This chapter is written from a New Zealand point of view and the cases referred to are New Zealand legal cases.
There are no franchising-specific laws in New Zealand. However, as you would expect, there are existing laws that protect franchisees, the main three of which are the Fair Trading Act 1986, the Commerce Act 1986, and the Contract and Commercial Law Act 2017. There is no legal definition of ‘franchise’ but the rules of the Franchise Association of New Zealand define franchise as:
The method of conducting business under which the right to engage in the offering, selling or distributing of goods or services within New Zealand includes or is subject to at least the following features:
- The grant by a franchisor to a franchisee of the right to the use of a mark, in such a manner that the business carried on by the franchisee is or is capable of being identified by the public has been substantially associated with a mark identifying, commonly connected with or controlled by the franchisor; and
- The requirement that the franchisee conducts the business or that part of the business subject to the franchise agreement, in accordance with the marketing, business or technical plan or system specified by the franchisor; and
- The provision by the franchisor of ongoing marketing, business or technical assistance during the term of the franchise agreement.
Restraint of trade
During the term of the franchise agreement, a franchisee is normally prevented from carrying on any competing business and may also be prevented from carrying on any other business, as his or her full time and attention is critical to the success of the franchise business.
The franchise agreement will also almost invariably contain a restraint of trade that will apply to the franchisee following the termination or expiration of the agreement or the sale of the franchise business to a third party. The length and area provisions of the restraint will normally be set out in a schedule and they will be subject to general legal principles governing restraints of trade.
The courts have recognised that it is reasonable for a person in the position of the franchisor to impose a contractual restraint upon any competitive conduct by a franchisee. Contractual restraints of this type are known as ‘restrictive covenants’ or ‘agreements in restraint of trade’.
Such agreements must not exceed the boundaries of the courts’ notion of reasonableness. There are two competing principles that govern the courts’ decision-making process. The first principle is that it is reasonable for a person to stipulate that if he or she is willing to disclose all secrets of how to establish a particular business enterprise then the recipient of the information cannot immediately terminate the contract and set up a competitive business, using the information that it has received during the course of the educational process. If the courts did not provide protection to franchisors in such situations, there would be no incentive for the owners of established businesses to share their secrets with others and enhance their business skills.
The second principle is that it is important for the well-being of the community that every individual should, in general, be free to advance his or her skills and earning capacity. The way these two conflicting principles are resolved is to require that a restrictive covenant must be ‘reasonable’ in its terms before it will be enforced.
The current position in New Zealand is set out in section 83 of the Contract and Commercial Law Act 2017. It states as follows:
(1) The court may, if a provision of a contract constitutes an unreasonable restraint of trade, –
(a) delete the provision and give effect to the contract as amended; or
(b) modify the provision so that, at the time the contract was entered into, the provision as modified would have been reasonable, and give effect to the contract as modified; or
(c) decline to enforce the contract if the deletion or modification of the provision would so alter the bargain between the parties that it would be unreasonable to allow the contract to stand.
(2) The court may modify a provision even if the modification cannot be effected by deleting words from the provision.
What this means in practice is that if a franchise agreement provides for a three-year period of restraint when a two-year period would be considered to be reasonable, the covenant would be enforced to the extent that it could be rewritten by the court as being confined to a two-year term. The ability of the courts to modify excessive restraints is constrained by the principle that terms that could never have been considered reasonable will not be modified. The reason for this is that it is considered to be contrary to public interest that a person should be able to intimidate a contracting party by stipulating for a wholly unreasonable constraint and then have the court come to its rescue and rewrite the contract so that it falls within the boundaries of reasonableness. This is the doctrine of restraints that are ‘in terrorem’ (ie, contracts that ‘terrorise’ a contracting party). If a franchisor could only ever have reasonably sought a two-year restraint within a 5 kilometre radius of the business from which the person established a goodwill, a nationwide restraint for six years could never be regarded as reasonable and the courts would refuse to enforce a clause to implement the latter restraint, even if it was in the franchise agreement.
What then is a reasonable restraint? There are two factors: area and time. For a franchise that teaches making coffee and running a café, an area of restraint would typically be confined to the area in which the franchisee is likely to establish goodwill. A person who establishes a café in Auckland city is likely to establish goodwill that extends perhaps 200 to 400 metres from the site. There are so many other competing cafés that the goodwill would not extend much further than that.
