South Korea Enacts Franchise Legislation

The recently enacted South Korean Act on Fairness in Franchise Transactions (AFFT) went into effect on Nov. 1, 2002. According to the Korean government, the purpose of the AFFT is to establish 'fairness in franchise transactions and promote balanced and mutually complementary development on even terms between a franchisor and a franchisee for purposes of advancement of consumer welfare and a sound national economy.'

Apparently, the legislature felt that this type of legislation was needed in Korea because there was no law specifically directed at franchising despite its growing popularity there. 'This is a rationale that we have seen used to justify franchise regulation in other countries. Prior to the adoption of this act, the Korean government regulated franchise transactions through a regulation adopted by the Fair Trade Commission. The government believes that the AFFT will allow Korea to better control franchise transactions in that country.

It is important for both a franchisor seeking to break into the Korean market and an experienced franchisor who already has franchisees in Korea to carefully study the provisions of the AFFT because the requirements are stringent, and the sanctions for violations are significant. This is both a disclosure law and a relationship law. The key provisions are reviewed below.

Disclosure Document

Prior to entering into a franchise transaction in Korea, a franchisor will need to provide a disclosure document to the prospective franchisee. This disclosure document must contain much of the information that is required under U.S. law. The AFFT states that a Presidential Decree will be issued that will specify other items to be disclosed.

The disclosure document required under the AFFT must be updated within 90 days of the end of each fiscal year or within 90 days of any material change in the content of the document. If a franchisor makes a material omission in the disclosures or provides incorrect information, the franchisor will be required to return any franchise fee within 1 month of the date that a franchisee requests its return.

Franchise Agreement

A franchisor that is entering into transactions in Korea must also remember to deliver the franchise agreement to the prospective franchisee prior to receipt of the initial franchise fee. This agreement must include, among other things: information about the grant of a right to use trademarks; operational aspects of the franchise; the establishment of a 'business region'; the term of the agreement and information concerning assignment; and grounds for termination of the agreement. The Fair Trade Commission in Korea has reserved the right to 'encourage' the drafting and use of a standard form of franchise agreement for some types of franchise transactions if it determines that a standard agreement is necessary to prevent the use of agreements with unfair terms and conditions.

Termination

Once a franchisor decides to terminate a franchise relationship based on legitimate criteria provided in the franchise agreement, there are still some strict rules that must be followed. The franchisor must first send 'three or more' written notices to the franchisee, and each must request that any violation of the franchise agreement be corrected. The franchisee must be given a minimum grace period of 2 months to correct the violation prior to terminating the franchise relationship. Any termination of a franchise without following these steps will be considered invalid. In addition, once a franchise relationship is properly terminated, a franchisor must keep a copy of the franchise agreement for at least three years after the date of termination.

Duties under the AFFT

The new legislation imposes certain duties on a franchisor. Among the duties, the franchisor must 'formulate a business plan for successful franchises' and provide products and services to franchisees at reasonable prices. The franchisor may not establish other franchisees or franchisor-owned outlets in the franchisee's 'business region.'

Franchisees are required to maintain the reputation and uniformity of the franchise network and to 'consult with the franchisor' prior to altering their activities, products or services. The AFFT also forbids franchisees from competing with the franchisor's 'line of business' during the term of the franchise agreement.

Prohibitions

The new legislation prohibits actions that may 'obstruct fair trade in the franchise business.' These include the following:

• 
  
• Unfairly restricting the provision of products, services, or support to a franchisee.
  
• Unfairly restricting the parties with whom a franchisee may do business, the franchisee's trade area, or business activities or the prices of products or services sold by a franchisee.
  
• 'Placing a franchisee at an unfair disadvantage using its position as franchisor.'
  
• Any other activity which 'may cause an apprehension of obstructing fair trade, such as unfairly inducing a franchisee of a competing franchisor to do business with the franchisor.'
  
  

The Presidential Decree to be issued pursuant to the AFFT will elaborate on what will be considered unfair practices and will interpret certain other provisions of the Act. Sanctions for violating the Act include refund of franchise fees, fines, and imprisonment.

Disputes

The AFFT also creates an entity to resolve disputes between franchise parties without taking legal action, known as the Franchise Transaction Dispute Conciliation Conference Committee. The franchisor, franchisee, or the Fair Trade Commission may request that the committee hear a dispute. The committee may advise the parties to resolve the dispute themselves or may present a conciliation proposal to the parties, but it is important to note that the decisions of the committee are meant to guide the parties and are not binding. Either the franchisor or the franchisee may opt out of the conciliation procedure.

Conclusion

In conclusion, it remains to be seen how the AFFT will be interpreted and applied, and one can hope that the Presidential Decree will bring more clarity. But one thing is clear: The trend toward franchise legislation in Asia and elsewhere is continuing.

Michael G. Brennan is a partner with Piper Rudnick LLP, in Washington, DC. Tae Hee Lee, senior partner of Lee & Ko, a law firm in Seoul, South Korea, contributed to this article.

