Franchising may be an attractive proposition for many companies wishing to expand internationally. Take a look at this overview to discover the applicable franchise law in Latvia, covering the essentials for franchisors, the relevant areas of law, selected aspects such as fees, and dispute resolution and applicable law.
ESSENTIALS
about Latvia´s franchising law
- Pre-disclosure obligations apply irrespective of the provisions of the franchise agreement
- The commercial secret protection mechanism is available according to the Commercial Secret Protection law
- No specific provisions on franchise fees except for payments related to the non-competition obligation of the franchisee
RELEVANT AREAS OF LAW
Legal basis of Franchise Law
The legal framework of franchise agreements is provided by the Commercial law of Latvia, which contains a separate section regarding franchise agreements (Articles 474 to 480). Commercial law defines the franchise agreement. A franchise agreement is an agreement by which a merchant (franchisor) grants the other party (franchisee) the right to use a trademark, other intellectual property rights, know-how in the sale, distribution, or provision of services, under a system developed and tested by the franchisor (franchise). But the franchisee pays the agreed fees (Article 474). As the franchise relationship is private law, the relationship between merchants, the legal framework of the franchise agreement provided in the Commercial law is applicable, if the parties have not agreed otherwise. There are only a few exceptions when Commercial law provisions are mandatory (for example, definition of a franchise agreement, pre-contractual obligations). Also, the mandatory rules of the public law overrule the provisions of the franchise agreement (for example, mandatory licensing regulations for particular types of commercial activity, competition law).
Specifics regarding foreign franchisors
There are no restrictions regarding foreign franchisors. Any person can become a franchisor and enter into the franchise agreement.
Corporate Law
Latvian corporate law does not impose any restrictions on operations of foreign merchants in Latvia, nor on franchise systems in particular. The most common corporate form for business operations in Latvia is the limited liability company (as a “Sabiedrība ar ierobežotu atbildību” or “SIA”). SIA requires a minimum share capital of EUR 2800. Another option is to establish a joint-stock company (“Akciju sabiedrība” or “AS”). The minimum share capital requirement for AS is EUR 35000, and AS can place its shares in a public offering. For both types of companies, only the registered share capital is liable to the company´s creditors, not the shareholders personally. In order to establish SIA or AS, the founders need to sign an agreement or decision on the establishment and other documents, appoint a board (for AS also a supervisory board), and register the company in the Commercial register. Foreign companies often choose to operate in Latvia through the branch. The branch is not a legal entity but a part of the company operating separately on behalf of the company. To establish a branch, a branch manager shall be appointed, and the branch needs to be registered with the Commercial register.
Consumer Protection
Law According to the Consumer Rights Protection Law, a consumer is an individual who buys goods or receives services for a purpose not related to his/her commercial or professional activity. For this reason, the franchisee does not qualify as the consumer, and laws and regulations determining consumer rights are not applicable.
Antitrust/Competition Law
According to the Latvian legislation, the mandatory rules of the public law overrule the provisions of the franchise agreement. Such kind of public law is the Competition law. The 126 rules on prohibited agreements overrule the agreement provisions, which distort competition within the territory of Latvia (Art 11 of the Competition law). The provisions of the franchise agreement, which distort competition, are deemed to be invalid retrospectively, i.e., as of the moment when the franchise agreement was concluded.
Employment Law
There is no specific labor regulation related to franchise and employment relationships is governed by the Labor Law. A franchise agreement is a type of agreement governing a particular business activity. The employment agreement is a different type of agreement according to which an individual undertakes to perform certain tasks and is entitled to receive a salary. Due to significant differences in definitions of the substance of these agreements, the franchisee should not be considered to be an employee of the franchisor. To avoid any risk that a franchise agreement could be considered to constitute an employment relationship, the franchise agreement should clearly state the type of relationship between the parties.
