Definition and legal classification of the franchise agreement
Ein Franchise Agreement is a civil law contract governing the cooperation between the franchisor and the franchisee within the framework of a franchise system. Franchising constitutes a special form of distribution cooperation in which the franchisee is granted the right to independently offer the franchisor’s products, services, or technologies under the franchisor’s trademark, know-how, and business concept for its own account and at its own risk.
In German law, the franchise agreement is not explicitly regulated by statute, but is subject to the principle of private autonomy and is therefore assessed according to general civil law principles, in particular those of the German Civil Code (BGB). In practice, the franchise agreement is considered a “framework agreement” or a “continuing obligation.”
Distinction from other contracts
The franchise agreement exhibits characteristics of several types of contracts, incorporating elements of license agreements, distribution agreements, and commercial agency contracts. Unlike a commercial agent, however, the franchisee acts in its own name and on its own account. In contrast to a license agreement, franchising involves not only the granting of rights but also the transfer of know-how and the adoption of a proven business concept. The relationship between the contracting parties is therefore characterized by close organizational and economic interdependence.
Legal basis and sources of law for the franchise agreement
In the absence of statutory regulation: Application of general provisions
Since there are no specific statutory provisions for franchise agreements, their legal assessment is based on the general rules of contract law (§§ 305 et seq. BGB for general terms and conditions, §§ 145 et seq. BGB for contract formation, as well as the provisions governing continuing obligations).
Case law and legal literature
Case law and legal scholarship deal extensively with questions relating to the structuring, effectiveness, and legal classification of franchise agreements. These therefore provide important guidance for the drafting and interpretation of such agreements.
Content and typical provisions of the franchise agreement
Rights and obligations of the franchisor
The franchisor typically undertakes to
- grant the franchisee rights of use to trademarks, trade names, and other protected rights,
- provide the necessary know-how as well as operational and marketing concepts,
- regularly train and instruct the franchisee,
- provide support in advertising, marketing, organization, and IT,
- ensure ongoing support, advice, and quality assurance.
Rights and obligations of the franchisee
The franchisee is generally obliged to
- operate the franchise system in accordance with the franchisor’s specifications,
- use the trademark, concept, and trade secrets as agreed under the contract,
- pay license and ongoing franchise fees,
- comply with quality and marketing standards,
- submit regular reports and disclose business figures to the franchisor,
- participate in training and continuing education.
Contract components
The essential components of a franchise agreement include, among others:
- Definition of the franchise subject matter,
- territorial scope and territorial protection,
- term and termination of the contract,
- transfer of rights of use,
- obligations to protect trade secrets and know-how,
- non-competition clauses (during and after the contract term),
- procedures for contract termination and return of franchise materials,
- provisions on liability and contractual penalties,
- rules on pricing policy and purchasing obligations (e.g., purchasing goods or services from the franchisor),
- confidentiality and data protection.
Contract conclusion, validity, and formal requirements
In principle, the franchise agreement is not subject to any particular form requirement and may therefore be concluded in writing, orally, or implicitly. For reasons of legal certainty and verifiability, it is always preferred to conclude it in writing.
Pre-contractual disclosure obligations
Before concluding a franchise agreement, there are comprehensive pre-contractual disclosure obligations (so-called “pre-contractual disclosure obligations”). The franchisor must disclose to the prospective franchisee all material information about the franchise system, the associated rights and obligations, economic risks, as well as financial expectations (duty of transparency). A breach of the disclosure obligation can lead to claims for damages or to the contestation of the contract.
Rights and obligations during the contract term
The cooperation is characterized by ongoing primary and secondary obligations aimed at achieving the system objectives and maintaining the brand image. The main rights and obligations include in particular:
- Cooperation duties in the context of system modifications and modernization,
- compliance with quality standards,
- regular participation in meetings and training sessions,
- sharing improvements and innovations within the system,
- protection of know-how and business secrets during and after the end of the contract.
Termination of the franchise agreement
Ordinary and extraordinary termination
Franchise agreements are generally concluded for a fixed term, often with an option to extend. Ordinary termination is usually only possible at the end of the agreed period. An extraordinary right of termination exists in cases of significant breaches of contract, such as persistent violations of contractual obligations, breach of loyalty, or serious damage to reputation.
Settlement after contract termination
After the contract ends, the franchisee is obliged to return all materials assigned to the system, cease further use of protected rights, and immediately stop using the system. Frequently, a post-contractual non-compete clause is agreed, which, however, must comply with antitrust requirements.
Antitrust aspects
The franchise agreement is subject in particular to antitrust law restrictions. Certain clauses, such as price fixing, exclusive purchasing obligations, or non-compete clauses must not lead to an unlawful restriction of competition. Under European and German antitrust law (Art. 101 TFEU; §§ 1 et seq. GWB), it must be examined whether there is a so-called “vertical restraint”. The Block Exemption Regulation for Vertical Agreements (Vertical BER) specifies when such contractual clauses are permissible.
Legal risks and disputes
Frequent points of dispute concern territorial protection arrangements, profit or sales forecasts at the pre-contractual stage, the appropriateness of ongoing fees, the scope of permissible non-compete clauses, as well as issues of liability and obligations to compensate for damages in the event of system problems or business closure.
Court decisions also regularly address issues concerning the effectiveness of specific contractual clauses, particularly with respect to transparency, reasonableness, and compliance with antitrust law.
