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Competition clause in commercial relations

The competition clause is far from being only related to the relationship between the employee and the employer. In general, it is any obligation that restricts the competitive activities of one party to the benefit of the other. For example, you can insure your relationship with a sole trader or certain members of the company’s management. What regulations and rules govern this type of competition clause?

Konkurenční doložka v obchodních vztazích
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Chapters of the article

Obviously, the Labour Code cannot be used to enter into a competition clause with someone who is not in an employment relationship with you. For these purposes, the provisions of Section 2975 of the new Civil Code, which regulates the competition clause in commercial relations in general, or Section 2518 of the Civil Code, which regulates it in the context of commercial agency relationships, are used.
Although competition clauses are quite popular, their enforcement is not always easy. Often, the parties to the contract differ in their assessment of whether or not a clause has been breached and it depends mainly on the evidence presented. If both parties have an interest in complying with them, then they may be a suitable solution. Otherwise, however, they are quite difficult to enforce. If there is no will on the part of the obliged party to comply with the clause, there may be, for example, a purposeful breach of the clause through the establishment of a limited liability company.

Tip: The classic competition clause concluded between an employee and an employer is discussed in our separate blog article.

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Prohibited competition clause

The aforementioned provision of Section 2975 of the new Civil Code is a general provision and regulates the rules for negotiating a non-compete clause slightly more broadly than the latter section. It is based on the definition of a “prohibited competition clause”, i.e. one that is no longer permissible under the law. This sets the boundaries for its negotiation.
According to that provision, a non-competition clause that does not provide for competitive activity in an agreement prohibiting another’s competitive activity is not taken into account:

  • territory (territorial scope),
  • the scope of the activity (material scope), or
  • the range of persons to whom the prohibition applies (personal scope).

At the same time, a time limitation also applies, as a competition clause cannot be negotiated for an indefinite period or for a period longer than five years. If the parties were to breach this and negotiate a clause of, for example, seven years, then the fiction that the clause was negotiated for five years would apply.

The law also allows for the possible limitation, revocation or invalidation of the clause by the court if the beneficiary party seeks this on the grounds of a greater restriction than is necessary for the protection of the other party.

The legal regulation in the new Civil Code first raised confusion as to whether it is necessary for the validity of a competing clause that all three forms of scope (i.e. territorial, material and personal) are met simultaneously, or whether only one or two types of definition are sufficient. Answers were provided by the Supreme Court, which in one of its judgments in 2018 concluded that the purpose and purpose of the regulation in the Civil Code is to regulate the provisions on the competition clause less strictly. It is sufficient for the validity of a competition clause if it makes clear what activities the obligated party may not perform and provides for this either in a certain territory or a certain range of persons. A time limitation always applies.

Competition clause in the context of a commercial agency

The Civil Code (CCC) provides for a special type of competition clause for commercial agency relationships. According to the German Commercial Code, the parties may agree that after the termination of the commercial agency, the commercial agent may not carry out, in a specified territory or in relation to a specified number of persons in a specified territory, any activity on his own account or on behalf of others which is of a competitive nature in relation to the business of the principal. This means, in particular, identical activities which, in the context of the agency, the agent carried out for the principal.

The conditions for the validity of such a competition clause must therefore also be met:

  • the territory in which the competitive activity is prohibited,
  • the range of activities to which the prohibition applies,
  • the range of persons affected by the prohibition.

In this case, a time limitation of a maximum of two years is allowed.

A non-compete clause that contradicts these conditions or that is agreed for a period longer than two years from the termination of the agency is void. If it restricts the agent more than the Civil Code allows, the court may limit it if necessary.

Example of an invalid competition clause

Mr. Michal, who as a real estate broker signed a commercial representation agreement with a real estate agency, including a competition clause, contacted the office of the Affordable Advocate. The agreement prohibited Mr. Michal from acting as a real estate agent in the South Moravia region either on his own or as an agent for another company for a period of one year after the termination of the cooperation. At the same time, however, it did not provide for any benefit or compensation for such a strict restriction. Mr Michal wanted to know whether the clause could be retrospectively revoked in any way, or how he could proceed if he violated it and the real estate agency concerned claimed payment of a contractual penalty. We have assured Mr Michal that the competition clause thus agreed is invalid, since on the one hand it restricts the agent quite extensively, but at the same time does not provide him with any compensation. Mr. Michal could theoretically claim its invalidity in court, but this would only mean additional costs and time for him, which we wanted to save him. We have therefore assured Mr Michal that he does not have to worry about enforcing the contractual penalty.

However, the Brno real estate agency subsequently learned that Mr. Michal had “violated” the clause when he started working for their competitor, and they claimed a fine of tens of thousands of crowns against him. Therefore, we sent a legal opinion of our law firm to their address, in which we described the reasons for the invalidity of the clause and also pointed out the case law that dealt with the issue. We explained to the real estate agency that Mr. Michal would not voluntarily pay the contractual penalty and that if the penalty were to be enforced in court, the real estate agency’s chances of winning were essentially zero. This was enough to calm the situation and Mr Michal was able to go about his work undisturbed.

Reciprocity of the competition clause

A competition clause cannot only impose unilateral obligations on one party and not bind the other party in any way. The relationship must always be mutual and balanced. Only then can a competition clause be considered valid.

A competition clause therefore consists, on the one hand, of an undertaking by one party not to carry out the activities defined according to the above criteria and a fine in the event of a breach of such an undertaking, but at the same time it should also contain an obligation on the other party to pay the agent, managing director or other member of the company’s management appropriate monetary compensation for compliance or fulfilment of the competition clause, i.e. certain consideration. Otherwise, there is also no reciprocity.

Prohibition of competition

A related legal institute to the non-compete clause is the non-compete clause, which is also regulated by the Civil Code. According to the latter, persons who act as representatives of a particular entrepreneur are prohibited from engaging in conduct on their own or another’s account which generally falls within the scope of that entrepreneur’s business. Should such an act occur, the entrepreneur may demand that his representative refrain from the act in question, or have the representative’s acts on his own account declared to have been done on behalf of the entrepreneur, or, in certain circumstances, claim damages. In this case, the limitation period applies, which is three months from the time when the entrepreneur became aware of the conduct and at most one year from the time when it occurred.

An example is an accountant at a company that provides accounting services. If a client of the firm contacts the accountant and the accountant offers a discounted rate for personal accounting services, this is the prohibited competition just mentioned, which the firm can defend against. However, it would be a completely different situation if the accountant works for a law firm and also provides her services to a hairdresser and a real estate agency.

The fundamental difference between a non-compete and a competition clause is that it applies to activities for the duration of a particular function or activity, not for a period of two to five years after the termination of that function or activity.

Tip: It is not only your production processes and business practices that deserve protection from misuse and exploitation by competitors, but also the copyrighted works to which you hold the rights. We have discussed how to seek copyright protection in our article.

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Author of the article

JUDr. Ondřej Preuss, Ph.D.

Ondřej is the attorney who came up with the idea of providing legal services online. He's been earning his living through legal services for more than 10 years. He especially likes to help clients who may have given up hope in solving their legal issues at work, for example with real estate transfers or copyright licenses.

Education
  • Law, Ph.D, Pf UK in Prague
  • Law, L’université Nancy-II, Nancy
  • Law, Master’s degree (Mgr.), Pf UK in Prague
  • International Territorial Studies (Bc.), FSV UK in Prague

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