Law on commercial agents
According to Commercial law, a commercial agent activity is a separate type of business activity. The commercial agent is a merchant, who is permanently authorized on behalf of and for the benefit of the other person (principal). The agent prepares the conclusion of contracts or to conclude contracts with the third parties (Article 45 of the Commercial law). There are no limitations for the franchisor to authorize the franchisee to perform such types of activity as part of the franchise agreement. If the franchisee acts as a commercial agent, then the mandatory provisions of law regarding the commercial agent apply: (1) the commercial agent is entitled to receive remuneration every month, the period for the calculation of remuneration can be prolonged only up to 3 months, (2) the minimum termination period for a commercial agent’s contract by any party is 1 month – if termination is made in the 1st year of the contract, 2 months – if termination is made in the 2nd year of the contract, 3 months – if termination is made in the 2nd year of the contract, and 4 months – if termination is made on fourth or subsequent years of contract, (3) any party can terminate the contract immediately on the grounds of important reason, and other. These mandatory provisions of law prevail over any agreements.
IP Law
The trademarks are protected by Trademark Law, as there are no specific provisions about the trademarks used for the franchise. Owners of trademarks can acquire the right to prohibit the other persons to use their trademarks by registering their trademarks – either as International Registration with the World Intellectual Property Organization (WIPO), as EU Trademark with the EU Intellectual Property Office (EUIPO) in all 27 EU member countries, or as a national trademark in Latvia only with the Patent Office of the Republic of Latvia. If the trademark is not registered, the owner using a non-registered trademark can only dispute the registration of the trademark by another person and needs to prove the rights of the owner of the well-known non-registered trademark. Know-how is protected as a commercial secret. The protection is provided by the Commercial law and Commercial Secret Protection Law. International Franchise Handbook 2021 127 The Commercial Secret Protection Law defines what type of action is deemed to be lawful and what is considered to be unlawful in relation to the acquisition, use, and disclosure of the commercial secret, and commercial secret protection mechanism available to the injured party.
SELECTED QUESTIONS / ASPECTS
Precontractual disclosure
The Commercial law determined that prior to entry into the contract the franchisor must provide the following information to the potential franchisee: (1) general description of the franchise compliant with the actual circumstances, (2) evidence on the existence of rights included in the franchise and general description of know-how, (3) franchise term and extension options, (4) franchise fee and payment terms, (5) other information the franchisor considers necessary for entry into franchise contract. The franchisee has a general obligation to disclose significant circumstances to the franchisor relevant for entry into the franchise agreement. The law provides the right to the party of the franchise agreement, which has suffered from non-disclosure or provision of misleading information by the other party, to terminate the franchise agreement unilaterally.
Franchise fees
The franchise fees shall be determined in the franchise agreement and are a mandatory part of the agreement. The franchise fees are not regulated by law. Specific payment obligations are provided by law regarding a non-competition of the franchisee. If the non-competition clause is included in the agreement limiting the business activity of the franchisee after the expiry of the franchise agreement, the franchisee is entitled to remuneration for the whole period of this limitation. The remuneration shall be determined in the franchise agreement. However, if the franchisor terminates the agreement due to potential harm to his reputation or due to an important reason, which was caused by the fault of a franchisee, the franchisee loses his right to receive remuneration.
Confidentiality
The franchisor has a legal obligation not to disclose to the third party the commercial secret, which has become known to the franchisee as a result of using the franchise. This obligation remains effective five years after the expiry of the franchise agreement. Although the Commercial law section on franchise agreements does not provide a specific definition of the commercial secret for the franchise, the general rules section of the Commercial law and the Commercial Secret Protection Law defines the information. It is considered a commercial secret, and these definitions also apply to the franchise. Even if the franchise agreement does not contain the provisions for the protection of commercial secrets, these provisions of law apply.
The Commercial Secret Protection Law provides a commercial secret protection mechanism, which is made available to the parties to protect the information. The injured party may ask the court to prohibit the other person or to impose an obligation to the other person to perform certain actions to protect commercial secrets and terminate unlawful actions with the commercial secret. The injured party may also ask the court to order compensation of loss or non-pecuniary harm.
