New South Wales Court of Appeal CITATION : Rouen & Ors v Ryan [2001] NSWCA 230 FILE NUMBER(S) : CA 40456/00 HEARING DATE(S) : 28 May 2001 JUDGMENT DATE : 18 July 2001 John Patrick Rouen Anthony Graham Edgar Ian Francis Dwyer Jennifer Ann Platt PARTIES : Margaret Patricia Bray (Appellants) v Peter Kevin Ryan (Respondent) JUDGMENT OF : Beazley JA at 1; Davies AJA at 5; Rolfe AJA at 32 LOWER COURT JURISDICTION : Supreme Court - Equity Division LOWER COURT 4517/98 FILE NUMBER(S) : LOWER COURT Young J JUDICIAL OFFICER : COUNSEL : As: Mr J Campbell QC, Ms K Williams R: Mr B Coles QC, Mr M Ashhurst SOLICITORS : As: Gordon A Salier R: Kemp Strang CATCHWORDS : Partnership - Restraint of Trade - interpretation of the restraint clause discussed - whether restraint too wide - operation of Restraints of Trade Act 1976 discussed - whether resolution reducing entitlements of retiring partner was a penalty. LEGISLATION CITED : Restraints of Trade Act 1976, s 4(1) Bridge v Deacons [1984] 1 AC 705 Nordenfelt v Maxim Nordenfelt Guns and Ammunition Co Ltd [1894] AC 535 CASES CITED: Herbert Morris Ltd v Saxelby [1916] 1 AC 688 Dunlop Pneumatic Tyre Company Ltd v New Garage and Motor Company Ltd [1915] AC 79 Kone Elevators Pty Ltd v McNay (1997) ATPR 41-564 DECISION : Appeal allowed. See paragraph 31 for further orders. IN THE SUPREME COURT OF NEW SOUTH WALES COURT OF APPEAL CA 40456/00 EqD 4517/98 BEAZLEY JA DAVIES AJA ROLFE AJA WEDNESDAY 18 JULY 2001 JOHN PATRICK ROUEN & ORS v PETER KEVIN RYAN JUDGMENT 1 BEAZLEY JA: I have had the advantage of reading in draft the judgment of Davies AJA with which I agree. I would only make the following additional comments. 2 Section 4(1) of the Restraints of Trade Act 1976 (NSW) provides: "A restraint of trade is valid to the extent to which it is not against public policy, whether it is in severable terms or not." 3 It is correct to say, as Young J said and Davies AJA has endorsed, that s 4(1) of the Act "does not allow the Court to remake the contract or a covenant in it": see Kone Elevators Pty Limited v McNay & Anor (1997) ATPR 41-564. However, as Sheller JA pointed out at 43,833: "If the Court can read down a covenant in restraint of trade, otherwise void as against public policy, to an extent that makes its enforcement not against public policy, the Court may restrain a breach of the covenant so read down … By this means a party may be able to restrain a particular breach of covenant even though the covenant is expressed in terms so wide as to be void as against public policy at common law. Section 4(1) of the Act has confirmed and enlarged the capacity of the Court to enforce just and reasonable covenants which may on their face be too widely expressed." 4 If, contrary to the construction of the clause arrived at by Davies AJA with which I have agreed, the clause is too wide, I am of the opinion that the appellants ought to succeed under the provisions of s 4(1). 5 DAVIES AJA: The appellants are the continuing partners in the firm Laurence & Laurence, Sydney solicitors. The respondent, Peter Kevin Ryan, is a former member of the firm who left the partnership on 17 July 1998. 6 The partnership agreement contained the following provisions restraining partners from performing certain activities after leaving the firm:- "14. (a) No Partner shall during a period of one calendar year after the date of his retirement act as a solicitor either directly or indirectly for or as a partner or an employee of any other legal practice carrying on business within twenty-five (25) kilometres of the General Post Office, Sydney which within that period acquires as a client any person who was a client of the Firm or the Partnership at any time during the three (3) years prior to that Partner's retirement from the Partnership. (b) Notwithstanding Clause 5.8 [c] , where the remaining Partners reasonably suspect that a retiring Partner may then be or may in the future be in breach the covenants set out in Clause 14(a) the remaining Partners may by Special Resolution resolve to pay such part only as the remaining Partners by their Special Resolution shall determine of the monies required to be paid to the retiring Partner pursuant to Clause 5.8 and upon payment of that amount the remaining Partners shall be deemed to have purchased the retiring Partners Capital Units pursuant to Clause 5.8." 7 On his retirement from the firm, the respondent made no secret of his intention to join another firm of Sydney solicitors and to inform the clients, for whom he had acted whilst he was a partner at Laurence & Laurence, of this change. The respondent subsequently became a partner at Barker Gosling. He advised his former clients that he had done so and he facilitated their instructing Barker Gosling to act for them. Many of the clients signed formal letters directing Laurence & Laurence to forward their respective files to Barker Gosling. Many of the letters included the direction that the file was to be forwarded "to the attention of Mr Peter Ryan". 8 It is not surprising therefore that, on 10 August 1998, the continuing partners of Laurence & Laurence passed the following resolution:- " Resolved that as Peter Ryan has taken to Barker Gosling clients for whom the firm has acted contrary to the terms of the Partnership Deed and the Partners reasonably suspect that Peter Ryan has breached the covenants set out in 14(a) of the Partnership Deed the remaining Partners resolve to pay Peter Ryan one dollar ($1.00) in full payment of moneys due to him." 9 Subsequently, the respondent instituted proceedings seeking a declaration that cl 14(a) of the partnership agreement was void, being in restraint of trade, and an order that there be paid to him the moneys to which he was entitled absent the operation of cl 14(b). The matter came before Young J. His Honour found that cl 14(a) was invalid by reason of restraint of trade and he ordered, therefore, that the partners of Laurence & Laurence pay to the respondent the sum of $140,686.62, in accordance with cl 5.8(c). 