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Section 28 of the Contracts Act 1950 and cases following its enactment now form part of a more comprehensive framework of laws regulating competition and competitive practices in general which challenge its significance as an isolated principle of law.

There was a time prior to the coming into force of the Competition Act 2010, when many could be forgiven for taking the view that Malaysia had no competition law or anti-trust regime. Section 28 was often considered limited to a narrow band of contractual relationships principally those arising from partnerships or employment, without wider socio-economic ramifications. Yet, at its very crux, section 28 can be seen as an early, and still relevant, attempt at addressing anti-competitive practices.

The doctrine of restraint of trade has had several iterations since it was first expressed in 17^th century English cases. The original doctrine denounced any agreement preventing competition which was considered void[1]. The doctrine was given a more thorough assessment in Michel v. Reynolds[2] where the doctrinal pendulum swung in the opposite direction and continued to be modified over the centuries until its modern construct in Malaysia came into our law as section 28 of the Contracts Act 1950.

Under section 28 of the Contracts Act 1950, a contract in restraint of trade is one, save for 3 exceptions, in which “anyone is restrained from exercising a lawful profession, trade or business of any kind”. To the extent there is such a restraint, the contract is void save for 3 express exceptions permitted under the legislation.

The three exceptions to the general prohibition under Section 28 are the following:

• Exception 1 – Where the contract involves the sale of goodwill of the business. One who sells the goodwill of a business may agree with the buyer to refrain carrying on a similar business, within specified local limits, so long as the buyer, or any person deriving title to the goodwill from him, carries on a like business therein.
• Exception 2 – Where the contract is made between partners prior to dissolution. Partners may, upon or in anticipation of a dissolution of the partnership, agree that some of all of them will not carry on a business similar to that of the partnership within such local limits as are referred to in exception 1.
• Exception 3 – The contract is made for the continuance of the partnership. Partners may agree that some one or all of them will not carry on any business, other than that of the partnership, during the continuance of partnership.

When Does Section 28 Apply?

Although the language of section 28 does not distinguish between restraints during the continuation of an existing contract and those that apply after the contract is terminated, 2 of the 3 exceptions above address post contractual scenarios and therefore, could suggest that the main thrust of section 28 is to prohibit restraints after a contractual relationship has come to an end. However, the third exception which deals with the continuation of a partnership would suggest the contrary as it clearly envisages restraints that could apply to an existing contractual relationship (ie ongoing partnership arrangements).

The term “every agreement” mentioned under Section 28 is a very broad term which covers a range of agreements including agreements such as commercial contracts, employment contracts, partnership agreements, agreements of societies and trade unions, etc.

The types of restraint of trade clauses include:

• clauses which restrict one’s liberty to carry on trade with other parties in the future; and
• non-compete non solicitation and anti-poaching covenants.

Where a contract or a clause in a contract is in breach of Section 28 without falling within the permitted exceptions, the courts would have no discretion but to render it void[3]. Where only a clause of an entire contract is in breach of Section 28, it is only that clause that will be void. Where such contract or clause is rendered void, it is void ab initio. This means that the contract or clause is nullified as if it had never even existed in the first place. The fact that the restraint was freely bargained for by the parties to the contract is also not sufficient reason for excluding the doctrine.[4]

Competition law and Section 28

It is arguable that the doctrine of restraint of trade was a principle of law borne out of public policy considerations as the courts in English sought to establish boundaries against trade practices that were deemed undesirable in the absence of specific legislation[5]. Under English law, a restraint of trade could be said to exist if an existing contract imposes a restriction on lawful business activity that was not reasonable under the circumstances at the time the contract is made[6]. Therefore, the English position[7] draws no distinction between contractual restrictions when there is a contractual relationship between the parties and when that relationship has ended. It follows that the starting position is a judicial aversion towards restraints unless the restraint can be shown to be fair and reasonable under the circumstances.

