Differing practices in Franchise Law in the US and the EU

There are various differing practices between the US and EU regarding franchise law. Some of the more controversial issues include resale price maintenance (RPM), good faith, unfair trading practices (UTPs), and disclosure requirements.

Regarding some aspects of competition law, the European Commission can have a hands-on approach. For instance, with respect to RPM the Commission limits the usage of RPM by franchisors to promotional activities. In contrast, the US Supreme Court case Leegin1 ruled that RPM should be analyzed on its merits using the “rule of reason” instead of a “per se” approach. The rule of reason approach presumes a practice is permitted until an analysis of the “relevant market” proves it otherwise. This is a view championed by the Chicago School of antitrust analysis.2 The per se approach which the EU has adopted was used by the US for over a century, whereas the rule of reason has been around for only a decade. The per se approach is more rigid, whereas the rule of reason in more flexible yet requires effort from the courts to determine what is the relevant market which may be a costly and time-consuming process.

There are differences with the concept of good faith in the US and the EU. In the US, the implied covenant of good faith and fair dealing is used to overcome UTPs.1 However, in the EU, there is no uniform duty of good faith and instead it is left to the Member States to regulate. For instance, Germany, Finland, and Austria have rigorous good faith obligations. To battle UTPs in the EU, a uniform set duty of good faith similar to the US may prove useful. Franchisees would be able to rely on the duty of good faith and lower the threshold to enter into an agreement with a franchisor from another Member State.

1 Supreme Court of the United States, Leegin Creative Leather Products, Inc v PSKS Inc (No. 06-480) 171 Fed. Appx. 464, Decided June 28, 2007

2 R. Posner. The Chicago School of Antitrust Analysis. University of Pennsylvania Law Review, Volume 127, Issue 4, 1979, p.925-948

3 M. Madsen. M. Litteken. The Implied Duty of Good Faith & Fair Dealing in Government & Commercial Contracts An Age-Old Concept in Need of an Update? Federal Practice Summit, United States Court of Appeals for the Federal Circuit. 2014.

Regarding non-competes, a balance should be struck between the need to protect the franchise business and the rights of the franchisee to operate a business. Abolishing restrictions on non-competes might provide incentives to potential franchisors and have a positive effect on franchising. The EU has adopted a very strict policy concerning non-competes. In the US, regulations concerning non-competes vary from state to state. For instance, California prohibits non-competes of any kind.1 Having a strict non-compete policy does not necessarily act as a deterrent and the benefits may outweigh the possible harms.

The US has federal pre-disclosure requirements called the franchise rule1 (“Rule 436”) which requires twenty-three specific items to be disclosed to the franchisee prior to the purchase of a franchise. However, the federal regulation does not supersede state law.2 According to the doctrine of federal preemption, state law can add but not detract from federal requirements, which provide the minimum requirements all fifty states must follow.3 In contrast, the EU does not have any pre-disclosure requirements at all and only six Member States have any pre-disclosure requirements.

However, there is a risk of pre-disclosure abuse. The franchisor might disclose as much as possible, and in the event of a grievance by the franchisee, the franchisor can hide behind the disclosure document. That is why there should be the right amount of disclosure which prevents abuses from the franchisor on both aspects. In other words, more disclosure does not equate to more safeguards for franchisees, but it might provide a safe haven for franchisors.

4 Business and Professions Code – BPC Division 7. General Business Regulations [16000 – 18001] ( Division 7 added by Stats. 1941, Ch. 61. ) Part 2. Preservation and Regulation of Competition [16600 – 17365] ( Part 2 added by Stats. 1941, Ch. 526. ) Chapter 1. Contracts in Restraint of Trade [16600 – 16607] ( Chapter 1 added by Stats. 1941, Ch. 526. )16600

5 Code of Federal Regulations, Title 16, Chapter 1, Subchapter D, Part 436 (16 CFR 436), promulgatedDecember 21, 1978, effective October 21, 1979 (effective date extended from July 21, 1979, 44 Federal Register 31170, May 31, 1979).

6 P. M. Abell. “The Regulation of Franchising in the European Union” Queen Mary, University of London, 4 July 2011 PhD.

7 J. O’Reilly. Federal Preemption of State and Local Law: Legislation, Regulation, and Litigation. American Bar Association, 2006 p.1-8

If you have any further questions about issues relating to either US or EU franchise law, please contact international franchise attorney Mario L. Herman.