Breach Of Covenant That Was Present

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Breach Of Covenant That Was Present

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Breach Of Covenant That Was Present

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Question:
You have been asked to advise Computers Pty Ltd as to whether any legal action can be commenced against Systems Pty Ltd to prevent them from soliciting its customers?

Answer:
Introducation

In the present case, the facts given in this question revealed the presence of the issue if Computers Pty Ltd can successfully sue Systems Pty Ltd for the breach of covenant that was present in the employment contract of Chu with Computers Pty Ltd. This issue has arisen as a result of the fact that after his retirement, a company, Systems Pty Ltd was incorporated by Chu’s wife. This company has been taking on Business Law from the clients of Computers Pty Ltd. in NSW while restrictive covenant present in the employment contract of Chu provides that he cannot join any business that competes with the company for 2 years in NSW. Therefore, it needs to be seen in this case if Computers Pty Ltd can take action against Systems Pty Ltd for the breach of this covenant.
1.It appears that in the present case, as soon as Chu took retirement from the company, he had decided to start a business that was going to compete with Computers Pty Ltd. However, in order to fulfill this objective, a company under the name of Systems Pty Ltd had been formed by Chu’s wife. She is the sole director of the company and also holds all the issues the capital in the company. This company is taking the business of Computers in New South Wales.
The legal principle was provided in Salomon v Salomon according to which it was affirmed that after it’s incorporated, generally companies considered as a separate legal entity that is distinct from its shareholders. In this way, the principle of separate legal identity of the corporation has been followed in Anglo Australian companies’ law for more than 100 years. Therefore, when a company acts, it acts on its own and not simply as alias for the persons controlling the company (Clarke and Clarke, 2016). In the same way, the shareholders of the corporations cannot be held labor regarding the debts of the corporation beyond the initial capital investment. Similarly, they do not have any proprietary interest in the assets of the company.
In Jones v Lipman (1962), the defendant had entered into a contract for selling his land. However, later on he changed his mind. Therefore, the defendant found the company and he was the owner/director of this company. The land was transferred to this corporation and the defendant declined to perform the transaction. As a result, the relief was sought by the plaintiff. In this case, the court stated that the remedy of specific performance can be granted against the contracting vendor, because it was in his authority to force the other person to convey the property in question. Therefore, specific performance was ordered against the director and the company. The court held that the company cannot escape or divest itself from the knowledge that has been gained by it through the director. The court stated that the company was a creature of the controlling director or a device or a mask that the director holds before his face for the purpose of avoiding recognition by equity.
However, there are certain circumstances where the court may arrive at the conclusion that the corporate veil needs to be pierced in a particular case. Therefore, while basic principle provides that under the corporation’s law, a company is treated by the law as having its own separate legal identity. And as a result, it is considered to be distinct from its members. But as time passed by, the courts have come up with several exceptions to the application of this general rule. As a result, now under some circumstances, it is available to the court to set aside the fact that the company enjoys a separate personality and concludes that the members of the company can be held responsible for its actions. When such a decision is made by the court, it is said that the court had decided to lift the corporate veil (Khoury and Yamouni, 2010).
The facts of Gilford Motor Company Ltd v Horne (1933) are somewhat similar to the problem given in the present case. In this case, Mr. Horne was working as the managing director of the Gilford Motor Company. After he left the company, he decided to incorporated his own company. Therefore, after the entire production of his company, he started to solicit the clients of Gilford Motor Co. on the other hand, there was a non-competition covenant present in his employment contract. Therefore, the issue was if the actions of Mr. Horne’s company can be considered as a breach of the non-competition covenant present in his employment contract. However, the court decided that this amounted to the breach of covenant and granting an injunction against Mr. Horne and his company. In support of its decision, the court stated that the company incorporated by Horne was merely a cloak that had been used by Horne for the purpose of breaching the non-competition covenant. A somewhat similar decision has also been given by the court in Jones v Lipman (1962).
Therefore in Gilford Motor Co v Horne, the defendant was the ex-MD of the plaintiff. However, there was a restrictive covenant present in his employment contract. In view of this clause present in the employment contract, he was refrained from joining a business in competition with his former employer. Therefore in order to avoid this covenant, the defendant formed a company and he tried to transact his business through this company. Therefore, at the first instance, the court held that this company has been formed for the purpose of allowing the business to be carried on under the control of the defendant but without injuring the liability for the breach of the covenant. That was present in his employment contract. In this way, the court noted, the reality that this company was being used by the defendant as a channel through which he was performing his business in breach of the covenant.

In such a case, it can be said that the company has been formed only as a cloak or sham due to the reason that in reality the business was being carried on by Chu. Due to the reason that the restrictive covenant prevented Chu from competing with the business of Computers Pty Ltd. whether as principal or, while acting as an agent for another party, it was not relevant if the business belonged to him or the belonged to his wife, provided that the business was being carried on by Chu. The only significance of the interposition of the corporation was to maintain the pretense that the business was being continued by other person.
Therefore, in such a case it can be said that there is no doubt on the basis of the present facts that the company formed by Chu’s wife was created for the purpose of acting as a channel through which Chu was going to carry on his business that will compete with the business of Computer Pty Ltd. Although under the corporations law, it has been provided that a company has to be considered as a separate legal entity that is distinct from those who manage the affairs of the company, but in the present case, it can be said that it was one of the reasons behind the creation of the company by Chu’s wife was the fear that Chu may be held responsible for the breach of the covenant and with the help of the formation of this company, he may be able to avoid liability if he acted through the company. On these grounds, it can be said that this company has been formed merely as a device or a stratagem for the purpose of acting as a mask to effectively carry on the business of Chu.
In the present case also, Computers Pty Ltd is required to establish in the court that the new company, Systems Pty Ltd had been formed only with a view to evade the application of the restrictive covenant present in the employment contract of Chu according to which he cannot compete with Computers Pty Ltd for a period of two years in New South Wales. Hence the court may decide that the corporate veil should be lifted in this case and the restrictive covenant in the employment contract of Chu needs to be enforced against the company created by Chu’s wife, Systems Pty Ltd.
At the same time, as Computers had created a subsidiary company and the benefit of the restrictive covenant can also be provided to this company.

References
C Kidd, (1985) ‘Partial Performance o Lump Sum Contracts: Proposals for Reform’, 59 Australian Law Journal 96
Daniel Khoury, Yvonne Yamouni, 2010, Understanding Contract Law, 8th Edition, LexisNexis Butterworths
Jane Swanston, (1981) ‘Discharge of Contracts for Breach’, 13(1) Melbourne University Law Review 69
M Dockray, (2001) ‘Cutter v Powell: A Trip Outside the Text’, 117Law Quarterly Review664;
P Clarke, J. Clarke, 2016, Contract Law, Commentaries, Cases and Perspectives, 3rd Edition, Oxford University Press

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