Articles

Traps for so called ‘Sophisticated Investors’

Generally, when companies raise funds by offering shares to the public they must have available to prospective investors certain disclosure documentation prescribed by the Corporations Act 2001 (Cth) (the Act). The type and extent of disclosure depends on the circumstances and may include a full or short-form prospectus, profile statements and other information statements.

The disclosure provisions are also subject to various exemptions, including offers made to sophisticated investors.

ASIC’s concerns emanate from recent strategies by some advisers to formulate trust or company structures that represent their clients as sophisticated investors. Consequently, the statutory disclosure requirements are bypassed and retail investors do not receive the level of protection otherwise afforded through the prescribed disclosure requirements.

Corporate fundraising and the sophisticated investor

Disclosure is designed to provide detailed information to potential investors to enable them to make informed and balanced decisions about the investment on offer.

Disclosure may however be dispensed with if the minimum amount payable for the offer is at least $500,000 or a proposed individual investor:

·  has net assets of at least $2.5 million; or

·  has a gross income for each of the last two financial years of at least $250,000; and

·  a certified accountant provides the relevant sophisticated investor certificate no later than six months prior to the investment offer being made.

ASIC exposes loopholes in sophisticated investor strategies

The Australian Securities and Investment Commission (ASIC) has broad regulatory powers to ensure the provisions of the Act are upheld.

Recent investigations have discovered that inappropriate sophisticated investor certificates have been issued with respect to investments in phone-app company Kwickie International Pty Limited (KIPL).

By using certain trust or company structures, investors who would otherwise be deemed retail investors, have been offered shares without a prospectus or other prescribed disclosure documents.

Sophisticated investor certificates were issued on the basis of the aggregate net worth of the respective members of the investment entity. In other words, whilst the overall value of the investor vehicle exceeded that necessary to invoke the exemption provisions, the individual wealth of each investor fell short of the test.

ASIC has declared that shares in KIPL may not be offered to retail investors through a trust vehicle and is conducting further investigations into the use of certain structures designed to undermine the disclosure requirements of the Act.

Conclusion

Statutory disclosure obligations exist to protect retail investors by requiring a corporation offering securities to provide prescribed information concerning the contemplated investment. Attempts to circumvent these rules pose serious risk to the investors and significant compliance concerns with those facilitating such schemes.

Binding Death Benefit Nominations and your Self-Managed Superannuation Fund

Superannuation in Australia is governed by the Superannuation Industry (Supervision) Act 1993 (Cth) (SIS Act) and Income Tax Assessment Act 1997 (Cth) (ITA Act).

Superannuation is a tax-effective way to save for your future. The SIS Act provides for the formation of a Self-Managed Superannuation Fund (SMSF). These funds are subject to strict compliance requirements however, they also allow members flexibility and control over the choice and management of their investments.

The potential benefits of having an SMSF cannot be achieved without sound planning and administration. This includes having in place a valid Binding Death Benefit Nomination (BDBN). This is often overlooked by fund members resulting in unintended and undesired consequences after the member’s death.

What is a Binding Death Benefit Nomination?

A BDBN is a direction to the trustee of your superannuation fund to pay your death benefits to an eligible beneficiary or beneficiaries, or to your estate. Essentially, the BDBN overrides the decision of the trustee so that benefits are paid in accordance with your wishes rather than at the trustee’s discretion.

Superannuation does not automatically form part of your estate so without a BDBN, the beneficiaries would otherwise be decided by the trustee under the terms of the fund and relevant legislation.

The trust deed for a SMSF can include provisions allowing members to make BDBNs. Many trust deeds already have these provisions in place however if not, it may be possible to amend the trust deed to allow for a BDBN.

Who can I nominate?

Death benefits can only be paid to a dependant of the fund member or to the member’s legal personal representative (the executor or administrator of the estate).

A ‘dependant’ includes a spouse (including a de facto), a person with whom the fund member had an interdependency relationship, a child of any age or a person who is financially dependent on the member. A child includes a biological child, adopted child, step child and ex-nuptial child.

A ‘dependant’ under the ITA Act (unlike the SIS Act) does not include financially independent adult children. This means that although adult children can be paid from the fund, they may be taxed higher than other beneficiaries. The choice of beneficiary is therefore an important consideration when making a BDBN. The overall estate must be considered – sound financial and legal advice can make a big difference in the tax consequences to the person inheriting.

