Lecture notes franchising PDF

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CHAPTER 5: FRANCHISE AGREEMENT A franchise agreement is a legally-binding contract between the parties to a franchise relationship. In order to take ownership of a franchise as the franchisee, you sign a franchise agreement.  A franchise agreement protects both sides. It protects you as the franch...

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CHAPTER 5: FRANCHISE AGREEMENT 



Document (FDD) and delivered a minimum of 14

franchisee, you sign a franchise agreement.

days before entering into a binding contract.

A franchise agreement protects both sides. It protects

brand. When buying a franchise, you will be making a large



This gives you time to review and discuss the agreement with an attorney.

2. Trademark and Intellectual Property 

A franchise agreement grants to the franchisee th

financial investment. A signed agreement gives you

right to use the franchisor name, trademarks, service

rights to help safeguard your investment in your

marks, logos, slogans, designs, and other branding

business.

indicia.

What is a Franchise Agreement?



A franchise agreement is the master legal document

to a franchise: franchisor and franchisee.

proprietary software systems. 

In legal terms a franchise agreement is a license

use something of value.

to use intellectual property without infringing. 3. Support and Training 

In the case of franchising agreements, this means: The franchisor licenses to the franchisee the right to

intellectual property, systems and brand.



The franchisee acquires the rights to open a business

The agreement will set forth the franchisor’s obligation to provide training and support services.



use the franchisor’s 

This contractual license is the foundation of the agreement. Without it, a franchisee would not be able

from the franchisor to the franchisee. A license simply means one party gives permission to another party to do something or

The franchisor will also grant the right to use othe intellectual property such as the operating manual and

that sets forth the rights and obligations of the two main parties



The copy must be attached to the Franchise Disclosure

order to take ownership of a franchise as the

you as the franchisee and also protects the franchisor



One of the required pieces of information in the Disclosure is a copy of the Franchise Agreement.

A franchise agreement is a legally-binding contract between the parties to a franchise relationship. In





This obligation is both prior to opening and during entire term of the franchise agreement.

4. Advertising 

The agreement should set forth the franchisor’

using the franchisor’s intellectual property, systems

obligation to support franchisees with marketing and

and brand, provided it meets certain conditions.

advertising.

Although the definition of franchise agreement is simple



enough, the documentation can be complex. A typical franchise agreement is 25 to 30 pages long.

Unfortunately,

some

agreements

impose

more

requirements on franchisees than on franchisors. 

In some franchises the franchisee is required to spend

After attaching all exhibits and addenda, the final agreement

a certain percentage for local advertising, but the

can be two or three times as long.

franchisor is remarkably free of hard and fas obligations!

Key Franchise Agreement Points Things you must know about franchise agreements:

5. Long Term Duration 

1. Disclosure 

The franchise agreement will set forth the duration o the contract.

The FTC Rule imposes strict disclosure requirements



Franchise agreements are long term.

on franchisors in the form of a Franchise Disclosure



A typical term is 10 years. Some are 20 years.

Document (FDD) that must be delivered to a



Territories are important to limit market saturation.

prospective franchisee.



An individual franchise business will have a harder



time competing in a over-saturated area. 

Remember

your

significant

investment

in

the



conditions

fo

Usually, the franchisor will have the greates



In fact, franchisees often have no contractual rights

outlet, only to discover that the franchisor allowed



to terminate early.

another franchise just a quarter mile away?



Cause for termination generally includes failing to

Subway is an example where much has been written

pay a franchise fee, filing bankruptcy or failing to

about market over-saturation and its negative effects

make needed repairs to premises. 

The franchise agreement will also specify the conditions, if any, under which you can “cure” a

The franchise agreement outlines the costs of

default. For example, you may be entitled to written

franchising ownership.

notice and 14 days to remedy certain defaults.



All franchises charge fees.



These include the initial franchise fee, as well as

9. Obligations upon Termination 

ongoing fees such as the monthly royalty fee, advertising or marketing fee, and any other fee. 

Agreements can include late fees and interest.



Franchisees who fall behind could find it that much piling up.

What happens when the franchise agreement expire or terminates early?



The document will state what the parties must do to unwind the business relationship.



harder to catch up once late fees and interest start



any

termination rights.

6. Fees and Expenses



outlines

hundreds of thousands of dollars to open a franchised

on franchisees.



agreement

terminating early.

opportunity. How would you like it if you paid



The

Usually this consists of a long list of specific obligations for the franchisee.