10 For the moment, it is convenient if I omit part of the wording of cl 14(a) and treat the clause as if it read:- "No Partner shall during the period of one year after the date of his retirement act as a solicitor either directly or indirectly for … any person who was a client of the firm or the partnership at any time during the 3 years prior to the Partner's retirement from the Partnership." 11 Such a provision is a valid and usual restraint of trade for it restrains the former partner from acting as a solicitor for a person who was a client of the firm at any time during the three years prior to the partner's departure. Such a restraint is recognised as being reasonable and necessary to protect the goodwill of the ongoing partnership. The words "directly or indirectly" are not, in my opinion, too wide. They cover the situation where the partner has retired, joined another firm and arranged for an employed solicitor or a clerk or another partner in the new firm to handle the client's affairs. Words are necessary to cover that situation. The words "directly or indirectly" are appropriate to do so. 12 In Bridge v Deacons [1984] 1 AC 705, the clause in question read as follows:- "28(a) Except on dissolution, no partner ceasing to be a partner for any reason whatsoever shall for a period of five years thereafter act as a solicitor , notary, trade mark or patent agent or in any similar capacity in the Colony of Hong Kong whether as principal, clerk or assistant for any person , firm or company who was at the time of his ceasing to be a partner or had during the period of three years prior thereto been a client of the partnership provided however that this clause shall not apply to a partner acting in any such capacity in the course of employment with government or any public body or with any company or organisation which is not itself engaged in professional practice in any of the above fields." (Emphasis Added) That restraint had an effect similar to that of the restraint which I have just discussed. 13 Lord Fraser, Lord Wilberforce, Lord Scarman, Lord Roskill and Lord Templeman held that that restraint was valid. Lord Fraser, who delivered their Lordships' judgment, referred to the principles stated by Lord Macnaghten in Nordenfelt v Maxim Nordenfelt Guns and Ammunition Co. Ltd [1894] AC 535 at 565, where his Lordship said:- "The public have an interest in every person's carrying on his trade freely: so has the individual. All interference with individual liberty of action in trading, and all restraints of trade of themselves, if there is nothing more, are contrary to public policy, and therefore void. That is the general rule. But there are exceptions: restraints of trade and interference with individual liberty of action may be justified by the special circumstances of a particular case. It is a sufficient justification, and indeed it is the only justification, if the restriction is reasonable - reasonable, that is, in reference to the interests of the parties concerned and reasonable in reference to the interests of the public, so framed and so guarded as to afford adequate protection to the party in whose favour it is imposed, while at the same time it is in no way injurious to the public." 14 Lord Fraser also referred to the following comment of Lord Parker in Herbert Morris Ltd v Saxelby [1916] 1 AC 688 at 707:- "… for a restraint to be reasonable in the interests of the parties it must afford no more than adequate protection to the party in whose favour it is imposed." 15 Lord Fraser went on to say, at p 713:- "While Lord Macnaghten in Nordenfelt's case … referred to restraints which might be justified by 'the special circumstances of a particular case,' it has come to be accepted that certain types of contract which impose a measure of interference with the freedom of trade are treated as not being within the field of restraint of trade, provided that the degree of interference does not exceed the accepted standard." 16 It follows that, if cl 14(a) were to be read in the manner I have set out, it would be a valid restraint. Moreover, the steps which the respondent took to facilitate and arrange the engagement by his former clients of the firm Barker Gosling as their new solicitors constituted the acting by the respondent, directly or indirectly, for persons who had been clients within the three years preceding his departure. 17 On this reading of cl 14(a), it is not necessary to discuss the words of the clause which I have omitted. However, I should mention that I agree with Young J that those words were too wide in their scope to constitute a valid restraint of trade and that they could not be read down pursuant to the Restraints of Trade Act, 1976. As his Honour said, "the Court cannot redraft the covenant". 18 The interpretation which I have so far placed upon cl 14(a) reads the whole of the clause as follows:- "No Partner shall during the period of one year after the date of his retirement act as a solicitor 1) either directly or indirectly for, or 2) as a partner or an employee of any other legal practice carrying on business within 25km of the GPO Sydney which within that period acquires as a client any person who was a client of the firm or the partnership at any time during the 3 years prior to the Partner's retirement from the Partnership." 19 At the trial before Young J, both counsel read cl 14(a) as follows:- "No Partner shall during the period of one year after the date of his retirement act 1) as a solicitor either directly or indirectly for or 2) as a partner or an employee of any other legal practice carrying on business within 25km of the GPO Sydney which within that period acquires as a client any person who was a client of the firm or the partnership at any time during the 3 years prior to the Partner's retirement from the Partnership." 