Case study

A 2005 case illustrates the consequences of leaving the distribution of your superannuation funds to your trustee’s discretion. In Katz v Grossman [2005] NSWSC 934, the deceased’s Will provided for equal distribution of the estate to his son and daughter. Considerable assets were held in an SMSF of which the daughter was trustee.

The daughter paid the entire SMSF balance (approximately $1 million) to herself rather than dividing it with her brother. Unfair you say? Probably; however despite the provisions in the Will, the Court determined that the daughter (a trustee and dependant under the SMSF) was legally permitted to pay herself.

Conclusion

Unless specific directions are made through a BDBN for the payment of your death benefits, the beneficiary of your superannuation fund could be determined by a trustee and a contrary direction in your Will may not be enforced.

Replacing Appointors of Discretionary Trusts

Discretionary trusts can be an excellent vehicle for the management and distribution of assets and income and also for the transfer and preservation of wealth for the benefit of successive generations. However, as family structures become ever more complex and people are living far longer than previous generations, conflict as to the management of discretionary trusts is becoming more common.

From time to time the need to replace an Appointor of a discretionary trust – the individual or individuals tasked with the power to remove an existing trustee and appointing a new trustee – may arise either because of conflict or as a result of the death or incapacity of an officeholder.

A number of methods of replacement of an Appointor are possible.

Trust specifies replacement – The trust deed itself contains a specific mechanism for the appointment of a successor Appointor.

Legislation – If the trust deed does not specify a methodology for replacing an officeholder then you may need to consider the relevant legislation applicable to the trust. This will vary depending on the applicable jurisdiction.

Replacement upon death –  If 2 people have been appointed as Appointors, and 1 of them dies, the survivor is ordinarily authorised to act alone, or the executor of the deceased may have the right to appoint a replacement Appointor.

Amendment of a trust deed – If a trust deed does not include a provision for the replacement of an Appointor, then it may be necessary to consider how the deed is able to be amended. Whether this is possible will firstly depend on whether there is an appropriate amendment power provided for in the trust deed and secondly on whether the power to amend the deed is restricted in any way.

Court ordered replacement or intervention – In certain circumstances and particularly in cases where a dispute between parties affected by the trust arises, a Court may intervene to ensure that there is a proper administration of the trust.

An increasing number of individuals, especially those with complex professional and personal affairs, are using discretionary trusts as part of both their day to day wealth management and also as part of their approach to long term planning. Should the need arise to replace an Appointor it is recommended that advice be obtained prior to any changes to ensure that the replacement is arranged in accordance with either the relevant trust provisions or applicable legislation.

Does size matter? David v Goliath

Many small practices label themselves as “boutique” or “specialist” practices. But, not every small practice is a specialist.

Specialist firms are consciously structured with a low partner to professional staff ratio and operate within a clearly defined sphere of competence. Specialists are successful only if these organisational and strategic attributes, enhance client service.

In our case, mandates are run by our directors and senior staff without relying on leverage from juniors. We stay within our core competence of corporate and commercial law with a focus on mergers and acquisitions.

How does this enhance client service?

1.  Transactions in the corporate commercial area often require commercially minded, pragmatic and experienced practitioners. Our directors have these qualities, allowing us to identify, properly explore and negotiate important content. Our value-add is bringing our commercial experience to bear on the heart of a matter. Judgement is often required and cannot be delivered by less experienced practitioners or bureaucracy.

2.  We act as trusted advisors, managing other specialists such as stamp duty practitioners and labour intensive aspects of matters such as due diligence. We have no incentive to bring in other lawyers and do so only when necessary.

3.  This general management role also allows us to understand the interrelationship between various aspects of the matter and the overall transaction.

4.  Our directors are owners of the firm and clients are not subject to change of contact person within the firm. This fosters understanding of client businesses and industries, trust, an understanding of how to work together and long standing mutually beneficial relationships.

5.  Our structure suits our personal approach of simplicity, informality, lack of bureaucracy, irreverence and frugality. This resonates with our clients, many of whom are entrepreneurs and founders.