The duration of a restrictive covenant should be such as will enable a franchisor to interpose a new operator who will have a reasonable time to secure the retention of the customers. In the case of a café, it is unlikely that this will extend beyond two years.
A typical clause
A typical restraint on competition clause included in franchise agreements is the following:
1.1 The franchisee covenants that it shall not during the term (or any period in renewal or extension of it) except with the prior written approval of the franchisor, carry on or be directly or indirectly engaged or concerned or interested whether as principal, agent, partner, shareholder, investor, financier, lender, director, employee, consultant, independent contractor or otherwise howsoever in any business conducted in competition with the business, the franchisor and its other franchisees.
1.2 Both during the term and also following the termination of this agreement or its expiration by the effluxion of time the franchisee shall not:
(a) act in any way to adversely affect the persistency or retention of the customers of the business; or
(b) indefinitely use or disclose in any way the intellectual property or confidential information as defined in this agreement.
1.3 The franchisee shall not during the term or any renewal period or at any time following the termination of this agreement or its expiration through the effluxion of time for any reason disparage or do anything calculated to damage the franchisor’s goodwill, reputation and intellectual property rights or the goodwill of any other franchisees.
1.4 The parties agree that the restraints and restrictions contained in this agreement shall each operate as a separate and independent obligation of the franchisee enforceable to the full extent permitted by law, and shall not be affected by any invalidity in any other restraint or restriction contained in this agreement.
1.5 The franchisee and the guarantor shall not during the term of this agreement directly or indirectly engage in any activity or own or operate any similar business to the business or become interested whether as principal, agent, partner, shareholder, investor, financier, lender, director, employee, consultant, independent contractor or otherwise in any such business without the written consent of the franchisor.
1.6 The franchisee and the guarantor shall not for a period of two (2) years after the termination of this agreement or its expiration through the effluxion of time either on their own account or with or for any other person, firm or company or by their servants or agents, solicit or endeavour to entice away from the franchisor or any other franchisee by any means whatsoever any business from any person, firm or company who during the term of this agreement is or was a customer of the franchisee or of the franchisor or of any other franchisee in the franchise network.
1.7 This restraint on competition shall apply to both the franchisee and the guarantor for the period as set out in the schedule from the date of termination or expiration of this agreement both within the territory or within the distance as set out in the schedule from a franchised area.
1.8 For the purpose of this clause, acts done by the franchisee and the guarantor outside the territory shall nonetheless be deemed to be done within the territory where their primary purpose is the obtaining of any business carried on by the franchisor and/or its agents within the territory from any person, firm, company or other entity with business premises within the territory. This restraint of trade restriction shall also apply to any internet use of the business by the franchisee and by the guarantor.
1.9 The franchisee and the guarantor acknowledge that the restraints as stated in this clause are fair and reasonable and are necessary to protect the franchisor.
The Commerce (Cartels and Other Matters) Amendment Act 2017 is a recent amendment to the Commerce Act 1986. Key changes include the following.
Cartel conduct restrictions
The new cartel conduct restrictions include the previous restrictions on competitors fixing prices as well as new restrictions on competitors jointly restricting output and market allocating.
These new restrictions will have the most far-reaching impact on business.
Collaborative activity exemptions
This is a new cartels exemption for permitted ‘collaborative activities’. Competitors will be able to seek clearance for proposed collaborative activities if they give certainty that the proposed activities will not breach the Commerce Act.
Vertical supply contract exemption
This is a new exemption for cartel provisions that are included in vertical supply contracts where certain requirements are met.
Because the cartels legislation impacts upon key areas contained in franchise agreements, it is very important to explain the basis of a number of clauses that are commonly inserted in franchise agreements. Such clauses include approved products, approved services, restraint area, restraint period and location of a franchised operation.
