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Competition “Clouds” over Non-Compete Clauses

Competition “Clouds” over Non-Compete Clauses

You've probably already come across some form of non-compete clauses. They often appear in a variety of contracts, such as employment contracts, distribution agreements or acquisition agreements in mergers. By their nature, non-compete clauses are undoubtedly sensitive from the perspective of competition law. If someone agrees not to compete with another, this generally restricts competition (such an undertaking gets itself “out of the game”). However, non-compete clauses can also have their pros, especially in the area of distribution. But in other areas, they may be a very sensitive issue.

 Do you also apply a non-compete clause in your various cooperation agreements? And are some of them concluded with companies with which you do not compete at all at first glance? If so, you should be interested in the judgement of the Court of Justice of the European Union (CJEU) in the EDP case. The result of the judicial review is in fact surprising.

This is a case from Portugal. In 2012, an electricity seller (EDP Commercial) concluded an association (cooperation) agreement with a supermarket operator (Modelo Continente). This agreement allowed for obtaining discounts on electricity prices for customers holding a supermarket loyalty card, or other benefits. The agreement also contained a non-compete clause, under which neither the supermarket nor companies from the same group could be active in the sale of electricity or have a similar form of cooperation with another electricity seller during the term of the agreement and for one year after its termination. 

For the non-compete clause in question, the Portuguese Competition Authority imposed fines of EUR 38.3 million on the parties.  The Portuguese Competition, Regulation and Supervision Court upheld the decision. However, it reduced the fine by 10% because of the benefits the agreement brought to households. Both parties appealed. The Court of Appeal in Lisbon referred the question for a preliminary ruling to the CJEU.

In its judgement, the CJEU reached several conclusions. The first and perfectly logical question was whether such an agreement between undertakings not operating on the same market could be anticompetitive at all. The CJEU concluded that real and concrete possibilities of entering the market must be examined. It is necessary to examine what possibilities existed as at the agreement date and look at the parties' activities in the past. In the present case, it was relevant that the supermarket operator's group was to some extent active on the electricity sales market between 2002 and 2008, while at the same time producing electricity through panels located on the roofs of its stores and reselling that electricity at the time the agreement was concluded. Thus, in the CJEU's view, it suffices that within the supermarket operator group there was a sufficient possibility to provide know-how for the market entry and to demonstrate the ability to make use of existing partnerships. 

Further, it was necessary to assess the nature of the agreement as horizontal or vertical. The parties defended by arguing that since they were not directly competing in the product market, the agreement was vertical and the non-compete clause could be exempted from the prohibition on agreements restricting competition, or that its anticompetitive effects would require a detailed assessment. However, the CJEU explained that for a vertical agreement to be a vertical agreement, there would have to be downstream markets. This association agreement could thus not benefit from the block exemption for vertical agreements.

The CJEU further addressed the objective necessity for the non-compete clause. It is precisely because of objective necessity that the non-compete clause could constitute an ancillary restraint to the main agreement and thus be allowed. The parties argued that the purpose of the clause was to prevent the misuse of commercially sensitive information and that the confidentiality and intellectual property protection clauses were insufficient to protect investments and know-how exchange. The CJEU stated that this fact alone does not mean that the non-compete clause is an ancillary restraint. The national court should take into account whether less restrictive alternatives were available at the time the agreement was concluded. However, the CJEU indicated that the scope of the non-compete clause was broad, e.g. because the clause was to remain in effect for one year after termination of the cooperation.

Last but not least, the CJEU considered whether the restriction of competition was by object or by effect. The CJEU also left the final assessment to the national court but stressed that coincidence in time between the non-compete clause and the last phase of the liberalisation of the electricity market in Portugal had to be taken into account. The relevant criterion is, in accordance with previous case-law, a sufficient degree of harm to competition for the view to be taken that it is not necessary to assess its effects.

The CJEU thus followed previous case law, according to which it is necessary to assess in each individual case whether it is a restriction by object.  The question of whether the restriction can be viewed as ancillary must also be assessed on a case-by-case basis. The interpretation in assessing whether the agreement is vertical or horizontal is restrictive. For a vertical agreement, there would have to exist downstream markets, whereas for a horizontal agreement, the existence of the potential for competition is sufficient. 

What's next?

The assessment of non-compete clauses from the perspective of competition law may not be clear for undertakings.  The CJEU has cleared the “clouds” to a certain extent. The CJEU's judgement in the EDP case, with a great deal of simplification, provides very simple rules for the conclusion of non-compete clauses: 

  • Cannot you compete with your business partner at all? Then you don't need a non-compete clause. 
  • Can you compete with each other? Then you should beware and approach any modification of your, even potential, competitive relationship with caution. 
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