Mater Franchising arrangements would be the flavor of the day as it supplies the franchisor the main benefit of the franchisee's knowledge of the local environment; provides access to local sales and marketing expertise and channels; reduces investment; requires negligible government approvals; provides freedom from recruitment of local workforce and consequently lowers the financial risk of the franchisor. The present regulatory restrictions on retail trading by foreign companies coupled with sustained economic growth; ever expanding market with a thriving class of urban consumers; quality consciousness amongst India customers are a few of the factors contribution to franchising being increasingly used as a type by foreign companies for entering India for the initial time. An average master franchise arrangement enables the master franchisee to produce the business in a given territory under the franchisor's brand and trademark with or without the right to manufacture these products relating with the franchisors' operating guidelines coupled with assured financial returns to the franchisor.
There will be a lot of discussion on the requirement of enacting a specialized law to regulate this growing sector in India. Before I proceed with my thoughts about them, I want to quote a couple of lines from a report presented by the International Institute for the Unification of Private Law (UNIDROIT, an unbiased intergovernmental organization that India is really a member) which states that "the foundation of a fruitful franchising industry in any country is based on the existence of a "healthy commercial law environment" that has been defined together with a 'general legislation on commercial contracts, with a sufficient company law, where you will find sufficient notions of joint ventures, where intellectual property rights have been in place and enforced and where companies can depend on ownership of trademarks and know-how along with on confidentiality agreements' ;.The Indian legal environment is characterized by every one of these key attributes, an undeniable fact established by ever expanding international franchise relationships with India.
To evaluate the need for a new legislation, let us first understand a few of the keys issues/concerns involving a franchising arrangement that generally leads to potential disputes or disconnects involving the parties and how they're protected or can be protected within the realm of current Indian legislation:
(1) Licensing and Usage of Intellectual Property Rights: IP rights are an important part of franchising arrangements and every franchising agreement involves transfer of some kind of IP right, either as a license of a trademark/service mark/trade name, or perhaps a copyright, or perhaps a patent, invention, design or perhaps a trade secrets. The method of utilization of the IP rights and their protection against misuse is certainly one of the most important concerns of the Franchisor. Some of the disputes that arise during implementation of the franchise agreement relate to the scope and purpose of the trademark license, exclusivity useful and geographical scope, protection of confidentiality, extent of transfer of the know-how, misuse and damage caused to the brand and goodwill of the franchisor, etc. Similarly, post termination related issues include unauthorized utilization of the trademarks post termination, limited to use the trademarks for the purposes of disposal of pending inventory (in the absence of that the inventory may go waste), destruction of stationary containing trademarks/trade names, return and ceassation of utilization of IP rights. India already has a host of IPR related laws including the Trademark Act of 1940, Copyright Act, 1957, the Patent Act, etc that offer for extensive protection and enforcement mechanism for the intellectual property rights including permanent and mandatory injunctions against infringement and passing off. India can also be a signatory to the international conventions on intellectual property rights including the Agreement on Trade Related Areas of Intellectual Property Rights (TRIPS), thereby offering protection to trademarks or manufacturers, along with copyright and designs of the foreign franchisor. Recognition and protection can also be extended to service marks in India enabling the foreign franchisor to license its mark to a franchisee to supply the services synonymous with him to the consumers in India. IPR laws have already been recently amended to make them compliant with exclusive right obligations under TRIPS and accordingly, the laws meet international standards for IPR protection. Even the Indian courts are quite sensitive and proactive pertaining to enforcement of infringement actions. It's therefore evident it is not the absence of IPR laws or its enforcement that lead to potential disputes but lack of carefully drafted and negotiated agreements involving the franchisor and the franchisee linked to IPR conditions that lead to potential IP related litigations.
(2) Obligations of Franchisor and Franchisee: Another crucial issue that lead to potential disputes amongst the parties relate to implementation of the obligations of a franchisee including the duties and services to be rendered by the franchisee, the investment and infrastructure of the franchise, adherence to specific operating guidelines or manual to keep uniformity, reporting requirements, quality maintenance of the item or services delivered; creation of an agency between franchisor and franchisee, appointment of sub-contractors to manufacture and sub-franchisee to market these products and franchisor and franchisee's liability owing for their acts/omissions; meeting of annual market penetration targets; minimum stock purchase/import obligations; financial returns to the franchisor, including royalty and fee. Estate Similarly, obligations of the franchisor linked to periodic training regarding the conduct of business, upgrading the franchisee with new methods and technologies, ongoing support, recommendations on general operational, management, accounting and administrative practices, joint marketing and advertising campaigns, sharing of advertising costs generally cause heart burns to the franchisee.
