Blog: Supreme Court heralds new approach to restrictive covenants

Fiona Caldow and
Gareth Hale

Fiona Caldow and Gareth Hale consider a recent decision by the Supreme Court on restrictive covenants in restraint of trade.

In Peninsula Securities Limited v Dunnes Stores (Bangor) Limited [2020] UKSC 36the Supreme Court upheld the terms of a lease, finding that a restrictive covenant provided by a landlord of a shopping centre to an anchor tenant did not engage the doctrine of restraint of trade.

The restrictive covenant did not therefore have to be shown to be reasonable in order to be enforceable. In reaching this conclusion, the Supreme Court departed from previous case law, abandoning the “pre-existing freedom” test in favour of consideration of whether the covenant is of a type that has become commercially acceptable and thus can be considered to satisfy the test of public policy.

The leading case in relation to covenants in restraint of trade had been Esso Petroleum v Harpers Garage (Southport) Limited [1968] AC 269, in which Lord Reid, with the support of the majority of the House of Lords, formulated what became known as the “pre-existing freedom” test. A covenant would engage the doctrine of restraint of trade if, on entering into it, the person doing so “gives up some freedom which otherwise he would have had”. The pre-existing freedom test has since been widely criticised, with critics pointing out that there is no principled explanation as to why a restraint should engage the doctrine if the party agreeing to the restraint enjoyed a pre-existing freedom but an identical restraint should not engage it if they did not do so.

In Esso, Lord Wilberforce put forward a different test, known as the “trading society” test, under which a covenant restraining the use of land does not engage the doctrine if it is of a type which has “passed into the accepted and normal currency of commercial or contractual or conveyancing relations” and which may therefore be taken to have “assumed a form which satisfies the test of public policy”.

There is a shortage of judicial consideration of the issue in Scots law, although Esso and its analysis of whether there has been deprivation of freedom has been referred to in Scotland – see Nekrews v PMAC Scientific Ltd [2018] SAC Civ 29, 2019 SC (SAC) where it was held that an agreement to secure the co-operation of third parties did not entail any surrender of liberty and, accordingly, did not engage the doctrine of restraint of trade.

Turning to the case of Peninsula v Dunnes, a developer of a shopping centre in Northern Ireland granted a long lease of part of the land to Dunnes Stores almost 40 years ago. The lease contained a restrictive covenant that any development on the remaining land would not contain a large unit for the purpose of trading in textiles, provisions or groceries. Peninsula subsequently acquired the developer’s interest in the lease. The shopping centre had been through a period of decline and Peninsula considered that the restrictive covenant was preventing its revival. Peninsula argued that the restrictive covenant engaged the doctrine of restraint of trade, that it was unreasonable and therefore unenforceable.

The Supreme Court unanimously held that, when considering whether the doctrine of restraint of trade is engaged, the pre-existing freedom test should be discarded in favour of the trading society test. Application of the trading society test to the facts of the case was straightforward because it has long been accepted and normal for the grant of a lease in part of a shopping centre to include a restrictive covenant on the part of the landlord in relation to the use of other parts of the centre. It follows that the covenant in this case did not engage the doctrine. The restrictive covenant was therefore enforceable. Lord Carnwath stressed that “what matters therefore is the practical effect of the restriction in the real world, and its significance in public policy terms”, finding that “the agreement is not in essence an agreement between traders, but a transaction in land”. As regards the nature of the covenant: “the business of developing a shopping centre as in this case inevitably involves doing deals to regulate the use of the relevant land, and balance the competing interests, to advance the success of the centre as a whole…….there is nothing unusual in special terms being required to secure an appropriate anchor tenant.”

A theme common to the recent landmark Supreme Court decisions in the field of contract law is the need to respect the terms of the bargain struck between parties: see Arnold v Britton [2015] UKSC 36 (concerning contract interpretation), Marks & Spencer v BNP Paribas Securities Services Trust Company (Jersey) [2015] UKSC 72 (concerning implied terms), and the conjoined decision in the cases of Cavendish Square Holding BV v El Makdessi and ParkingEye v Beavis [2015] UKSC 67 (concerning penalty clauses).  Peninsula v Dunnes continues this approach of prioritising contractual certainty, however unwise an agreement turns out to be.

Fiona Caldow is managing practice development lawyer and Gareth Hale is a partner at Dentons.

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