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Good news for international brands - Indonesia to clarify scope of its restrictive franchise laws

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United Kingdom

Changes to the franchise regulations in 2012 contained some controversial and protectionist rules which created uncertainty for foreign brands wishing to do business in this important market.

Indonesia's recent economic growth and the increasing wealth and size of the local market has seen a growing demand for foreign brands and a corresponding increase in international businesses entering the market through franchising.

Franchising in Indonesia has been regulated since 1997 and all foreign and domestic franchisors are required to issue a disclosure document and register with the Ministry of Trade ("MOT") for a franchising licence prior to appointing a local franchisee.

The impact of the 2012 regulations

Changes to the franchise regulations ("Regulations") in 2012 contained some controversial and protectionist rules which created uncertainty for foreign brands wishing to do business in this important market.

Perhaps the most controversial change was the introduction of Regulation 53, which imposes a requirement on franchisors and franchisees to use "local components for at least 80% of the raw materials, business equipment and merchandise used in the franchise", the so called "80% Rule".

Regulation 53 also envisaged the creation of an "Assessment Team", which is tasked with ensuring compliance with Regulation 53. A similar requirement existed in the old Regulations but, crucially, no percentage was specified and an assessment team did not exist. The new Regulations do not provide any clarify or explanation on how the 80% rule should be interpreted and applied to foreign franchisors, particularly those in fashion retail and other product-based businesses which have to import products into Indonesia.

Some brands have decided to delay doing deals in Indonesia until the position is clarified. Others have decided to enter the market by opting for a licensing or distribution arrangement.

Why should international brands care about this?

The MOT has the power to levy fines against the franchisor and/or rescind the franchise operating licence of the franchisee if it deems that the arrangement does not comply with the Regulations. This could lead to store closures and serious reputational damage for the franchisor.

For brands which have entered the market via a licence or distribution arrangement, which is a franchise in everything but name, it is possible that the MOT will investigate such arrangements and deem them to have an incorrect operating licence. The MOT could seek to make an example out of a franchise business that has failed to adhere to the Regulations - this could have a serious impact upon the brand's reputation in the country and the franchisee's ability to operate. A recent high court case on this very issue in Malaysia (which has a similar franchise registration regime) indicates that the authorities in this part of the world are starting to flex their muscles and enforce their franchise regulations.

Good news for franchisors

Last week, Indonesia's Trade Minister announced that the government plans to loosen the impact of the Regulations on business franchises and traditional markets in an effort to increase transparency and clarify some of its more ambiguous laws. The MOT has the power to make exemptions should a business fail to comply with rules and will develop clearer guidance on the possible grounds for applying for an exemption.

Watch this space

After a period of deadlock, it now appears that Indonesia's government recognizes that the recent changes to the Regulations have acted perversely as a barrier to growth in the sectors which use franchising as a tool for expansion. For businesses that are already in Indonesia or have plans to expand into Indonesia, it is imperative that they obtain informed and specialist legal advice to help them navigate their way through these legal risks so they can reap the commercial rewards of doing business in this exciting emerging market.

For further information please contact your usual franchise team member or Gordon Drakes (Senior Associate).

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