A startup fails. Then the ERA lets a competitor plunder the grave – by Tristam Price

Half of NZ startup businesses only last a few years, and a marketing company called IM Distribution Ltd incorporated in Febrary 2018 recently failed; it’s in the process of being wound up. It had at least four employees including the director Ms Wang (who has another business that appears to be solvent). The Companies Office register does not mention liquidation but many businesses that fail just cease trading for whatever reason, and debts are usually settled to avoid the need for insolvency proceedings.

I have worked for a debt-laden company that was liquidated around 1999; first the director made most of us redundant, then I worked part time for a few months as a contractor in an effort to save the business, and when that failed, I assisted the liquidator to prepare the stock for sale. Over several months there was a lot of angst - towards the liquidator, the bank, the director, the former staff.

Apart from four employee-shareholders’ shares now being worthless, I have no reason to believe the failure of IM Distribution was much different. We have no knowledge of what caused the business to fail - although covid has wiped out many businesses. We are also unaware of any disputes between IM Distribution and any of its former employees, such as non-payment of wages. So, they all pick up the pieces, and life goes on, right?

Enter Bananaworks Communications Ltd, a competitor of the now defunct IM Distribution. In early 2019, IM Distribution hired Mr Zhang and Mr Shi. They had resigned from Bananaworks, giving one months notice. Around that time they both bought shares in IM Distribution so Mr Zhang, Mr Shi, Ms Wang (the director) and Ms Hu (a co-founder) owned 20-30% each. In the Chinese community it’s not unusual for employees of small businesses to own shares in the company – it aligns their interests with those of the company.

Mr Zhang and Mr Shi had restraint of trade clauses in their employment agreement with Bananaworks. Bananaworks claim that Mr Zhang and Mr Shi breached their employment agreements by soliciting their clients for the benefit of IM Distribution. We have been unable to find any evidence that Bananaworks had applied to the ERA for a Compliance Order to enforce the restraint of trade or non-solicitation clauses. But this 26 February 2021 ERA Determination indicates that even though IM Distribution is no longer trading and therefore no longer a competitor, Bananaworks wants all four employees to pay a penalty for soliciting clients, or aiding and abetting that alleged solicitation while IM Distribution was trading.

That’s a big ask, right? The company is already dead, so Bananaworks should be celebrating the disappearance of a competitor.

Not so, says ERA Member Robinson. Even though the restraint of trade clauses were not enforced during the restraint period (3 or 6 months is common), and the company has since failed and is no longer a competitive threat, Bananaworks want money from the director, co-founder and the two other employees, and the ERA has rubber stamped Bananaworks’ application to join the director and co-founder Ms Wang and Ms Hu to the proceedings:

Section 134(2) of the Act states: “Every person who incites, instigates, aids, or abets any breach of an employment agreement is liable to a penalty imposed by the Authority.”

Member Robinson’s Determination shows a further departure from what Parliament must have intended the Employment Relations Authority to be, with pedantic application of obscure sections of the Act without regard to practical considerations, such as the lack of evidence of any attempt by Bananaworks to enforce Mr Zhang and Mr Shi’s noncompete agreements in 2019, and the fact the competing company that may have benefited from the alleged breaches no longer exists.

There was no decision on the merits of any penalty application as per Paragraph 202 - that comes later:

No findings as to liability of any of the defendants in this matter have yet been made. However a determination in the substantive matter will need to be address whether or not IMD aided and abetted Mr Shi and Mr Zhang to breach their restraint of trade clauses. That will necessarily involve an examination of the knowledge of Ms Wang and Ms Hu as to the existence of the restraint of trade by at the time of entering into the arrangements with Mr Shi and Mr Zhang.

A restraint of trade enforcement is a property action based on intellectual property rights (client lists, trade secrets, formulas etc); indeed counsel for Bananaworks is a property law specialist. But should the ERA have jurisdiction over parties other than employers, employees and unions? Even if IM Distribution was still trading, Bananaworks could have applied for a Compliance Order under urgency to prevent Mr Zhang and Mr Shi from working for IM Distribution, and the disruption to IM Distribution’s business should have gone a long way towards protecting Bananaworks’ business interests.

So this Determination in the context of the parties’ circumstances suggests a detachment from reality, so we suspect that Member Robinson is actually attempting to further extend the powers of the ERA and set a precedent that would allow any party with deep pockets to come after anyone and everyone, in relation to an alleged breach of someone else’s mediated settlement agreement or even an ordinary employment agreement.

Your family, your friends, your advocate, your colleagues could be exposed - not necessarily to an overreaching order to pay a penalty (as we think that the seemingly vindictive nature of Bananaworks’ claim will eventually lead to it being chucked out), but to crippling legal costs. Standing back, that may raise concerns around people taking the law into their own hands.

As an aside, the company I worked for that went belly up in 1999 had hired me the year before because my predecessor had been hit with a restraint of trade injunction.

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