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Kuwait popular with foreign franchisors Retail, restaurant sectors dominate relationships

WHEN one takes a stroll through any of Kuwait’s popular malls, it is hard not to notice the myriad foreign brands jostling for attention. Most of these brands find their way into the Kuwait market through franchise agreements. In this interview, David Walker, a practitioner of corporate and commercial law in Kuwait for close to a decade, talks about the legal aspects of business franchises in the state. Ironically, there is no franchise law in Kuwait. Then how are franchise deals worked out, what are the rules that govern these deals, and how are they implemented? David Walker answers these basic questions and more.

Question: What are the key points that a local franchisee needs to bear in mind before entering into an agreement with a foreign franchiser?
Answer: Before entering into a franchise relationship with a foreign franchisor, a local franchisee should ensure that, from a contractual perspective, it is being granted sufficient rights by the franchisor to allow it to operate the franchise effectively. In particular, primary rights that a franchisee should be mindful of include the rights to use the relevant trademarks of the franchisor, the right to use the franchisor’s “system”, and any development rights that may have been agreed to allow the franchisee to expand operations beyond an initial outlet. Typically the franchisee seeks to obtain “exclusive” status for the relevant territory.

In addition, as there is no franchise law in Kuwait, Kuwait courts have in the past construed franchise type relationships to be consistent with contract agency relationships under Law No. 68 of 1980 (as amended) (the “Commercial Law”). Accordingly, and depending upon how the contract is drafted, the local franchisee should be aware that it may be entitled to fair compensation upon termination or expiration of the relationship with the franchisor in accordance with Articles 281 and 282 of the Commercial Law. In particular, where foreign arbitration is prescribed in the contract to resolve disputes, the Kuwait Courts may decline jurisdiction and therefore not apply the Commercial Law provisions. It is also noted that the Kuwait Courts, relying on Article 702 of the Kuwait Civil Code or Article 215 of the Companies Law, may decline to enforce an arbitration provision where the person signing the franchise agreement for the local franchisee (if a company) did not have specific authority to agree arbitration.

Also of relevance to the franchisee, in the event the foreign franchisor is considered by the Kuwait Department of Income Tax (“DIT”) to be subject to the payment of income tax in Kuwait, the franchisee will have a retention obligation in respect to all payments made by the franchisee to the franchisor in accordance with Law No. 2 of 2008 (as amended) (the “Tax Law”). The Tax Law expressly provides that (amongst other criteria) revenue derived by a foreign principal in Kuwait in respect to the grant of franchise rights and use of the foreign principal’s intellectual property (e.g. trademark(s) in Kuwait is subject to tax. A failure to retain such amounts may result in the local franchisee be jointly liable to the DIT for the full tax obligation of the foreign franchisor. Local franchisees should, therefore, be mindful of tax gross up provisions which may be included in a franchise agreement obligating a franchisee to make all payments to the franchisor in an amount that it otherwise would have paid to the franchisor had such 5% retention obligation not been applicable.


Q: Can you highlight some of the important changes that have come about in the franchisee-franchiser relationship following the new company’s law?
A: The implementation of Law No. 25 of 2012 (as amended) (the “Companies Law”) has not had a substantive impact on franchise relationships in Kuwait. The Companies Law primarily addresses corporate establishment and governance in Kuwait.
 

Q: In what ways is franchise different when compared to other deals like agency etc.?
A: As noted, there is no franchise law in Kuwait and Kuwait courts have in the past interpreted franchise relationships to be akin to contract agencies as contemplated in the Commercial Law. On that construction, there is often times no substantive legal difference between a franchise relationship and an agency relationship.
From an operational perspective, however, a franchise relationship will typically include involvement by the franchisor in areas such as requiring uniformity in operations to conform with international standards, including in respect to store presentation, product sales, training and compliance with the franchise system standards. The foreign franchisor will many times require the franchisee to abide by a manual, training obligations and to meet minimum operational targets and will retain audit rights to ensure compliance by the local franchisee.
On the other hand, a contract agency as contemplated under the Commercial Law involves a local party identifying and/or concluding contracts on behalf of the foreign principal against a fee. Often times an agency relationship will involve a local agent working to generate new business for the benefit of the foreign principal, with the foreign principal carrying out such business directly and remunerating the local agent for its services – either in the form of a fixed fee or a commission.
Also similar to a franchise relationship is a distributorship relationship. A distributorship relationship involves a local distributor purchasing the products of a foreign manufacturer and reselling the products in Kuwait for its own account. Depending on the level of control that the foreign manufacturer has over the local distribution operations and how the contractual relationship is structured, a distributorship relationship can be very similar to a franchise relationship.
 

Q: What are the limitations on a franchisee in terms of merchandise he sells, naming of the brand etc? For example, can the franchisee mix a local name with the international brand name? Are there any international rules governing these aspects of business relations?
A: The limitations on franchisees from an operational standpoint are generally outlined in the franchise agreement. In most cases this is a purely contractual matter between the parties. Franchisors are typically very specific about how the operations of the franchisee with respect to the franchise will be conducted. There are systems and manuals that have been developed by the franchisor and operational standards that franchisors expect will be adhered to by the franchisee. It is the franchisor’s system/manual which generates the uniformity that most franchisor’s seek when expanding their brand. Issues relating to, amongst others, what products may be sold, how the products are to be sold, which brands are to be used, the placement of the brands and what the store or restaurant must look like are all generally addressed in the franchisor’s system. In most cases, there is very little flexibility afforded the franchisee in respect to how the outlet will be operated.
 

