Restrictive Covenants in Commercial Leases
Restrictive covenants represent one of the more contentious issues between commercial landlords and tenants. A restrictive covenant, occasionally called an anti-competition provision, usually gives the tenant certain exclusivity rights. Typically these rights prevent a landlord from renting to another merchant whose goods and services are the same as the tenant's. Historically, these clauses are difficult to negotiate, difficult to enforce, and, in general, a problem for all parties.
The Covenant Language
Through a succession of lease assignments, National Super Markets was a long-term tenant of Donald Soffer. The lease contained the following restrictive covenant:
Landlord covenants and agrees, from and after the date hereof and so long as this lease shall be in effect, not to lease, rent, occupy, or suffer or permit to be occupied, any part of the Shopping Center premises or any other premises owned or controlled, directly or indirectly, either by Landlord, its successors, heirs, or assigns, or Landlord's principal owners, stockholders, directors, or officers or their assignees (hereinafter called Owners), which are within one mile of the Shopping Center premises for the purpose of conducting therein or for use as, a food store or a food department or for the storage or sale for off-premises consumption of groceries, meats produce, dairy products, or bakery products, or any of them; and further, that if Landlord or owners own any land, or hereinafter during the term of this lease Landlord or Owners acquire any land within such distance of the Shopping Center, neither will convey the same without imposing thereon a restriction to secure compliance with the terms of this lease.
When National discovered that Soffer intended to lease property within the designated geographical area to another grocery store, it took Soffer to court, alleging violation of the restrictive covenant and seeking to stop him from leasing the property. (See National Super Markets, Inc., v. Magna Trust Co., 212 Ill. App. 3d 358; 570 N.E. 2d 1191 .) The landlord did not deny his actions, but he asserted that the restrictive covenant violated the Sherman Antitrust Act and was therefore unenforceable. (Certain other defenses involved state law and do not concern us here.)
The Antitrust Act
The Sherman Antitrust Act prohibits "every contract, combination, or conspiracy, in restraint of trade." Despite this broad language, the courts, recognizing that all contracts alter trade in some manner, have interpreted this act as outlawing only "unreasonable" restraints of trade. Two basic methods are considered when evaluating the validity of activity challenged under the Sherman Antitrust Act: the doctrine of per se illegality and the "rule of reason" approach.
National's claim persuaded the trial court to issue a permanent injunction against the landlord. He appealed. The appellate court discussed both methods in its decision affirming the trial court's holding.
Per Se Illegality
The Sherman Antitrust Act is federal legislation; therefore, the appellate court looked to decisions in the federal courts for guidance in deciding this case. The federal courts' consensus on covenants in shopping center leases is that the varying terms, conditions, and economic specifications for these covenants render the application of the per se doctrine inappropriate.
One of the primary reasons that clauses such as the one in question have not been found to be illegal per se is that they encourage economic development. The clauses are thought to be inducements for tenants to establish stores that, in turn, attract other tenants who will hopefully enter the marketplace. The court declined to find that the restrictive covenant lacked any redeeming virtue and, therefore, found that it was not per se unreasonable under the Sherman Antitrust Act.
Rule of Reason
Under the rule of reason approach, the court must evaluate all of the circumstances to determine whether the landlord's conduct poses an unreasonable restraint on competition. Some of the factors involved are the impact a restrictive covenant has on competition in the relevant market, the availability of alternate sites for the entity excluded by enforcement of the covenant, the scope of the restrictive covenant, and the economic justification for the inclusion of the restrictive covenant in the lease.
The Court's Ruling
After a careful review of the testimony offered concerning the relevant market area, the court concluded that, all things considered, there was no significant impact on competition in the market. The court also noted that the restrictive covenant was narrow in scope. It applied only to Soffer and operated only during the lease term. The geographic scope of the restrictive covenant was limited to property owned within one mile of the leased property. For all these reasons, the appellate court found that the restrictive covenant did not violate the Sherman Antitrust Act.
Landlords should be very cautious before entering into a lease that contains a restrictive covenant. It should not be granted gratuitously, but only after determining that the failure to give the prospective tenant an anti-competition clause is a "deal breaker." Even then, landlords should take every possible step to make it as narrow as possible. Otherwise, unless you are one of the fortunate few who can predict the future, you may find yourself haunted by this provision for years.