As I have said above, the restraint on competition clause is essential in any franchise agreement but it must be carefully drafted so as not to infringe the Commerce (Cartels and Other Matters) Amendment Act 2017. In relation to the restraint area, this should be defined as within a franchise or company-owned territory, for example, within 25 kilometres of a franchise or company-owned territory. The purpose of the restraint area is to provide some protection to each franchisee and to encourage investment by all franchisees within the franchisor’s system, and also to provide some sort of protection to potential new members of the group. The restraint period may be defined as one or two years and its purpose is to encourage investment by current and potential franchisees to build and operate their businesses. If any franchisee chooses to leave the group in the future, then the restraint period will provide some protection for the remaining franchisees.
Mike Pero (New Zealand) Limited v Krishna and Mortgage Suite Limited2
This case relates to an existing dispute between Mike Pero and a group of previous franchisees.
Mortgage Suite Limited entered into a franchise agreement with Mike Pero on 20 October 2010. Both Krish and Veena Krishna were covenantors. The franchise agreement contained a deed of restraint of competition in Schedule 7. Krish Krishna notified Mike Pero on 30 March 2015 that he did not want to renew the agreement, so the franchise agreement would end on 30 June 2015.
Krishna and the group of other franchisees filed High Court proceedings on 20 April 2015, seeking a declaration that the Mike Pero restraint was unenforceable. Mike Pero filed an appearance objecting to the jurisdiction of the court as it was subject to arbitration first. By way of correspondence between the parties, Krishna agreed not to solicit any customer that he acted for when he was a franchisee. Krishna acknowledged that on 1 July 2015 he wanted to establish a business in direct competition with Mike Pero. Mike Pero sought and received orders under the Arbitration Act and Hinton J made interim orders confirming the restraint.
Krishna had a LinkedIn page and professional adviser’s webpage. The issue related to whether these two pages breached the restraint and the orders of Hinton J.
Krishna argued that the orders by Hinton J were wider than the restrictions in the franchise agreement. This is because the words, lack of temporal or geographical restriction and dealing with the public or customers is not in the restraint or franchise agreement.
The orders were made under the arbitration act and cannot be varied. The court said that, on the face of it, the restraints appear to be wider, so the court stated that it cannot go any wider than the franchise agreement and must be interpreted to be consistent with it. This related mainly to the restraint in dealing with the public. Mike Pero did not object to this.
Mike Pero sought an arrest warrant as they said Krishna breached the orders as he advertised and solicited customers himself on Linkedin and the professional adviser’s page. The Court conducted a thorough analysis of what it means to ‘solicit’ with reference to cases in paragraphs 67 to 76, with reference to Krishna’s actions.
Krishna argued that his Linkedin page and the professional adviser’s page did not constitute soliciting and the court agreed with Krishna. The Court said that the Linkedin page would be seen by anyone searching for him, and even if a former client found him, the page in itself is not soliciting.
Mike Pero (New Zealand) Limited v Heath and Others3
In May 2000, James Robert Heath entered into a franchise agreement with Mike Pero under his name, and again on 21 May 2003 under his company.
On 14 June 2010, Heath entered into a franchise agreement ‘lite’ model. The restraint provisions were for six months within New Zealand, and for two years within the Christchurch and Canterbury region.
On 30 March 2015, Heath advised that his company would not renew the franchise agreement. On 20 April 2015, Heath and other franchisees filed proceedings in the High Court and argued that the restraints were unenforceable. Ms Smith incorporated the new company and was the sole director and shareholder. She was the de facto partner of Heath. She worked with Heath for Mike Pero, but did not sign the restraint, so it only applied when she was working for him.
Mike Pero became aware of the new company and filed for an injunction on 18 June 2015 to comply with the restraint provisions in the franchise agreement. These were granted.
Heath tried arguing that Mike Pero did not have much to protect and that the restraints are unreasonable. The judge disagreed. Validity of restraint should be assessed at the time it is entered into. Heath acknowledged the restraint when he entered into it and did not say it was unreasonable until he decided not to renew his franchise agreement. The court said that the restraints were reasonable.
Heath’s financial circumstances were limited, but he could work in other areas, so the court was satisfied the injunction could be granted. The court said that Heath must have known what he was doing when he did not renew the franchise agreement and was well aware of the restraint. As the new company had his name in it, he could not assist Ms Smith and was restrained accordingly.
