Competition law is finally starting to bite on retail leases, but not necessarily in the ways we expected, warns Michael Stephens.

It is over three years since retail leases were exposed to the full force of competition law.

The repeal of the Land Agreements Exclusion Order on 6 April 2011 stripped the security blanket from all property contracts, leases and other land agreements.

What’s caught?

Any agreement which restricts the use of land is potentially vulnerable. This isn’t just about competitors carving up territory between them. This also affects retailers protecting themselves from unwanted competition by imposing restrictive covenants on the disposal of surplus property, or by insisting on lease covenants whereby the landlord guarantees an anchor tenant exclusivity within a particular scheme.

The consequences of getting it wrong can be severe. Not only is the offending restriction void, but the parties involved can each be fined up to 10% of their annual global turnover.

The official guidance promises that only a small minority of property agreements will have the appreciable effect on competition required to infringe competition law. The emphasis is on the effect that a particular restriction has on the relevant market, rather than the wording of the restriction itself.

Matters are further complicated by the principle of ‘transient voidness’, which dictates that valid restrictions can still breach competition law months or even years later following changes in the relevant market.

The big seven supermarket chains are subject to even greater restrictions under the Controlled Land Order (CLO). Among other things, the CLO prohibits them from imposing new restrictive covenants preventing grocery retailing and imposes strict conditions on new exclusivity agreements with landlords.

Retailers are undoubtedly far more familiar with competition law concepts than many others affected by the change. However, despite the reassurances made in the official guidance, considerable uncertainty remained as to how the courts would apply competition law in the context of commercial leases.

‘The repeal of the Land Agreements Exclusion Order stripped the security blanket from property contracts, leases and other land agreements.’

User clauses

The recent first reported case on the application of competition law to retail leases suggests that the courts will perhaps be more sympathetic than expected to arguments based upon competition law.

With restrictive covenants and exclusivity agreements considered most vulnerable, it was somewhat surprising that the first reported case concerned a user clause in a lease and arose in the context of lease renewal proceedings.

The case concerned a newsagent’s shop in a suburban shopping parade on a post-war housing estate. The local authority landlord had a longstanding policy of deliberately using narrow user clauses to ensure that the parade contained a selection of complementary retailers, including a baker, pharmacy, hairdresser, takeaway, mini-supermarket and newsagent. In doing so, the council was not seeking to protect itself from competition, but to maintain a diverse and vibrant parade for the benefit of the local community.

On lease renewal, the newsagent wished to extend its user clause to become a convenience store. To avoid potential competition with the mini-supermarket, the council proposed a user clause for the renewal lease making it clear that the newsagent could not sell groceries or other convenience goods.

The judge held that the user clause proposed by the council infringed competition law and did not benefit from the exemption which can save anti-competitive agreements that ultimately afford a benefit to consumers.

Significance

At first glance, this case is great news for retailers and disastrous for landlords. Retail tenants will undoubtedly attempt to use this case as a precedent to upset similar letting schemes elsewhere and generally to argue against overlyrestrictive user clauses and to leverage wider user clauses on lease renewal.

However, while the first case to consider a new area of law is always exciting, it is important not to get carried away. The official guidance confirms that landlords have a legitimate interest in manipulating user clauses to manage their estates and ensure a good tenant mix. In this case, the council conceded that the proposed user clause did breach competition law, presumably having concluded that the housing estate was likely to constitute the ‘relevant market’ and that this parade comprised the only shops within that market.

‘The first case suggests that the courts may be more sympathetic than expected to competition law arguments, but don’t get carried away.’

With the council having conceded the key issue, the case was argued on the basis of whether the consumer benefit exemption applied. Since a strong case will always be needed to invoke this narrow exemption, it is not altogether surprising that the judge decided that the exemption did not apply.

The case is therefore less significant than it first appears. Virtually every shop lease in the country contains some limitations on the tenant’s use of the property and in the vast majority of cases this will not result in a breach of competition law.

Exclusivity agreements

While the next battleground might be more predictable, its outcome could have wider ramifications for retailers.

The Supreme Court of Latvia has asked the European Court of Justice to consider whether exclusivity agreements given to anchor tenants by shopping centre landlords automatically offend competition law, regardless of their effect on the market. The Latvian competition authorities have apparently been taking a hard line on exclusivity agreements, focusing on their anti-competitive intent.

In contrast, the UK’s approach focuses on effect and even the CLO stops short of imposing an absolute prohibition on retailers extracting exclusivity covenants from landlords. Such an outcome in the European courts would therefore necessitate a complete rethink of the current position in the UK, although judicial guidance on assessing such agreements would be welcomed. Watch this space!

Landlords and tenants beware

Recent developments serve as a timely wake-up call for landlords and tenants of retail property that they are not immune from challenges based upon competition law. Every proposed new restriction must be individually risk-assessed before the agreement is entered into. And don’t forget that existing agreements are affected too, even those entered into before 2011.