Common features and contractual requirements
What are the common elements of franchise agreements in your jurisdiction? Do any requirements or restrictions on contractual provisions apply?
Section 3 of the Italian Franchising Act provides that a franchise agreement must be in writing to be valid.
The franchising agreement must expressly contain and indicate the following information:
- the amount of the initial investments and other entry fees to be paid by the franchisee to start the franchise business;
- the terms of calculation and payment of the royalties, as well as the indication, if any, of minimum takings to be reached by the franchisee;
- the rights to territorial exclusivity, if any, granted to other franchisees or related to the sale network and any outlet directly run by the franchisor;
- the particulars of the know-how to be provided by the franchisor to the franchisee;
- the criteria, if any, in place for the acknowledgement of the franchisee’s contribution to the know-how of the franchise;
- the details of the services provided by the franchisor in terms of technical and commercial assistance, outlet set-up and training; and
- the terms for the renewal, termination or assignment of the agreement.
Are parties to a franchise agreement subject to an implied or explicit duty of good faith?
The franchisor must act in accordance with goodwill, fairness and good faith at all times during the whole process of negotiation with the prospective franchisee. In addition, the prospective franchisee shall receive, without delay, from the franchisor all the information that it shall consider necessary or useful for the purposes of the franchise agreement. Nevertheless, the franchisor can withhold information if it considers that it is reasonable to keep such information confidential or if such information could infringe third parties’ rights.
Similarly, the requirements of goodwill, fairness and good faith apply also to the prospective franchisee while dealing with the franchisor. The prospective franchisee shall provide the franchisor with any information necessary or appropriate for the purposes of the franchise agreement in a timely, correct and comprehensive manner, even if such disclosure is not expressly requested by the franchisor.
The principles of goodwill, fairness and good faith apply to any kind of agreement, and are therefore also essential in the offer and sale of franchises during the pre-contractual, contractual and post-contractual phases pursuant to Sections 1175, 1337, 1358 and 1375 of the Italian Civil Code.
Are franchise agreements subject to any formal or documentary requirements, including registration?
A franchise agreement must be registered at the local office of the Italian Revenue Agency within 20 days of the date of the signature. Any delay in registering the agreement may incur a fine from the financial authority.
What due diligence should both parties undertake before entering into a franchising agreement?
Before entering into a franchising agreement, the franchisor should verify the reliability of the prospective franchisee, especially from a financial standpoint. The prospective franchisee will be requested to pay royalties and other amounts provided by the agreement (eg, entry fee, advertising contribution). The franchisor should therefore evaluate before the relationship starts whether the prospective franchisee will be a reliable subject to work with, and whether it will be able to manage properly its activity in order to avoid damaging the good reputation of the franchisor.
In turn, the prospective franchisee should evaluate the type of business that it will run under the franchising agreement. Furthermore, as the prospective franchisee will assume the risk of a new activity, it would be advisable to verify the solidity of the franchising system and of the trademark. The prospective franchisee should also verify the costs that it will be requested to pay by the franchisor (royalties, entry fee).
Are franchisors subject to pre-contractual disclosure requirements? If so, do any exemptions apply? What remedies are available to franchisees in the event of breach of these requirements?
According to Sections 4 and 6 of the Franchising Act, at least 30 days before the conclusion of the agreement the franchisor is required to disclose to the franchisee a complete set of information, save for the reserved information or information whose disclosure may violate third parties’ rights.
The franchisor must give different information depending on whether it operates within or exclusively outside Italy. A franchisor operating exclusively within the Italian territory, or both in Italy and abroad, must provide the franchisee with a copy of the contract to be signed and with all the information concerning:
- data regarding the franchisor;
- activities and characteristics of the business concept;
- details of the variation, year by year, of the number of franchisees; and
- a description of court or arbitration proceedings related to the franchise system commenced by any franchisee, third party or public authority against the franchisor and terminated in the course of the preceding three years.
A franchisor operating exclusively outside the Italian territory shall disclose to the franchisee further information, such as an index of the franchisees operating within the network and of the stores of the franchisor sorted by country. At the request of the franchisee, the franchisor will also provide the franchisee with a list of at least 20 franchisees operating within the network and their relevant locations. Furthermore, the franchisor shall provide:
- an indication of the annual variation – sorted by country – of the number of franchisees and their relevant location within the preceding three years;
- a concise description of all court proceedings regarding the franchise system concluded with a final judgment within the three years preceding the start of the contract; and
- a concise description of any arbitral proceedings concerning the franchise system concluded with a final award within the three years preceding the start of the contract.
The law does not provide expressly for exemptions concerning the disclosure obligation. However, generally, when a franchisee knows the franchising system because, for example, it already has other franchising shops with the same franchisor concerning the same activity, the parties may agree that the disclosure is not necessary.
Section 8 of the Franchising Act provides that if one party has supplied false information, the other party may ask for the annulment of the agreement under Section 1439 of the Italian Civil Code, and can sue the party for damages, if appropriate. Similarly, the franchisee may seek to obtain the annulment of the agreement if the franchisor breached the disclosure obligation.
Choice of law
May the parties freely choose the governing law of the franchise agreement?
The parties can freely choose the governing law of the franchising agreement. Where the parties do not indicate the governing law, the law of the country where the franchisee has its habitual residence usually applies. It is however advisable to specify the governing law in the franchising agreement so as to avoid any risk of contestation if disputes arise.
What fees are typically charged under a franchise agreement?
According to Section 3 of the Franchising Act, the franchising agreement must also expressly indicate:
- the sums related to the initial investments and other entry fees payable by the franchisee in order to start the franchise business; and
- the terms of calculation and payment of the royalties.
The entry fee corresponds to the sums related to the initial investments and other fees payable by the franchisee in order to start the franchise business. Royalties are either a percentage required by the franchisor from the franchisee and related to the business turnover of the franchisee, or a fixed rate payable in installments at regular intervals.
Do franchisees have a right of renewal?
Although there is no legal obligation for the franchisor to renew the franchise agreement, it is nevertheless mandatory under Section 3.4(g) of the Franchising Act to include renewal conditions in the agreement. It is therefore necessary to specify clearly such conditions in the contract.
On what grounds may a franchisor refuse to renew?
Provided that the renewal conditions are set forth in the agreement, franchisors generally refuse to renew because of the poor experience they have had with the franchisee. This may be because the franchisee breached the provisions of the agreement, or failed fulfil its obligations to pay the royalties or other amount due. Another reason may be that the franchisee did not meet the franchisor’s expectations.
How are renewals of franchise agreements usually effected? Do any formal or substantive requirements apply?
The parties are free to determine the renewal conditions. If the parties decide to renew the agreement, they are free to change some conditions provided in the franchising agreement. For example, the franchisor can increase the amount of the royalty, or change the targets to reach.
On what grounds may a franchisor terminate a franchise agreement? Are any remedies available to franchisees in this regard?
A franchisor may terminate a franchising agreement in case of default or non-performance by the franchisee of its contractual obligations. If the breach is considered serious, termination is usually granted to the franchisor. A ‘serious breach’ could be a default in payment of the fees or royalties, the violation of any exclusivity rights on the product or the non-compliance with the franchisor’s standards. Since these breaches can be subject to interpretation, the agreement should list clearly the situations in which the franchisor can terminate the franchise relationship. The franchisee should in turn be fully aware of its obligations under the franchising agreement, so as to avoid the risk of termination. However, where the franchisee deems that the franchisor terminated the agreement unlawfully, it can challenge the termination before a court, preferably after first trying to find a settlement with the franchisor.
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