England and Wales Court of Appeal (Civil Division) Decisions

IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE ADMINISTRATIVE COURT
(MR JUSTICE JACOB)

		Royal Courts of Justice Strand London WC2 Wednesday, 9th May 2001

Wednesday, 9th May 2001

1. LORD JUSTICE SCHIEMANN: Lord Justice Robert Walker will deliver the first judgment.
2. LORD JUSTICE ROBERT WALKER: This appeal raises an unusual issue as to covenants in restraint of trade. The situation is unusual in that the covenant is contained in a lease of a pharmacy which forms part of a purpose-built medical centre commissioned by medical practitioners in general practice. The lease is for a term of 15 years from 1995, and it is common ground that it is protected by Part II of the Landlord and Tenant Act 1954. The covenants challenged in the proceedings were to come into operation (if valid) only at the end of the lease (that is in 2010 or on the later termination of any extension of the protected tenancy).
3. The case is not therefore an easy one to which to apply the principle that the reasonableness or unreasonableness of a covenant in restraint of trade must be judged as at the time when it was entered into. That principle is however well settled: see for instance what was said by Lord Reid in Schroeder Music Publishing Co v Macaulay [1974] 1 WLR 1308, 1309.
4. The trial judge, Jacob J, did not decline to hear the case on the ground that it raised a future issue which might never become live. But he did point out that it might never become a live issue, and he expressed the hope (which I share) that the proceedings would not sour the good relations existing between the doctors (who are the landlords of the pharmacy), and the pharmacist (who is the tenant). Since the judge thought it right to treat the issue as one which he should decide this court has taken the same course.
5. The other feature of the case which is out of the ordinary is that there are strict controls (imposed in the public interest, but nevertheless somewhat uncompetitive in nature) on the business of dispensing prescriptions for drugs and appliances supplied under the National Health Service. There are two levels of control. Under the Medicines Act 1968 no one can run a retail pharmacy business (whether or not it makes supplies under the National Health Service) unless the business is under the personal control of a qualified pharmacist. That is the effect of sections 69 to 72, which apply the general principle to businesses owned by sole traders, partnerships and companies.
6. The supply of drugs and appliances under the National Health Service is regulated by the National Health Service (Pharmaceutical Services) Regulations 1992 ("the 1992 Regulations") made under the National Health Service Act 1977. Health authorities are required to maintain so-called pharmaceutical lists of persons other than doctors and dentists who have been authorised to provide pharmaceutical services in the form of drugs or appliances from specified premises within the health authority's area: see Regulation 4(1). Regulation 4(2) requires an application not only from a person who is not already listed, but also if a listed pharmacist wishes to open additional premises, or to change his premises, or to provide additional services from the same premises. Regulation 4(3) provides that the health authority must grant the application if the applicant intends, without any interruption in the services:

"(a) to change within the neighbourhood the premises from which he provides pharmaceutical services, being the same services as he intends to provide from the new premises, and the FHSA is satisfied that the change is a minor relocation; or

(b) to provide pharmaceutical services at premises from which those services are, at the time of the application, provided by a person who is included in a pharmaceutical list prepared by the FHSA in accordance with paragraph 1(a) or (b), and the FHSA is satisfied that the same services will be provided from those premises."

7. In any other case the health authority has a discretion whether or not to grant the application. By Regulation 4(4) it may grant it:

"... only if it is satisfied that it is necessary or desirable to grant the application in order to secure, in the neighbourhood in which the premises from which the applicant intends to provide the services are located, the adequate provision, by persons included in the list, of the services, or some of the services, specified in the application."

8. So under Regulation 4(4) the health authority is the arbiter of the public interest, but only by reference to the limited factors mentioned in Regulation 4(4).
9. Mr Malcolm Bayley, a member of the Royal Pharmaceutical Society, who was called as the sole expert witness and whose evidence the judge found helpful, in his written report described this system of control which was first introduced in 1987 as:

"... a mechanism to reduce Government spending on pharmacy services and to bring a level of stability into a market place whose long term future had been jeopardised by the indiscriminate opening and relocation of pharmacies significantly affecting the viability of the existing, longer established units."

10. Mr Bayley then added:

"The right to dispense NHS prescriptions is restricted to a relatively fixed number of outlets and this ability to dispense therefore attracts a significant premium of goodwill value."

