Turkey: Examination Of The Provisions In Franchise Agreements With Respect To Competition Compliance

1. FRANCHISE AGREEMENTS AS GENERAL

Franchise ("Franchise") was defined by the abrogated Communique on 1998/7 as a trade system consisting of intellectual property rights as trademarks, commercial names, business marks, utility models, designs, know-how and patents regarding sale of products to the end users and/or providing services. Furthermore, the franchise agreement ("Franchise Agreement") was defined as an agreement that the franchisor entitles the franchisee to use the Franchise in order to market specific goods or/and services and receiving financial reward in return. The Franchise Agreement might consist of, according to the abrogated communique, at least such obligations as to support franchisee perpetually in the terms of commercial and technical knowledge, provide know-how and to use common trademarks and business names and to expose a common appearance by using common instruments and common design of facilities.

Although said Abrogated Communique is not in force anymore, the definition is still used to define the Franchise system, as the system itself did not change. The definitions through the doctrine mostly emphasize the aspects that the Franchisor entitles the Franchisee to use the intellectual property rights such as the business name and trademarks and to provide know-how that is accumulated throughout the course of business¹. This know-how transfer is so intense that it has its own consequences in the terms of competition compliance, that will be discussed later in this article.

2. FRANCHISE AGREEMENT AS A VERTICAL AGREEMENT

Vertical Agreements are agreements between enterprises operating at different levels of the supply chain regarding purchase, sale or resale of particular goods and services ². These agreements are called such as they link the different levels of supply chain that starts from the producer to the end user.³ It should be noted that this vertical relation may also be constituted by concerted practice and the same rules apply in such case. Although the agreements and concerted practices which have as their object or effect or likely effect the prevention, distortion, or restriction of competition directly or indirectly in a particular market for goods or services is prohibited⁴, a block exemption is granted for the qualified vertical agreements by the Communique 2002/2. This exemption applies to those enterprises which do not exceed the threshold %40 of market share.

The fourth paragraph of second article of the communique governs the vertical agreements that concern utilization of intellectual property rights. According to the article, the vertical agreements that contain provisions concerning transfer or use of the intellectual property rights may be eligible for said exemption on condition that the intellectual property rights are directly related to the use, purchase, sale or resale of the goods and services that are fundamental for the agreement, on condition that the transfer or sale of the intellectual property is not the primary subject matter of the agreement.

In this case, two conditions must be fulfilled in order to benefit from this exemption:

1. Intellectual property rights must be directly related to the use, purchase, sale or resale of the goods and services that are fundamental for the agreement
2. The transfer or sale of the intellectual property is not the primary subject of the contract.

These conditions above are fulfilled by Franchise Agreements. As explained hereinabove, the Franchise Agreement contains intense know-how transfer and entitlement of the use of intellectual property rights although it is not the primary subject matter of the Franchise Agreement. In this respect, Franchise agreements fall within the scope of Communique 2002/2 and exempted from article 4 of the Code without any doubt. The Guide that is published and updated on 29.03.2018 by the Competition Board ("Board") and that is cited very often in their decisions also clarifies that the Franchise agreements are eligible for the exemption as they concern intellectual property rights even though it is not the primary subject matter of the agreement. Board's approach to the Franchise Agreements is consistent. Although in most of the cases the Board considers the respective Franchise Agreement to be a vertical agreement and does not require an evaluation, in some cases the qualification is expressly addressed such as "With regard to the article 13 of the agreement which refers that the commercial relation between the parties is a relation based on franchise system and the article 9/6 which rules that the franchisee is entitled to resell the products only produced by the franchisor, it is just to state that a vertical agreement exist between the parties. Consequently, the allegations must be evaluated in accordance with Communique 2002/2."

As and when Franchise Agreements qualify as vertical agreements, they are exempted from the prohibition and so avoid being rendered void. On the other hand, certain provisions must be avoided in order to stay within the scope of the protection provided by the Communique. These provisions are explained below.

3. PROHIBITED PROVISIONS

3.1. Restrictions on Resale Price

Paragraph 1/a. of the article 4 of the Communiqué prohibits provisions or practices that may prevent the franchisee to determine its own prices. In Franchise, the franchisee should have the freedom to set its own prices for the goods and services. Any provision in the Franchise Agreements or any practices that fixes the resale prices, put the agreements outside the scope of the Communiqué and thus cannot benefit from the block exemption. The price fixing may appear by means of direct determination of the resale prices but also may appear by means of;

1. Setting the profit margin of the franchisee,
2. Setting the maximum rate of discount for individual products and services,
3. Providing discounts to the franchisees who complies with recommended prices,
4. Discrimination between the franchisees based on the compliance level to the recommended prices,
5. Threatening, intimidating or warning the franchisee with delaying and suspending deliveries or terminating the agreement in case the franchisee does not comply with those recommended prices or the actual implementation of such penalties.

