What should be considered when issuing a franchise?

For business owners, a franchise is one of the ways to expand it; for beginning entrepreneurs, purchasing a franchise can serve as a convenient start. According to the data franshiza.ru, at the beginning of 2024, there are about 3,445 franchises in Russia.

Russian legislation does not contain the concept of a “franchise agreement”. Chapter 54 of the Civil Code of the Russian Federation contains a concept of a commercial concession agreement. By Article 1027 of the Civil Code of the Russian Federation, under a commercial concession agreement, one party (the copyright holder) undertakes to provide the other party (the user), for a fee for a period or without specifying a period, the right to use in the business activity of the user a complex of exclusive rights belonging to the copyright holder, including the right to a trademark, sign services, as well as rights to other objects of exclusive rights provided for in the contract, in particular to a commercial designation, a production secret (know-how). At the same time, Article 1028 of the Civil Code of the Russian Federation provides for a written form of the agreement, as well as mandatory state registration of the grant of the right to use a set of exclusive rights in Rospatent. If the requirement for state registration is not met, the grant of the right to use is considered failed.

Of fundamental importance, as with any contract, is the procedure for terminating such contracts. In practice, quite often there are situations where after the termination of a commercial concession agreement, the user continues his activities with minor changes to the set of rights granted under the agreement, believing that in this case the rights of the copyright holder cannot be violated, since the agreement is considered terminated.

This article will consider how the copyright holder can protect his business from unscrupulous franchisees in the future.

Restrictions on the rights of the parties under the commercial concession agreement

At the legislative level, Article 1033 of the Civil Code of the Russian Federation contains restrictions on the rights of the parties under a commercial concession agreement. In particular, following this article, the following may be provided for the user under a commercial concession agreement:

• the user’s obligation not to compete with the copyright holder in the territory covered by the commercial concession agreement about business activities carried out by the user using the exclusive rights belonging to the copyright holder;
• refusal of the user to obtain similar rights under commercial concession agreements from competitors (potential competitors) of the copyright holder;
• the user’s obligation to sell, including resell, manufacture and (or) purchase goods, perform work, or provide services using the exclusive rights belonging to the copyright holder at prices established by the copyright holder, as well as the user’s obligation not to sell similar goods, perform similar work or provide similar services using trademarks or commercial designations of other copyright holders;
• the user’s obligation to sell goods, perform work, or provide services exclusively within a certain territory;
• the obligation of the user to agree with the copyright holder on the location of commercial premises used in the exercise of exclusive rights granted under the contract, as well as their external and internal design.

But how, in this case, can the copyright holder protect himself in the future? This question was answered by the Supreme Court of the Russian Federation in Ruling No. 309-ES22-3993 of 06/09/2022 in case No. A71-13420/2020.

The decision of the Supreme Court of the Russian Federation

Thus, in case No. A71-13420/2020, the company filed a claim against an individual entrepreneur to recover a fine of 1,000,000 rubles for the opening of a studio by a person affiliated with the entrepreneur and for the continuation by the entrepreneur of competing activities in the city of Rybinsk after the termination of the commercial concession agreement. At the same time, the individual entrepreneur filed a counterclaim to invalidate certain clauses of the agreement. The court of first instance, in a decision upheld by the decisions of the court of appeal and the court of cassation, refused to satisfy the initial and counterclaims. The Judicial Collegium for Economic Disputes of the Supreme Court of the Russian Federation concluded that there are grounds for canceling judicial acts provided for by the Arbitration Procedural Code of the Russian Federation. In particular, the Supreme Court of the Russian Federation indicated that, when resolving the dispute regarding the society’s demand to apply to the entrepreneur a measure of liability in the form of a fine provided for in the contract for continuing a competing activity, the courts did not take into account the following.

According to paragraph 1 of Article 407 of the Civil Code of the Russian Federation, the obligation is terminated in whole or in part on the grounds provided for by this Code, other laws, other legal acts, or an agreement.

The company and the entrepreneur stipulated in the clause of the agreement that the user, persons included in the participants, and management bodies of the user undertake until the expiration of the agreement and for three years from the date of its termination not to carry out competitive activities, in particular not to carry out activities directly competing with the main activity of the copyright holder. If the user violates the requirements provided for in the section on restriction of competition, the user pays the copyright holder a fine of 1,000,000 rubles for each violation.

The courts of three instances, refusing to collect a fine from the company for the continuation of a competing activity by an entrepreneur, proceeded from the fact that the user’s violation of contractual obligations was committed during the period after the termination of the contract (termination of the obligation), which excludes the possibility of collecting the fine established by the contract.

Meanwhile, as explained in paragraph 3 of the Resolution of the Plenum of the Supreme Arbitration Court of the Russian Federation dated 06.06.2014 No. 35 “On the consequences of termination of the contract”, within the meaning of paragraph 2 of Article 453 of the Civil Code of the Russian Federation, upon the termination of the contract, the obligation of the debtor to perform in the future actions that are the subject of contracts; the terms of the contract, which by their nature imply their application even after termination of the contract or are intended to regulate the relations of the parties in the period after termination, remain in effect even after termination of the contract; otherwise may be established by agreement of the parties.

The current legislation enshrines the principle of prospective termination of a contract - its termination for the future.

Termination of a contract, as a general rule, leads to the release of the parties from further fulfillment of their obligations. However, in some cases, the parties remain bound by the obligations they agreed upon. There may be conditions in a contract that by their nature remain valid even after its termination; by their nature, they are intended to remain valid even after the termination of the contract.

The Supreme Court of the Russian Federation emphasized that the issue of maintaining the validity (termination) of an obligation in the event of termination of the contract should be decided taking into account the essence of the obligation to be fulfilled by the relevant party upon termination of the contract. It is subject to study what exactly is terminated as a result of termination of the contract, and what can retain its force. If the obligation is preserved, its security is also preserved.

In case No. A71-13420/2020, the entrepreneur’s obligation not to conduct competitive activities is not the subject of the contract and does not terminate with the termination of the contract; its fulfillment is assumed even after the termination of the contract. The possibility of collecting a fine or penalty depends on the validity of the obligation secured by the fine (penalty) at the time of the violation. If such an obligation is not the subject of the contract and, by its nature, presupposes its fulfillment even after termination of the contract, and is intended to regulate the relations of the parties in the period after termination, a fine is also charged for violations that occurred after termination of the contract.

Consequently, termination of the contract does not prevent the exercise of the right of the copyright holder to collect a fine from the user for carrying out competitive activities, since the corresponding condition is contained in the contract, which does not contradict the provisions of Article 1033 of the Civil Code of the Russian Federation and the principle of freedom of contract.

Based on the results of a new consideration of the claims, in part of which the judicial acts were overturned, the court of first instance satisfied the claims to collect a fine from the individual entrepreneur of 1,000,000 rubles. The decision of the court of first instance was upheld by the courts of appeal and cassation.

The dispute discussed above is of great importance for the market and legal practice in the field of franchising, since thanks to this case, a mechanism has emerged that can protect the copyright holder from the user conducting similar activities after the termination or termination of the commercial concession agreement. Thus, when planning to enter into a commercial concession agreement, in my opinion, the copyright holder should definitely provide for the condition that the user (and/or persons affiliated with him) undertake to not carry out activities that compete with the main activity of the copyright holder, and establish a fine for non-compliance with this condition.