These include the obligation to stop using the brand

The contract should also cover any required expenses

name, take down signs, return the operations manual

and who is responsible to pay them.

and pay all amounts due.

For example, the franchisee may be responsible for paying for training, and for the travel expenses of

10. non-Competes 

employees to attend training. 7. Site Selection

Franchise

agreements

often

contain

restrictive

covenants limiting what franchisees can do. 

For example, you or an affiliated company may not be



Each franchisee selects its own site.

permitted to operate a competing business during the



However, the franchisor typically has the right to

agreement term.

approve the location. 

You must follow the franchisor’s standards for developing the premises, including choice of furniture,



Agreements also typically contain non-competes tha kick in after termination.



For example, a provision could prohibit operating a

fixtures, upholstery, landscaping and signage that meet

competing business within 5 miles of your former

the franchisor’s standards.

location, for a period of three years following

Some franchisors require the franchisee to use

termination.

approved vendors and service providers. 



The franchisor will inspect the build-out for adherence

11. Arbitration 

to the franchise system standards. 8. Termination

Franchise agreements usually contain an arbitration clause requiring any dispute to go to arbitration.



Instead of filing a lawsuit you might have to go before a body such as the American Arbitration Association.



The franchisor sometimes retains the right to file a lawsuit to obtain an injunction under certain



conditions (such as to prevent the franchisee from revealing

 

confidential

information

about

the

meet the franchisor’s standards. 

Your ability to be creative could be severely curtailed

franchise system).

For example, you might not be able to even choose

The agreement will specify the jurisdiction for filing

different

any lawsuit.

approval.

The choice of jurisdiction will be favorable to the franchisor.



colors

without

the

franchisor’s

Franchise agreements will outline any rights to transfe the franchisee’s ownership interest in the franchise

The franchise agreement will include the requirement for the franchisee to maintain certain insurance

paint

15. Transfer and Re-Sale

12. Insurance and Indemnification 

Renovation might involve considerable expense including replacing upholstery, furniture or fixtures to

relationship to a buyer. 

Sometimes franchisors retain the right of firs

coverage throughout the term of the franchise.

refusal, meaning they get the first chance to buy you



Expect indemnification clauses, as well.

business if you decide to sell.



For example, the franchisee will probably be required



to “indemnify, defend and hold harmless” the franchisor against any claims, costs, damages and

buyers. 

expenses arising out of the franchisee’s activities.

As the franchisee you will be required to maintain accurate records and provide regular financial and

pay the initial fee. 16. No Industry Standard Agreement 

operations reports. 

Since royalty payments are often a percentage of





audit your records.  



17. Negotiating 



Prospective franchisees often want to know if they can negotiate the franchising agreement.



Technically the answer is yes.

If the business is a restaurant or retail premises where



You should always try to negotiate.

consumers visit, franchisees will have substantial



However, be prepared for the franchisor to refuse.

obligations to maintain the premises in good repair at



The nature of a franchise system is such that the

their sole expense. 

Most agreements contain common types of provisions but they won’t be worded exactly the same.

You could be charged an audit fee, also.

14. Physical Premises and Renovations

Every franchise brand creates its own contrac documentation.

The franchisor usually has the right to request additional information including tax returns and to

There is no such thing as a standard franchise agreement for the entire industry.

gross sales, reporting accurate sales numbers is especially important.

The franchisor may impose many requirements on a buyer, including the need to submit an application and

13. Records and Audits 

Also, franchisors typically reserve the right to approve

The franchisor usually reserves the right to inspect the

franchisor tries to keep all requirements uniform. 

A franchise agreement is a contract of adhesion

premises to make sure they are well maintained.

meaning it’s created by one party with greater

You may be required to renovate once every 5 to 10

bargaining power using standard form provisions.

years (or sooner if needed).



However, sometimes it’s possible for franchisees to negotiate minor points such as an installment schedule for the initial franchise fee.



The more popular the franchise, the less likely you can successfully negotiate.



A well-established franchisor has little incentive to make one-off concessions.



However, if you are one of the first in a new franchise, you might have more negotiating leverage.

Franchising

18. Review with a Lawyer 



Regardless of whether you are able to negotiate terms, it’s still important for you to get a franchise lawyer to review the franchise agreement and the FDD.



