Franchisee gets mowed down by High Court

A recent decision of the High Court, Green Acres Franchise Group Limited v L & K Ferrick Limited [2021] NZHC 997, illustrates the powers of the Court to intervene where a franchisee is said to be operating in breach of a restraint with the benefit of confidential information.

The background

The plaintiff, Green Acres, was a nationwide franchisor operating a franchise system for operation of lawn mowing, gardening and property marketing services.

The defendant, L & K Ferrick Limited (Ferrick Ltd) was the sub franchisee.

The franchise agreement had provisions to deal with the consequences of termination, including that the franchisee would return all intellectual property and customer details to the franchisor (and cease using all intellectual property). The agreement also contained a restraint of trade which meant that Ferrick Ltd could not be involved in a similar competing business for a period of two years.

The franchise ends

When the franchise agreement expired a dispute arose between Green Acres and Ferrick Ltd. Green Acres requested that Ferrick Ltd comply with its obligations under the agreement and return the intellectual property. Ferrick Ltd did not provide confirmation that it would comply with the agreement and Green Acres suspected that Ferrick Ltd was continuing to operate its business in breach of the restraint. Green Acres hired a private investigator who observed Mr Ferrick carry out gardening work at a number of properties in the area.

Green Acres applied for an injunction against Ferrick to enforce the agreement. Subsequently Mr and Mrs Ferrick incorporated a new company (Ferrick 2021), which the Ferricks acknowledged was providing lawnmowing services, and placed Ferrick Ltd into liquidation.

The Court’s findings

Before considering whether to grant the injunction, the Court added Ferrick 2021 as a defendant to the court proceeding. Green Acres argued that it appeared to have been incorporated to circumvent the post termination obligations of Ferrick Ltd under the agreement. The Judge also granted leave to Green Acres to continue its claim against Ferrick Ltd, despite it having been placed into liquidation.

Green Acres’ primary allegation against Ferrick Ltd was that it had acted in breach of the restraint of trade and failed to return customer information to Green Acres after the agreement was terminated.

The Court was satisfied that the customer information was adequately defined and confidential, and that Ferrick Ltd’s use of it was contrary to the franchise agreement. It also accepted that Green Acres had a protectable interest as a result of the restraint of trade provision, especially in relation to the customer information, and that a two year restraint of trade in relation to the Hawke’s Bay area was reasonable.

Green Acres also brought a claim against Mr and Mrs Ferrick claiming interference with contractual relations (in other words interfering with Ferrick Ltd’s performance of the franchise agreement) by continuing to engage in the lawn mowing and gardening business and using the customer information.

The Court found that it was arguable that Mr and Mrs Ferrick and Ferrick 2021 were directly instrumental in Ferrick Ltd breaching its contractual obligations.

Again the Court accepted that the customer information was sufficiently defined, and had the requisite confidentiality. The Ferricks had received the customer information in their capacity as directors of Ferrick Ltd for the purposes of carrying out the agreement and that imported an obligation of confidence.

It was held that the incorporation of Ferrick 2021, the acknowledgement that Ferrick 2021 was to undertake a lawnmowing and gardening business, and the fact that Ferrick 2021 was interested in purchasing Ferrick Ltd’s assets from the liquidator strongly suggested that the customer information had been or would be used by the Ferricks and Ferrick 2021 for their own commercial purposes.

The Judge accepted that there was a tenable argument that the defendants had been engaged in a scheme to transfer the customer information and business that was the subject of the franchise agreement to Ferrick 2021.

The Court granted an interim injunction imposing a restraint of trade and requiring the return of the customer information to Green Acres.

Key takeaways

The Courts will not shy away from concluding that a party has engaged in a deliberate course of conduct to circumvent their post termination obligations under a franchise agreement.

In this case a restraint of two years for a particular region was considered reasonable and enforceable.

Customer information can be considered to have the necessary quality of confidence.

Franchisees wishing to set up in business after termination of a franchise should take advice to ensure they will not breach the provisions of any franchise agreement.