European Union: How Effective Is The Regulation Of Franchising In The EU?

Last Updated: 14 March 2012
Article by Mark Abell

Eight EU member states have franchise specific laws, but no homogenous approach has been adopted by them. As a result some member states regulate franchising more successfully than others. This article analyses the way in which the EU member states seek to regulate franchising and the quality and appropriateness of that regulation and how successful they are.

EFFECTIVENESS/APPROPRIATENESS OF REGULATION – A QUALITATIVE ANALYSIS

In the rush to regulate franchising in EU member states, be it by franchise specific legislation or the application of general law, there has been little thought as regards what the overall purpose of the regulation is, or should be, It often does not go beyond a general feeling that franchisees are unsophisticated "consumers" who are often investing their life savings into complex businesses that may be run by unscrupulous business people with a great deal more experience and little regard for the franchisee's welfare. The conclusion is that they therefore deserve some kind of extra protection against being unfairly exploited.

There is no universally accepted rationale for how /franchising should be regulated or even what the aims of that regulation should be. As Terry comments, "the world has embraced the US franchising concept but not the manner of its regulation".1

This lack of clarity has created difficulties and complications with the regulation of franchising in the EU.

THE AIM OF REGULATION

The regulation of franchising poses the same basic questions as the regulation of any sector of commerce. The financial services sector offers a useful benchmark. The Financial Services and Markets Act 2000 (FSMA) suggests three objectives that apply equally to the regulation of other areas of commerce, including franchising.

These are, maintaining market confidence, increasing public awareness and consumer protection.2 They are benchmarks by which the effectiveness of any regulation3 can be measured.

Maintaining market confidence, "involves preserving both actual stability [in the financial system] and the reasonable expectation that it will remain stable".4 It is not just financial failure that can threaten this, but also widespread market misconduct. However, an over-regulated environment with no chance of market failure or financial scandals would be undesirable as it would stifle innovation and competition.5 Regulation must set, promote, monitor and enforce high standards, in order to contribute to the soundness of the system as a whole and to promote consumers' and institutions' confidence in its strength and integrity.6

Increasing public awareness means "promoting awareness of both the benefits and risks" associated with the commercial activity being regulated and, "the provision of appropriate information and advice".7 This means that regulation must not only promote the commercial use of the activity being regulated, but also has an educational role in improving general understanding and augmenting the information and advice that is available to consumers, rectifying the severe imbalance of information between consumers and the industry. It also means ensuring that those involved in business understand how it can allow them to take advantage of the single market.

The appropriate level of protection can be measured by reference to four factors:

  • the differing degrees of risk involved in different kinds of transaction;
  • the differing degrees of experience and expertise that different individuals may have in relation to different kinds of regulated activity;
  • the needs that individuals may have for advice and accurate information; and,
  • the general principle that individuals should take responsibility for their decisions.8

As a result, the regulation must set, promote, monitor and enforce high standards of integrity, financial soundness, fair dealing and competence for those it regulates, in order to protect and secure fair treatment for those investing in the activity being regulated. It must aim to ensure that they receive clear and adequate information about services, products and risks. It must also acknowledge their responsibility for their own decisions, while aiming to ensure that they are not exposed to risks that they should not reasonably be expected to assume.

In other words, regulation must promote fairness, transparency and orderly conduct.

This means that effective franchise regulation should:

  1. maintain market confidence in franchising,
  2. educate everyone about franchising and encourage both companies to use franchising as part of their growth strategy and individuals to become franchisees, and
  3. provide adequate protection to franchisees.9

All this must be done in a manner that does not stifle innovation and competition.

The "five key principles of good regulation10 outlined by the UK's Department of Business Innovation and Skills' Better Regulation Executive are also relevant to a qualitative analysis of existing regulation. They are targeting action only where it is needed, transparency, accountability, proportionality and consistency.

INDIVIDUAL MEMBER STATES

No EU member state franchise law meets all three benchmarks advocated by the FSMA or all of those outlined by the Better Regulation Executive.

Whilst they all seek to reduce misconduct by franchisors and maintain market confidence by imposing a degree of stability in their individual national markets, the lack of uniformity of approach and content means that on an EU level they actively promote instability. This has an obvious negative impact on market confidence in franchising. None of the member state franchise laws actively promote franchising or seek to educate potential franchisors or potential franchisees about its risks and benefits.

The level of protection given to franchisees varies substantially with none of them achieving an appropriate balance.

France

The Loi Doubin11 requires the proprietor of a network in France working under a common brand to make pre-contractual disclosure 21 days before contract. It does not identify franchising as a specific form of business or differentiate it from other forms of licensing and distribution. It therefore does nothing to encourage the use of franchising in preference to other forms of branded network. It also fails to acknowledge the differing degrees of risk involved in different transactions, the different levels of experience and expertise individuals may have and the differing needs of individuals. However, the law does target a definite need and is transparent, proportional, consistent and accountable.

