UK: Non-Compete And Step-In Clauses: High Court Carewatch Case Confirms Their Validity

Last Updated: 11 November 2014
Article by Babette Märzheuser-Wood, Sam Szlezinger, Robyn Chatwood and Alex Haffner

Recently, the English High Court handed down its judgment in the carefully-watched Carewatch case 1

The case considered the validity of the non-compete and step-in clauses in a franchise agreement which a franchisor had sought to enforce against its former franchisee.

The High Court confirmed that the leading case at the Court of Justice of the European Union (CJEU) on non-compete provisions in a franchise agreement, Pronuptia2, remains good law. Franchisors will be relieved that the position has not changed and so post-termination non-compete clauses in a franchise agreement (which restrict competition) will be valid if they are necessary to protect the franchisor's legitimate business interests.

The step-in provisions in the Carewatch agreement had entitled the franchisor to operate the franchised business on termination from the premises and to buy certain franchisee assets. The High Court commented that they were not "particularly stringent or onerous"3 and they were upheld. However, the franchisor did not have a right to buy the franchised premises from the franchisee as the agreement had simply failed to provide for the possibility. The oversight is an expensive lesson.

The background facts to the case

The background to the case had a surprising start. Carewatch Care Services (Carewatch) first received notices to terminate the franchise agreement from one of its franchisees, Focus Caring Services (Focus). Focus had since 1999 operated a number of the franchised outlets. Carewatch is the second largest provider of home care services in the UK, operating through both directly-owned and franchised outlets.

Carewatch may not have thought, when the franchisee terminated, that it would need to rely on the Court (after a six-day trial) to enforce the post-termination non-compete clauses in the franchise agreement. The dispute arose in 2013 when Focus decided to start operating competing home care services under different brand names (Purely Care and Poppy Care) while the Carewatch franchise agreement was still on foot. Focus had taken this step as it was aggrieved that Carewatch had decided to operate company-owned outlets in Focus's non-exclusive territory. Carewatch considered Focus to be in breach of the franchise agreement and initially efforts were made by both parties to resolve matters. However negotiations broke down and Focus decided to terminate its franchise agreement.

In its termination letter, Focus agreed that it would comply with its post-termination obligations to extricate itself from the Carewatch franchise system, but stated that it was not prepared to comply with the post-termination non-compete obligations. Focus argued that the provisions which prohibited Focus for a period of 12 months after termination from either competing with Carewatch in the territory covered by the franchise arrangements or from soliciting any of its employees/customers were void and unenforceable under competition law.

Competition law and franchise agreements: the Pronuptia test

By way of background, EU and UK competition rules prohibit provisions in commercial agreements which restrict, prevent or distort competition. Taken out of context, a non-compete obligation risks breaching these rules on the basis that the parties effectively agree not to compete with one another within a defined territory. At worst, such a restriction can amount to market-sharing, which is regarded as one of the most serious breaches of competition law.

Nevertheless, competition law recognises that a rigid approach to non-compete restrictions undermines the very basis on which many commercial arrangements are entered into and the legitimate commercial bargain which the parties are willing sign up to.

This is particularly true of franchise agreements. Franchisors necessarily provide and enable their franchisees to take advantage of the franchisor's established business name, know-how and business methods. In return, the franchisor reasonably expects the franchisee not to take that knowledge and reputation and use it for the benefit of the franchisor's competitors.

The leading case on the relationship between the competition law rules and franchise agreement is Pronuptia de Paris4 - a case which arose out of a dispute between the French owner of a wedding goods franchise system and its German master franchisee. In this case, the CJEU held that there are certain restrictions in franchise agreements which are necessary to ensure the proper functioning of a franchise system and so fall outside the competition law rules altogether. These are provisions which are essential to:

  1. ensure that the know-how and assistance provided by the franchisor to the benefit of the franchisee does not benefit the franchisor's competitors; and
  2. maintain the identity and reputation of the franchise network.

When giving its judgment however, the CJEU stated that it should be confined only to distribution franchises, being those where a franchisee sells products under the franchisor's name. However, the principles adopted by the CJEU have since been applied more widely to other types of franchise and so are relied upon by franchisors as a "safe harbour" from competition law for a wide range of restrictions/obligations which are typically included in franchise agreements, including non-compete provisions.