11. Mr Bayley's evidence was that the average retail pharmacy derives about 80 per cent of its income from dispensing NHS prescriptions, with the balance from what are called OTC (over the counter) sales. With a pharmacy located in a general practice health centre the figures for NHS prescription income may be as high as 90 per cent. Mr Bayley's evidence was that on sales of £400,000 (a figure, I stress, taken by way of illustration only) a retail pharmacy might make a gross profit of £84,000 and a net profit, after overheads, of one-third the gross profit.
12. The lease was granted on 24th February 1995 by the doctors, Dr Francis Evans-Jones and Dr Timothy Saunders, to the pharmacist, Mr William Young. It was granted in consideration of a premium of £29,292, a fact which was stated in the written agreement for the lease but was omitted from the lease itself. That may have misled the judge into saying in his judgment that Mr Young decided not to pay a premium, and to pay a higher rent instead. The judge was mistaken on that point.
13. The property let was the purpose-built pharmacy, constructed on two floors, which is at one end of the Heath Lane Medical Centre, Boughton, Chester, and which shares a common entrance with the health centre. The term of the lease was 15 years from 16th January 1995 and the expression "the term" was defined as that term of 15 years but so as to include "any period holding over or extension whether by statute or otherwise."
14. The initial rent was £7,500 a year with three-yearly upward-only rent reviews. The premises were to be used only as a retail pharmacy and there was a positive tenant's covenant to keep the premises open for business and to trade actively.
15. Clauses 3.18.4.1 to 4.3 and the Third Schedule contained provisions (intended to secure a surrender for consideration in certain circumstances) whose validity was in issue on the pleadings. But at a trial the landlords accepted that these provisions (although not the rest of Clause 3.18) were struck down by section 38 of the Landlord & Tenant Act 1954 (see Joseph v Joseph [1967] 78; Allnatt London Properties Ltd v Newton [1984], 1 All ER 423).
16. The next material provision is Clause 3.25, which is of central importance to the appeal and must be read out in full:

"3.25 At the determination of the Term:

3.25.1quietly to yield up to the Landlord the Premises together with the Landlord's fixtures fittings and appurtenances in such state and condition as shall be consistent with the performance by the

Tenant of the covenants contained in this lease;

3.25.2. To use his best endeavours to procure the transfer (whether by direct transfer or by surrender and re-issue) of the authorisation permission or licence by the Family Health Services Authority and any other or replacement authorisation permission or licence necessary for the use of the Premises as a pharmacy and (without prejudice to the generality of such term) as a National Health pharmacy;

3.25.3. Not within a period of one year from the date of termination of the Term however determined (whether by himself or together with any other person firm or company in any capacity whatsoever save as authorised under the terms of this Lease either directly or indirectly) to be engaged, interested, or concerned in any business which competes or is likely to complete with the business of a pharmacy to be carried on at the Premises within a radius of a quarter of a mile from the Premises without the prior consent of the Landlord."

17. So sub-clause 25 is in three parts. Paragraph 1 is a conventional and unobjectionable covenant to yield up. Paragraphs 2 and 3 contain covenants, one positive and the other negative in character, which were attacked on the pleadings as being void as unreasonable restraints on trade. Paragraph 2 was also attacked as being void for uncertainty.
18. Of paragraph 3.25.3, the judge said that the doctors had made it abundantly clear that they had no intention of enforcing it. Mr Simon Booth (appearing today as he did below for the doctors) has explained in his skeleton argument that the parties agreed to enter into a deed of variation removing Clause 3.25.3 from the lease. Mr Geoffrey Zelin (appearing today as he did below for Mr Young) accepted that, although he told the court that the deed has not yet actually been executed. So for practical purposes 3.25.3 can be regarded as void but largely severable, leaving the validity of Clause 3.25.2 to be assessed largely on its own. However it might be unrealistic to imagine that 3.25.3 had never existed at all.
19. Before coming to the judgment and to Mr Zelin's criticisms of it, I should mention a few more undisputed facts. Before the doctors and Mr Young moved to the new health centre premises, the doctors practised from premises at 26 Tarvin Road, Boughton. Boughton is towards the east side of the city of Chester close to a loop in the River Dee. Mr Young since 1975 had a pharmacy at 24 Christleton Road which runs into Tarvin Road. Those two premises were quite close together. Mr Young had also had two other pharmacies, one at No.102 Boughton (which has been relocated into another health centre with which these proceedings are not concerned), and the other in the vicinity of the Sainsbury's Supermarket (which is some way away near the roundabout on the A55 Ring Road). The Heath Lane Medical Centre and pharmacy are quite close to the old surgery and pharmacy in Tarvin Road and Christleton Road. Between these two locations and at the east end of Christleton Road is another retail pharmacy, Houghton & Lappin. It has no connection with the parties but its very existence is a fact of some significance. Mr Young no longer has the premises near Sainsbury's.
20. In his judgment the judge summarised the facts and stated the effect of the evidence of the expert witness, Mr Bayley, as follows:

"If Mr Young at the end of the term wanted to relocate his pharmacy to somewhere nearby, he would have to get permission. Likewise, if the Doctors wanted to put a different pharmacist in and start a new business in there, the new pharmacist would have to get permission. And it seems fairly clear that both these things could not happen. So, if Mr Young wanted, at the determination of the term, say, to open up 50 yards along the road, in the absence of this clause, there would be competition between him and the Doctors wanting to use the pharmacy premises on the Health Centre. Furthermore, I was told by Mr Bayley, that in such a competition, the transfer would be granted to the original pharmacist, rather than permission being given to open a new pharmacy."