Earlier Malayan authorities also drew no distinction between existing restrictions in a contract and those that are expressed to survive the termination of a contract[8]. In fact, those authorities assumed that the language of section 28 (or its predecessor) had universal application and could void all forms of restraint if they imposed a blanket prohibition on carrying on a trade. However, in The Hua Khiow Steamship Co. Ltd. V. Chop Guan Hin (1930) 1MC 175 a provision imposing a penalty on traders using the plaintiff’s services if they also shipped their goods with a competitor, was held not to be in restraint of trade because the court held that a restriction per se is not void if its prevents a party exercising his business, provided the restriction merely stipulates that he should exercise it in a particular manner[9].  Nonetheless, it was clear that the relevant restraint provision (then contained in section 27 of the Contract Enactment) was applicable to a subsisting contractual arrangement.

Malaysian courts have in more recent times departed from The Hua Khiow position and taken the position that “section 28 is only applicable in cases where a person is restrained from carrying on his trade or profession in the traditional sense of the doctrine, that is in the post contract period and not during the currency of the contract.”[10]

The case best known for this proposition is Polygram Records Sdn Bhd v The Search & Anor [1994] 3 MLJ 127. In his judgment, Sinnadurai Jsaid that to apply section 28 to every contract which contains a covenant restricting a party from practising his trade or profession both during as well as after the contract as a restraint of trade “would have far reaching consequences on normal commercial contracts.” That rationale seems to have driven the court to conclude as it did, that section 28 only applies to post contractual obligations.

In order to arrive at that pronouncement the court distinguished the English cases (and apparently disregarded The Hua Khiow decision), but it is unclear if the grounds for finding judicial differentiation was based on the construct of section 28 or the facts of the case, or both, as this was not explored in the judgment of the court. The court’s subsequent unqualified judicial pronouncement as cited above is all the more surprising when considering that the language of section 28 itself draws no such distinction and is impartial, and that Exception 3 clearly saw a need to address restraints imposed under a subsisting contract.

It is also questionable whether there is any meaningful distinction between current and post contractual obligations. An obligation or covenant intended to survive an initial contractual relationship is nonetheless still a contractual obligation and therefore continues to maintain a contractual relationship between the original parties (albeit on substantially reduced terms.) Therefore, when does one determine when the contractual relationship ends?

The universal application of section 28 to all contractual restraints seems to have been assumed in Kamarudin Merican Noording (suing for himself on behalf of the members of the Association of West Malaysian Rase Horse Trainers) v Kaka Singh Diwali (sued as the public officer of the Malaysian Racing Association) [2011] 7 MLJ 281. In that case decided at the same time as the Polygram Case, the court was invited to consider the validity of r.230 of the Rules of Racing of the Malaysian Racing Association. This stated that “No trainer shall train, have charge of or have in his stable or at his spelling station less than an average of twenty (20) horses a month over a period of one year.” This was challenged as a restraint under section 28 and the issue of its application to a subsisting obligation was not in issue. The court taking the cue from The Hua Khiow case, concluded that trainers are independent contractors and that r.230, was merely restrictive and not a restraint and therefore valid.  

Conclusion

It remains to be seen if the Polygram decision will be followed and upheld as good law. It is proposed that the better approach to section 28 would be to read its terms as applicable to all contractual arrangements where a restraint of trade is imposed but to have practical concerns addressed with principles demarcating acceptable forms of restrictions. It is further submitted that this approach would be more consistent with present day competition law and policy.

[1] G.H. Treitel, The Law of Contract

[2] (1711) 1 P. Wms 181

[3] Polygram Records Sdn Bhd v The Search & Anor [1994] 3 MLJ 127

[4] Maggbury Pty Ltd and another v Hafele Australia Pty Ltd and another [2001] 185 ALR 152.

[5] G.H. Treitel, The Law of Contract, Fifth Edition, 538

[6] G.H. Treitel, The Law of Contract

[7] Schroeder Music Publishing Co. Ltd. V. Macaulay [1974]1 WLR 1308

[8] The Hua Khiow Steamship Co. Ltd. V. Chop Guan Hin (1930) 1MC 175

[9] The Hua Khiow case, supra

[10] Polygram Records case, supra