Mike Pero (New Zealand) Limited v Tafilipepe and MPRE Belfast Limited4
Mike Pero applied for an interim injunction against Sonia Tafilipepe and her company to prevent them from conducting real estate activates in accordance with the restraint of trade in the franchise agreement.
Mike Pero alleged that she breached the restraint of trade by rebranding as Dynamic Realty in direct competition with Mike Pero, and was diverting customers away from it. She was not complying with the undertaking to comply with the restraint of trade provisions.
Mike Pero asked for an undertaking that Tafilipepe would comply with the restraint of trade provisions by the end of March 2017. That was not received, so Mike Pero launched interim injunction proceedings and submitted that the restraint was a crucial part of the franchise system.
Orders were made granting a restraint of trade within 25 kilometres from outside the boundary of the territory for a period of four months, and for 3 kilometres from the outside boundary of the territory for a period of two years from 17 March 2017.
Mike Pero (New Zealand) Limited v Tauranga Realty Limited and Darren Richmond Young5
This franchise agreement was signed on 2 September 2013 and Darren Richmond Young was a guarantor. Young gave 14 days’ notice to Mike Pero to terminate the agreement (and there were consequences to termination).
Young was going to join another real estate franchise and Mike Pero advised that there was a restraint of trade. Mike Pero took the view that he breached the franchise agreement and gave notice to immediately cancel the agreement.
Mike Pero filed for an interim injunction to restrain for a period of four months within 25 kilometres, as per the franchise agreement. There was also a second part of the restraint for five years within the territory. The order was necessary until the substantive matter was heard or resolved by mediation or arbitration.
Young abided by the restraint and joined a franchise outside of the territory. He filed a statement of defence for the following counterclaims:
- seeking damages under the (then) Contractual Remedies Act 1979 (now under the Contracts and Commercial Law Act 2017) for breach of contract;
- a claim for misleading and deceptive conduct under the Fair Trading Act 1986;
- a claim that a franchise agreement is an unconscionable bargain; and
- a challenge to the validity of the restraint of trade contending that it was unenforceable, or seeking modification of the restraint under section 8 of the Illegal Contracts Act 1970 (now under Contracts and Commercial Law Act 2017).
The defendant’s argument was that Mike Pero has asked for interlocutory relief but also submitted the substance of the claim to the court. The judge disagreed.
Young was reluctant to go to mediation and was not in good shape financially. However, the judge could not base his decision on that because of the Arbitration Act, and dismissed the defendant’s application.
Supatreats Asia Pte Limited v Grace & Glory Limited and Others6
The plaintiff applied for interim injunctions against the defendants in relation to the restraint of trade and rebranding of the stores, as well as claims against Chang Xi, the director of Cone Enterprises Limited, which was the master franchisor in New Zealand for Wendy’s Supa Sundaes, for inducing franchisees to breach their franchise agreements.
Supatreats Asia entered into a master franchise agreement (MFA) with Cone Enterprises Limited on 1 September 2015.
In 2017, Cone and the plaintiff fell out over an approved supplier. Cone said the new supplier was too expensive and Cone and other franchisees refused to comply.
Cone was issued a breach notice on 9 May 2017 to force the franchisees to go to the new supplier. Cone refused to comply by 24 May 2017 to issue breach notices to the franchisees. There was also a further breach notice relating to failure to pay fees.
In August 2017, Chang Xi opened Shake Shed & Co in Rolleston. Other franchisees of Wendy’s then rebranded to Shake Shed and surrendered their franchise agreements with Cone, which Chang did not tell Supatreats Asia about.
The MFA was ultimately terminated on 1 March 2018. The defendants argued that the restraints were unreasonable and unenforceable, the plaintiff breached the MFA and the Shake Shed branding is distinctive.
The judge accepted that there was a serious question to be tried in relation to the restraint and agreed that Chang induced franchisees to breach their franchise agreements, as Chang knew of the restraint of trade provisions.
Considering the balance of convenience, there was a risk of significant damage to the Wendy’s franchise business model. Overall justice of the case favoured Supatreats.
The judge disagreed with the defendant’s status quo argument that the roll out to Shake Shed was completed. The judge said this was done in the face of express notice from Wendy’s.
Supatreats was willing to take old franchisees back.
