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Restrictive covenants – more likely to be enforceable, but don’t forget competition law

A recent Supreme Court judgment has clarified one of the routes to challenging covenants limiting land use. It has adopted a new approach to assessing the old question of what is a “restraint of trade”? The judgment did not however address possible challenges to restrictive covenants under competition law, which remain a real possibility.

The Supreme Court considered an agreement by a landlord with one of its retail tenants, which sold food and textiles. The landlord had agreed to prevent construction of a competing shop elsewhere on the same development. Subsequently, as the success of the shopping centre declined, the landlord wanted to have the restriction declared illegal, arguing that it was a “restraint of trade”.

The Supreme Court found for the tenant. It ruled that a restriction will not be a restraint of trade if that type of restriction has “passed into the accepted and normal currency of commercial or contractual or conveyancing relations”. It found that a restrictive covenant of the sort the landlord had agreed to, met this test.

On its face, this is encouraging for parties to real estate transactions seeking certainty. We do not think that the judgment would allow a party to impose more restrictions than is customary today, but all parties should be more confident that those customary restrictions are enforceable.

The big exception to this is competition law, which does not seem to have been argued in this case. Statutory competition law prohibits agreements with an anti-competitive effect or object. In most areas of commercial disputes this law has, to a large degree, taken the place of restraint of trade. Although competition cases can be complex, competition law can in fact be argued in any UK court. It has been applied to UK real estate since 2011.

Any restriction in a lease or other contract will breach the law if it has an appreciable negative effect on competition and countervailing efficiency criteria are not met. Such a restriction is illegal and void. In extreme cases the parties to such a restriction can also be subject to fines – even if this is unlikely in a normal real estate context.

In the real world a competition law analysis can be complex. The regulator’s guidance suggests that restrictions on landlords letting to businesses which compete with their existing tenants may in certain circumstances be illegal.

Also not impacted by this case is a special set of competition rules aimed at the largest supermarkets. Put into place by the competition regulator in 2010, these rules prohibit some restrictive covenants and exclusivity clauses benefitting the supermarkets. Earlier this year the regulator (the CMA) sent a shot across the bows of a major supermarket chain, in an open letter identifying 23 breaches.

So, some takeaways for practitioners:

  • not a green light for novel restrictions in real estate transactions;
  • some greater comfort on the enforceability of customary restrictions;
  • but still a need to consider in all cases whether competition law may overrule the terms of a contract.