Q: What are the arbitration mechanisms in a franchise deal when a dispute arises? What is the first step towards dispute resolution, and explain the various procedures involved when resolution gets complicated?
A: The dispute resolution mechanism between a franchisee and a franchisor is as may be agreed between the parties in the contract. Often times a foreign franchisor will seek to have disputes resolved by way of arbitration or courts in the franchisor’s home jurisdiction (or a jurisdiction near to the franchisor) for the sake of convenience and familiarity. Franchisees, as a compromise, often seek to have the arbitration occur in a neutral jurisdiction. Depending on whether courts or arbitration will be agreed will impact on the procedures and steps to be followed in resolving disputes.
An important consideration in agreeing to arbitration or courts as the dispute resolution mechanism will be the enforceability of any award that may be obtained. Generally speaking, as a consequence of the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards 1958 (to which numerous countries throughout the world are a signatory), arbitral awards are typically more readily enforced in other countries than a court judgment may be. From that standpoint, inclusion of arbitration provisions in agreements with foreign contracting parties may have its advantages. Noted above, care should be taken, however, to ensure that electing arbitration as the dispute resolution mechanism does not impact on any of the rights of the local franchisee under the contract or applicable law.
 

Q: Is there any prefixed profit sharing terms stipulated in the law? If yes, what are they, if no how are these agreements usually worked out in Kuwait?
A: There is not a prefixed profit sharing arrangement stipulated in the law; this is addressed in the contract. The typical arrangement between a foreign franchisor and a local franchisee will involve the payment of a series of fees from the franchisee to the franchisor, consistent with the extent of the franchise rights being awarded to the franchisee. These fees will in most cases involve the payment of a continuing monthly royalty from the franchisee to the franchisor based on the sales of the franchisee. In circumstances where the local franchisee has development rights for the franchise, other common fees include the payment of a one-time fee upon the granting of the development rights to the franchisee (typically paid on signing of the development agreement) and a one-time fee upon the opening of each outlet or restaurant that may be established by the franchisee).
 

Q: What are the common types of disputes that arise in a franchise deal in Kuwait?
A: Franchise disputes can, of course, vary. Some of the more common disputes that we see relate to compliance with development obligations by the franchisee, disputes as to how royalty payments are to be calculated by the franchisee, disputes over trademark rights, disputes over the operation of competing businesses by the franchisee and disputes relating to compliance with franchise system standards. The general desire of franchisors to require uniformity in the operations of their branded outlets throughout the region and beyond can sometimes lead to increased operational disputes with local franchisees.
For their part, franchisees often assert a lack of support from the franchisor.
 

Q: Can you think of any franchise-related disputes in Kuwait -without naming the parties- that you found very interesting or unusual?
A: No two disputes are ever the same. Although there may be similarities in some of the disputes that we see, there are always nuances that need to be addressed that can create unique legal arguments. The fact that there is no franchise law in Kuwait creates a situation where often times general civil and commercial legal principles will need to be applied to contractual relationships which may have been developed under more specific franchise legislation from other countries. This results in many circumstances where simply defining the relationship between the parties, and the accompanying rights and obligations that may arise under applicable laws, can be difficult. It is that lack of certainty regarding franchise relationships and the accompanying legal rights and obligations which makes each franchise related dispute unique.
In some cases a terminated franchisee will include in a legal action (i.e. against the franchisor) the new replacement franchisee asserting the replacement franchisee colluded with the franchisor to replace the terminated franchisee. If collusion is demonstrated, the new franchisee could be held jointly and severally liable with the franchisor for any damages arising under Articles 281/282 of the Commercial Law.
 

Q: From your experience, franchisers from which business segment (clothing, food etc) find Kuwait a very lucrative market, and why?
A: A majority of the franchise relationships we see established are in the retail and restaurant industries. Home furnishings, ready wear, watches, handbags and accessories are very common franchise opportunities. All types of restaurants, cafes and coffeeshops are also very popular. We believe there are many reasons why these franchise opportunities are arising. Kuwait is a growing economy with a diverse populous that has a wide range of interests and tastes. When considered together with the generally high disposable income of many residents, we believe foreign franchisors see Kuwait as an excellent opportunity to further develop their brands.

Q: Is it possible for a local businessman to be a franchisee for competing brands? Some big businesses in Kuwait undertake franchises of multiple brands from the same product segment. What are the legalities on such agreements? Does that create a healthy competition between brands?
A: Issues relating to the representation of competing brands are often times contemplated in the franchise agreement between the parties, with restrictions being placed on the local franchisee’s ability to represent competing brands. Absent the consent of the relevant franchisors in such a case, the local franchisee may risk breaching its agreement with the franchisor if it proceeds with a competing brand.
Mentioned above, Kuwait courts have in the past classified franchise relationships to be akin to contract agency relationships. In such circumstances, Article 273(2) of the Commercial Law may apply, which restricts the contracts agent from acting for competitive establishments. In this sense as well, if the franchisee is contemplating representing competing brands in Kuwait it would be well advised to only do so after having obtained the consent of both foreign franchisors.

biography

David Walker is a Partner at ASAR and has been with the firm since July 2005. David currently practices in the areas of corporate and commercial law, corporate structuring, government contracts, agency, distributorships and franchise. David received his JD from the University of Detroit Mercy Law School (2001) in Michigan, USA before going on to earn his LLM in International Business Law (2002) from University College London. David was admitted to the State Bar of Michigan in December 2001. David’s practice language is English.
 


By: David Walker

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