6.  Being a specialist law firm allows us to charge in a cost-effective manner and ensures that clients enjoy a compelling value proposition when using our services.

We would love to hear from you on this topic. What do you think? How are we doing?

When can an employee’s knowledge be attributed to the company?

Commonwealth Bank of Australia v Kojic [2016] FCAFC 186 considered whether the conduct of two bank employees could be ‘aggregated’ to bring a finding of unconscionable conduct on the part of the bank under the (previous) Trade Practices Act 1974.

The facts

Mr and Mrs Kojic and Mr Blanusa were customers of Commonwealth Bank of Australia (CBA). The Kojics and Mr Blanusa had been acquainted for several years, having been involved in many property ventures together.

Mr Coombe was the relationship manager at CBA for Mr and Mrs Kojic.

Mr Barnden was the relationship manager at CBA for Mr Blanusa.

In October 2008, Southern Construction Services Pty Ltd (SCS), a corporation associated with Mr Blanusa, had entered a contract to purchase property in Adelaide. CBA agreed to provide a portion of the funds via a refinance of SCS’s existing facilities and on the basis that it would take a mortgage over the property.  The mortgage was an “all monies” mortgage that secured other facilities that CBA had granted to SCS.

As SCS was unable to raise all funds required to complete the purchase of the property, Mr Blanusa approached the Kojics who agreed to contribute $436,161.97 for a one-half share.

The Kojics informed Mr Coombe that they would be investing in the property and would require access to their funds to complete the purchase. They did not request, nor were they provided with, any advice regarding the proposed investment.  They simply requested the funds be made available for the investment and Mr Coombe therefore arranged a bank cheque for settlement. As a result of the urgency of settlement, the Kojics 50% interest in the property was not registered on title, a fact to which the Kojics consented.

Both CBA employees, Mr Coombes and Mr Barnden, knew of the respective parties’ relationship with the bank and the pending transaction. Neither however discussed the transaction with the other.

In March 2011, after the collapse of SCS, CBA took possession of and sold the property in exercise of its rights as mortgagee. The result of foreclosure was that the entire proceeds of sale of the property ($975,000 less costs) were applied in satisfaction of SCS’ debts.

The claim

The Kojics sued CBA on the basis that, through the collective knowledge of its two employees (Coombe and Barnden), the bank had engaged in conduct that was, in all the circumstances, unconscionable and contrary therefore to the provisions of ss 51AB and 51AC of the Trade Practices Act 1974 (Cth).

The decision

The Kojics were successful in the first instance – the Court finding that, when the knowledge of the 2 employees was aggregated, CBA’s conduct was unconscionable; this despite the fact that neither employee, when their actions were viewed individually, had acted unconscionably.

CBA appealed and the decision was overturned, primarily on the basis that the knowledge of the 2 employees should not have been aggregated and attributed to CBA.

Justice Edelman examined the rules of corporate attribution (attributing the knowledge of a corporations’ officers and employees to that corporation), finding that:

·    There is no general doctrine in Australia that permits attribution to a corporation of an aggregate of the knowledge of various different agents;

·    To accept such a doctrine would impose upon corporations a requirement to speak with each and every employee and former employee to ensure that no-one possesses any knowledge of any wrongdoing.

Conclusion

This case is important in examining the scope for aggregation of knowledge within financial and other corporations.

The attribution of knowledge of officers and employees is of particular relevance in the context of mergers and acquisitions where it is usual for vendor corporations to provide certain warranties and representations in share sale and purchase agreements, and to qualify those warranties and representations by reference to the phrase ‘to the best of the vendor’s knowledge’, or `so far as the vendor is aware’.

Without specifically identifying particular individuals (or categories of individuals) whose knowledge will be taken into account in assessing whether the vendor corporation has “knowledge” of or “is aware” of particular facts or circumstances, the assessment of whether the vendor corporation had the relevant knowledge is far from precise.

By specifically identifying individuals whose knowledge will be taken into account in assessing whether the vendor corporation has “knowledge” of or “is aware” of particular facts or circumstances. the parties contractually agree whose knowledge will be attributed to the corporation.  This provides a reasonable degree of certainty in commercial transactions.

