In Civil-Law Jurisdictions, Risk of Liability Begins with Negotiation

Vol. 17 No. 1

By

Gilles Menguy, Avocat and Solicitor

Ted P. Pearce, Nexsen Pruet, PLLC

Franchise systems that rely on international master or development agreements to export their business concepts must expect to negotiate terms in almost every facet of the relationship, including territory, development schedule, royalty splits, choice of law, venue, and means of dispute resolution. What they may not expect, however, is that when they negotiate with parties in countries grounded in the civil law, they may be charged with a duty of good faith not only in the final contract, but in the contract negotiations themselves.

Consider this scenario: A franchisor from a country relying on the common law is engaged in negotiations with a prospective master franchisee from a county with a civil law system. After significant discussions fail to produce a definitive master franchise agreement, the franchisor terminates the negotiations, suddenly and without explanation. The franchisor may believe it has no obligations to the prospective master franchisee — and under a common law system, it may be correct. But if a franchisor finds itself in a civil law jurisdiction, it may face a claim in contract or tort.

In the common law tradition, parties can negotiate in relative freedom. The doctrine of caveat emptor governs. Few, if any, disclosures are required. The buyer is expected to have conducted sufficient due diligence in the seller and the business concept before consummating a contract. Unless there is a definitive written agreement, parties are free to negotiate and back out of negotiations with little fear of risk of liability. See E. Allan Farnsworth, Pre-contractual Liability and Preliminary Agreements: Fair Dealing and Failed Negotiations, 87 Colum L. Rev. 217, 221 (1987). Under this “aleatory” view of contract negotiations, a party that enters into negotiations in the hope of benefit must also bear the risk of loss if the negotiations fall through. Id. Even under Sections 1-209 (19), 1-203, and 2-103(1)(b) of the Uniform Commercial Code (UCC) and Section 90 of the Restatement of Contracts Second, the covenant of good faith and fair dealing implied in contracts has not been found to apply to contract negotiations.

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