United States: German Law Finally Comes To Terms With Most Favored Customer Clauses

Last Updated: October 27 2005

By Dr. Martin Braun, Frankfurt

In outsourcing agreements, customers typically request a so-called "Most Favored Customer" or "Most Favored Nation" clause from their service provider. These clauses typically state (a) that the charges to the customer for services to be provided under the agreement shall be at least as low as the provider’s lowest charges to other similarly situated customers for the same or substantially similar services, (b) that if the provider offers lower charges to any other customer for the same or substantially similar services, the provider shall reduce the customer’s charges effective as of the date such lower charges were first offered to such other customer, and (c) that at the end of a defined period (e.g., the prior year), a financial officer of the provider will certify in writing that the provider has strictly complied with these obligations during the period.

Until very recently, German competition law has considered this type of provision to be problematic. Article 14 of the German Act against Restraints of Competition ("ARC") specifically states:

"Agreements between undertakings which concern goods or commercial services and which relate to markets within the area of application of this Act, shall be prohibited insofar as they restrict a party in its freedom to determine prices or terms of business in agreements which it concludes with third parties on the goods supplied, on other goods, or on commercial services."

This provision has been interpreted by the German courts and the German Federal Cartel Office as applicable to most favored customer clauses, with the result being that when evaluating the legality of such a clause, there could be no discretion to allow for a balancing of interests with potential positive effects on competition. The effect of such interpretation was to virtually invalidate the most favored customer clause in German contracts (and any similar kind of clause that could be considered a circumvention of the ARC) under Section 134 of the German Civil Code.

However, in the light of recent developments in EU competition law, German competition law will change. Effective May 1, 2004, Regulation 1/2003 of 16 December 2002, on the implementation of the rules on competition laid down in Articles 81 and 82 of the Treaty provides that the applicability of national competition law, if different from EU law, will be limited to those situations where the economic impact of the commercial conduct in question will be limited to local or at most regional effects. In light of this new regulation, maintaining different standards for evaluating local and regional (as opposed to cross-border) commercial transactions no longer makes sense, effectively forcing the German legislature to harmonize the substantive standards of German and EU competition law.

The seventh amendment to the German ARC will therefore significantly change German competition law. The revised ARC will no longer contain a prohibition comparable to former Article 14. It will, instead, explicitly refer to EU competition law standards by declaring, in the new Article 2, the so-called "EU block exemption regulations" to be applicable, even in a purely national (i.e., German) context. The only provision in the new ARC directly applicable to most favored customer clauses is Article 4, but that provision deals with most favored customer clauses that bind the customer and benefit the provider. A provider with good negotiating leverage might try to use that kind of clause to ensure that its position is at least as good as that of other providers of the same customer. The effective date of these changes is expected to be July 2005.

The newer EU block exemption rules list only provisions that are specifically problematic or forbidden under EU competition law. Provisions that are not listed are—as a general principle— not considered problematic. With respect to outsourcing agreements, both Commission Regulation (EC) No 772/2004 on the application of Article 81 of the EC Treaty to technology transfer agreements ("TTBER") and Commission Regulation (EC) No 2790/1999 on the application of Article 81(3) of the EC Treaty to categories of vertical agreements and concerted practices (the "Vertical Block Exemption Regulation") are highly relevant, but do not contain specific references to most favored customer clauses. Therefore as a general principle, most favored customer clauses should not be considered problematic. TTBER and the Vertical Block Exemption Regulation set forth a standard for most favored customer clauses, but these provisions, like Article 4 of the new ARC, are applicable only to most favored customer clauses that bind the customer and therefor benefit the provider.

Despite this general principle, it remains possible to conceive factual situations where a most favored customer clause could be considered to contravene German/EU competition law. It should be kept in mind that the EU block exemption regulations will only be applicable as long as the market share of the parties involved does not exceed certain specified percentages. In individual cases where the specific facts support a finding that the most favored customer clause obviously effectively restricts competition, the parties may face the risk that the European Commission or the German Federal Cartel Office (on the basis of the new Article 32d ARC) might take action.

As of the effective date of the seventh amendment to the ARC, German law will permit review of most favored customer clauses in the light of the factual circumstances of the individual transaction and without a general bias against such clauses. This kind of flexible approach shows great similarity to the views held by U.S courts on most favored customer clauses in cases such as Ocean State Physicians Health Plan v. Blue Cross and Blue Shield of Ohio of Rhode Island, 494 U.S. 1027 (1990) and United States v. Delta Dental of Rhode Island, 943 F. Supp. 172 (D.R.I. 1996). In these cases, the courts held that most favored customer clauses should be examined on an individual basis and in the light of the unique factual circumstances surrounding the parties and the effects on competition. This additional flexibility and the synchronization of German and EU competition law were long overdue.

Copyright © 2007, Mayer, Brown, Rowe & Maw LLP. and/or Mayer Brown International LLP. This Mayer Brown article provides information and comments on legal issues and developments of interest. The foregoing is not a comprehensive treatment of the subject matter covered and is not intended to provide legal advice. Readers should seek specific legal advice before taking any action with respect to the matters discussed herein.

Mayer Brown is a combination of two limited liability partnerships: one named Mayer Brown LLP, established in Illinois, USA; and one named Mayer Brown International LLP, incorporated in England.

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