Court assesses contractual obligation to protect franchisee against competition - International Law Office

Background
Facts
Decision
Comment

In a judgment of February 10 2012(1) the Dusseldorf Higher Regional Court ruled that a contractual duty of protection against competition on the part of the franchisor can arise on the basis of its general duty of loyalty and care only if the financial survival of the franchisee is at sustained risk due to competing activity by the franchisor. The court explicitly left open the question of whether the franchisor has a contractual obligation to protect against competition over and above the contractual provisions in principle.

Background

The relevant literature states that a franchisor's obligation to protect against competition is inherent to the franchise agreement – that is, an obligation to protect against competition exists even if it is not contractually provided. The obligation to protect against competition is the mirror image of the obligation to perform the contract by transfer and use of know-how. Similar to the maintenance obligation of the lessor set out in Section 535(1) of the Civil Code, the franchisor must maintain the use of the know-how, and the obligation to protect against competition is derived from this requirement.(2) However, as far as can be ascertained, previous judgments have rejected such a contractually inherent obligation.(3) Another opinion restricts the obligation to protect against competition to the affirmation of a right of defence in favour of the franchisee under Section 242 of the Civil Code if its financial existence is at sustained risk due to the grant of other franchises within its catchment area.

Facts

The franchisee operated a fast-food chicken restaurant in Hamburg Main Station based on a franchise agreement with the franchisor. Due to limited seating capacity, the business was mostly takeaway. According to the franchise agreement, the franchisee was not expressly granted any territorial protection. Therefore, the franchisor reserved the right to grant franchises to third parties, as well as to open its own outlet, even if these were in direct competition with the franchisee's business.

Subsequently, the franchisor planned to open a significantly larger restaurant within the station, approximately 150 metres away from the franchisee's business. The new business was intended to concentrate on catering for customers eating on the premises. The franchisee applied for an injunction to prevent the project on the grounds that by opening its own outlet so close to the franchisee's business, the franchisor would breach its obligation to protect against competition inherent in the agreement.

The Dusseldorf Regional Court rejected the application for an injunction. The franchisee's immediate appeal to the Dusseldorf Higher Regional Court was also unsuccessful.

Decision

The Dusseldorf Higher Regional Court rejected the franchisee's appeal on the grounds that the franchisor had no obligation to protect against competition which would prevent it from opening its own outlet directly adjacent to the franchisee's business.

First, by way of contractual interpretation, the court found that no express contractually agreed protection against competition existed, and therefore the franchisee enjoyed no protection within Hamburg Main Station against internal competitors.

The court also rejected the argument that the franchisor's obligation to protect the franchisee against competition was inherent in the franchise agreement; however, the court expressly left open the question of whether an obligation to protect against competition, apart from the contractual provisions, exists in principle. In any event, such protection against competition requires the competing activity of the franchisor to be a sustained threat to the financial existence of the franchisee. Only then could the court grant an injunction in favour of the franchisee under the loyalty obligation.

In the case at hand, the franchisee had neither substantiated nor proved such a risk to its financial existence. In particular, with regard to the conceptual differences of both outlets – the franchisee having an express outlet mainly providing takeaway food, and the franchisor having a classic location mainly with consumption on the premises – no significant effect on the franchisee's business would be expected.

Comment

In its judgment the Dusseldorf Higher Regional Court followed the opinion of the Celle Higher Regional Court in a judgment of August 28 2008(4) and the prevailing academic opinion. An obligation to protect against competition inherent in the agreement can protect the franchisee only if it exists in principle, to the extent that a competing activity of the franchisor or a third party authorised by it presents an ongoing risk to the franchisee's financial existence.

This judgment emphasises that in issues of competition protection, the franchisee must be referred to the contractual provisions, and these cannot be undermined by the extended application of an inherent contractual protection. Therefore, an equitable balance is created between the contractual freedom of the parties on the one hand, and the interests of the franchisee in maintaining its financial existence through the know-how transferred by the franchisor on the other.

The question of whether, in principle, an inherent obligation to protect against competition exists remains open. A decision on this issue by the courts would be welcome. In practice, therefore, the freedom to open competing outlets directly adjacent to an existing franchisee should not be exaggerated: if the franchisee can prove a risk to its financial existence, the franchisor may face an injunction.

For further information on this topic please contact Karl Rauser or Karsten Metzlaff or at Noerr LLP by telephone (+49 30 20 94 20 00), fax (+49 30 20 94 20 94) or email (karl.rauser@noerr.com or karsten.metzlaff@noerr.com).

Endnotes

(1) Dusseldorf Higher Regional Court, judgment of February 10 2012, File 16 W 62/11.

(2) Liesegang, BB 1999, 857, 858.

(3) LG Berlin, judgment of December 7 1999, 32 O 444/99, unpublished.

(4) 13 U 178/08.