Effectiveness of jurisdiction agreements with business founders

Introduction

By means of a jurisdiction agreement, the location, subject matter and/or international jurisdiction of a court can be contractually determined in the event of a dispute between the parties. Franchise agreements regularly provide for jurisdiction agreements in favour of the franchisor's registered office. An example of common wording in franchise agreements (in Germany) is:

“The parties agree that the Regional Court of the location of the Franchisor’s registered office shall have exclusive jurisdiction for any lawsuit related to or arising under this Franchise Agreement.”

The advantage of such jurisdiction agreement is that any action against the franchisor must always be brought at the location of its registered office, while the franchisor can bring actions against the franchisee at the location of its registered office. It thus avoids unnecessary travel expenses and travel time for litigation. However, for the franchisor to enjoy the benefits of the jurisdiction agreement, the agreement must be valid. Otherwise the franchisor runs the risk of wasting time filing its action first with a court that is not competent and applying to that court for it to refer the action to the competent court, in order to avoid the action being dismissed solely because the court first seised lacks jurisdiction.

In purely German cases, the effectiveness of the agreement on the place of jurisdiction is generally determined by German procedural law. According to that, agreements on the place of jurisdiction are permissible “should the parties to the agreement be merchants, legal entities under public law, or public special funds” (Sec. 38 German Code of Civil Procedure). If the franchisor and the franchisee conclude the franchise agreement including the agreement on the place of jurisdiction as a legal entity, there are no doubts about the effectiveness of the agreement on the place of jurisdiction in a franchise agreement, since the legal entities that typically participate in commercial transactions are merchants by law (see, for example, for a limited company (GmbH), Sec. 13(3) German Limited Companies Act in conjunction with Sec. 6 German Commercial Code).

To date, it was also generally acknowledged that jurisdiction agreements can be effectively agreed with a franchisee who is a founder of its business. Franchisees who enter into the franchise agreement as a natural person, and whose franchise business is already set up as a fully qualified merchant business at the time the franchise agreement is signed, were already considered merchants at the time of signing. As such, they could effectively enter into a jurisdiction agreement with the franchisor according to the wording of Sec. 38 German Code of Civil Procedure.

Decision by Berlin Regional Court

Berlin Regional Court now argued to the contrary in its judgment dated 31 May 2021, case no. 10 O 107/19. According to the argumentation of the Court, jurisdiction agreements with so-called business founders in franchise agreements are invalid. In this respect, the Court pleads for a different interpretation of the merchant status in procedural law than in the context of commercial law. The Court states the following reasons:

• The wording of the procedural provision (Sec. 38 German Code of Civil Procedure) is (according to the Court) based on the assumption that the parties are merchants when signing the franchise agreement and do not only become merchants by entering into the franchise agreement;
  
  
• The meaning and purpose of the statutory provisions is to provide additional protection to economically weak and commercially inexperienced people from the disadvantageous consequences of a jurisdiction agreement imposed on them by the economically stronger business partner, even beyond the exclusive jurisdiction existing for the protection of consumers.

Comments

In its judgment, Berlin Regional Court disregards the prevailing legal opinion and contradicts the judgments of the Munich Regional Court I (judgment dated 25/2/2016 – 5 O 16652/15, ZVertriebsR 2017, 310, 311), Schleswig-Holstein Higher Regional Court (judgment dated 12/11/2009 – 16 U 30/09, BeckRS 2010, 9731) and Düsseldorf Higher Regional Court (judgment dated 30/1/1998 – 16 U 182/96, NJW 1998, 2978, 2980 et seq.).

According to the prevailing view in case law and literature, in the context of the agreement on the place of jurisdiction (Sec. 38 German Code of Civil Procedure) a party becomes a merchant in the moment the owner of a future commercial enterprise begins with externally apparent preparatory acts to set up the commercial enterprise.

Contrary to the opinion of Berlin Regional Court, nothing to the contrary follows from the wording of the procedural provision (Sec. 38 German Code of Civil Procedure). This provision refers to “merchants” (Kaufleute). As this term is not defined in procedural law, the definition of a “merchant” in German commercial law must be applied (Sec. 1 German Commercial Code). Both terms are to be interpreted in the same way. Sec. 1 German Commercial Code states: “A merchant within the meaning of this Code is a person who carries on a commercial business.”

