contracts with exclusivity clauses.

Read the full article here.

 

Take away:

  • Before asking your employees to sign zero-hour contracts, ensure you have reviewed the enforceability of the employment agreement’s restrictive covenants.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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Non-Compete in an Asset Purchase Agreement is Enforceable, but It May Not Be in an Employment Agreement

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Some jurisdictions, including California, permit only post-acquisition non-competes, in order to protect a purchaser’s interest in capitalizing on acquired goodwill for a limited period. If parties to an APA anticipate that the vendor may be employed by the purchaser, and the vendor resides in or the contract has a significant connection to a jurisdiction which prohibits or discourages non-competes on the grounds of public policy, the non-compete should be included in the APA.

In Ascension Ins. Holdings, LLC v. Underwood (January 28, 2015), the Delaware Chancery Court declined to enforce a non-compete contained in an employee investment agreement, despite the choice of Delaware as the governing law, where the employee lived and worked in California, and the geographic restriction of the non-compete applied to California. The plaintiff and defendant had entered into an asset purchase agreement for assets in California. This agreement did not contain any restrictions on competition. The parties subsequently entered into an employee investment agreement, which contained a non-compete.

In California, Section 16600 of the Business and Professions Code prohibits noncompetition covenants. Such prohibition is subject to narrow statutory exceptions such as Section 16601, which permits a person who sells the assets and goodwill of a business to be subject to a noncompetition covenant.

 Despite that the contract specified a Delaware choice of law clause, the court declined to enforce the non-compete, because there was evidence that the parties had not discussed a non-compete at the time of the APA, and therefore the rationale for protecting the purchaser’s bargained-for interest in the goodwill of the business did not apply to the situation.

Read the article here.

Take away:

  • When considering an asset purchase followed by an employment contract with the vendor, any non-compete restrictions should be included in the APA so that it is therefore included as part of the sale of business consideration.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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Applicable Tax Laws must be Considered When Structuring an Asset Purchase Agreement

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The APA should contain clear provisions allocating responsibility for taxes. Parties should also be familiar with the tax laws applicable to their transaction, particularly if it could be argued that the transaction had no practical economic effects other than the creation of income tax losses.

In Slone v. Comm’r, No. 12-72464 (9th Cir. Jun. 8, 2015), the Ninth Circuit considered tax deficiencies, interest and penalties which were not paid after an asset purchase agreement. The IRS sent notices of liability to the former shareholders of the company arguing that the shareholders were “transferees” (under federal tax law) of a party substantively liable for unpaid taxes under state law. The Ninth Circuit found that the tax court “failed to make a finding on whether the shareholders had a business purpose for entering into the stock purchase transaction other than tax avoidance”… or whether there was some economic substance behind it, and remanded the case back to the tax court.

Read the article here.

Take away:

  • Parties should be familiar with the tax laws applicable to their transaction and the tax provisions in the asset purchase agreement in order to minimize the potential for future allegations of tax avoidance.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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A Non-Compete Clause Must be Unambiguous

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Restrictive covenants must be drafted carefully to give adequate protection to the purchaser, and purchasers should be able to show the connection between the price paid for the goodwill of the business, and the temporal and geographic aspects of the non-compete provision. If the non-compete provisions are renewed or extended, care should be taken to clearly adjust the timeline accordingly.

The parties entered into an asset purchase agreement which contained a non-compete provision that stated they were not to compete or interfere with its business relationships for 5 years after the acquisition or 12 months after their employment ended, whichever was later. The court in holding that the non-competition provision was not enforceable, stated that the terms of the restrictive covenants were ambiguous and created doubt about when the non-compete period ended. The legal rights must be clear and the facts undisputed in order to enforce a restrictive covenant in many jurisdictions.

Read the article here.

Take away:

  • When enforcing a restrictive covenant in relation to non-competition, the courts will look at the clarity of the legal rights and whether the facts are undisputed.

 

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This article is provided for informational purposes only and does not create a lawyer-client relationship with the reader. It is not legal advice and should not be regarded as such. Any reliance on the information is solely at the reader’s own risk. Clausehound.com is a legal tool geared towards entrepreneurs, early-stage businesses and small businesses alike to help draft legal documents to make businesses more productive. Clausehound offers a $10 per month DIY Legal Library which hosts tens of thousands of legal clauses, contracts, articles, lawyer commentaries and instructional videos. Find Clausehound.com where you see this logo.

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