Answer ... Franchising is regulated by the Competition Act 1998 (Act), which is based on pre-Brexit EU competition law. The Competition (Amendment etc) (EU Exit) Regulations 2019 (SI 2019 No 93) made legislative revisions adapting the EU competition regulations to become a set of domestic competition regulations. It revoked the EU procedural regulations and revised the substantive regulations including block exemptions by removing specific EU or inter-state references.
Article 101 of the Treaty on the Functioning of the European Union (TFEU) continues to apply post-Brexit to agreements or conduct of UK businesses that have an effect within the European Union, in much the same way as agreements or conduct of US and Asian businesses are currently subject to EU competition law where their agreements or conduct affect EU markets.
The substance of UK competition law is very similar to that of EU competition law. Section 60A of the Act requires the Competition and Markets Authority and courts to avoid inconsistency between their decisions and EU law and the decisions of the CJEU before exit day.
Previous position in relation to vertical block exemption regulations in the UK
The Competition (Amendment etc) (EU Exit) Regulations has retained the EU block exemption regulations, namely, the Vertical Agreement Block Exemption Regulation (VBER).
Up until 1 June 2022, the 2010 VBER applied to vertical agreements in the UK despite Brexit. The Competition Amendment (EU Exit) Regulations 2019 (‘the Amendment Regulation’) introduced every provision of the current block exemption regulations into UK competition law by removing any reference to the EU or internal market. Post-Brexit transition, the retained exemptions operated as exemptions from domestic competition law prohibitions for as long as they remained in force.
Current position in relation to block exemption regulations in the UK
On 1 June 2022, the old VBER expired and new rules came into force in the UK and the EU. Specifically in the UK, the new Vertical Agreements Block Exemption Order (VABEO) was introduced, which had a transition period of one year, meaning that agreements entered into before 1 June 2022 that complied with the 2010 VBER remained exempted until 1 June 2023. This means that Franchisors have until 1 June 2023 to get up to speed with the new rules and update their agreements if they do not comply.
The VABEO will be in force until 1 June 2028. This gives it a five-year life span from the end of the one-year transition period.
Chapter 1 of the Act prohibits agreements which have as their object or effect the prevention, restriction or distortion of competition within the UK and which may affect trade within the UK. Section 9 of the Competition Act 1998 sets out the exception to this prohibition for agreements, which contribute to improving the production or distribution of goods or to promoting technical or economic progress, while allowing consumers a fair share of the resulting benefits. Competition law has long established that vertical agreements may be able to benefit from the exemption.
Vertical agreements do not generally give rise to competition concerns unless one or more of the parties to the agreement possesses market power or the agreement forms part of a network of similar agreements. In recognition of this fact, by automatically exempting vertical agreements which meet specified conditions, the VABEO avoids placing on businesses the unnecessary burden of scrutinising a large number of essentially benign agreements.
The VABEO automatically exempts, through a safe harbour, vertical agreements which comply with a set of criteria, namely:
- the parties each have a market share below 30%; and
- the agreement does not contain any hardcore restrictions.
VABEO hardcore restrictions
The VABEO contains an updated list of hardcore restrictions. The inclusion of hardcore restrictions within a vertical supply chain agreement will bring the entire agreement outside of the safe harbour created by the block exemption. The hardcore restrictions are as follows:
- Resale Price Maintenance;
- Territorial and Customer restrictions;
- Restrictions of cross-supplies within a selective distribution system;
- Restriction of the sales of spare parts; and
- Wide Retail Parity Obligations.
Imposing a fixed or minimum resale price on franchisees is a hardcore restriction referred to as Resale Price Maintenance. Franchisors can publish recommended retail prices or impose maximum resale prices, as long as in practice they do not amount to fixed prices. There is however one notable exception, which explicitly mentions franchise systems. Fixed resale prices are acceptable in the context of a coordinated short term (two to six week) low price campaign.
VABEO excluded restrictions
There are also excluded restrictions included in the VABEO. The inclusion of an excluded restriction will not bring the entire agreement outside of the safe harbour. Instead, only the excluded restriction itself will be subject to a self-assessment. The three excluded restrictions included in the VABEO are:
- Non-compete obligations;
- Post term non-compete obligations; and
- sales of competing goods in a selective distribution system.
In terms of non-compete obligations in franchises, it is acceptable for non-competes to be for a term longer than five-years in a franchise agreement. However, non-competes should never exceed the duration of the franchise agreement itself. Post-term non-compete restrictions, which are common in franchise agreement must fulfil a set of criteria in order to be acceptable. They must:
- be limited to the premises from which the franchisee operated;
- be indispensable to protect know-how;
- be of a duration limited to one year post term; and
- the post term non-compete must relate to goods or services which compete with the franchise goods or services.
Other aspects of the VABEO specifically relevant to franchises
The VABEO contains specific rules relating to franchise agreements. However, vertical restraints contained in franchise agreements will be assessed under the guidance applicable to the distribution system that most closely corresponds to the nature of the particular franchise agreement. For instance, a franchise agreement that gives rise to a closed network since franchisees are prohibited from selling to non-franchisees are to be assessed under the principles applicable to selective distribution.
A franchise agreement will usually contain intellectual property rights (IPR) licensing relating to particular trademarks and/or know how. The VABEO guidelines provide a list of the type of IPR related restrictions that would be considered legitimate in a franchise network. If captured by the Chapter 1 prohibition, such restrictions will likely benefit from the safe harbour of the VABEO. They include the following list of permitted restrictions:
- An obligation on the franchisee not to engage, directly or indirectly in any similar business;
- An obligation on the franchisee not to use know-how licensed by the franchisor for purposes other than the exploitation of the franchise; or
- An obligation on the franchisee to communicate to the franchisor any experience gained in exploiting the franchise and to grant the franchisor, and other franchisees, a non-exclusive licence for the know-how resulting from that experience.