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Advice on Investing in a Franchise

It’s essential you take specialist advice before investing in a franchise, Graeme Payne, partner in the franchising, licensing and multi-channel strategies group at law firm Bird & Bird LLP says…

It’s a common cliché in franchising that buying a franchise is a big decision. Most clichés are often founded on the truth and when one considers that essentially the decision boils down to where to invest a potentially significant sum of money, together with where to invest the next five, 10 or 15 years of one’s life, it is clearly not a decision to be taken lightly.

While some, but definitely not all, prospective franchisees undertake their research on their chosen franchisor and franchise system, only a small percentage take advice from solicitors, accountants and insurance advisers prior to entering into a franchise agreement. Even fewer take advice from experts specialising in franchising.

Challenge

From a legal perspective, the first challenge facing a prospective franchise is to ascertain whether their solicitor understands and has experience of advising on franchise relationships. Prospective franchisees need to be aware that a number of solicitors claim to be experts in franchising, when the reality is far from the truth. Having ascertained the adviser’s credentials, a prospective franchisee should, as an absolute minimum, obtain advice on the following areas:

Does the franchise agreement accurately reflect the territory the prospective franchisee believes they have been granted? Has the franchisee been granted an exclusive, sole or non-exclusive territory? And what are the consequences of this for the franchise? In addition, has the franchisor reserved certain rights to itself; for example, the right to sell products over the internet or through other distribution channels?

What is the length of the term that has been granted to the franchisee? Will it be sufficient for the franchisee to realise their initial investment and provide an income and a level of profit the franchisee desires? Where the franchisee is obliged to take a lease of commercial premises, does the length of the lease fit with the length of the franchise agreement? Does the franchise agreement provide any rights of renewal for the franchisee? If yes, on what conditions?

What, if any, initial and ongoing obligations are there on the franchisor in the franchise agreement? Do these obligations correlate with any discussions the prospective franchisee has had with the franchisor or any sales / recruitment literature that has been provided? Is the franchisor responsible for the supply of products, equipment or other items to the franchisee and what are the terms and conditions of this supply?

Is the franchisor’s brand – i.e. its trademarks and domain names – both correctly protected and capable of being used by the franchisee?

Will the franchise be permitted to use social media as part of their advertising and promotional activities? Does the franchisor have a social media policy?

Will the operations manual be provided to the franchisee online? Will any changes to the operations manual impact upon the levels of investment to be made by a franchisee? Will the franchisee be provided with training in any changes to the franchise business and over what period will the franchisee be obligated to introduce any new changes to the business?

What are the franchisee’s payment obligations to the franchisor? At what intervals must payments be made to the franchisor? What are the consequences of a failure to pay by the franchisee or late payment? Is the franchisor entitled to interest or to terminate the agreement in such cases?

Will the franchisee be permitted to sell its franchise business? If yes, what terms will be attached to the sale? Will the franchisor be entitled to a share of the sale proceeds? What terms, if any, will be applied to a potential purchaser?

What actions or omissions by the franchisee will give the franchisor the right to terminate the franchise agreement? Will the franchisee be given a period to remedy any breaches?

What will the consequences of termination of the franchise agreement be for the franchisee? Will they be, for example, required to transfer their lease to the franchisor or a third party? Will the franchisee be prevented from trading from certain premises or within a certain area for what period post termination? Are such restrictions reasonable and how is reasonableness determined?

Uniformity

The above only scratches the surface of issues and considerations a franchisee should be discussing with its franchise solicitor with respect to the franchise agreement. Most franchisors will not negotiate or amend their franchise agreement, as there is a need on the franchisor’s side to maintain a degree of uniformity and consistency across its network. This should not necessarily be viewed negatively by prospective franchisees.

The franchise agreement is often the only weapon a franchisor has to deal with underperforming or misbehaving franchises. If a franchisor cannot swiftly deal with such franchisees, their conduct is likely to impact upon the franchise network as a whole.

Many prospective franchisees often ask what is the point of taking specialist legal advice if the franchisor will not amend or negotiate its standard form franchise agreement? Hopefully the above outlines that it is of fundamental importance the franchisee understands its legal and operational obligations and how they impact on their commercial relationship with the franchisor and ultimately their commercial return.