Non-compete clauses in franchise agreements: set the right limits

When you turn your successful business into a franchise network, franchisees gain access to the know-how you have developed. A non-compete clause can protect this relationship, but an overly broad restriction makes recruitment harder and may be unenforceable. Before signing your first agreement, decide what genuinely needs protecting, against which activities and for how long. Good preparation starts with business needs, not by copying a contract template.

1. Define the interest you need to protect before drafting the restriction

Start by describing, in your own words, the harm the non-compete clause should prevent. Is there a risk that a franchisee will run a competing business at the same time and use the network’s training in that business? Or is the concern that specific know-how shared during the relationship will be used in a competing business as soon as the agreement ends?

Simply wanting to avoid competition is not a sufficient basis for designing the clause. Identify the specific know-how that needs protection: for example, a documented service process, a tested production method or other know-how essential to the concept. Distinguish this from the franchisee’s existing professional skills and commonly known working practices. Not everything written in an operations manual automatically qualifies as specialist know-how worthy of protection.

Prepare three lists:

• The interest to be protected: what does the network make available to the franchisee, and why is it valuable?
• The actual risk: how could competing activities, during or after the agreement, harm that interest?
• A less restrictive alternative: would confidentiality obligations, limits on access or use, or the return of materials be enough?

If you cannot describe the risk without referring generally to competitors, the justification for the clause still needs work. In a franchise network, protection should support the relationship, not compensate for shortcomings in the concept or the support provided.

2. Understand the Finnish regulatory framework

Finland has no specific franchise legislation and no separate requirement to register franchise agreements. Nor is there a statutory franchise disclosure document in a prescribed format. This does not, however, mean that non-compete restrictions can be agreed without limits or that significant restrictions can be left unclear during negotiations.

Section 36 of the Finnish Contracts Act allows an unreasonable contract term to be adjusted or set aside. Section 38 concerns undertakings that restrict competition: an undertaking is not binding to the extent that it unreasonably restricts the freedom of action of the party giving it. The assessment depends on the substance of the clause and the circumstances, not merely on whether the franchisee has signed the agreement.

The Finnish Competition Act and EU competition rules may also apply. The current EU block exemption regulation for vertical agreements is Commission Regulation (EU) 2022/720. The protection it provides depends on meeting its conditions. Non-compete obligations during the agreement and those applying after it ends are assessed differently. Falling outside the block exemption does not, in itself, make a clause unlawful, but it may require an individual competition law assessment.

The Finnish Unfair Business Practices Act also matters during contract negotiations: information about the network’s operations must not be false or misleading. The Finnish Franchising Association’s Code of Ethics binds its members, but it is neither legislation nor regulatory approval of any individual clause. Have the non-compete clause reviewed by a lawyer familiar with franchise agreements and competition law.

3. Separate restrictions during the agreement from those applying afterwards

During the agreement, the focus is on whether the franchisee can simultaneously engage in a competing business. Once the agreement ends, the question is more restrictive: how may the former franchisee continue earning a living through business? These situations should not be combined into a single blanket prohibition.

Prepare a separate description for each, answering five questions:

1. Which products or services count as competing?
2. Which activities are restricted: running a business, managing one, or also owning one?
3. Who is bound by the clause, and on what contractual basis?
4. Which geographical area or premises does the restriction cover?
5. When does the restriction begin and end?

Avoid wording that extends the restriction to all the network’s current and future business activities. This makes it difficult for the franchisee to assess the risk. Passive investment should also be distinguished from actively managing a competitor.

A post-term restriction should not be justified simply because other networks use one. For the EU block exemption to apply to such a restriction, the conditions include a maximum duration of one year, a limitation to the premises and land from which the franchisee previously operated, and necessity for protecting the know-how transferred. A one-year time limit alone therefore does not automatically make the clause acceptable.

Consider the prospective franchisee’s existing business activities too. If they already own another business, clarify any potential conflict before signing. Record any necessary exceptions precisely rather than relying on a verbal promise.

4. Test the clause against everyday situations before signing

Review the draft agreement using hypothetical but realistic scenarios. Can the franchisee hold a small stake in another business? After the agreement ends, can they continue operating from the same premises with a clearly different service? What happens if the network adds a service that the franchisee’s other business has already been offering for years?

If the answers depend entirely on the network management’s future discretion, the scope is probably too vague. Establish a written procedure for granting any exceptions: who decides, what information is required and how the decision is documented. Do not use exceptions as a way to work around an otherwise overly broad clause.

Explain the non-compete clause separately to the prospective franchisee. Allow time for independent legal advice and record any agreed changes. At the same time, make sure that any contractual penalty, other consequences and the circumstances in which they apply are clear and reasonable. A signature does not remedy an unclear or unlawful clause.

Practical summary: first describe the know-how to be protected and the actual competitive risk. Only then define the activities, people, location and duration covered by the restriction. Have the arrangements reviewed before starting recruitment, so that protection for your franchise network rests on a clear and well-founded agreement.