The Indian Contract Act, 1872 is applicable to any or all the franchise arrangements and offers up specific parameters for legally enforceable agreements, lawful object and purpose of an agreement, lawful consideration for an agreement, performance of an agreement, statutory interventions in unfair or unconscionable transactions, consequences of fraud, misrepresentation and undue influence, voidability and rescission/repudiation of agreement, contracts in restraint of trade, contingent and conditional contracts, performance of reciprocal promises, discharge and frustration of contracts, consequences of breach and rights linked to liquidated damages, enforcement of indemnification rights, agents and principal relationship and obligations thereto. It's not having less commercial law but lack of carefully drafted agreements that generally fail the parties. It's therefore important that a franchisee tries to bridge all potential gaps by identifying and analyzing "what if?" situations keeping in perspective the franchisee's financial, technical, manufacturing, marketing, human resource, sales and business planning capabilities.
This doesn't need a specialized law that will be already in existence in the proper execution of the Indian Contract Act but a reasonably detailed and well negotiated contract. In any case a specialized law can only provide a wide frame work, the details and the nitty-gritty of the partnership needs to be always contractually agreed.
(3) Payment Terms: Delay in payment or non-payment of license and/or royalty payments might be another part of concern for the franchisor. Therefore the manner in which and the days where such payments are to be made must certanly be carefully addressed. In the case the franchisor is really a foreign entity, applicability of prior approvals and terms and conditions for foreign remittance should really be informed to the foreign party. The Foreign Exchange Management Act, 1999 and the Regulations made there under specifically address the outbound payment related issues. For instance, an Indian franchisee can remit royalty towards license of trademark upto the amount of 1% of domestic sales and 2% of exports without prior government approval. If the licensor also provides technical understand how to the Indian licensee, the Indian company can remit royalty upto 5% of domestic sales and 8% of exports and lump sum payment of upto US$ 2 million without prior government approval. Payment of royalty above the percentages specified above would need prior government approval. Detailed tax laws already are in position to deal with the withholding tax liability on such payments which may get reduced depending upon the provisions in the applicable double taxation avoidance agreement. The main element issue is that both franchisor and franchisee should be made aware before hand on the payment and taxation related regulations.
(4) Duration, Renewal and Termination and its Consequences: Another serious concern of a franchisee could be the extendibility of the term of the franchising and licensing agreement. Typically, extension of the term is within the sole discretion of the franchisor centered on annual sales turnovers and performance of the franchisee. Very often a franchisee struggles with the franchisor for renewal of the term especially once the franchisor is arranged with a great many other franchisees offering higher royalties. One other possible scenario is each time a franchisee is suddenly informed of an abrupt termination of the franchise agreement leaving the franchisee with costs of salaries, infrastructure and interest on working capital and other debts. Now do we need a law to tackle with this particular abrupt termination or non-renewal situations. To begin with, it should be clearly understood that all agreements entered into between private parties (whether under franchise domain or any other commercial arrangements) are terminable in nature. That is regardless of the terms in the franchise agreement that the contract is interminable. The Indian Contract Act 1872 and the Specific Relief Act, 1963 supported by various Supreme Court judgments are clear that even in the absence of specific clause authorizing and enabling either party to terminate the agreement, from the very nature of the agreement, that will be private commercial transaction, exactly the same might be terminated even without assigning any reason by serving a fair notice.
Keeping this in perspective, it is advisable to negotiate for an open ended term (i.e., no fixed term) agreement with suitable termination clauses on breach with adequate notice period for rectification of breach/default. Though non-provision of the agreed notice will render the franchisor liable for damages under the Indian Contract Act, it is advisable to stipulate liquidated damages or substantial termination fees payable by the franchisor on breach of express termination provisions. Suitable exit options should also be provided if both parties are not prepared to continue. Some of the key post termination conditions that lead to potential dispute and are adequately protected by the prevailing Indian laws include:
(i) Misuse of IPR rights and Confidential Information post termination is generally a mater of concern for the franchisor. While you will find adequate IPR protection laws against misuse and consequent infringement/passing off actions coupled with rights for permanent and mandatory injunctions under the Specific Relief Act, it is very important to supply provisions constraining the franchisee from using the IP rights of the franchisor and return of confidential information obtained during the term of the agreement.
(ii) Protection of franchisees against negative covenants particularly concerning non-competition post termination. It should be understood that a negative covenant restraining the franchisee from directly or indirectly undertaking business competing with the business of the franchisor through the subsistence of the agreement may not be violative of section 27 of the Contract Act, but post termination negative covenants may not be enforceable under Indian laws. As a result protects the franchisee against unreasonable negative covenants imposed by the franchisor post termination.
