When are Exclusivity Contracts prohibited by the Clayton Act?

Section 3 of the Clayton Act limits the use of certain types of contracts involving goods when the impact of these contracts may substantially lessen competition or tend to create a monopoly. These contracts may be per se illegal if monopolistic behavior is present.

What is an Exclusivity Contract?

Many supply contracts, requirements contracts, and exclusive dealing agreements are per se illegal. The primary concern is that manufacturers are foreclosed from entering the market due to these exclusive dealing relationships with established suppliers (and vice versa). The Clayton Act 3 only applies to situation when a seller requires a buyer to only purchase from it or another seller. It generally does not apply to situation when a buyer requires that a seller refrain from selling to other buyers. This situation may, however, violate Sherman Act 1. Legality turns on the question of whether the activity substantially lessens competition. To make this determination, the court will look at:

• Line of Commerce - Does this activity prevent competitors for achieving a sustainable size? If economies of scale do not require competitors to be a certain size in order to compete in the market, the exclusivity contract is less likely to be illegal.
• Area of Effective Competition - How large is the geographic limitation on competition? The court will examine the extent to which sales boundaries are confined and potential effect in that region.
• Barriers to Entry - How difficult is it for new competitors to enter the market?

To be illegal, the agreement must have a tendency to foreclose competition in a substantial share of the relevant geographic area and line of commerce. A defendant may be able to rebut a Clayton Act 3 allegation by demonstrating that:

• There is no foreclosure of competition;
• The contract is short-term in nature;
• There are other available modes of distribution; or
• The pro-competitive aspects of the agreement may outweigh the anticompetitive effects under the rule of reason.

One exception is a franchise agreements that requires that all goods purchased come from the franchisor. These are legal, so long as the product is linked to quality of goods. Sourcing things not related to quality of goods cannot be prohibited through a exclusive source of supply provision. A challenge to a franchise agreement is subject to the rule of reason.

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