The judge noted that the defendants knew what they were doing in the face of formal notice from Supatreats. This is a significant factor and the injunctions were granted.
Skids Programme Management Limited and Others v Barbara Winsome McNeill and Others7
Skids sought to enforce the restraint of trade against Mrs McNeill and her daughter Natasha May-Babette McNeill O’Keefe, as they were running an after-school programme (Kids Choice) that operated in the Murrays Bay Intermediate School, which took over the Skids programme previously run there. There were other claims of breach of confidentiality.
Skids alleged that Mrs McNeill and her daughter were in breach of the master franchise agreement and restraint of trade clauses in setting up the Kids Choice programme.
For the plaintiffs, an important aspect of the overall franchise arrangement was the franchise attached to the specific primary school, along with a lease with the particular school.
The master franchise agreement with Mrs McNeill was signed on 12 December 2004, for a period of five years expiring 11 December 2009, and one further right of renewal of five years. Her territory was broadly North Shore and Rodney.
The restraint of trade clause was noted as clause 24.2. There was a restraint during the term of the franchise and for two years after, within 15km of each Skids franchise operation. Skids also had the right to conduct contracts, provided that it did not substantially detract from the business of the franchisee.
McNeill gave the Pinehill territory to her daughter in February 2005. They signed an informal agreement that could not be located, but there was no restraint of trade provision, nor any provision relating to confidentiality.
In 2006, companies were incorporated to carry on activities and there was no issue as such, apart from whether the daughter was bound by agreement with McNeill Enterprises and the restraint of trade provision. The franchise agreement was signed on 23 February 2007 by Mrs McNeill as master franchisor and Aata Baykids as franchisee. The company acknowledged that its undertakings were for the MFA and Skids.
In Schedule 3, personal guarantee had been signed by the franchisee but not Mrs McNeill. No issue was taken with how the guarantee was signed.
On 11 August 2009, Skids said it was not renewing the MFA because of failure to comply with the franchise agreement, but said that McNeill and her daughter could continue as direct franchisees. Draft franchise agreements were sent to the parties. Skids said that McNeill did not want to continue, so allowed a limited release on restraint to work for her daughter if she entered into a new franchise agreement with Skids.
O’Keefe did not consider herself bound by the restraint. In the end no agreement was entered into and the franchise agreement ended in February 2010.
Murrays Bay Intermediate School advised Skids that it did not want to go on with it and no agreement was signed. Skids told defendants that this was in breach of the restraint of trade. On 2 February 2010, Kids Choice started at Murrays Bay Intermediate.
No restraint of trade applied to the daughter as she was not bound by any contractual provisions. Court said the execution of the deed was key and a prerequisite to liability. Skids argued that the daughter agreed to be bound and her conduct confirmed this, but the court disagreed as there was no key evidence. Skids needed to prove that she signed as both the company and director guarantor.
In relation to Mrs McNeill, the court said the restraint of trade was not reasonable. It was not a situation where confidential information passed in relation to technical know-how that was not available outside of the franchisor and franchisee’s relationship. It was not a situation where one needed a high degree of knowledge to enter into Skids. Mrs McNeill paid for everything and public interest was a factor in making the restraint of trade unenforceable. Skids was protected by confidentiality provisions.
A three-month restraint was deemed to be reasonable, but two years was not.
An important consideration was the ease in which Skids could build up new franchises in McNeill’s former territory. Also, it was not reasonable to restrain her if she wished to work for another employer. Low threshold of entry was also a factor, as well as public interest.
The court ruled that Kids Choice was not competing with Skids and that the business was defined differently in the restraint of trade.
As this was a business that looked after children, the franchisees had to apply to Child Youth and Family (CYFS, the Ministry of Children, a government agency specifically responsible for the wellbeing of children which has now been succeeded by Oranga Tamariki) to obtain CFYS approval to the new childcare programme. McNeill did not win in her argument regarding using confidential information for the CYFS documentation.
Skids appealed the case and won the appeal with regard to McNeill breaching the restraint of trade.8 The Court of Appeal disagreed that detriment to the public interest was a factor in saying there was no breach.