An

experienced

franchise

lawyer

can

Franchisor

unusually harsh or one-sided provisions that are not common in the industry.

Party in contract that specifies methods to be followed/terms to be met by the other party.

explain

A franchise lawyer may also be able to point out

Involves a business owner who licenses trademark and methods to an independent entrepreneur.



important provisions of the franchise agreement. 

CHAPTER 6: FRANCHISES AND BUYOUTS

Franchisee 

An entrepreneur whose power is limited by a contractual agreement with a franchising organization. Franchising Options



An experienced attorney will understand



what to look for in the Franchise Disclosure

1. Product and trade name franchising

Document, and can identify red flags.

2. Business format franchising

Also, the attorney may know of common law and

3. Master license

state laws that protect franchisees.

4. Multiple unit ownership

Knowing key points before signing could save you

5. Area developers

from making a big mistake.

6. Piggybank franchising

 

Summary 1. The franchise agreement - is a document with the rights and obligations of the parties outlined. 2. The franchise relationship - is not employeremployee. 3.

As the franchisee you operate a separate business in accordance with the franchise system.

4. You are an independent business owner and the franchise agreement reflects this separation of interests.

Types of franchising arrangements

7. Multi brand franchising 8. Co-branding Pros and Cons of franchising Probability of Success 1. Proven line of business 2. Pre-qualification of franchisee 3. Training Support 4. Franchisor-provided 5. Financial assistance 6. Franchisor assistance 7. Operating benefits

Franchise Costs 1. Initial franchise fee 2. Investment costs 3. Royalty payments 4. Advertising costs 5. Restrictions on business operations 6. Loss of independence 7. Lack of franchisor support

8. Franchisor-aided Advantages of the Franchise Model 1. Reduced risk of failure 2. Financial support 3. A way for an existing business to diversify

4. Use of a valuable trade name and trademark 5. Access to a proven business system and operating



Investigating the Potential Franchise Information sources Independent, third-party sources

plan 6. Management training provided by the franchisor



Federal Trade Commission

7. Immediate supply lines and purchasing power



Internet



Franchise consultants

Concerns about Franchising 1. Misleading or exaggerated earnings claims by

Evaluating Franchise Opportunities (cont.)

franchisors

Investigating the Potential Franchise (cont.)

2. Opportunity behavior by which the franchisor becomes a competitive threat to franchisees

Franchisors themselves 

3. Restrictions on franchisees who desire to liquidate their holdings in favor of alternative investment opportunities

Disclosure documents Franchisors themselves



Disclosure documents Existing and previous franchisees

4. Conflicts of interest, such as when a franchisor

Franchise Disclosure Requirements

forces franchisees to be captive outlets for other

Franchise Rule - A rule issued by the Federal Trade

suppliers owned by the franchisor

Commission that prescribes that the franchisor must disclose

5. Churning: terminating a successful franchise

certain information to prospective franchisees.

operation in order to resell it and gain additional

Franchise Disclosure Document (FDD) - Is a detailed

franchise fees

statement of the franchisor’s finances, experience, size, and

6. Encroachment: locating a new outlet or point of

involvement in litigation. Must inform potential franchisees of

distribution too close to an existing franchisee,

any restrictions, costs, and provisions for renewal, termination

causing a material loss of sales

or sale of the franchise.

7. Imposing noncompete clauses on franchisees

Buying an existing business 1. Reduction of uncertainties of startup

8. One-sided contracts devised by franchisors 9. The

imposition

of

new

restrictions

as

a

requirement of contract renewal 10. Franchisor intimidation of franchisees who attempt to form franchisee associations, seek alternative sources for products, or make other efforts to create a more level playing field Franchisor Controls on Franchisees 

Limiting sales territories



Requiring site approval



Imposing requirements on outlet appearance



Limiting goods and services offered for sale



Limiting advertising and hours of operation Evaluating Franchise Opportunities Selecting a Franchise



Personal observation



Advertisements

2. A bargain purchase price for the business 3. Acquisition of ongoing operations and customer relationship 4. A quick start in the business Reasons for Buying an Existing Business 1. Reduce uncertainties and unknowns when starting a business from the ground up 2. Acquire a business with ongoing operations and established relationships 3. Obtain an established business at a price below what i would cost to start a new one 4. Get in more quickly than by starting from scratch Pros and Cons of Buying an Existing Busine...