Although price fixing or setting a minimum resale price by the franchisor is prohibited, the franchisor may set a maximum resale prices for the franchisee or offer recommended resale prices to the franchisee on condition that these do not transform into fixed or minimum resale prices. It is important to explicitly state on the packaging or in the price list or agreement that the price is recommended.

In a case heard before the Board, setting a special discount for big volume works considered to be in compliance with the provisions of Competition Law. The Board ruled as "Examining the case, the application in question may not be considered as an activity aiming to fix the prices but it may rather be considered as a maximum price application containing discount for big volume works. With respect to the aim and the effect of the application, it is impractical to consider such action as price fixing, nothing but a part of the competition itself"⁵.

The periodic or seasonal (2-6 weeks) discounts may be made by the franchisor in order to promote and increase awareness of the services and products and franchisee may be obliged to apply discounts to the products and services. So long as it doesn't transform into a fixed price such obligation should also be regarded as a maximum resale price for a given time a rather than a price fix.

3.2. Restrictions on Territory and Customers

Any restrictions on territory or customer group to which the contracted goods or services to be sold is prohibited. These provisions render the Franchise Agreement out of the scope of exemption. The Franchise Agreements usually provide an exclusive territory to the franchisor. This exclusive territory should be understood as a territory in which the franchisor shall execute a franchise agreement only with that particular franchisee and there should be no other entity in the Franchise concerning the same territory. Any other interpretation renders the agreement out of the scope of the safe harbor provided by the Communique 2002/2. Although restrictions on territory and customer is generally prohibited, restrictions stated hereinbelow are exempted from the prohibition by the Communique 2002/2.

3.2.1. Restriction on Active Sales to Territories or Customers Exclusively Reserved to the Supplier or to Other Distributors

The restrictions on active sales to territories or customers exclusively reserved to a franchisee may be prohibited by the Franchise Agreements. The matter that should be considered is that the prohibition may only be adopted for active sales. Any restrictions on passive sales are prohibited.

Active sales are explained in The Guide that the Board published. Active sale methods are sale methods aiming directly the customers located in another franchisee's exclusive territory. Sales committed through direct marketing methods such as letters or visits are considered as active sales. These sort of sales actively and directly aims the customers located in another exclusive territory. As an example, promoting a discount for the customers located in a certain exclusive territory shall be considered as active sales.

On the other hand, passive sales to customers from other exclusive territories or a certain customer group may not be prohibited. Franchisee may not refuse the demands of the customers from other exclusive territories so long as the sale is not result of an active effort of the franchisee, even when the distributor delivers the goods to the customer's address. This sort of provisions are relatively common in Franchise Agreements. The franchisee might be asked not to commit any sales outside its own exclusive territory and as another term and condition of the agreement franchisee might be obliged to forward the customer to the respective franchisee if the customer is from that franchisee's exclusive territory. Any agreements and concerted practices in such manner is prohibited.

A sale as a result of a nationwide promotion is also considered as a passive sale since it does not directly aim another exclusive territory but aims the nation as a whole. In such case, the sales may not be prohibited by the franchisor.

Online sales also deemed as passive sales on the condition that the online sales do not directly aim another exclusive territory. A sale through a nationwide or a worldwide web site may not be prohibited so long as it does not provide special discounts for other exclusive territories.

3.2.2. Restrictions on Sales To End-Users By A Franchisee Operating At The Wholesale Level

Another restriction that is permitted is restriction on sales to end-users by a Franchisee operating at the wholesale level. Should a franchisee operate at the wholesale level, the Franchise Agreement may prohibit the sales to the end user.

3.3. Rules regarding the Non-Compete Obligations

3.3.1. General

Non-compete clauses take an important part in commercial agreements and especially in Franchise Agreements. As an intense know-how transfer is being involved, the franchisor shall take measures to protect its know-how that might have been build up since long years.