Spain

The Spanish law12 provides for both disclosure and the registration of franchise documentation at regional government offices. It potentially boosts market confidence and the registration requirement seeks to help educate potential franchisees. However, it fails in part due to its lack of effective implementation. The registration requirement is not only inconsistently applied and poorly administered, it also grants a degree of credibility to dubious operations so failing to adequately grant protection to franchisees. It also fails to acknowledge the risks accepted by franchisors. The law targets an area in need of regulation, however it has been less than transparent in its early days and accountability was lacking. It lacks consistency and proportionality (the registration requirement exhibits neither of these).

Italy

The Italian law's13 reliance on the furnishing of the franchise agreement rather than a separate disclosure document seems to offer a lower level of real protection to potential franchisees than is appropriate. It also fails to recognise the risks accepted by the franchisor or educate potential franchisees or potential franchisors. The law is targeted on a need, it is transparent, proportional, consistent, and exhibits accountability.

Belgium

Although the Belgian14 law takes a very heavy handed and paternalistic approach it fails to maintain market confidence in franchising. This is because it fails to recognise the risks accepted by franchisors and the principle that franchisees should be responsible for their own actions. It also fails to promote franchising and educate the public about it. The proportionality of this law is lacking.

Sweden

The lack of any effective remedy for failing to comply with the pre-contractual disclosure requirement means that the Swedish law15 fails to effectively protect the interest of franchisees. It also fails to recognise the risks accepted by franchisors. It also fails to promote franchising or educate the public about it. It therefore does not reach the appropriate benchmarks. The consistency of this law, with its lack of real "bite" is questionable.

The Baltic States & Romania

Although by adopting a franchise law the Romanian, Estonian and Lithuanian legislatures were in a limited way attempting to promote the use of franchising and educate the public about it, they have failed. The Estonian16 and Lithuanian17 laws merely acknowledge the existence of franchising with rather turgid and ineffective provisions. They do not even provide for pre-contractual disclosure. The Romanian law's fails to provide franchisees with adequate protection. These three laws do not seem to target real needs, there is little transparency, accountability and consistency in Romania and proportionality is lacking in Estonia and Lithuania.

Germany, Austria, Greece & Portugal

Those EU member states that do not have franchise specific regulation do not on the whole meet the relevant bench marks. Those such as Austria, Greece and Portugal that follow the German lead by imposing an arduous duty of good faith on franchisors and treating franchisees as commercial agents and employees, fail to maintain market confidence, do not target a real need, and lack transparency, proportionality and consistency.

The UK, Ireland and Cyprus

The UK, Ireland and Cyprus avoid these problems but perhaps fail to target a real need. None of the EU member states that lack franchise specific regulation take any steps to educate people about franchising or promote its use.

CONCLUSION

It is clear that none of the EU member states come anywhere close to meeting all of the criteria for good regulation laid out above - transparency, proportionality, consistency and accountability.

In addition to the lack of a homogenous approach to the regulation of franchising in the EU member states creates a barrier to cross border trade by franchisors. The low quality and heterogeneity of the regulation of franchising in the EU is a clear indication that the EU Commission should take a more active interest in franchising and seek to create a legal environment that is more sympathetic to and supportive of it.

Footnotes

1 Andrew Terry, Franchise Sector Regulation: The Australian Experience in Windsperger / Cliquet/Hendrikse/Tuunanen, Economics and Management of Franchising Networks.

2 FSMA 2000 Part 1, Sections 2(1), 3, 4, 5 and 6.

3 The fourth objective of the act, prevention of crime, is not appropriate due to a comparatively low level of criminal activity in the franchise sector and adequacy of existing criminal sanctions due to the relative lack of sophistication of crime involving franchising as compared to that involving financial services.

4 FSA, A new regulator for the new millennium, January 2000.

5 FSA, A new regulator for the new millennium, January 2000.

6 Financial Services Authority, an outline, 28 October 1997.

7 FSMA 2000, Section 4.

8 FSMA 2000, Section 4

9 Cf. FSMA 2000 Part 1, Sections 2(1), 3, 4, 5 and 6 – see chapter 9 pp 158 above.

10 See http://www.bis.gov.uk/policies/bre

11 Commercial Code Article L.330-3 (Article I of the "Loi Doubin", Law No. 89-1008 dated 31 December 1989).

12 Act 7/1996 and Royal Decree 2485/1998.

13 Law of 6 May 2004, No. 129 Article 1.1

14 Law of Commercial Partnerships – enacted in 2005 and came into force on February 1 2006

15 Swedish Franchise Disclosure Law No. 2006:484 – came into force on October 1, 2006

16 Estonian Law of Obligations Act

17 Lithuanian Civil Code Articles 6.766.6.779

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.

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