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Maximizing the Benefits of Non-Compete Clauses in Franchise Agreements for Gurgaon Businesses

Best and Experienced Lawyers online in India > Business Laws  > Maximizing the Benefits of Non-Compete Clauses in Franchise Agreements for Gurgaon Businesses

Maximizing the Benefits of Non-Compete Clauses in Franchise Agreements for Gurgaon Businesses

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In order to protect the uniqueness of the franchise, the franchisors ensure that their franchise agreement contains a non-compete clause that would restrict the franchisee from opening a similar business model as that of the franchisor during and/or after the term of the franchise agreement, depending upon the provisions of the agreement. These are also popularly known as ‘non-covenant clauses’ or ‘restrictive covenants’. These clauses can also include the conditions which prevent the franchisee from disclosing the trade secrets, confidential business information, and proprietary methods of the franchisor business. Although these clauses seem to restrict the right of an individual to practice or carry on any profession or occupation, but are important in maintaining the integrity of the franchise system as well.

Some key points which explain its purpose and importance are as follows:
• From the point of view of the franchisor, these non-compete clauses ensure that its franchise confidential information is secured, and even after the franchise agreement gets terminated, its information will be safe. Once the agreement is over, the franchisee will not be allowed to use the franchisor’s name, logo, recipes, or other vital information.
• From the point of view of the franchisee, the non-compete clauses give them a sense of satisfaction that they only have the franchise brand value, which would attract the customers in comparison to any local business. Moreover, these clauses prevent the market from getting saturated by ensuring that only a limited number of franchises are opened in a particular area so that every franchisee can get adequate customer attention and earn a decent profit.
• Moreover, a huge amount of money, time and other resources are invested to support, grow and train the franchisees, so these non-compete clauses ensure that all these investments do not go in vain, and their competitors also do not take any benefit from this investment.

A challenge which is often faced with these non-compete clauses is that their validity and enforcement vary by jurisdiction. On one hand, Article 19(1)(g) of the Indian Constitution provides a fundamental right to practice any profession or business to every citizen, these non-compete clauses on the other hand, restricts the right of individuals to engage in certain practices during and after the franchise agreement is over. The latter argument is to some extent supported by Section 27 of the Indian Contract Act, 1872, which says that if any agreement restrains an individual from exercising any lawful profession or business, then such agreement shall be declared void. However, with time, the courts started realizing the need and importance of these clauses and decided that unless the con-compete clauses are not excessively harsh or one-sided, they can be enforced and will be considered valid as well. Niranjan Shankar Golikari v. The Century Spinning and Mfg. Co. Ltd. (1967) is a landmark case in this aspect, which held that these non-compete clauses will not be regarded as restraints of trade and a limited injunction can be granted so as to protect the interests of the employer or franchisor.

Certain other aspects which govern the enforceability of the non-compete clauses under a franchise agreement are as follows:
• The non-compete clauses during the term of the franchise agreement are generally valid and enforceable; however, the post-term restrictions are challenging to enforce, and thus, the franchisor usually has to come forward to prove how and why the post-term non-compete clauses are necessary.
• The enforceability of these non-compete clauses depends upon the duration and geographic location in which the restriction will be imposed. Usually, a duration of 6 months to 1 year of restriction is considered valid, and any duration above this needs to be proven by showing reasons.
• The agreement as a whole needs to be considered to check whether the clause imposing restrictions is legitimately protecting the interests of the franchisor or is just to harass the other party to the agreement.
Certain points to be kept in mind while drafting non-compete clauses are:
• Clearly define the terms and conditions in the agreement which are to be followed when operating a franchise.
• Define what the business of their franchise is and what constitutes a competing business for them.
• Mention the restrictions clearly.
• If the restriction is with regard to the duration of work, mention the limit of duration, and that must be of a reasonable period.
• If the restriction is with regard to geographical area, that must also not be an overly broad one.
• Mention specifically what constitutes confidential information which cannot be shared or utilized after the cessation of the franchise agreement.
• Mention the rewards in the form of some monetary compensation or any other benefit which would be provided in exchange for accepting the conditions of the non-compete clause.
• Mention the penalties in case of a violation or breach of the clause.

Although there is no specific format for drafting a non-compete contract or agreement, but these are certain points which must be present in such agreements to ensure proper enforcement of those clauses.
A plus point regarding these non-compete clauses is that earlier where these clauses were considered a restriction or violation of an individual’s right to work or change profession, now the scenario is changing, and the courts have started to understand their importance for the franchisors as well. A few case studies where non-compete clauses played a crucial role in protecting the interests of the franchisor are as follows:
• M/S Gujarat Bottling Co. Ltd. & Ors. v. Coca-Cola Co. & Ors. (1995) is the case in which the petitioner was restricted from manufacturing, bottling or selling the products or beverages of any other brand for the time the agreement subsists between the petitioner and respondent (Coca-Cola Co.). The court also acknowledged the existence of this restriction and declared it valid on the grounds that such non-compete clauses are necessary to maintain the balance of convenience and prevent potential harm to the franchisor’s interests. Also, promotion of the trade is a relevant factor in enforcing such clauses, unless they do not extend beyond a reasonable duration.
• Niranjan Shankar Golikari v. The Century Spinning and Mfg. Co. Ltd. (1967) is a landmark case in which an injunction was granted by the court against the appellant, restricting him from seeking employment in a similar capacity with another company and from disclosing any confidential information of the prior (respondent) business. The court admits that the non-compete clause was not against the public policy and was necessary to protect the interests of the respondent. And thus, by joining the rival company, the appellant has committed a breach of this clause and the terms of the agreement.

Through these case studies, the legal framework concerning non-compete clauses is highlighted, shedding light upon the fundamental concepts like reasonableness, safeguarding legitimate business interests, and the vital need for precise limitations.
Non-compete clauses, thus, can be considered to play a crucial role in maintaining the integrity of the franchise system by protecting the franchisor’s confidential information, trade secrets, know how, procedures and methods, and other insider information. These are all the pillars of a franchise system, and thus no negligence can be afforded while dealing with them. Thus, whenever any franchise agreement is made, the non-compete clause is to be properly drafted, ensuring it is neither too stringent nor too lenient.
Authored by: Adv. Anant Sharma & Sahil Arora

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