By MAKARIM & TAIRA S.

A. Introduction

For many years Indonesia did not specifically regulate franchising activities. This has been due partly to the fact that franchising is a relatively new concept of business in Indonesia and due partly to the absence of any need to regulate what was not seen as a threat to indigenous entrepreneurs.

With Indonesia's recent economic growth and the increasing size and wealth of the local market, franchising has expanded rapidly, not only among foreign companies, but also, albeit to a lesser extent, with local franchisors. This growth has spread outside the traditional franchise areas of restaurants and retail and has now reached such diverse sectors as health centres, printing services, dry cleaning and travel agencies.

In order to protect existing Indonesian retailers and consumers, to give priority to local goods and materials, and to regulate the content of the franchise agreement, the government issued Government Regulation No. 16/1997 on Franchising ("Regulation 16"). This regulation, together with Decree of the Minister of Industry and Trade No. 259/MPP/Kep/7/1997 on the Provisions and Procedure for the Implementation of Franchise Business Registration ("Decree 259") formed the basis of Indonesia's franchise law regulatory regime. Most recently in March 2006, Decree 259 was replaced by Regulation of the Minister of Trade No. 12/M-DAG/PER/3/2006 on the Provisions and Procedure for the Issuance of the Franchise Business Registration Certificate ("Regulation 12").

This Makarim & Taira S. memorandum intends to give a brief summary of Regulation 16 and Regulation 12 and to discuss the impact of these regulations on both the franchisor and the franchisee, whether foreign or Indonesian. It should, however, be noted that there still remain a number of uncertainties with respect to the implementation of both Regulation 16 and Regulation 12, and it is only with the further guidance of the relevant authorities and the benefits of experience that these aspects will eventually be clarified.

B. The Franchise Agreement

The contractual basis of the franchise arrangement is, of course, the franchise agreement Regulation 12 provides specific requirements for such documents. For example, franchise agreements must:

  • be in writing in the Indonesian language
  • be governed by Indonesian laws
  • contain specific clauses or details including, among others: details as to the parties, a description of the franchised rights and territory, assistance provided, the period of the agreement, the rights and obligations of the parties, as well as provisions as to dispute settlement, extension and termination and the guidance and training of franchises.

Under Regulation 12, there are two types of franchise agreement, namely a master franchise agreement between the franchisor and a franchisee, and a sub-franchise agreement between the master franchisee and a sub-franchisee.

A master franchise agreement must be valid for a minimum period of 10 years whilst a sub-franchise agreement must be for a minimum period of 5 years. Surprisingly, there is no specific mention of the minimum term of a franchisor - franchisee agreement which does not permit sub-franchises.

It is stated specifically that a master franchisee will act as a franchisor in a sub-franchising arrangement. However, it is not clear (as it was in Decree 259) the provisions of Regulation 12 in relation to a franchisor will also apply to a master franchisee. It is, however, required that in a sub-franchising arrangement, the master franchisee is required to own and manage by itself at least one of the businesses which it is permitted to sub-franchise.

C. Franchise Business Registration

It is now a requirement for every franchisee to obtain a franchise business registration certificate ("STPUW"). The STPUW is obtained by filing the following items with the appropriate authority, depending upon the type and location of the relevant franchise arrangement:

  • the relevant application form duly completed and signed
  • a copy of the franchise agreement
  • a copy of the identity card(s) of the owner/management of the company;
  • a copy of the company's registration certificate (TDP)
  • a written statement giving details (business prospectus) of the franchisor
  • a copy of the Business Legality Statement Letter of the franchisor.

The above copies must be accompanied by the original copies of each document. The originals will be returned to the applicant once the relevant authority has reviewed the legality of each document.

The STPUW application must be filed within 30 (thirty) days of the date of effectiveness of the franchise agreement and the Ministry will approve or reject the application within 5 (five) working days. Under Regulation 12 the STPUW remains valid for a period of 5 (five) years and may be extended as long as the period of the franchise agreement is effective.

One interesting provision relating to the STPUW is that if the franchisor terminates the franchise agreement prior to its expiry, then an STPUW may only be issued to a new franchisee if the old franchisee grants a "clean break" letters confirming that all problems arising from the termination have been settled. This process reflects the existing system of clean break letter applicable to distributors who have registered themselves with the Ministry. This has been, over the years, a frequent source of dispute in respect of distributorship terminations; it is likely to also give rise to disputes in respect of franchise terminations. A similar clean break letter requirement is provided for in respect of termination of the master franchisee/sub-franchisee relationship.

Regulation 12 provides that STPUW holders have the right to selectively receive the following facilities from the government:

  • training and education
  • recommendation to use marketing facilities
  • recommendation to participate in offshore and domestic exhibitions
  • consultancy assistance;
  • awards for best domestic franchisor.

