Franchise Laws in India

Introduction:

Franchising is an innovative way of expanding business operations into new market places. In a commercial language, the franchise is a permission granted by the manufacturer to retailer or distributor to sell its product or operate a business within the specified territory. A franchise may include a contract between the franchisor who grants permission to carry on the existing business to the Franchisee. Franchising can be done within the same country as well as in another country. Different countries have different laws for franchising. However, in India, there is no specific law governing the franchising industry. 

But in India, there is a wide range of laws which are can be applied in the franchising industry including the Indian Contract Act, Competition law, Labor Law, Intellectual Property law, Property law, and many other laws. This article provides some insights into franchise agreements and business along with various laws governing the same in India.

Meaning of Franchise

Franchise has not been defined anywhere in Indian law. But in simple words, the franchise is nothing but a method of distributing products and services. Black Law dictionary also defines a franchise as a license granted by the trade owner to sell products and services under the name of the trademark. Normally in the franchise agreement, there are at least two parties involved: a) Franchisor who permits to use his trademark and b) Franchisee, who uses that trademark and in return pays to the franchisor a royalty. Historically, the franchise was used to distribute the products in different locations (product franchising). Example includes automobile dealerships. Later we witnessed a new form of franchising, Business Format Franchising where franchisee strictly follows guidelines and standards of product and marketing. Examples of business format franchising may include restaurants.

Features of Franchise Agreement

• It is based upon the contractual relationship.
• The franchisor has a business system identified with the brand name.
• Franchisee makes capital investment and manages and owns the business operation of the franchisor.
• The franchisor shares training and technical know-how of business with franchisees to make him understand the business system of the franchisor.
• Franchisor supervises the business operations of the franchisee
• Franchisee pays some form of consideration (royalty) to the franchisee for using a trademark and brand name.

Laws Governing Franchise in India

I. Indian Contract Act 1872

The Indian Contract Act governs all the aspects of franchising agreements and contracts. The act ensures that all the essentials of a contract are satisfied and parties have freely consented to it. Fundamentally, franchise relationship is nothing but a contractual relationship, therefore all the vital elements constituting a contract need to be satisfied such as offer and acceptance, lawful consideration, lawful object or purpose, the capacity of parties to enter into a contract and free consent. Although the Indian Contract Act does not require necessarily a written agreement between the parties, but in order to avoid future deadlocks and disputes, it is beneficial that franchising agreement should be in writing.

Sometimes depending upon the nature of franchisee contract, the relationship between the franchisor and franchisee can be considered as a contract of agency where a franchisee may enter to the contract with third parties on the behalf of franchisor and franchisor (Principal) would be liable for the acts performed by the franchisee (Agent).

II. Laws related to Intellectual Property Rights

All franchise agreements include the transfer of intellectual property from the franchisor to franchisee either in the form of patent or invention/design, trademark or trade name (eg. Addidas or Nike) or trade secret/know-how of business format (eg. Starbucks, Dominos) or Copyright. Intellectual Property license forms the core of the franchise agreement; therefore law governing intellectual property becomes the heart of the franchise laws. There are four Acts covering Intellectual Property Rights in India, they are: a) The Copyright Act (1957), The Patents Act (1970), The Trademark Act (1999), and The Design Act (2000).  

These laws ensure that intellectual Property rights licensed to franchisee are not misused by him in any manner. For instance, a franchisor may make sure that franchisee does not use the franchisor’s trademark outside the purview of the franchisee agreement.  These laws also ensure that any goodwill associated with the brand or trademark is not diluted in any manner due to franchisee’s actions. These IPR laws in India protect the trade secrets of the business and franchisee is under an obligation to protect the confidential or crucial information of business from third parties.

III. Competition Law

Competition Act was enacted by the Competition Commission of India in 2002 and came into effect in 2009. Its purpose is to promote competition, freedom of competition, protection of consumers, and preventing anti-competitive practices and agreements which affect the free trade in India.  Competition law also governs the franchise agreement and aims to curb anti-trust or restrictive trade practices. It makes sure that tie-in arrangements, supply and distribution, and resale price maintenance in franchise agreements do not restrain competition in the market place.

