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Franflash - Compensation upon termination

27/01/2012

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Franflash - Compensation upon termination

Germany: Agency Compensation denied

Good news for all franchisors in Germany: The Regional Court in Mönchengladbach rejected a franchisee’s claim for good will compensation upon termination of the franchise agreement. With this judgment the German courts make an important step in the right direction.

The Problem

Under German agency laws, the agent is entitled to compensation for loss of his customer base upon termination of the agency agreement. This law has also been applied to motor vehicle dealerships and certain franchise system by the German Courts. The thinking is that the franchisee helps build customer loyalty for the brand and needs to be rewarded for his effort if he leaves the system. As a result some franchisors in Germany have had to pay up to one year's revenue in good-will compensation upon termination to certain franchisees.

The Decision

The franchisee operated a bakery in a pedestrian zone under a franchise agreement with a wholesale bakery chain. After the termination of the franchise agreement the franchisee sued the franchisor for good-will compensation: As the franchisor had taken over the franchisee’s bakery and continued to run it with another franchisee the former franchisee argued that the franchisor still benefited from the customers he had acquired.

Transfer of customer base

In order to claim compensation the franchisee needs to show that the customer base has transferred to the franchisor after the termination of the contract.

In an agency situation this is obvious as the customers acquired by the agent always become the customers of the principal whereas a franchisee’s customers are generally his own as the franchisee is an independent entrepreneur.

However, if there is an express clause in the franchise agreement whereby the franchisee must assign all customers to the franchisor the franchisee looses his customer base and he is in the same position as an agent. In that case the likelihood that compensation will be payable is high. Where there is no contractual obligation but the franchisor continues to benefit from the customers in practice, the matter is more difficult. The German Courts are divided on this issue and conflicting decisions exist.

The Court Cases

In 1999 the Regional Court in Frankfurt held that a franchisee may claim compensation even if the franchise agreement itself does not oblige him to transfer the customer base provided that after termination the customers continue to shop with the brand. The case also involved a bakery shop in a pedestrian zone. The Court considered that because of the anonymity of the transactions there could never be a customer list. For that reason the de facto transfer of the customer base was sufficient.

The Hanau Regional Court came to a similar conclusion in 2002 in the case of a vehicle cleaning franchise when it held that compensation was payable to a franchisee although there was no obligation to transfer the customer base to the franchisor. However, it is important to appreciate that this case did not deal with a typical franchise relationship as all customer contracts were concluded directly with the franchisor. The franchisee’s job was to enter into contracts with car dealers as representative of the franchisor and to perform the cleaning. As the franchisee did not have its “own” customers the position of the franchisee was indeed very similar to the position of a commercial agent. Although this case is always cited in connection with a franchisor’s duty to pay compensation the special facts of the case need to be taken into account.

In 2004, the Regional Court of Berlin was the first of the lower courts that opposed the rulings mentioned above. It held that the de facto transfer of the customer base was not sufficient.

Outlook

The recent ruling further strengthens the position of franchisors in Germany. The Court was very clear that in the absence of a contractual obligation to transfer the customer base no compensation is payable.

It remains to be seen whether more courts will follow these examples. For the time being, franchisors should not include a contractual obligation to transfer the customer base in the franchise agreement for Germany.

For more information on franchising, please contact Mark Abell, Babette Märzheuser Wood or Chris Wormald.

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