When post-employment restraints are too broad

The Victorian Court of Appeal recently revisited the enforceability of restraint clauses in employment contracts. Just Group Limited (ACN 096 911 410) v Nicole Peck [2016] VSCA 334 considered an appeal from a Supreme Court decision (Just Group Limited v Peck [2016] VSC 614) which determined Ms Peck, a former employee of Just Group Limited (Just Group) was not bound by restraint clauses in her employment contract.

In dismissing the appeal, the Court reiterated the illegality of restraint clauses that are too broad.

The decision confirms that a ‘shotgun’ approach is not the answer to drafting effective restraint clauses in employment contracts.

Background

Ms Peck was employed as Chief Financial Officer at Just Group, a speciality brand and fashion retailer with over 1,000 stores and e-commerce internet platforms. Its brands include Smiggle, Peter Alexander, Just Jeans, Jay Jays, Portmans, Jacqui E and Dotti.

Ms Peck commenced work with Just Group in January 2016 and resigned in May 2016 after securing employment as General Manager of Group Finance and Treasury at Cotton On, a rival of Just Group.

Just Group sought to enforce the restraint clauses contained in Ms Peck’s employment contract through the Supreme Court. The contract contained several provisions which purportedly prevented Ms Peck from being engaged in any capacity which was the same or similar to the speciality brand and fashion business of the Just Group or working with retailers of the 50 brands (including Cotton On) anywhere in Australia and New Zealand for a period of 12 to 24 months.

The contract prohibited ‘restricted activities’ which included, Ms Peck either directly or indirectly:

    being engaged, concerned or interested in;

    assisting or advising in respect of; or

    carrying on any activity:

the ‘same as or similar to’ the speciality brand and fashion business of the Just Group or ‘for or on behalf of’ the entities operating the 50 brands listed in an annexure to the agreement.

The law and the decision

A restraint clause is void, as against public policy, unless it is reasonably necessary to protect the legitimate interests of the employer. The legitimate interests of a business comprise confidential information, trade secrets and customer connections, however a restraint must go no further than reasonably necessary in terms of duration and extent, to protect the employer.

The Court recognised Just Group’s legitimate interest in the confidential information to which Ms Peck had access, however the restraint provisions were considered too broad and unreasonable.

Given their true meaning in the context of the contract, the words ‘any activity…the same as or similar to’ and a business ‘similar to any part of’ Just Group could encompass any role with any retailer of apparel or stationery – an extremely broad restraint that, if enforced, could significantly limit Ms Peck’s employment opportunities.

The restraint also sought to prevent Ms Peck from working in any capacity for 50 specifically-named entities. Just Group provided no evidence of competition with 46 of those entities or evidence regarding the relevance to those entities of the confidential information acquired by Ms Peck. Consequently, Ms Peck would be prohibited from working with those companies even where the confidential information would be irrelevant to that role.

Reading down and severing clauses

The contract also contained a clause stating that if certain restraints were considered void as unreasonable words could be deleted or the duration or location of restraint reduced as necessary to make it valid.

The Court declined to do this on the basis that the general law does not permit a restraint clause to be ‘remade’.

If a clause is ambiguous, it will be construed in favour of the employee but only where two reasonable interpretations are possible. However, the Court will not adopt its own interpretation of a general clause that is unduly wide to save it from invalidity.

The content of the clause must convince the Court of what the parties intended at the time the agreement was made – if this intention is lacking and the clause is unreasonable then it will fail entirely.

The Court will sever an unenforceable restraint clause to save a reasonable restraint with caution and provided only that:

–      The clause contains a combination of several distinct covenants rather than a single covenant.

In this case, Just Group argued that the Court could sever 49 of the 50 ‘forbidden’ entities from the list attached to the employment contract to enforce the restraint only against Cotton On, a known competitor of Just Group.

The Court declined on the basis that the clause referring to the annexure was a ‘single covenant’ – to sever components (entities) from the annexure would go too far resulting in the remaking of the provision.

    The invalid words must be capable of being deleted with the result that the remaining clause can stand alone. In other words, the Court can remove the offending words but not add to or rewrite the clause so it makes sense.

