Goodbye, Goodwill September 2016

By KATHERINE MCFIE AND ZAID MAHOMED, Published in Company Law

The "Trego prohibition" has become a well-known and equally well observed principle in South African corporate law since its reception from English Law in the case of A Becker & Co (Pty) Ltd v Becker & others 1981 (3) SA 406 (A) (Becker). The "Trego prohibition" is an implied prohibition that bars a seller of a business (inclusive of the goodwill) as a going concern from canvassing existing clients after the sale of the business.

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Recently, the Supreme Court of Appeal (SCA), in the case of Grainco (Pty) Ltd v Van der Merwe (20693/2014)[2016] ZASCA 42, had to decide whether this implied prohibition against the canvassing of customers binds anyone other than the seller.

Facts of the case

In 2000, the first and second respondents, Messrs JA van der Merwe and JJ Kitshoff (the Grainco Shareholders) had incorporated a successful company – GrainCo (Pty) Ltd (GrainCo). During 2006, GrainCo, including its goodwill, was sold to BKB Limited (BKB) as a going concern.

Clause 3 of the sale agreement stipulated that the seller of the business, GrainCo, had disposed of its business as a going concern and inclusive of its goodwill to BKB. This clause did not name the Grainco Shareholders as sellers in this regard. Furthermore, Clause 12 of the sale agreement contained an extensive restraint of trade. Clause 12 served to restrain GrainCo and the Grainco Shareholders from having an interest in or conducting any activity that would cause prejudice to BKB, and restrained them from directly or indirectly canvassing "any customer and/or client of BKB for or on behalf of any entity in which they are interested in" for five years.

As soon as the sale agreement was concluded, BKB on-sold the business to another company called GrainCo (Pty) Ltd (New GrainCo); the appellant in the present matter. Following the expiry of the restraints of trade, the Grainco Shareholders left the employment of New GrainCo and started GrainCo Investments (Pty) Ltd, trading as Perdigon (now Perdigon (Pty) Ltd) (Perdigon), Perdigon was the third respondent in the present matter. The business of Perdigon was in direct competition to New GrainCo. In the process of its inception, Perdigon staffed people who had previously been employed by New GrainCo, and solicited many of New GrainCo's customers.

New GrainCo consequently brought an application in the Western Cape High Court, seeking to interdict the competing business and the Grainco Shareholders from canvassing New GrainCo's customers, based on the Trego prohibition. The high court dismissed the application and found that the Grainco Shareholders were not the sellers of the business but merely former employees of New GrainCo and, accordingly, were not bound by the implied prohibition.

Law applied

The court a quo referred to the implied prohibition against the canvassing of customers as the Trego prohibition. The source of the prohibition is found in the English case of Trego & another v Hunt [1896] AC 7 (HL) at 24-25 (Trego) in which Lord Macnaghten outlined the prohibition and stated: "And so it has resulted that a person who sells the goodwill of his business is under no obligation to retire from the field. Trade he undoubtedly may, and in the very same line of business. If he has not bound himself by special stipulation, and if there is no evidence of the understanding of the parties beyond that which is to be found in all cases, he is free to carry on business wherever he chooses. But, then, how far may he go? He may do everything that a stranger to the business, in ordinary course, would be in a position to do. He may set up where he will. He may push his wares as much as he pleases. He may thus interfere with the custom of his neighbour as a stranger and an outsider might do; but he must not, I think, avail himself of his special knowledge of the old customers to regain, without consideration, that which he has parted with for value. He must not make his approaches from the vantage-ground of his former position, moving under cover of a connection which is no longer his. He may not sell the custom and steal away the customers in that fashion. That, at all events, is opposed to the common understanding of mankind and the rudiments of commercial morality, and is not I think to be excused by any maxim of public policy."

In the case of Becker, Muller JA of the Appellate Division held that the decision of Trego was correct and finds application in South African Law. In reaching this decision, Muller JA stated that if a "seller disposes of the goodwill of a business he is not allowed thereafter to act contrary to the sale". Consequently, the principle in Trego – that that the seller of goodwill is prohibited from taking it back by canvassing old business customers – applies in South African law.

The implied Trego prohibition is aimed at preventing the seller of a business as a going concern, inclusive of goodwill, from reclaiming the goodwill, by canvassing the customers of that business once it has been sold. This prohibition is implied by law and does not need to be expressly stated in the sale of business agreement to apply to the seller of a business.

The SCA confirmed that the Trego prohibition still finds relevance in South African law, and focussed its attention on the question of whether or not the implied prohibition, in relation to canvassing customers of that business, binds anyone other than the seller of a business. It answered in the negative, and found that it only binds the seller.

Due care must be taken when selling a business as a going concern, inclusive of goodwill in relation to the restraint of the relevant parties. In many cases, the seller will be a company but the real goodwill of the business will attach to the shareholders, directors and managers of that company. The purchaser will, therefore, wish to restrain these individuals in addition to the seller. As the Trego prohibition does not apply to these individuals, an express restraint undertaking will have to be included in the sale agreement, citing and adding as signatories all the relevant parties.

Further, the implied restraint of trade will still apply to the seller after the express restraint of trade expires, but likely not to the other individuals. The purchaser will, therefore, have to factor this into planning for the agreement and the negotiation of the period of the contractual restraint.

McFie is an associate and Mahomed a candidate attorney with Fasken Martineau. The article was overseen by Jan Bouwman, a partner in the Corporate and Commercial Practice Group.