The recently enacted South Korean Act on Fairness in Franchise Transactions (AFFT) went into effect on Nov. 1, 2002. According to the Korean government, the purpose of the AFFT is to establish 'fairness in franchise transactions and promote balanced and mutually complementary development on even terms between a franchisor and a franchisee for purposes of advancement of consumer welfare and a sound national economy.'

Apparently, the legislature felt that this type of legislation was needed in Korea because there was no law specifically directed at franchising despite its growing popularity there. 'This is a rationale that we have seen used to justify franchise regulation in other countries. Prior to the adoption of this act, the Korean government regulated franchise transactions through a regulation adopted by the Fair Trade Commission. The government believes that the AFFT will allow Korea to better control franchise transactions in that country.

It is important for both a franchisor seeking to break into the Korean market and an experienced franchisor who already has franchisees in Korea to carefully study the provisions of the AFFT because the requirements are stringent, and the sanctions for violations are significant. This is both a disclosure law and a relationship law. The key provisions are reviewed below.

Disclosure Document

Prior to entering into a franchise transaction in Korea, a franchisor will need to provide a disclosure document to the prospective franchisee. This disclosure document must contain much of the information that is required under U.S. law. The AFFT states that a Presidential Decree will be issued that will specify other items to be disclosed.

The disclosure document required under the AFFT must be updated within 90 days of the end of each fiscal year or within 90 days of any material change in the content of the document. If a franchisor makes a material omission in the disclosures or provides incorrect information, the franchisor will be required to return any franchise fee within 1 month of the date that a franchisee requests its return.

Franchise Agreement

A franchisor that is entering into transactions in Korea must also remember to deliver the franchise agreement to the prospective franchisee prior to receipt of the initial franchise fee. This agreement must include, among other things: information about the grant of a right to use trademarks; operational aspects of the franchise; the establishment of a 'business region'; the term of the agreement and information concerning assignment; and grounds for termination of the agreement. The Fair Trade Commission in Korea has reserved the right to 'encourage' the drafting and use of a standard form of franchise agreement for some types of franchise transactions if it determines that a standard agreement is necessary to prevent the use of agreements with unfair terms and conditions.

Termination

Once a franchisor decides to terminate a franchise relationship based on legitimate criteria provided in the franchise agreement, there are still some strict rules that must be followed. The franchisor must first send 'three or more' written notices to the franchisee, and each must request that any violation of the franchise agreement be corrected. The franchisee must be given a minimum grace period of 2 months to correct the violation prior to terminating the franchise relationship. Any termination of a franchise without following these steps will be considered invalid. In addition, once a franchise relationship is properly terminated, a franchisor must keep a copy of the franchise agreement for at least three years after the date of termination.

Duties under the AFFT

The new legislation imposes certain duties on a franchisor. Among the duties, the franchisor must 'formulate a business plan for successful franchises' and provide products and services to franchisees at reasonable prices. The franchisor may not establish other franchisees or franchisor-owned outlets in the franchisee's 'business region.'

Franchisees are required to maintain the reputation and uniformity of the franchise network and to 'consult with the franchisor' prior to altering their activities, products or services. The AFFT also forbids franchisees from competing with the franchisor's 'line of business' during the term of the franchise agreement.

Prohibitions

The new legislation prohibits actions that may 'obstruct fair trade in the franchise business.' These include the following:

• 
  
• Unfairly restricting the provision of products, services, or support to a franchisee.
  
• Unfairly restricting the parties with whom a franchisee may do business, the franchisee's trade area, or business activities or the prices of products or services sold by a franchisee.
  
• 'Placing a franchisee at an unfair disadvantage using its position as franchisor.'
  
• Any other activity which 'may cause an apprehension of obstructing fair trade, such as unfairly inducing a franchisee of a competing franchisor to do business with the franchisor.'
  
  

The Presidential Decree to be issued pursuant to the AFFT will elaborate on what will be considered unfair practices and will interpret certain other provisions of the Act. Sanctions for violating the Act include refund of franchise fees, fines, and imprisonment.

Disputes

The AFFT also creates an entity to resolve disputes between franchise parties without taking legal action, known as the Franchise Transaction Dispute Conciliation Conference Committee. The franchisor, franchisee, or the Fair Trade Commission may request that the committee hear a dispute. The committee may advise the parties to resolve the dispute themselves or may present a conciliation proposal to the parties, but it is important to note that the decisions of the committee are meant to guide the parties and are not binding. Either the franchisor or the franchisee may opt out of the conciliation procedure.

Conclusion

In conclusion, it remains to be seen how the AFFT will be interpreted and applied, and one can hope that the Presidential Decree will bring more clarity. But one thing is clear: The trend toward franchise legislation in Asia and elsewhere is continuing.

Michael G. Brennan is a partner with Piper Rudnick LLP, in Washington, DC. Tae Hee Lee, senior partner of Lee & Ko, a law firm in Seoul, South Korea, contributed to this article.