Had the case been heard in New South Wales, Just Group may have had a better outcome. The Restraints of Trade Act 1976 (NSW) provides that restraint clauses are valid to the extent only that they are not against public policy. A Court may read down a restrictive provision or ‘rewrite’ an offending restraint clause as it thinks fit.

In other jurisdictions, the general law applies and the Court will not remake an unreasonable clause to make it reasonable.

Take home points

·    The reasonableness of a restraint clause will be determined in the individual circumstances of each case, noting that a restraint clause in an employment contract will be construed more strictly than in a sale of business contract.

·    The onus of proof to establish the reasonableness of a restraint clause falls to the person seeking to enforce it.

·    The onus of proof is on the employee if he or she alleges that the restraint clause is against public policy.

·    Employment conditions, for example, salary, will not influence the Court’s determination of what is reasonable, noting that Ms Peck’s annual salary package exceeded $450,000.

·    The inclusion of terms stating the employee’s acknowledgement that the restraints are reasonable to protect the legitimate interests of the business will not prevent the clause from being void.

Conclusion

Restraint clauses must only go so far as necessary to protect the interests of the employer. If the clause is too broad, then employers risk the restraint being totally ineffective.

Employers are encouraged to review their employment contracts and, if necessary, seek assistance on ‘toning down’ restraint provisions which may fail completely should a case come before a Court.

To be Grill’d or not Grill’d?

The case of Bainbridge Grill’d Pty Ltd & Ors v Simon Crowe & Ors before the Federal Court illustrates the potential pitfalls of not having a shareholder agreement.

Grill’d opened its first restaurant in 2004, the brainchild of friends Simon Crowe, Simon McNamara and Geoff Bainbridge and currently has over 100 stores.

In 2011, McNamara exited the business leaving Bainbridge holding 25% of the shares in the company and Crowe the remaining 75%.

For various reasons, the relationship between Bainbridge and Crowe became strained and deteriorated to the point that in June 2016 Bainbridge commenced proceedings under the Corporations Act 2001.

Bainbridge claimed that he had been denied access to the company’s books and records and that Crowe had breached his director duties by using company staff and resources to fund KoKo Black, a chocolate company.  Bainbridge sought an oppression order and the removal of the company’s Chief Financial Officer and Director.

In his counter-claim, Crowe sought an order for the forced sale by Bainbridge of his shareholding on the basis that the relationship had soured to the extent that the continued involvement by both owners in the business would be futile.

The battle has been personal and fuelled with emotion between the owners. It has been before the Court several times for various interlocutory and directions hearings, no doubt resulting in considerable expense for both parties.

This dispute may have been avoided if the parties had entered into an appropriately drafted shareholders’ agreement.

The following are common inclusions in shareholders’ agreements:

·   Pre-emptive rights. These provisions impose restrictions on the transfer of shares. A provision can require exiting shareholders to offer their shareholding to existing shareholders first, before the shares are offered to outside parties.

·   Drag-along, tag-along rights. These provisions are aimed at balancing the rights of a majority shareholder and a minority shareholder. Under a drag along option, majority shareholders can require a minority shareholder to join in the sale of shares in the company. Under the tag along option, where a majority shareholder is selling shares in the company, the minority shareholder has the right to join the transaction and sell their minority stake.

·   Mandatory sale events. These provisions set out triggers for the mandatory sale of shares in certain circumstances (for example, a director passes away, resigns or files for personal bankruptcy).

·   Share valuation methods. Methods by which shares are to be valued in relation to pre-emptive rights and mandatory sale events, for example, shareholder agreements often provide for the appointment of an external valuer with set criteria for valuation.

·   Deadlock breaker. These provisions deal with circumstances where shareholders cannot agree on the management of the company and include:

o   a shotgun clause, allowing a shareholder to break the deadlock by purchasing the shares of the other shareholder at a nominated price;

o   a chairman clause, allowing one shareholder to become the chairman with a casting vote; or

o   a liquidation clause, providing for the company to be voluntarily wound up if the deadlock continues for a set period of time.

·   Conflict and non-compete clause. These provisions prevent the shareholders from investing in or engaging with competing businesses.

·   Alternative dispute resolution. An agreement should include processes to resolve disputes requiring a genuine attempt by the parties to resolve matters or to engage in alternative dispute resolution before commencing formal litigation.