Summary
The franchise agreement represents a complex and multifaceted form of contract under distribution law, involving extensive rights and obligations for both parties. The structuring and implementation of the franchise agreement is not governed by a specific statute but by the general provisions of contract law and many special provisions, especially from antitrust law. Before concluding and executing a franchise agreement, careful review and individual adaptation to the needs of the specific franchise system are essential in order to minimize legal risks and ensure sustainable cooperation within the franchise network.
Frequently asked questions
What legal obligations arise for the franchisor from a franchise agreement?
On the basis of the franchise agreement, the franchisor is obliged to grant the franchisee the right to use the existing business concept, trademark, and associated protected rights. A central obligation is the duty to continuously develop the franchise system and to transfer both the protected know-how and the business methods to the franchisee. There is also a legal obligation to support the franchisee during the start-up phase and usually during operations—through training, manuals, consultancy services and marketing activities. The franchisor must also ensure that all documents provided are up-to-date reflecting the current state of system development and may not transmit any content that violates mandatory legal provisions or morality. The duty to provide information is another key aspect: Before contract conclusion, the franchisor must disclose all material information about the franchise system, market situation and the financial framework conditions, otherwise claims for damages may arise for breach of pre-contractual duties (“culpa in contrahendo”).
What legal obligations does the franchisee have in a franchise agreement?
The franchisee is essentially obliged to operate and market the system provided by the franchisor in accordance with the franchisor’s instructions. This involves a number of legal aspects, such as compliance with quality assurance standards, use of know-how and protected trademarks only within the agreed scope, as well as payment of the agreed franchise fees. Furthermore, the franchisee is subject to a comprehensive duty of confidentiality regarding the operating and business secrets disclosed to him, which may persist even after the contract ends. Other obligations may include reporting requirements, participation in training and educational measures, and compliance with advertising and marketing requirements set by the franchisor. In the legal context, it is particularly important that the franchisee remains an independent entrepreneur and is therefore solely responsible for business decisions, compliance with statutory regulations (including labor, tax, and competition law), and the full management of the franchise business.
What provisions regarding termination and cancellation are typically included in a franchise agreement?
In legal terms, provisions regarding the termination and cancellation of franchise agreements are of considerable importance. The contract can be concluded for a fixed or indefinite period. Minimum contract terms are usually agreed, during which ordinary termination is excluded. It is common to provide both parties with the right to ordinary termination after this period, which generally requires an explicit written declaration and the observance of a particular notice period. In addition, both parties have the right to extraordinary termination for good cause. Such important reasons are usually serious breaches of contract, such as breach of trademark rights, substantial arrears in franchise fees, or serious breaches of the system concept. It should be noted that on termination, rights of use to trademarks, know-how, and business methods usually expire and non-compete obligations may apply. The contract also regularly provides for the return of supplied documents and operational assets.
Which liability provisions are relevant in franchise agreements?
In legal terms, liability issues are dealt with in detail in the franchise agreement in order to clearly define the respective responsibilities of the franchisor and the franchisee. As a rule, the franchisee remains independently responsible for his entrepreneurial success and legal obligations, so that the franchisor’s liability for obligations of the franchisee to third parties is generally excluded. The franchise agreement may provide for limitations of liability, particularly for slight negligence, but typically excludes liability for intent and gross negligence. A significant role is also played by recourse claims of the franchisee against the franchisor in the case of faulty system provision, lack of disclosure or inadequate training. Conversely, the franchisee is liable for damages caused by breaches of duty in the operation of the franchise business, in particular for violations of intellectual property rights or confidentiality obligations. It is also common to include contractual penalty provisions for serious breaches of contract.
Which competition clauses and exclusivity agreements are legally permissible?
Franchise agreements often contain non-compete clauses and exclusivity rights for both franchisors and franchisees in order to protect the franchise system. Legally, however, these provisions are subject to the restrictions of antitrust law and §§ 138, 305 et seq. BGB (immorality, control of general terms and conditions). Non-compete clauses during the contract term, particularly prohibiting competition or the use of know-how for third-party business, are permissible as long as they are not unduly broad or unreasonable. Post-contractual non-compete clauses are only effective in light of § 138 BGB and Art. 101 TFEU if, in particular with regard to their duration (generally 1-2 years after the end of the contract), territorial scope and subject matter, they are proportionate and necessary for the protection of the franchisor. Impermissible restraints of competition may result in the invalidity of the corresponding clauses.
What are the consequences of breaching the pre-contractual disclosure obligation?
The franchisor’s pre-contractual disclosure obligation is of central legal importance and its breach can have far-reaching consequences. If the franchisee is not properly and fully informed about all essential aspects of the franchise system, the associated costs, risks, sales expectations or the market environment, this may give rise to claims for damages. In serious cases, such as fraudulent misrepresentation or concealment of material facts, the franchise agreement may be contested, resulting in the contract being void from inception. Withdrawal from the contract may also be considered if the statutory requirements are met. Courts apply strict standards in assessing the disclosure obligation, particularly where the franchisee is an entrepreneurially inexperienced start-up founder.
To what extent are area and territorial protection provisions legally enforceable?
Territorial and area protection provisions are common in franchise agreements to grant the franchisee an exclusive or partially exclusive sales territory. Legally, it is crucial that such provisions are clearly defined and drafted in consideration of antitrust law. True territorial protection means that the franchisor and other franchisees are not allowed to establish competing locations or actively solicit customers within the defined area. Such exclusivity rights are permissible provided they are objectively and temporally reasonable and do not excessively restrict competition. These clauses are often accompanied by contractual sanctions for breaches of territorial protection, whereby the scope and enforceability regularly depend on the specific formulation and the need for protection of the franchisee. In case of doubt, their legality is subject to judicial review for compliance with antitrust and competition law.
