Happy New Year with no franchise agreement

“Happy New Year with No Franchise Agreement”

On December 31, 2022, “we” are not only counting down to New Year, but also to the (full) entry into force of the Franchise Act on January 1, 2023. Perhaps time for a (modest) party for the majority of readers, but certainly not for those who have not adjusted current franchise agreements after 1 January 2023 in accordance with the Franchise Act. The consequences for that group of franchisors can be disastrous. My appeal to them to take action.

Why should adjustments be made? Preventing practical problems.

The starting point is that amendments to the Civil Code – such as through the introduction of the Franchise Act as of 1 January 2021 – will immediately become applicable to current agreements after entry into force. This principle also applies to almost all articles of the Franchise Act. But not for Articles 7:920 and 7:921 of the Dutch Civil Code. The legislator believed that the direct introduction of these articles could lead to practical problems. Assuming an average period of 5 years, the legislator considered a transitional period of two years to be appropriate. Why not a transitional period of two and a half years? I hear you thinking. In any case, the legislator opted for two years, which means that all current franchise agreements must also be adjusted in accordance with the aforementioned articles as of 1 January 2023.

What needs to be changed in the franchise agreement? Goodwill arrangement, post-contractual non-compete clause and franchisee right of consent.

As stated, the franchise agreement must be brought into line with Sections 7:920 of the Dutch Civil Code and 7:921 of the Dutch Civil Code.

With regard to the implementation of Article 7:920 of the Dutch Civil Code, this means that the franchise agreement must contain a goodwill arrangement (7:920 paragraph 1) and a post-contractual non-compete clause (7:920 paragraph 2 of the Dutch Civil Code). A goodwill arrangement (7:920 paragraph 1 of the Dutch Civil Code) means that the parties make agreements about the method of determining the goodwill in the franchise company, which is also important in connection with a possible acquisition and/or continuation by the franchisor. Article 7:920 paragraph 2 of the Dutch Civil Code attaches conditions to the inclusion of a non-compete clause to protect the franchisee, so that the ex-franchisee is not (too) severely impeded in performing the same “franchise activities” after termination of the franchise agreement.

Article 7:921 of the Dutch Civil Code regulates the franchisees’ right of consent in (usually) cases in which the franchisors want to change the franchise formula and/or introduce a derivative formula and franchisees are (threatened to) experience financial disadvantage as a result. Criteria (threshold values) are often included in the franchise agreement in order to give the franchisor some room for maneuver in developing its franchise formula. Permission from the franchisee is only required if the change exceeds the agreed threshold value. If no threshold value has been agreed, prior permission from the franchisee is always required pursuant to Article 7:291 paragraph 2 of the Dutch Civil Code – regardless of the size of the investment required.

In principle, an arrangement must be included in the franchise agreement for the above matters by 31-12-2022 at the latest.

Failure to change the consequences in time Franchise agreement? Nullity of certain stipulations or (partial) voidability of the franchise agreement.

The said articles are mandatory in nature. This means that in principle this cannot be deviated to the detriment of the franchisee. In that context, if the franchise agreement is not amended in time to comply with Section 7:291 of the Dutch Civil Code, the franchisee’s consent is required for each investment required by the franchisor.

If the franchise agreement is not amended in time to comply with Article 7:290 of the Dutch Civil Code, the franchise agreement will be voidable or – in the most extreme case – threatened with nullity. A successful appeal by the franchisee to nullify the franchise agreement has the ultimate consequence that the franchise agreement no longer exists with retroactive effect. As a result, all provisions in the agreement that were protective for the franchisor did not exist either. A cunning franchisee can thus, for example, take the customer base built up via the franchise formula “for free” and start serving it under a different name, which of course cannot be the intention of a franchisor’s hard work.

To prevent these problems, it is therefore of the utmost importance to check the franchise agreement for possible gaps as soon as possible. And if the franchise agreement is not (yet) in order, it must be brought into line with the provisions of the Franchise Act in general and Articles 7:290 of the Dutch Civil Code and 7:921 of the Dutch Civil Code in particular.