In the field of German commercial law, the Federal Court of Justice (Bundesgerichtshof) ruled in several cases that preparatory acts are sufficient to establish the capacity of being a merchant (FCJ, judgment dated 17/6/1953 – II ZR 205/52, NJW 1953, 1217, 1218, BGH, judgment of 26/4/2004 – II ZR 120/02, ZIP 2004, 1208). In its judgment of 17/6/1953 the Federal Court of Justice found that “the preparatory activity is already part of the commercial operation”, especially “if the enterprise is designed from the outset to be a registered commercial operation and will soon develop into a large enterprise”.

The phrase “carrying on a commercial business” is thus given a broad meaning. After all, a commercial business does not start simply upon the start of business operations, but as early as when preparing for the business by making external transactions.

Accordingly, in the prevailing opinion, it is sufficient for a jurisdiction agreement among merchants if the business to be operated after the conclusion of the jurisdiction agreement was already set up for a fully commercial business operation at the time of the signing of the jurisdiction agreement or franchise agreement.

Contrary to the opinion of Berlin Regional Court, nothing else follows from the meaning and purpose of the procedural provision. In 1974, when amending procedural law, the legislator did not at all deal with the question whether it is sufficient for the status of a merchant in procedural law if the enterprise to be operated after the conclusion of the agreement on the place of jurisdiction was already designed for a fully commercial business operation at the time of the signing of the franchise agreement.. The explanatory memorandum simply states that “Forum selection clauses may only be agreed among fully qualified merchants, legal persons under public law and special assets under public law.” (BT-Drucksache 7/268 p. 6).

The legislator sets out as grounds that this group of people does not need protection from ill-considered clauses regarding forum selection. By contrast, all minor merchants (Minderkaufleute) are to be protected from agreements on the place of jurisdiction (Bundestag Durcksache 7/268 p. 6).

The idea behind this is that those who wish to make greater commercial efforts do not deserve special protection, as they will check more carefully what they are getting into (which is also the idea behind the cash value threshold on withdrawal laid down in Sec. 513 German Civil Code, above which a person who a founder of a business no longer has a right of withdrawal).

Correctly, persons who are a founder of a business and whose enterprises are already set up as a fully qualified merchant business at the time the jurisdiction agreement is signed are to be considered equivalent to fully qualified merchants, since such entrepreneurs do not require protection. By founding their enterprise, the entrepreneurs acknowledge that they are now subject to the special law on merchants and wish to take advantages of this themselves. The privileges of a merchant include the option of entering into arbitration agreements as well as the right to agree on the place of jurisdiction.

It also makes little sense that franchisees whose franchise was already set up as a fully qualified merchant business when the franchise agreement was entered into were not allowed to sign a jurisdiction agreement when the franchise agreement was entered into, but merely one second after entering into the franchise agreement, they could have effectively agreed on one. This line of argumentation is tantamount to insisting on formalities, but does not help those seeking justice. It must also be taken into account that the agreement on the place of jurisdiction only applies to cases in which the defendant (the franchisee) is already definitely considered a merchant – in other words, to all disputes arising from the franchise agreement and due to supplies and services arising from the franchise agreements. However, such disputes only arise when a franchisee is obviously and indisputably a fully qualified merchant, even in the view of Berlin Regional Court. Once the franchise agreement is signed, the franchisee counts as a merchant and is therefore also to be treated as one in any disputes arising from the franchise agreement.

Conclusion

Correctly, agreements on the place of jurisdiction can also be effectively concluded with franchisees who are founders of a business. The counter-arguments put forward by Berlin Regional Court are not convincing and do not align with practice, either. To date, due to the correctly prevailing view in the case law and the literature, almost every franchise agreement provides for a jurisdiction agreement in favour  of the franchisor’s registered office, even if the franchisee is only a founder of a business when the franchise agreement or jurisdiction agreement is signed. It remains to be seen what position the Court of appeal will take. Until then, caution is advisable for jurisdiction agreements with franchisees that are founders of a business. In using jurisdiction agreements with founders of business, the franchisor runs the risk that the clause may be considered invalid by German courts.