Green Acres Franchise Group Limited v Garth Reube and Gwyneth Reube9
This case presented two issues: the ownership of right to carry out work for existing customers and the restraint of trade provisions.
The franchise agreement between Green Acres and sub-franchisees the Reubes was dated 20 January 2004 and it expired on 26 January 2014. The Reubes decided not to renew, although they had initially prepared to renew it. They contacted their old Green Acres customers saying that Green Acres will contact them and if they wanted to continue to use the Reubes, to contact them on their new numbers. They removed all Green Acres livery, changed phone numbers and set up a business on their own account. The Reubes believed they were able to do this and that they had no further obligation to Green Acres.
Green Acres then filed for an interim injunction alleging a breach of the restraint of trade and wanted to stop the Reubes from operating their business until the arbitration was completed.
The court discussed principles of granting interim relief and also discussed the payments made by Reubes to Green Acres (franchise fee, royalties, etc) and an overview of franchise agreement.
It was argued that the customer list and know-how were essential elements of the franchisor’s intellectual property and that there was a serious issue to be tried.
Arguably, that restraint only applied when clause 16.2 events occurred. Clause 16.2 reads as follows:
16.2 Non competition – The Contractor shall not for a period of two years both within the Territory or in any other place whatsoever conduct on its own account or be concerned or interested in either directly or indirectly as agent, representative, servant, employee, partner, shareholder or director in any firm or corporation conducting a similar business to the System and any similar service provided from time to time by Green Acres.
However, it could also apply to other situations. The Reubes tried arguing that ‘whatsoever’ was too wide.
The real issue was the balance of convenience in granting the injunction. The Reubes’ agreement had expired. Green Acres could assess quantum of damages as long as the Reubes kept records. Green Acres was free to lobby for new customers and this would burden the Reubes as it would result in loss of their core business. No injunction was granted and the Reubes had to maintain all records.
Dorn Investments Limited v Paul Hoover10
Dorn (a franchisee of Green Acres) had the exclusive licence to operate Green Acres in the Waikato region. It entered into a sub-franchise agreement with Paul Hoover on 23 January 2013. Clause 16.1 contained the restraint of trade, which was a period of two years within New Zealand. There was also a clause that Hoover would not breach the goodwill of the franchisor.
Dorn issued proceedings to restrain Hoover pending the substantive hearing.
Hoover performed work for Spotless, a cleaning and maintenance service that looked after the lawns and gardens of courts in the Waikato region. The contract was awarded to Green Acres and Hoover took over this work in his territory. This was a significant amount of work and it appeared to have constituted approximately one-third of his total turnover.
In September 2015, Dorn became dissatisfied with how Hoover performed this work and took it off him. Hoover then became dissatisfied and rebranded as the Lawn Ranger and advised his clients of the change. He destroyed all Green Acres business cards and signage and said he never had a manual. Meetings could not resolve this and in November 2015 Dorn advised Hoover that he was in breach and terminated the agreement on 14 December 2015. Dorn sought an undertaking from Hoover regarding the restraint. Hoover did not provide it.
Arguably, the restraint was unreasonable with regard to its geographic reach. Hoover could not really do any damage to Green Acres trading under his own name, for example in South Island, as long as he did not use anything connected to Green Acres. There was a restraint and Hoover admitted to carrying out work in the territory so the franchisor was entitled to seek the interim injunction that should be granted.
The judge did not agree with Hoover’s arguments about lack of training, but the complaint regarding Spotless had more substance. Spotless was unhappy with Hoover, but Dorn did not give Hoover any opportunity to rectify the complaint by Spotless.
According to the balance of convenience it would be severely detrimental to Hoover to grant the injunction as it was his only source of income. Dorn would survive any damage to its network and would be seen to be proactive. The damages that could be awarded in this case would not be a significant amount. This was owing to the modest turnover of Hoover’s business and the fees Hoover paid to enter into the franchise. Dorn was also still receiving fees from its existing franchisees and would survive the damage to the network and its goodwill. The damages would reimburse Dorn’s costs in pursuing this case, but Dorn would not suffer a great loss. However, Hoover was a man of modest means and had health issues. If the injunction sought by Dorn was granted, Hoover would have to stop his present business, which was his only source of income and if he had to wait for the two-year restraint to expire he would lose the goodwill of a lot of his customers. Accordingly the Court decided that the balance of convenience was in Hoover’s favour. However, this was only because Hoover had an arguable defence – the removal of Spotless was arguably a repudiation of the contract by Dorn. The injunction was not granted.