Further, Monopolies and Restrictive Trade Practices Act, 1969, prevents the concentration of economic power, regulates and control monopolies and prohibits monopolistic and restrictive trade practices. Franchisor and Franchisee must be careful that their business practices do not come under the ambit of monopolistic or restrictive trade practices, otherwise, Commission enacted under MRTP Act can grant an injunction and may also award any compensation or damages in order to protect the free market.  For example, if the franchisor instructs franchisee to not sell goods below a particular price regardless of the rules and conditions of the free market then it may attract actions under the MRTP Act.

IV. Consumer Protection Law

Consumer Protection Act was enacted in 1986 to provide protection to the consumers from fraudulent trade practices of traders and providing them a remedy for receiving defective goods or unsatisfactory services. Consumers can file a complaint before the consumer forums against the franchise for unfair trade practices such as providing defective goods or deficiency in services provided to consumers. Further franchisees or sub-franchisee can also file a suit (as a consumer) against the franchiser on the above-mentioned grounds.

V. Labor Law

In India, there are a host of labor laws that can be applied in the franchise, therefore it is crucial for the franchisee and franchisor to be aware of laws applicable to their agreement and business. On the basis of the amount of control, the franchisor has over the operations of the franchise, different labor law issues can be arise depending upon the relationship between franchisor and franchisee, the relationship between franchisor and employees of franchisee, the position of the employee in the franchise system.

VI. Income Tax Act

The Income Tax Act of 1961 governs the aspects related to taxation matters of the franchise business. Royalties paid by the franchise for using intellectual property rights of franchisors are subjected to a 20% tax on the gross amount. Further, in the case of international franchise agreements, this rate could be reduced depending upon the double taxation avoidance agreement (if any).

VII. Property Law

Franchise is also subjected to the provisions of property law operating in India such Indian Property Act. Laws affecting leasehold property and real estate property are regarded as an important part of franchising. Therefore before setting up the franchise business, it is important that property laws should be carefully evaluated.

IX. Foreign Exchange Management Act

In cases of international franchise agreements, it is important to abide by the Foreign Exchange and Management Act 1999. According to FEMA, prior approval is necessary for RBI in order to make remittance outside India. However, RBI has not set up any cap on lump-sum payment by Indian franchisee to its foreign franchisor. Under FEMA, no Government approval is required for royalty payments up to 2% of exports and one percent of domestic sales on the use of brand and trademark of foreign franchisor without involving technology transfer.

However, in case of technology collaboration agreement, royalty payments up to five percent on local sales and eight percent on exports and the lump sum payment not exceeding US$2 million are permitted without approval of the Government. But in case limits exceed, prior permission from the Ministry of Commerce and Industry of India is required.

Apart from these major laws, law related to Tortuous liability, Arbitration, and Mediation laws, Insurance laws, Weights and Measures laws also govern the franchise business in India.

Conclusion

In this era of continuous globalization and liberalization, business is crossing geographical boundaries and extending its operation across the entire Globe. The important driver in taking the business beyond the physical boundaries and expanding the market is franchise agreements. In the business world, the franchise is an agreement between the franchisor and franchisee to sell all the products and services of the franchisor in particular geographical territories. In order to make sure that entire franchise business operations run smoothly and in order to protect the interest of franchisor and franchisee, the franchise business is required to comply with the franchise laws existing in the country. In India, there are multiple laws such as the Indian Contract Act, Labor Laws, IPR laws, Consumer Protections that are applicable in the franchise business in order to govern its operation and protect the interest of relevant interest holders including consumers. After the economic liberalization policies of 1991 by the Government, many International Brands have established their presence in the India market and franchising now seems to be very alluring and attractive options for market expansion. With a growing franchise business in India, there is a need for more reformation in the regulatory and legal framework which would govern franchise business.