In recent days, the Legislative Assembly passed a law to regulate franchises in Costa Rica. Much of the content of this new law raises more questions and concerns than it offers solutions to a contractual model that has long been established in commercial practice.
The new Franchise Law includes a provision on unfair terms. However, the introductory wording might lead one to believe that the law contains a broad list of prohibited conduct, similar to that of Article 1023 of the Civil Code. This is not the case. In reality, the prohibition is limited to a single scenario: non-compete clauses exceeding five years. The law, however, does not specify when that period should begin, although a reasonable interpretation would be that it runs from the termination of the franchise relationship. This omission also raises another question: whether the legislature intends for this five-year period to serve as a benchmark for other commercial relationships that include non-compete clauses, such as the sale of a business. It is worth noting, however, that a significant portion of the Competition Promotion Commission’s precedents has set this standard at two to three years.
On the other hand, the law establishes a franchise registry under the Ministry of Industry, Economy, and Commerce, which it characterizes as voluntary, informational, evidentiary, and free of charge (free for the user, since its creation, administration, and maintenance will indeed incur some cost for the MEIC). It is not difficult to foresee that its voluntary nature will mean that, as a business strategy, registration in this voluntary registry will be rarely used or recommended. It serves little practical purpose. The same fate befell the voluntary procedure for the control of business concentrations established in the Law on the Promotion of Competition prior to April 5, 2013. There was not a single voluntary application, at least to the best of our knowledge.
The new Franchise Law also raises doubts regarding the regulation of the parties’ liability toward third parties, by stating that such liability shall be individual and independent with respect to their commercial relationships. This wording raises an important question: whether the legislature’s intention was to exclude, for example, cases of joint and several liability and strict liability for damages provided for in consumer protection regulations. All of this, moreover, is without prejudice to the ongoing debate regarding the public-administrative nature of consumer relations.
The law establishes a regime for the disclosure of information during the pre-contractual stage, similar to that provided for in some model laws and in existing international regulations on the matter. However, the Costa Rican law does not declare itself to be in the public interest, which suggests that many international franchises will continue to be governed by foreign legislation and submit their disputes to dispute resolution forums outside the country.
In practice, this could limit the scope of the pre-contractual liability provided for in the law, especially in cases where the franchise is promoted among local SMEs, which are not typically the most frequent users of this business collaboration model. Furthermore, the obligation to disclose information at this stage will increase transaction costs. Although the purpose of the regulation appears to be to correct the information asymmetry between the future parties to the franchise agreement, it could also alter the balance of due diligence obligations that each party normally assumes in a commercial contract.
Finally, the new Franchise Law lists certain considerations associated with this contractual model. However, in practice, many payment schemes used in franchise agreements go beyond the categories expressly provided for in the law. These include, for example, payments for software licenses or commissions derived from global master agreements in multi-party markets.
In this regard, a reasonable interpretation is that the law does not prohibit such payments, but simply does not expressly regulate them.
On the other hand, one of the positive effects—though likely not intended by the legislature—of the new Franchise Law is that it appears to definitively resolve a dispute that had arisen in the courts regarding the inapplicability of the Law on the Protection of Representatives of Foreign Firms to franchise contracts. With the entry into force of this new regulation, everything indicates that this controversy has been resolved, as it excludes the franchisee from the benefits that are granted to representatives and distributors of foreign companies.
Thus, Costa Rica now has a Franchise Law. Only time will tell what its real impact on the market will be and whether it effectively fulfills the objectives it seeks to achieve.