This article is written by Shyam Saxena, a 2nd Year BALLB student at Kalinga School of Law. This article explains the statutory and judicial exceptions to restraint to trade under Section 27 of the Indian Contract Act,1872.
This article has been published by Sneha Mahawar.
Table of Contents
The agreement is completed when there is a consideration along with the promise which is enforceable by law becomes a contract. However, there are some restrictions where the agreement is not completed and held to be void which is enumerated as –
- Section 26 Restraint to Marriage
- Section 27 Restraint to Trade
- Section 28 Restraint to Legal Proceedings
- Section 29 Agreements void for uncertainty
- Section 30 Agreements by way of wager
Are held to be void according to the Indian Contract Act, 1872.
The restrictions are however important there are always exceptions to these exceptions as well. Thus, we are going to discuss the exceptions related to Section 27 – Agreements in Restraint of Trade.
“To Practice any profession, or to carry on any occupation, trade or business” as clearly in19(1)(g) of Part III – Fundamental Rights of the Constitution of India which clearly states that all citizens are free to practice any profession, occupation, trade or business in any part of the country and any restriction is held to be void. Analogous to this Sec 27 of the Indian Contract Act,1872 also states that the agreement was held to be void if it restricts any trade. However the difference between the two is in the former, the restriction should not be placed by the State while latter, the restriction should not be placed by the other Contracting Party.
The concept of restraint of trade has been placed in the case of Henry V. In the case, the bond had been placed on the debt that the defendant should not use his art dryer within a city for six months. However, the judge has held it void and held that any restraint to trade should be held void. But with the change of time, the idea also changed. In the modern idea, the exception to restriction had been decided in the case of Hubbard vs miller(1) where judge Christiancy had stated that” if the restraint is honest and reasonable and if it is not opposing to the public policy then restraint be valid.”
On that basis, there are two exceptions present for Section 27 which are-
- Sale of Goodwill
- Partnership Act
- Trade Combinations
- Solus or exclusive dealing agreements
- Protection of trade secrets
- Contract of Service
The statutory exceptions are defined as the statutes which are made to clarify the exceptions by the legislature. These exceptions are generally written in the bare act of the legislation made. The statutory exceptions are sub-categorized into two parts –
- Sale of goodwill
Goodwill is defined as the reputation of the company or the advantageous position it has acquired after years of business in the market. However, the definition of Goodwill has been defined in the case of Trego vs Hynt. Goodwill in this case is defined as the dependence on the nature and character of the business to which it is attached. It further clarified that goodwill is nothing but must resort the old people to the old business.
It is considered as the First Exception to Section 27 of the Indian Contract Act,1872. It was stated that if the seller has sold the goodwill of the company to someone, then the seller may agree with the buyer that it may refrain from carrying the business within the specified local limits, subject to the court’s opinion that such restriction should be reasonable.
If AB has sold the goodwill of the company to CD, then AB may agree with the buyer to refrain from doing the business within the specified limits but subject to reasonable restrictions.
However, this reasonable restriction or exception to section 27 is for the public interest so that the seller’s old people may not go to the new buyer.
Arvinder Singh vs Lal Pathlabs
In the following case, the Delhi High Court has explained the provision of section 27. It stated that if any restraint of trade agreement involves, then it is said to be void. However, if the court found it reasonable and it will benefit the public interest then such restriction need be necessary and the agreement is valid.
Chandra vs Parsullah
In the following case, the plaintiff and defendant are carrying out a similar service of bus fleet from Pune to Mahabaleshwar. To avoid competence, the plaintiff has bought the business of the defendant and made an agreement that the defendant can not do similar business for 3 years. But the defendant can not comply. However, the court told that the agreement is valid and reasonable under section 27 and sought an injunction to the defendant.
Vancouver Malt & Sake Brewing Co v. Vancouver Breweries Ltd.
In the following case, the company was licensed to manufacture wine and beer but it had confined to producing ‘sake’. To avoid competence, it had agreed with another party to manufacture wine and beer and sold the goodwill of the company.
The court in the following case stated that the agreement is devoid of its content. The production of sake is out of this agreement. It had no goodwill to sell for the brewing of the beer. Therefore nothing has been sold in this regard. And It is simply a case of the appellant undertaking to the respondent on consideration of a sum of money that it will not for 15 years varying on a particular branch of business.
- Partnership Act
The partnership Act is another statute where the exception to Section 27 has been defined. There are four clauses where the exceptions to restraint of trade have been clearly defined.
- Restriction on Existing partner [Section-11(2)]- In this section, it is stated that the person who is a partner in a firm can not undertake another business.
- Restriction on outgoing partner [Section-36(2)]- In this section, it is stated that an outgoing person if agreed on the terms that the partner should not carry similar business within the particular period or particular limit, then it is held to be valid.
- Restriction on partner upon or in anticipation of the dissolution of a firm [section 54] – The partners may upon or in anticipation of the dissolution of the firm agree that the partner should not carry similar business within the particular period or particular limit, then it is held to be valid.
- Restriction in case of Goodwill [Section 55(3)] – A partner may upon sale of the goodwill agree with the buyer that the partner should not carry similar business within the particular period or particular limit, then it is held to be valid.
Firm Daulat Ram vs Firm Dharam Chand
In the following case, it was decided that instead of two ice factories, one will work and the profits should be divided between two, this restriction is valid.
Hukmi Chand v. Jaipur Ice & Oil Mills Co
the validity of the agreement entered into between a retiring partner and the other partners, wherein the former sold his share of goodwill and agreed not to carry on similar business on the adjoining plot of land, which came to his share. The Court upheld it. With reasonable and valid it.