21. That was indeed the effect of Mr Bayley's evidence (under questioning from the judge rather than from counsel) and that evidence was not further explored. It is not clear to me as a matter of law how a health authority could decide that Regulation 4(3)(a) of the 1992 Regulations would necessarily and in every case trump Regulation 4(3)(b) of the Regulations.
22. I continue reading from the judgment:

"Now, the lease comes to an end at the end of 15 years. At the end, it would be possible for Mr Young to apply for a further term under the provisions of the Landlord and Tenant Act 1954. These provisions were not excluded, and deliberately not excluded, at the time the lease was granted. He would normally be able to get an extension of this term and there would be no problem. Privately, I suspect that is what will really happen. But potentially the Doctors could oppose the grant of an extension of term under the provisions of section 30(1)(g), namely that they intended to occupy the holding for the purposes of a business to be carried on by them. And they wish to keep that option open. They say that without having any idea whether or not so many years down the line they will want to exercise it. By then, there may be different partners in the Practice: it is just too far ahead to see."

23. The reference to section 30(1)(g) is to one of the grounds of opposition to an application for renewed tenancy under the Landlord and Tenant Act 1954, that is an intention to occupy the premises for the landlord's own business. The doctors could form a company controlled by them which could qualify to run a pharmacy under sections 69 and 71 of the Medicines Act 1968, and could also qualify as the corporate equivalent of the landlord for the purposes of Part II of the Landlord and Tenant Act 1954: see section 30(3). There was some evidence before the judge that the doctors have had this in mind as a real possibility.
24. The judge took the view that Clause 3.25.2 was in restraint of trade. That has not been challenged in this court and hardly could have been in the light of the wide statements of principle by the House of Lords in Esso Petroleum v Harper's Garage (Stourport) [1968] AC 269. But the judge went on to hold that the restraint was reasonable both in the interest of the parties and in the public interest. He did not deal with the argument that the paragraph was void for uncertainty. That argument has been put forward again in this court, but has not been pressed and I dispose of it at once. I cannot accept that the paragraph is void for uncertainty. It is in a commercial document and whatever deficiencies there are in drafting the court must do its best to make commercial sense of it. Paragraph 2 applies only when the term (including any extension) is at an end and Mr Young can no longer have any leasehold interest to assign or dispose of to anyone. The transferee would in those circumstances naturally be with a person nominated by the landlords, either a controlled company of theirs managed by a qualified pharmacist, or another qualified pharmacist who was an actual or prospective tenant. No other interpretation would make commercial sense. No doubt an authorisation by a health authority is not transferable, but "surrender and reissue" adequately describes what happens under Regulation 4(3)(b) of the 1992 Regulations.
25. In deciding that the restraint was reasonable both in the public interest and in the interest of the parties the judge rejected as a false analysis the argument that Mr Young's goodwill would be expropriated without compensation. He regarded that as a false analysis because the goodwill was parasitic, as he put it, on the doctors' general practice which generated quantities of National Health Service prescriptions requiring to be dispensed. The doctors had provided a purpose-built pharmacy in their purpose-built medical centre and neither part of the premises could sensibly be used for other purposes. He concluded that there was every good reason why a clause of this type should protect a pharmacy at the medical centre.
26. Mr Zelin, in his very able submissions, has criticised the word "parasitic", and has suggested that the word "symbiotic" would be more appropriate. He has also submitted that the doctors are not obliged to continue to have a pharmacy at the health centre after the end of Mr Young's lease. Therefore, he submitted, they would have no sufficient interest to protect. No doubt it is correct that the doctors are under no legal or professional duty to continue to have a pharmacy on their premises. But since they have provided purpose-built accommodation for a pharmacy they have a clear financial interest in doing so, and no doubt also a professional interest in providing the best possible level of health care for their patients. Moreover the evidence shows that their past wish has been (and their present wish still is) to have a pharmacy at the health centre for the foreseeable future. In those circumstances I cannot accept that the doctors have no interest which they can legitimately seek to protect.
27. Is the clause nevertheless unreasonable from the point of view of Mr Young? His case is that he will or may be deprived, without compensation, of goodwill which he has built up. Mr Zelin has said that it is at present unproved, and indeed wholly untested, how much of the goodwill is personal to Mr Young himself. He is plainly a very experienced pharmacist and we were told that the doctors do indeed appreciate his personal presence at the health centre premises. Assuming for the purposes of argument that there is significant goodwill which cannot simply be dismissed as "parasitic", I think that this way of putting Mr Young's case nevertheless depends on some assumptions which need to be brought out (and were indeed spelt out by Mr Booth in his submissions). Mr Young's scenario of his being disadvantaged assumes that he has not by the end of the term obtained a new tenancy enabling to him to continue as a pharmacist at the health centre (I draw attention again to the extended definition of the expression "the term" in the lease) and that Mr Young has not in the meantime assigned his lease. Such an assignment would be one to which the landlords could not unreasonably refuse their consent. It would enable Mr Young (if he wished) to realise his goodwill by selling it together with the tenants' fixtures and his pharmaceutical stock; and the assignee would in turn be entitled to protection under the Landlord & Tenant Act 1954, although he would or might, as Mr Zelin has emphasised, be faced with the problem of 3.25.2 again at some future date.
28. It may be said, indeed Mr Zelin has strongly urged on us, that that does not answer the tenant's central complaint, that Clause 3.25.2 prevents him from effecting a "minor relocation" under Regulation 4(3)(a) of the 1992 Regulations and so taking with him so much of his goodwill as proves, in the event, to be personal and not parasitic or symbiotic.
29. Mr Booth has not challenged that that is implicit in the best endeavours obligation in paragraph 2. On this point Mr Zelin has referred to some supplementary written advice of Mr Bayley in a letter dated 22nd March 2000 in which Mr Bayley was answering various queries based on his original written report. Mr Bayley wrote:

