A recent case has confirmed that non-compete covenants and step-in rights given to the franchisor under a standard franchise agreement could be upheld against a franchisee on termination of the agreement even though these provisions meant that the franchisee was obliged to sell its business to the franchisor and could not run a similar business in the same area for 12 months after the termination.
Carewatch Care Services, one of the UK's largest provider of home care services, recently won its case against one of its franchisees, Focus Caring Services. Carewatch operates both franchises and its own branches. Focus had attempted to terminate its Carewatch franchise agreement but retain the franchised business, and also continue a related home care business that it had started without the consent required from Carewatch under the franchise agreement. The High Court ruled that Carewatch could step in and acquire the Focus business, enforce the non-compete covenants in the franchise agreement against Focus' owners and claim damages against Focus and its owners for breach of their obligations under the franchise agreement.
The court rejected Focus' arguments that it could terminate the franchise agreement and ignore the non-compete covenants because Carewatch was not providing the required level of guidance and assistance to the franchisees. The court decided that Carewatch had not on the evidence given to the court failed to support and develop the franchise business and network nor neglected its franchisees. The non-compete covenants were held to be necessary to protect Carewatch's know-how and reputation once the franchise relationship had ended.
The non-compete covenants were also held not to be anti-competitive. Focus had been given knowhow and assistance by Carewatch under the franchise which would effectively make Focus capable of competing with Carewatch. It would not be fair for Focus to use this knowledge to compete with Carewatch for the periods specified in the covenants.
The judge also ruled that the step-in provisions were not unclear or overly onerous. These provisions were intended to ensure continuity in the provision of care at a time when Focus, as the franchisee, would be prevented by the non-compete covenants from running the business. Accordingly, Carewatch could pay to acquire Focus' franchise business in accordance with the terms of the franchise agreement. The freehold of one property used in the Focus business was excluded from the step-in rights only because of the particular terms of the franchise agreement. But the judge held that Focus would have to grant Carewatch at least a licence to use the property to allow Carewatch to take over and run the franchise business under the step-in rights.
Prospective franchisees should therefore consider both the benefits and also the obligations and risks under a franchise agreement and should review carefully the termination provisions. Focus had grown to a turnover of £2m under the franchise arrangements but was not entitled to use the assistance and experience gained from the franchise to set up a competing business nor to sell the business it had helped develop to a third party without the franchisor's consent.
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