The judicial explanations are the exceptions where the interpretation of section 27 is sought and through which exceptions have been laid down. The judicial explanations are sub categorized into:
In the present day, everyone is working in an organized manner. To avoid any competence in the market and to derive more profit out of it, trade combinations have been one of its ways. There are so many examples of the trade combinations like grain merchants, shoe producers, etc. These are mainly for the public interest. They bring about standardized goods, fixed prices, and eliminate competition.
Trade combinations are considered to be one of the exceptions to section 27 but it should be reasonable with the court’s opinion. The trade combinations thus to agree on same prices is valid, trade combination of the same cast is valid as decided in Vaithelinga v. Saminada
Kores mfg company ltd vs Kulok mfg Ltd.
In the following case, the two companies are running a similar business where trade secrets and confidential knowledge may be acquired. Therefore both companies agree that the two companies would not employ each other employ without the prior consent of the company where the employee of any other company for any time during the five years.
However, the court has held this agreement invalid as the court said that it prohibited the appointment of any person to any other place however the person should be for short or in long term.
Hari Bhai vs Sharif Ali
In the following case, four grinning factories are entering into an agreement fixing uniform rates and dividing their earnings between them. However, the court in the following case held that such restriction is valid and reasonable. But the Courts would not allow a restraint to be imposed disguised as trade regulations
Solus or exclusive dealing agreements
The souls or exclusive dealing agreement is another exception to Section 27. The solus agreements are stated as the agreement between the two parties which may refrain the other party to do or abstaining from doing an act from another party. This type of agreement is legally valid and held reasonable in the eyes of the court as well.
A is a salt manufacturer. B is a purchaser of Salt from B. Both A & B agreed that B should not purchase the salt from another manufacturer for 5 years. This is solus agreement and this is held legally valid.
However it was an opinion that if there was a surplus in the case, then the party may sell it to another party and if the agreement has been made to refrain from selling the surplus, then the agreement is held to be void as it is the restraint of trade.
Shaikh Kalu vs Ram Saram Bhagat
In the following case, the seller of combos agreed that the free combos should be given to RS and their heirs. However, the court found this agreement invalid because the following agreement had been generation to generation which is unreasonable.
Carliles Nephew & Co. v. Ricknauth Buckte mull
In the following case, a manufacturer has been ready to supply 1,36,000 dhotis to the defendant and not to any other person is held to be valid by the court as it is reasonable and not restricted.
Gujarat Bottling Co. Ltd. v. Coca Cola Co
In the following case, the coca-cola co. While giving its franchise to Gujarat bottling co. Ltd to manufacture, bottle, sell, distribute beverages under the trademark have a negative stipulation that the franchise should not in the period of subsistence of agreement manufacture, bottle, sell, deal with any other party. The court, in this case, held that the negative stipulation is valid as it is reasonable because the period is fixed in this manner and it should be ended after termination. Therefore it should be held reasonable.
Esso petroleum ltd vs Harpo garager Ltd.
Esso co had agreed on two contracts where one for 4 and a half years and the other is 21 years. However, the court held that the 21 years agreement is held to be void as it is unreasonable but the 4 and a half years is held to be valid.
Protection of trade secrets
In some cases, the protection of trade secrets and confidential information is necessary to be saved. Therefore in an employment contract, there is a clause where the employer may lawfully prohibit his employee from accepting any position.
Contract of service
The contract of service is another exception under the judicial explanation where there must be an exception to restraint to trade under section 27 of the Indian Contract Act, 1872.
Under this clause, if any employer has asked its employee or refrained its employee from doing an act, then it is found to be reasonable under this clause. But this clause also has been dealt with under different conditions – 1) During the employment and 2) Post-employment or termination of employment.
During the employment
The contract of service during the employment is held to be reasonable by the court because it held that the interest of the party is important and necessary here. It further states that it should be no violation and restraint to trade is valid here.
A doctor, X, was agreed with doctor Y, who was a neurosurgeon and physician, to do practicing under him with the stipulation that X should not practice within three years, he should not practice anywhere. This restraint was held valid in this case because it was a reasonable restriction.
VN Deshpande vs Arvind Mills Ltd.
In the following case, the defendant left the respondent company and joined another company. He agreed to the respondent that he may not leave the company for three years. The court held that the agreement is valid and reasonable.
Niranjan Shankar Golikar vs. Century Spg & Mfg Co. Ltd.
A company collaborated with a foreign company. It was agreed that all the trade secrets be kept secrets. The defendant has been appointed and agreed that he should not serve for five years anywhere else. This agreement is held to be valid.
After termination of Employment
The contract of service after termination of employment is held to be unreasonable and void. And it supposes that the person is prohibited from an appointment in any other place or restrained from trade under sec 27. Therefore any agreement restraining the person from appointing any other place is held to be void as decided in the case of Brahmaputra Tea co. Vs E. Scarth.
In the given example of Doctor, if there is any contract where the doctor Y may restrain X after three years of practicing to practice any other place, then it is held to be void.
K.D. Campus (P) Ltd. v. Metis Eduventures (P) Ltd. India
The Delhi High Court in K.D. Campus (P) Ltd. v. Metis Eduventures (P) Ltd. India, has held that once the employer has treated the employment contract of the employee as terminated, then he cannot proceed to enforce any negative covenant against the employee.
Pepsi Foods Ltd. & Ors. vs. Bharat Coca-cola Holdings Pvt. Ltd.
In the following case, it was held that any clause restraining to trade after the termination is held to be violated of Article 19(1)(g). Therefore in the following case, the twelve months clause after the termination is held to be contrary and void.
The restraint of trade is one of the important clauses in the Indian Contract Act, 1872. But like in every condition there are always some exceptions. The exceptions, in this case, is both statutory and judicial which are of utmost importance to know about the nature of the restraint and its importance in deciding the cases in case of restraint of trade.
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