Know-how Protection in Franchising

Will the draft EU Directive improve protection of confidential know-how and confidential business information?

1.             Background

The transfer of know-how usually constitutes a central if not even the most significant element of a franchising agreement. The franchise system lives from the passing on of know-how from the franchisor to the franchisee who employs the know-how in implementing the uniform franchise concept. The know-how of the franchisor is usually passed-on to the franchisee particularly in the form of a franchise handbook or in training sessions.

The term know-how is usually thereby widely understood as the entirety of non-patented, practical knowledge of the franchisor of a certain commercial value because the knowledge is secret, significant and specific and based on the experience and testing of the franchisor. The term know-how in franchise law covers therefore not only the technical, but also and above all the business know-how for the operation of franchises in accordance with the prescribed franchise concept.

The presence of special know-how, as well as the maintenance of the reputation and the uniformity of the franchise system, is a condition and basis for certain cartel law privileges of franchise agreements such as for example the long term prohibition on competition for five years.

2.             Protection mechanisms so far

For the protection of the know-how provided, the franchisor can impose on the franchisee comprehensive contractual confidentiality obligations – even after the ending of the franchise agreement. In addition, the prohibition on post-contractual use of the know-how follows from Sec. 90 Commercial Code which can usually be analogously applied to franchise agreements. Analogously to Sec. 90 Commercial Code, the franchisee may not exploit or pass on to others business and operational secrets entrusted to him or becoming known to him as such by his work as franchisee even after the ending of the agreement if that would conflict according to the overall circumstances with the professional understanding of a proper business man. The confidentiality obligation does not however apply if the know-how disclosed is no longer secret because it has become generally known or the know-how of the franchisor is easily accessible.

If the franchisee breaches the confidentiality obligation, a claim of the franchisor for damages can arise under Sec. 280 ss. 1 Civil Code. The franchise agreement often also includes a contractual penalty undertaking of the franchisee for the event of breach of the confidentiality obligation. Breach of competition law may also arise associated with the consequence of criminal betrayal of secrets (Sec. 3, 17 UWG). Finally, the franchisor may have a claim for damages in tort in any particular case under Sec. 823 ss. 1 Civil Code because of intervention in the established and exercised business of the franchisor or under Sec. 823 ss. 2 Civil Code together with Sec. 17 UWG. In addition, the breach of the confidentiality obligation can constitute good cause for termination of the franchise agreement without notice.

Although thereby a number of protective mechanisms are provided, the protection of the know-how is often difficult in practice. Firstly, the extent and the limits of the franchisor’s know-how which is protected are often not clearly defined. Secondly, breaches of the confidentiality obligation in most cases against the franchisee are very difficult to prove. Particularly cases in which a franchisee after the ending of the franchise agreement continues to operate a business according to a similar concept (which can be prohibited according to the provisions of cartel law for at most one year, subject to payment of compensation) and in the course thereof passes on know-how acquired from the franchisor to third parties.

3.             Draft EU directive on the protection of confidential know-how and confidential business information

Against this background the question arises of whether on the basis of the drafts for a know-how directive of the EU, the franchisors may hope that the know-how protection in the future can be more effectively structured. The EU Commission submitted, in the course of the “innovation union” initiative, a draft directive on the protection of confidential know-how and confidential business information which was supplemented by the Council of Ministers by a compromise proposal. The core objectives are the creation of a EU-wide uniform level of protection for know-how and the creation of procedural instruments which ensure effective protection of know-how in case of disputes.

According to the draft directive definition, information which is (i) secret, (ii) of commercial value and (iii) has been subject to reasonable steps to keep it secret constitutes know-how eligible for protection. In particular, increased requirements on know-how protection are likely to arise from the requirement of reasonable steps to keep it secret. Here not only the subjective intention of the franchisor to maintain secrecy, but the objective compliance with the reasonable measures to maintain secrecy will be decisive.

In this connection, it will have to be clarified judicially what measures must concretely be taken for the maintenance of secrecy. The circumstances of the particular case will be decisive for the question of whether a measure can be regarded as reasonable to maintain secrecy. A look at other countries, for example the USA and Japan, shows that for example a cost-benefit analysis of the relevant secrecy measures can be taken into consideration. In addition, it is anticipated that not only contractual protection measures, but also physical restrictions on access and precautions will have to be taken into account.

The franchisor should therefore be aware that an improvement of the protection of know-how is in prospect only for such elements of the licensed know-how which corresponds to the know-how definition of the draft directive. The franchisor will have to consider what know-how is particularly in need of protection (e. g. special recipes for certain contract products in system restaurants) and subject that know-how to particular secrecy measures. For this purpose, it should be contractually secured that not only the franchisees, but also their employees be made subject to confidentiality agreements with criminal penalties. In addition, real limitation on access should be established which can be graded in accordance with the level of protection of the know-how required. Coded transmission of particularly relevant know-how may be considered so that only particularly authorised access to know-how worthy of protection can be obtained. Both the retention and the duplication and deletion of relevant documents and other material should be clearly regulated. In addition, the measures of know-how protection should be expressly dealt with in the training of franchisees in order to create awareness thereof throughout the entire franchise system.

4.             Conclusion

A know-how directive on the basis of the commission’s draft can probably, due to the high requirements on know-how worthy of protection, only have positive effects for franchise systems if the franchisor identifies the know-how particularly requiring protection and checks whether this know-how is subject in the franchise system to reasonable measures to keep it secret. Such secrecy measures may have to be revised.