Other provisions relating to the STPUW are given below in Section E.

D. Operation of the Franchise and Procedures

Both Regulation 16 and Regulation 12 have important provisions relating to operational aspects of the franchise. These include, among others, the following:

  • Local Content: it is a requirement that all parties give priority to the maximum use of domestic products or services provided that quality standards are met. It is unclear to what extent or how this may be imposed on a franchise arrangement other than by the authorities reviewing the franchise agreement.
  • SME Priority: it is required that priority be given by the franchisor to small and medium-scale enterprises as franchisees/sub-franchisees and in certain cases as suppliers.
  • Business Areas: except for provincial capitals, a franchise business may not be conducted unless the city or area has been "opened" specifically for franchise activities by the Ministry. Again, this is to protect smaller enterprises. The precise location of franchise activities (i.e. whether in a traditional market or in a modern shopping mall) is also regulated as is the ability to appoint franchisees for the same products or services on adjacent sites at a particular location.
  • Franchised Products: it appears that uniquely Indonesian products or services, including traditional food and drinks, may only be franchised in Indonesia by or with the participation of small or medium-scale enterprises.
  • Training: it is an obligation of the franchisor to "nurture, guide and train" the franchisee.

Prior even to entering into the franchise agreement the franchisor has certain procedural obligations and responsibilities. These include:

  • Preliminary Information: the franchisor must provide to the franchisee written information relating to the franchise (including details as to, among others, the franchisor, its business activities and financial record, the obligations of the parties, the nature of the franchised product or service, assistance to be provided to the franchisee, the requirements expected of a franchisee and other matters which the franchisee should be aware of. These principles of transparency and openness are obviously calculated to provide potential franchisees with full awareness of the franchise arrangements and risks associated therewith.
  • Business Licences: a foreign franchisor must hold legalized "evidence" from an authorized government agency in its country of origin. The "evidence" is understood to mean, for example, the trademark applicable to the franchise or a business registration certificate. Domestic franchisors must possess a SIUP or a business licence from another technical ministry.

E. Reporting and Sanctions

The control and development of Indonesia's franchise industry will be supervised by the Ministry with the assistance of the ongoing reporting requirements stipulated in Regulation 12. These requirements, which complement the STPUW registration obligations referred to above, include the following:

  • a report on the progress of the franchise business activities must be sent by the franchisee or sub-franchisee to the authority which grants the STPUW by the latest every 31 January.
  • a report must also be sent by the franchisee or sub-franchisee to the same authority whenever certain specified changes occur to the franchise agreement (e.g. change of address or ownership of the business, expansion or reduction in outlets, extension or change in term of the agreement).

Sanctions against franchisees are implemented by way of the suspension or revocation of the STPUW, following a series of written warnings in the event of non fulfillment of reporting obligations. Continuance of franchise activities after revocation of the STPUW may result in the withdrawal of the offender's SIUP or other similar licences. Written warnings may be given in the event of:

  • non fulfillment of reporting obligations
  • non-fulfillment of tax obligations
  • complaints or reports from authorized officials or from holders of intellectual property whose rights have been violated by the franchisor or franchisee

Regulation 12 came into effect on 29 March 2006 and a master franchisee or sub-franchisee that obtained its STPUW prior to that date must comply with the provisions of Regulation 12 by no later than 29 March 2007.

F. Conclusion

Whilst the primary intentions of Regulation 16 and Regulation 12, namely to protect and stimulate local businesses and domestic franchises and to curb the outflow of fees to foreign franchisors (by, for example, promoting local content requirements), are reflected in the wording of the regulations, a number of unclear issues are still unresolved even after the issuance of Regulation 12. For example:

  • will franchisors be willing to sanction the use of local products if they believe quality standards may be compromised?
  • what is the scope and extent of the requirement to provide guidance and training?
  • is the "clean break" letter procedure open to potential abuse by disgruntled franchisees?
  • how and to what extent will the government provide 'facilities' to franchisees?

It is clear that both Regulation 16 and Regulation 12 have a significant impact on Indonesian franchise arrangements. In particular, franchise agreements must be carefully drafted and consideration should be given to the fact that registration of the agreement is made with the authorities. However, whilst the requirements imposed are mandatory, what has also become clear since Regulation 16 was first introduced is that, first, many franchise parties do not comply with the regulations and, secondly, the Ministry is not in any way practice in enforcing the regulatory requirements. It remains to be seen whether compliance will improve as new franchise businesses grow and multiply with the recent revival in Indonesia's retail economy.

This memorandum is only intended to provide a brief commentary on Indonesia's franchise regulatory regime and should not be relied upon as legal advice or as a substitute for detailed advice in individual cases. We shall be pleased to advise further on any particular aspects of franchise arrangements in Indonesia, as well as to give assistance generally on other intellectual property, corporate, finance and investment matters.

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.