Amendments/ Termination
The provisions regarding the franchise agreement amendments and termination shall be included in the agreement. The Commercial law states that any of the parties have a right to terminate the franchise agreement according to the provisions of law or agreement. If the agreement does not determine otherwise, the provisions of the law are applicable. According to the law, any of the parties may withdraw from the agreement; if the performance on the franchise agreement has become too burdensome due to objective change of circumstances or misleading information regarding the significant circumstances was provided by the other party before entering into the contract. The law provides that in case if the performance on the franchise agreement has become too burdensome due to objective change of circumstances, the parties have to perform negotiations to amend or terminate the contract. The party may refer to the objective changes of circumstances if: (1) changes have occurred after the entry into the agreement, (2) the party could not foresee the change of circumstances at the moment of entry into the franchise agreement, and (3) the party has not undertaken the risk of change of circumstances. In addition, if as a result of the negotiations agreement between the parties to amend or terminate the agreement has not been reached, any of the parties may ask the court either to decide on the termination of the agreement or amendments of the contract, determining fair distribution between the parties of the loss and gains resulting of changed circumstances.
Renewal and transfer
The Commercial law does not provide any provisions on transfer or renewal of the franchise agreement. The specific provisions on transfer and renewal should be stated in the franchise agreement. In the agreement, the franchisor may prohibit the franchisee from transferring the franchise agreement or any claims arising from it to another person. If the agreement does not provide specific provisions regarding renewal and transfer, the general provisions of the law are applicable. In such a case, the renewal of the agreement after its expiry is possible only by agreement of both parties. The franchisee can transfer his rights and liabilities arising from the franchise agreement to another person as part of the business transfer. It is possible under the provisions of transfer of merchant’s undertaking provided in Article 20 of the Commercial law. According to the definition given in the law, the merchant’s undertaking is an organizational unit of merchant consisting of pool tangible and intangible assets and other valuable items used for commercial activity. If the franchisee transfers its undertaking (for example, shop, manufacturing plant) to another person, all rights and obligations related to it, including the relevant franchise agreement, are deemed to be transferred to the acquirer of the undertaking. However, in case of such transfer, the franchisee and the acquirer shall maintain joint liability for the transferred obligations, which existed before the transfer, or it will become due within 5 years after the transfer. This liability provision is mandatory and prevails over any provisions of agreement. The same provisions apply in the case of transfer of an undertaking by the franchisor in case, if part of it is a franchise agreement.
DISPUTE RESOLUTION AND APPLICABLE LAW
Dispute resolution, court system
The parties to a franchise agreement can agree on the venue of the disputes. The parties of the franchise agreement may choose that the disputes are reviewed by an arbitration court instead of the state court. In such case, the arbitration clause shall be included in the franchise agreement. If agreement on venue or jurisdiction of arbitration court is not made, the claims against any party can be brought to the Latvian state courts if the defendant is registered in Latvia or the claim relates to losses that have occurred in Latvia. Latvia has a three-tier court system. The first instance court is region (city) court, which reviews the case in merits. The judgment of the first instance court is appealable to the district court, which has the competence to review disputes on merits repeatedly. After the appellate court has issued its judgment, the cassation complaint regarding the appellate judgment can be submitted to the Supreme Court. However, the Supreme Court does not have the competence to review the case on merits. The Supreme Court can only verify whether there was a breach of substantive or procedural law during the review of the case on merits. If the Supreme Court finds that there was such breach, it can cancel the judgment in full or part and return the case to a new review in merits by the first instance or appellate instance court.
Applicable Law
The parties of the franchise agreement can agree on a choice of law to apply to their contractual relationship. In order to avoid disputes on applicable law, the governing law shall be determined in the franchise agreement. If the agreement on applicable law does not exist, then it is determined according to the provisions of the Latvian Civil law. The Civil law states that in relation to the contractual obligations. The applicable law is the law of the country where the obligations have to be performed. If this country cannot be determined, then the applicable law is the law of the country where the agreement was concluded.
COVID-19
No specific legislative provisions have been adopted in relation to the franchise agreements. There are only general provisions adopted influencing all types of contractual relationships. Until 1 September 2021, there is a temporary moratorium for compulsory collection of different types of payments – the debtor shall be given 60 days time for voluntary payment before commencement of the compulsory collection process. Also, the application for commencement of the debtor’s insolvency process cannot be submitted to the court earlier than 1 September 2021.
By Ivita Samlaja, Managing Associate, ZAB Deloitte Legal