The recent Supreme Court of New South Wales decision of Andrews Advertising Pty Limited v David Andrews highlights the importance of having procedures in place to protect client revenue, including in respect of businesses that have been recently acquired.
In the Andrews Advertising case, Mr Andrews held very close and longstanding relationships with the two key clients of the business. The Andrews Advertising business was purchased by Adcorp Australia Pty Limited and, relevantly, the Court found that:
- whilst he was still employed by Andrews Advertising, Mr Andrews diverted client work to a company operated by his wife and also performed work for this same company; and
- immediately following the cessation of Mr Andrews' employment with Andrews Advertising, he undertook work for one client in breach of his post employment restraints.
As the events unfolded, the two major clients of Andrews Advertising were lost to the Andrews Advertising business and proceedings were commenced against Mr Andrews, together with his wife and other defendants.
At the time the Andrews Advertising business was purchased, it relied significantly on the close commercial relationships between Mr Andrews and its two major clients. The extent of this reliance can be seen in the fact that these two major clients were lost by Andrews Advertising around the same time that Mr Andrews ceased his employment in or about July 2010. Andrews Advertising ceased to trade in August 2010 and so it appears that the loss of these two clients had a dramatic impact on the business.
To alleviate the risk of a similar fate to Andrews Advertising, businesses must implement a range of strategies, both legal and commercial, to protect both established and newly acquired client relationships. One key strategy that businesses should consider is ensuring that there is more than one point of contact between key clients and representatives of the business.
Even in scenarios where a business and its key client relationships are acquired, there needs to be careful consideration given to a program of introducing new contacts to the existing clients so as to reduce the risk of client loss if and/or when key personnel leave the business. Each business will need to carefully consider a strategy on how to best implement such an approach.
A further problem in the Andrews Advertising case was that the information on file concerning the terms of the agreement with one major client did not match the terms actually in place. This was because the terms had been amended, but those amendments where not known within the business and could not be identified in any central location. This impacted on Andrews Advertising's understanding of its legal rights and revenue expectations.
This highlights the importance of having systems that ensure relevant information concerning the terms of any agreements or financial arrangements are accessible centrally and not retained solely within the knowledge of one key employee. This also applies more generally to relevant client information.
On the positive side in the Andrews Advertising case, the business did have in place legal tools to protect its business and provide legal remedies. One of those tools was a restraint of trade provision in the employment contract that Mr Andrews was required to sign on the sale of the business to Adcorp. While those provisions were not enforced at the time Mr Andrews left his employment, they were relied on by Andrews Advertising to assert there had been a breach of contract and to claim damages.
Importantly in this decision, the Court upheld a six month non-compete restraint even though it was acknowledged that doing so would effectively prohibit Mr Andrews from using his professional skills in advertising and to earn a livelihood in Australia for six months. In the context where these restraints were entered into as part of the sale of the Andrews Advertising business to Adcorp, and where there were key client relationships for which Mr Andrews was responsible, the Court found that this form of restraint was reasonable and enforceable.
As the Court found that the restraint of trade provision was
enforceable, Andrews Advertising was able to sue Mr Andrews for
lost revenue during the period of time that he provided services to
one of the clients in breach of the terms of the restraint of trade
The Court held that by reason of Mr Andrews breaching the restraint of trade provision the business lost the opportunity to retain that work for at least the period that the restraint applied, being six months.
In those circumstances, the Court awarded damages of $300,000 by:
- noting the revenue gained by Mrs Andrews' business during the period Mr Andrews performed services in breach of the restraint of trade provisions;
- applying the profit margin that Andrews Advertising expected to achieve to this revenue and then reducing this slightly; and
- reducing the total on the basis that the chance of Andrews Advertising retaining all of that work was assessed as being 65% (Andrews Advertising had argued it was 80%).
In addition, the Court held that during the course of his employment Mr Andrews had diverted a substantial amount of work away from Andrews Advertising and the profit on this work was approximately $233,000. The Court found that undertaking this work was in breach of the fiduciary duty owed by Mr Andrews to the business, as well as a breach of his employment contract. Accordingly, Mr Andrews was ordered to pay $233,000 to the business on account of these lost profits.
In addition, the Court found that Mrs Andrews had assisted her husband in the breach of his fiduciary duties and was therefore equally liable for this amount of money.
While Andrews Advertising was ultimately successful in its claim, the fact that it ceased trading some four years after Adcorp purchased the majority of the shares in the business and a month or so following Mr Andrews ceasing to be employed with the business shows the significant risk to a business where key individuals hold tightly the key client relationships. In those circumstances, it is important to consider the range of commercial and legal strategies available in order to protect the business and mitigate the risks of client loss. Restraints of trade and other relevant clauses in employment contracts are only one of the available strategies and must be considered together with a range of other proactive steps to protect the business.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.