20 That is the reading of the clause with which his Honour dealt. Understandably, his Honour held that the clause, read in that sense, was wider than was necessary to protect the goodwill of Laurence & Laurence and that it could not be read down so as to create a valid restraint. 21 It is submitted on behalf of the respondent that it is not open to the appellants to rely upon an interpretation of the clause other than that which was put to the trial Judge. However, the interpretation of the clause did not turn on matters of evidence but rather on the true meaning of the words used. The meaning of a statute and the meaning of a contract are matters which an appellate court must necessarily determine for itself. An appellate court ought not to allow such a matter to proceed on an incorrect basis simply because counsel, in the proceedings below, misunderstood the position. When matters concern the validity of a contract, the interpretation of the contract is at the heart of the function which an appellate court must undertake. 22 In my opinion, the interpretation of cl 14(a), which was adopted at the trial, was incorrect. First, it excluded the operation of the provision first set out above, which is the primary and usual type of restraint found in such contracts. It was wrong to exclude the provision when, reading the whole of the clause grammatically, the provision was clearly expressed. 23 Secondly, the interpretation adopted below was ungrammatical, perhaps nonsensical. It would require the clause to read, inter alia, "No Partner shall … act as a solicitor either directly or indirectly for … any other legal practice". That would be a curious reading of the clause. If it was said that the clause should read, inter alia, "No Partner shall … act as a solicitor either directly or indirectly … as a partner or an employee of any other legal practice", that interpretation would omit the word "for" altogether and would appear not to encompass the situation where a solicitor set up practice on his own account. 24 Thirdly, s 4(1) of the Restraints of Trade Act requires that a contract be read as valid, where it is feasible to do so. As the contract can be read so as to contain the valid restraint which I have set out above, it should be so read. 25 For these reasons, as cl 14(a) expressed a valid restraint and, as the respondent breached that restraint, the basis for the orders made by Young J did not exist. 26 It has been further submitted on behalf of the respondent that the forfeiture of the respondent's entitlements, pursuant to cl 14(b) of the partnership agreement, was a penalty in respect of which the respondent was entitled to be relieved entirely. 27 However, cl 14(b) was not, on its face, a penalty. Rather, it allowed the continuing partners to act so as to retain such part of the moneys otherwise payable by the continuing partners as they considered to reflect the loss caused by the breach. The words "reasonably suspect", "may" and "such part only" show that the clause has in mind that the continuing partners should act bona fide and on reasonable grounds to reduce the outgoing partner's benefits on retirement by so much as they consider to represent the loss which will flow from the breach of the restraint of trade clause. 28 I would not agree with the view expressed by Young J that cl 14(b) is a penalty because it does not provide for liquidated damages in that the extent of the loss suffered by the continuing partners bears no relation at all to the amount that is forfeited. As Lord Dunedin said in Dunlop Pneumatic Tyre Company Limited v New Garage and Motor Company Limited [1915] AC 79 at 87-88, when speaking of penalty clauses:- "(a) It will be held to be penalty if the sum stipulated for is extravagant and unconscionable in amount in comparison with the greatest loss that could conceivably be proved to have followed from the breach. (Illustration given by Lord Halsbury in Clydebank Case [1905] AC 6). … (d) It is no obstacle to the sum stipulated being a genuine pre-estimate of damage, that the consequences of the breach are such as to make precise pre-estimation almost an impossibility. On the contrary, that is just the situation when it is probable that pre-estimated damage was the true bargain between the parties ( Clydebank Case , Lord Halsbury [1905] AC at p 11; Webster v Bosanquet , Lord Mersey [1912] AC at p 398)." 29 In my opinion, cl 14(b) intends that the resolution of the continuing partners will be made bona fide and will be based upon the damage likely to be suffered by the continuing partners as a result of the breach of the retiring partner. It does not impose a penalty. 30 In the present case, no attempt was made to show that the resolution of the continuing partners was not bona fide or that the resolution was not based on a sound estimate of the loss which the continuing partnership would be likely to suffer, nor was general relief against forfeiture sought. 31 For these reasons, I would allow the appeal. I would set aside the orders below. I would substitute an order that the summons be dismissed with costs. The respondent should pay the costs of the appeal. 32 ROLFE AJA: I agree with Davies AJA and with the further comments of Beazley JA. ********** DISCLAIMER - Every effort has been made to comply with suppression orders or statutory provisions prohibiting publication that may apply to this judgment or decision. The onus remains on any person using material in the judgment or decision to ensure that the intended use of that material does not breach any such order or provision. 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