Did Manly Sea Eagles Drop the Ball?

A recent case involving Jordan Latham, an aspiring rugby league player and his employer, the Manly Warringah Sea Eagles, demonstrated that courts may look at the intentions in correspondence between the parties to determine if an agreement has been formed.

Facts

Mr Latham was contracted to play for Manly in 2014 and 2015. Before the commencement of the 2016 NRL season, Mr Latham’s manager received an email which in relatively straight forward terms offered a specified sum if Mr Latham would agree to continue to play for Manly in 2016.

Mr Latham’s manager accepted the offer by way of the following response:

“We would like to agree on the below. Could you draw up a contract and I will get it signed ASAP.”

Some months after this email was sent, Mr Latham was advised by Manly that they no longer required his services and they did not intend to continue with his contract for the 2016 season.

In May 2016, Mr Latham commenced proceedings against Manly seeking to enforce what he believed was a binding agreement reached in the emails.

Arguments

Mr Latham contended that:

·   The email chain constituted a binding contract as it contained an offer which was accepted.

·   The fact that the contract did not comply with the NRL rules did not change the fact that there was a binding contract as between the parties.

Manly defended its position with two central arguments:

·   The email chain was not in fact a contract or concluded agreement but rather simply set out negotiations that would require a formal contract to be executed before any agreement or terms came into effect. In this regard, Manly relied on the High Court’s decision in Masters v Cameron in which the court held that in certain circumstances communications between parties may not amount to a contract if the intention of the parties was always that a formal contract would need to be executed before a contractual arrangement would exist.

·   The NRL rules required a contract to be registered in a specified form before a player could play for any NRL club. Therefore, there could in fact be no valid contract save and until an agreement which complied with the NRL rules was properly registered with the NRL.

The Court’s findings

The Court found in favour of Mr Latham’s and held that a binding agreement had been formed between the parties. In this regard, the email response sent by Mr Latham’s manager, wherein he explicitly accepted the sum offered on behalf of his client, was of critical importance. The actual wording of the acceptance and the fact that Mr Latham’s manager asked for a formal contract to be drawn up in accordance with the agreed terms was not held to be important.

The Court found that while the categories of contract laid out in the Masters case are an important guide, what is more important in these types of disputes is the issue of the intention of the parties that can be objectively determined based on the chain of correspondence which must be read taking into account the relevant circumstances of a particular matter.

Finally, while the NRL rules required contracts to be registered in a certain format no prohibition existed that would prevent a player and a club from entering into a non NRL compliant contract. An essential term had been agreed upon (namely Mr Latham’s salary) and it was clear from the emails that it was the intention of the parties that having agreed on a price for Mr Latham’s services the parties would then take all necessary steps to execute a compliant contract.

Lesson

This case is an important reminder that it is essential that parties clearly express when they intend to be bound by an agreement.

If a party is of the view that negotiations are not finalised until a formal contract is signed then they should clearly state so in any correspondence. Conversely, if a party considers an agreement has been reached it is equally important that any acceptance of the terms of an agreement, in this case, acceptance of the offered salary amount, is clearly and unambiguously accepted.

Directors, do you have a D&O policy?

Long gone are the days when accepting a directorship meant occasionally turning up to a company’s annual general meeting, accepting a director’s fee and having a basic knowledge of the activities of the company.

In recent years, and with increasing regularity and at time severity, Australian Courts have made it clear that directors have significant personal responsibilities and duties and may be held to be personally accountable and liable for breaches of those duties.

Given the risk that directors’ face of being held personally liable for certain liabilities of the company, directors:

·   must understand the scope and extent of directors’ duties;

·   must understand the circumstances in which they can be held accountable for the liabilities of the company; and

·   should avail themselves of the cover afforded to them under a directors’ and officers’ insurance policy (D&O policy).

Steps you can a take to mitigate against personal liability

The Corporations Act 2001 (Cth) (the Act) codifies many of the duties that apply at general law to directors.  Directors are required to not only understand what those duties entail but must also take proactive steps to meet their obligations under the Act as a preliminary step towards mitigating potential personal liability.