"Only if Clauses 3.25.3 and 3.25.3 were removed could Mr Young apply for a minor relocation. If Mr Young could find a suitable premises closer to the Health Centre and a pharmacy no longer existed at the Health Centre then the probability of the relocation being granted is very high."

30. As Mr Bayley has said, that scenario presupposes that there is no longer any pharmacy at the Heath Lane Health Centre.
31. It is implicit in the 1992 Regulations that there is a public interest in NHS dispensing pharmacies being spaced out at appropriate geographical distances so as to serve the needs of particular neighbourhoods. For reasons already mentioned I consider that it is reasonable for the doctors to want to keep a pharmacy at their health centre both in their own interest and in the interests of their patients, so as to assist in serving the medical needs of the neighbourhood. If that excludes a minor relocation by Mr Young that is not, it seems to me, because of the doctors' unreasonableness (they have now abandoned Clause 3.25.3) but because that is the effect of the 1992 Regulations which have been made in the public interest.
32. It is unfortunate if (as his second witness statement suggests) Mr Young entered into the lease without a full understanding of its effect. However his claim to relief is based not on mistake, or in his having in general terms made a poor commercial bargain, but is based specifically on that branch of public policy which renders unenforceable unreasonable restraints on trade.
33. Mr Young is operating in a field in which there are, as I have described, quite tight restrictions imposed on the retail pharmacy trade. Those restrictions are in some ways anti-competitive, but Parliament has nevertheless authorised them in the public interest. I think that Mr Young is, with all respect to Mr Zelin's excellent submissions, trying to have the best of both worlds: to insist on his right to a minor relocation under Regulation 4(3)(a) as if it were his only means of trading as a pharmacist, while describing it as unreasonable for him to have to cooperate in preserving the doctors' legitimate interest in having a pharmacy on their premises.
34. Mr Booth may well be right in suggesting that in the circumstances of this case, a minor relocation would in practice be of little value to Mr Young if he found himself in competition with both the Heath Lane Health Medical Centre pharmacy under new management, and with Houghton and Lappin in close proximity. But whether that is correct or not (and the judge made no specific findings on that point) I consider that the doctors have discharged the burden of showing that the restriction in clause 3.25.2 is reasonably necessary for the protection of interests of theirs which are entitled to protection even though the paragraph, may in nearly 10 years time, and in one particular eventuality, operate in a way which Mr Young finds harsh. Whether the 1992 Regulations will still be in force in 2010, without amendment, is a question on which it is pointless to speculate. If (as we were told) one-stop surgeries and pharmacies are becoming much more common that may itself provide a reason for official review of the impasse which may apparently arise under Regulation 4(3)(a) and 4(3)(b) of the 1992 Regulations.
35. Although I would uphold Clause 3.25.2 I would not regard either that provision or this lease as a whole as an appropriate precedent to be followed for other cases.
36. For these reasons I would dismiss this appeal.
37. LORD JUSTICE TUCKEY: I agree.
38. LORD JUSTICE SCHIEMANN:I also agree.
(Appeal dismissed with costs awarded to the respondents; permission to appeal to the House of Lords refused).