As a rule, non-compete clauses as a part of a vertical agreement may not be any longer than a 5-year term. Any non-compete clauses longer than 5 years or non-compete clause for an ambiguous term is taken out of the scope of the exemption if it can be separated from the main agreement; if not, the whole agreement is taken out of the scope of the exemption. But the Board's approach to this issue has softened the restriction as the Board tends to solve the problem by lowering the term of the non-compete clause to the maximum level allowed on condition that the maximum level hasn't been exceeded yet.⁶ If the maximum allowed level is already exceeded, the obligor is no longer under obligation to comply with the non-compete rule.

"Ambiguous term", on contrary, is applied strictly by the Board as it may be a slippery ground. The evergreen clauses, a clause enables the agreement to be renewed unless one party notifies the other as of its intent to terminate the agreement, is deemed as an agreement for ambiguous term and the such clause is taken out of the scope of the Exemption by the Communique 2002/2. On the other hand, agreements for a term of 5 or less years which are to be renewed only by mutual consent of the parties at the end of the term, may benefit from the exemption.

In case the facility that the acquirer carries out its business on is owned by the supplier, the supplier may execute an agreement containing non-compete clause with the acquirer so long as the acquirer keeps carrying out its business on that facility.

As a rule, non-compete obligations may only be agreed for the contractual term. Any obligation beyond the contractual term takes the non-compete clause out of the scope of the Exemption. But in certain circumstances, the non-compete obligations continuing after the expiry of the agreement may be allowed. In case a non-compete obligation is essentially important in order to preserve the know-how, it may be agreed for a term of longest 1 year on condition the obligation is confined to the geographical boundaries of the facility or the land that the obligor has carried out its business during the contractual term and on condition that the obligation is only for the competing goods and services. However, the utilization or disclosure of the know-how may be restrained for an unlimited time.

3.3.2. Franchise Agreements

As it stated above, the Franchise Agreements usually contains intense know-how transfer. Know-How is not subject to any intellectual property rights and once disclosed to another, it is not possible to take it back. Considering such trait of the know-how, Board tends to evaluate the Franchise Agreements in a different manner than those other vertical agreements. The basics of the Board's approach to the Franchise Agreements shall be explained through following two decisions of the board.

"The Franchisor undertakes to provide all of its know-how to the Franchisor as per the Franchise Agreement. As explained at the paragraph 176/ii of the Guide, a special waiver problem arises with the know-how transfer. When the know-how is transferred, it may not be taken back. Therefore, [xxx] designating a nationwide non-compete obligation for the contractual term in order to prevent its know-how to be used by or for its competitors in different location should be considered reasonable since [xxx] provides its services in a nationwide level." ⁷

"The non-compete obligation that is brought for [xxx] by [xxx] in order to preserve the identity and prestige of the franchise web may not be considered among those actions prohibited." ⁸

As evident, although determining a non-compete obligation for a term longer than 5 years is prohibited, the prohibition is narrowed for the Franchise Agreements. The non-compete obligation in a Franchise Agreement may be determined for a term longer than 5 years, as long as it is deemed reasonable.

The reasonability must be evaluated specifically and individually for each case, as an example, a nationwide non-compete clause has been considered excessive for a local company while reasonable for a nationwide company.

4. CONCLUSION

Franchise Agreements are one of the subjects that is heard before the Board often, and it occasionally result with violation decisions. In this study, it is aimed to point out the specific rules and differences in practice with respect to the Franchise Agreements. As said before, the know-how transfer is a very important part of a Franchise Agreement and this characteristic of the Franchise Agreements puts it in a distinctive position with respect to the competition compliance and sometimes, therefore some specific rules adopted for this kind of agreements. Especially the rules for non-compete agreements must be taking into consideration when deciding whether such action violates the rules or not.

Footnotes

1. Serdar Paksoy, "Hukuki Yönleriyle Franchising", Dünya Gazetesi Franchising Özel Eki, s. 4.

2. Article 2 of Communique No. 2002/2

3. İ.Yılmaz Aslan, Rekabet Hukuku, s. 388

4. Act on Protection of Competition, Article 4

5. Competition Board, File Number: 2017-1-67, Decision Number : 18-05/74-40, Decision Date: 15.02.2018

6. Competition Board, File Number : 2015-1-45 Decision Number : 15-36/533-168 Decision Date : 09.09.2015

7. Competition Board, File Number: 2014-3-53 Decision Number : 14-42/764-340 Decision Date : 22.10.2014

8. Competition Board, File Number: 2014-3-9 Decision Number: 14-17/322-140 Decision Date: 08.05.2014

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.