Other potential personal liabilities to be aware of

In addition to the obligations under the Act, directors may also incur personal liability for breaches committed by a company under the Competition and Consumer Act 2010 (Cth), various occupational health and safety laws, environmental protection laws and a plethora of tax and superannuation laws.
A number of regulators including the Australian Securities and Investment Commission (ASIC) and the Australian Prudential Regulatory Authority (APRA) have the power to bring proceedings against directors personally.

Can a company indemnify a director for certain liabilities?

The Act has various provisions that restrict a company from indemnifying a director against certain liabilities.

For example, the Act prohibits companies from providing its directors with indemnity for liabilities that are owed to the company itself or a related entity. Companies are also prohibited by the Act from indemnifying directors from any monetary penalty payable as a result of a compensation order or in respect of a liability that arises to a third party where the director did not act in good faith.

Companies are prohibited from protecting and indemnifying directors for legal costs that may be incurred in defending proceedings in certain circumstances where a director’s liability or guilt is established.

D&O policies

No matter how prudently they act and how strong their business acumen is, it is always conceivable and possible for directors’ or officers’ decisions to result in losses for the company or a third party, and the directors and officers who made those decisions can be held personally liable for those losses and can be involved in costly litigation.

A D&O policy is an important part of corporate risk management.  Although publicly listed companies may have the highest risk of attracting D&O claims, any entity, whether publicly or private, as well as any non-profit organization, has potential D&O exposure.

Companies need to ensure that their directors and officers have the room to make decisions and a D&O policy may make the risks of these decisions manageable and transparent.

The core purpose of a D&O policy is to provide financial protection for directors and officers against the consequences of actual or alleged “wrongful acts” when acting in the scope of their managerial duties.

A restraint of trade must be fair

Globalisation and technology have contributed to increased market competition and businesses are more determined than ever to protect their goodwill, trade secrets and customer connections. Including restraint of trade clauses in employment contracts is one way to achieve this.

The general law considers restraint of trade clauses unenforceable unless they are reasonable and necessary to protect the legitimate interests of the employer’s business. In recognition that people should be free to apply their skills in pursuing a livelihood, restraints that do not meet the test of reasonableness will be struck out by the Courts.

How is a restraint clause considered by the Court?

New South Wales is the only jurisdiction in Australia with legislation relating to the interpretation and validity of a restraint clause. The Restraints of Trade Act 1976 provides that restraint clauses are valid to the extent only that they are not against public policy. The Act enables a Court to read down a restrictive provision or to ‘re-write’ an offending restraint clause as it thinks fit.

In other States and Territories, the general law applies, which requires an unreasonable restraint to be struck out if it cannot be read down – the Court cannot re-write the restraint clause to make it reasonable.

The risk of poorly-drafted or onerous restraint clauses

If a dispute regarding a restraint clause proceeds to Court, an employer has the onus of proving the clause is reasonable and necessary to protect its interests. Employment contracts that do not include reasonable or alternative provisions may fail, causing the entire restraint to be ineffective. Such was the case of Just Group Limited (JGL) v Cotton on Group Services Pty Ltd (Cotton On), recently heard in the Victorian Supreme Court.

An employment contract contained broad restraint provisions that attempted to prevent an ex-employee of JGL from working in any capacity with any of 50 of JGL’s competitors, or their related entities for either 12 or 24 months.

Although the Court accepted that the ex-employee was privy to commercially sensitive information during the term of employment, the restraint provisions were considered far too wide to be reasonable and necessary to protect the interests of JGL.

Unfortunately for JGL, the Court was unable to re-write or read down the offending clauses to make the restraint reasonable. Further, although alternative provisions were included regarding a lesser duration for the restraint, the breadth of restrictions placed on the employee’s activities was still considered unreasonable. The attempted restraint failed completely.

The Court considered that, had the contract only restricted the employee’s future employment with Cotton On (a known rival competitor of JGL), then those restrictions may have been enforceable.

Conclusion

Whilst each matter will turn on its merits, cases such as Just Group Limited v Cotton on Group Services Pty Ltd reiterate the importance of well-structured employment contracts. A restraint clause that is not deemed fair in the eyes of the Court will fail.

Employment contracts should contain reasonable restraints and alternative clauses. If faced with the issue of unreasonableness, a Court may then severe the impugned term whilst allowing a less-restrictive reasonable clause to stand.