Applying the Pronuptia test in Carewatch

Focus argued that the non-compete covenants in its franchise agreement with Carewatch went further than permitted under the competition law rules. If that argument had been accepted by the Court, the provisions which breached the competition law rules would be deemed void and unenforceable from the moment the agreement was made. This would have prevented Carewatch from enforcing them.

The judge in Carewatch considered the Pronuptia test that held that a non-compete covenant which prohibited a franchisee from opening a business of the same or similar nature in the relevant area where it can compete directly with a member of the franchise network was permissible so long as such provisions apply only for a "reasonable" period after the termination of the franchise agreement.

The Carewatch parties did not dispute that the scope of the non-compete obligations was reasonable (these were limited to businesses which directly competed with the franchisor's business). However, the reasonableness of the 12-month duration of the non-compete was disputed. The Court stated, considering the relevant precedents5 and applying the Pronuptia test, that an analysis of the specific facts was required to determine whether, on termination of the agreement:

"the know-how and assistance provided by the franchisor to the franchisee is of an extent likely to turn that franchisee into an effective competitor".

For Carewatch, the judge was in no doubt that this test was satisfied - particularly in light of the facts that Focus's owners had taken on the Carewatch franchise without any prior knowledge or experience of the care industry and that it was the know-how and assistance provided by Carewatch which had enabled Focus to build its profitable business in an industry characterised by the highly personal relationship between care providers and their customers.

The result was that the Court upheld the non-compete covenants in its franchise agreements and gave Carewatch the injunction against Focus which it had sought to prevent Focus's owners from establishing and operating the competing business.

Step-in rights

Another aspect of the case was to do with the franchise agreement's step-in provisions. These gave rights to the franchisor, on termination of the franchise agreement, to purchase certain assets of the franchised business from the franchisee and to enter the franchised premises and operate the franchised business. The parties were in dispute about whether the franchisor was entitled to buy the franchise property on termination in order to give business efficacy to its rights to step-in and operate the business following termination. The High Court upheld the step-in rights but noted that that they failed to provide for the possibility that the franchised premises might be freehold premises owned by the franchisee - this was described as an oversight. As a result, the franchisor did not have the right to buy the freehold. The Court noted that the franchisee was nevertheless obliged to give up possession of the property to enable Carewatch to take over and run the franchise and for that purpose, Carewatch needed no more than a licence to occupy the property. The case emphasises the importance to spell out clearly in the agreements the various scenarios and the specific entitlements of the parties after termination.

Lessons to be learnt from the case

The case provides franchisors with useful guidance on when non-compete restrictions will be enforceable and is an important reminder of the interaction between the UK/EU competition rules and franchise agreements.

There are two main lessons from the Carewatch case:

  • It emphasises that provisions in a franchise agreement which restrict competition will be permitted only if necessary to protect the franchisor's legitimate business interests. Where called upon to determine the validity of a restriction, a court will look beyond the language of the franchise agreement and focus on the relevant circumstances under which the franchise agreement is performed and whether the franchisor should be entitled to the level of protection sought. Franchisors should ensure that any restrictions imposed on its franchisees from the outset are justified.
  • The case emphasises the importance of thinking through the various scenarios and rights that the franchisors will require following a termination. The rights to purchase assets of the former franchisee need to be clearly articulated in the agreement.

Footnotes

1 Carewatch Care Services Ltd v Focus Caring Services Ltd & Ors [2014] EWHC 2313 (Ch).
2 Pronuptia de Paris GmbH v Pronuptia de Paris Ermgard Schillgalis [1986] ECR I-353.
3 Above no. 1, at [85].
4 Pronuptia de Paris GmbH v. Pronuptia de Paris Ermgard Schillgalis [1986] ECR I-353.
5 Pirtek (UK) Limited v Jointplace and Ors [2010] EWHC 1641 (Ch).

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Events from this Firm
21 Sep 2017, Seminar, London, UK

Is there such a thing as "energy law"? What do "energy lawyers" do? And why should it be of interest to anyone else?

28 Sep 2017, Seminar, London, UK

On 26 July the FCA published its long-expected consultation paper on the extension of the SMCR to all FCA-authorised firms. The so-called "core regime" introduces the key concepts of regulator-approved senior managers, firm-approved certification staff and conduct rules applicable to virtually all staff.

3 Oct 2017, Conference, Zurich, Switzerland

As the founding Partner of the Europe-Iran Forum, Dentons Europe will once again support this year’s event. This compelling event which explores all Iran-related topics will take place in Zürich on 3rd and 4th October.

 
In association with
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.