Health Club Brands Limited v Colven Botany Limited and Others11
In this case, the plaintiff applied to restrain the defendants. On 8 February 2013, the defendants issued notices terminating the franchise agreements (Botany, Three Kings and Westgate territories), arguing misrepresentation and breach by the franchisor. The defendants then re-branded as Jolt Fitness.
The plaintiff said defendants repudiated contracts and accepted it and applied for an interim injunction to restrain the defendants for 5 kilometres within the premises that was formally Club Physical, relying on the restraint of trade provisions in the franchise agreements.
Defendants said the restraints were unenforceable as crucial elements of the clauses were not completed, the obligations were unreasonable and the franchisor breached the agreements so the defendants were released from any contractual obligations.
The case discussed interim injunction principles and if there was a serious question to be tried. The Westgate and Botany clauses were not completed with regard to the distance, but the Three Kings agreement was amended by hand, stating the distance is 5 kilometres from the existing Club Physical branch, but all were still only partially completed.
The plaintiff failed to link the injunction to the words of the restraint of trade as the clause was not completed as contemplated in the agreement with respect to Westgate and Botany, as the period was not specified. Three Kings had the distance but not the period. The judge accepted that a restraint could apply in relation to Three Kings. The plaintiff had a strong argument that, notwithstanding issues with the restraint of trade, on the face of it, the defendants had agreed not to conduct a health and fitness business from the premises.
Was the restraint reasonable? Arguably the defendants were trading in the premises on the goodwill of the franchisor. The judge agreed that the restraint was reasonable.
Did the plaintiff breach the franchise agreements? If the franchisor had breached, then arguably that meant the defendants were not bound by the restraint. The defendants argued that the franchisor did not assist them. However, their case was poorly supported.
With regard to the balance of convenience, Health Clubs said that considerable damage had occurred to goodwill and it would be very hard to break into the territories again. However, there was no evidence that the defendants could pay a damages award. The injunction would be catastrophic – it would hinder their business and they would lose capital. The judge decided to grant injunction for various reasons, including that Health Clubs had a strong arguable claim and the defendants’ claims with regard to breaches by the franchisor was weak.
A limited injunction was granted for Three Kings, within 5 kilometres of Three Kings and at the premises at Westgate and Botany.
If you consider the above cases, there is a trend to enforce restraint of trade provisions in favour of franchisors where there is a strong established brand. However, each restraint of trade scenario needs to be examined on its merits, and no one can assume that because there is a franchise system involved the restraint will be upheld.
The party attempting to enforce restraint must show that there is a proprietary or legitimate interest justifying the restraint, and that the restraint goes no wider than is reasonably necessary to protect that interest. Many of the decisions in the cases discussed will leave franchisors feeling confident about the enforceability of their restraints, but nothing is certain. The cases where the courts have been prepared to uphold restraints, such as the Skids case, each involve successful and well-established systems with strong brands, systems and a strong network of franchisees. Therefore, in relation to interim injunction applications, the courts will recognise the need for enforceable restraints of trade to protect a franchisor’s goodwill. Where the case is a strong one, the courts are willing to enforce a restraint of trade even where there will be significant cost and difficulty for the restrained party, and the remedies can even include forcing a restrained party to rejoin a franchise system that it is in dispute with, pending the outcome of the trial. Franchisees should consider the risks of the restraint being enforced before entering into (or breaching) restraints of trade.
 Stewart Germann is the principal of Stewart Germann Law Office.
  NZHC 1255, Faire J.
  NZHC 2040, Moore J.
  NZHC 685, Mander J.
  NZHC 1162, Bell AJ.
  NZHC 1612, Wylie J.
 CIV-2010-404-1696, High Court Auckland, Woodhouse J.
  NZCA 314, Ellen France, Venning and Asher JJ.
  NZHC 402, Lang J.
  NZHC 1325, Asher J.
  NZHC 428, Winkelmann J.