Franchising is a way of conducting business in which the owner (franchisor) shares its brand, strategies and business model with others (franchisees) for an initial fee and ongoing royalties based on revenues.
The sorts of businesses that can be franchised are many, and may include such diverse areas as domestic services (Jim’s Mowing), coffee (Gloria Jeans), real estate (LJ Hooker), food (McDonalds), retail (Forty Winks), business services (Kwik Kopy), financing (Choice Home Loans), automotive (Toyota), and health and fitness (Fernwood).
The advantages and disadvantages of franchising
The main advantages of franchising are that, in most instances:
- You are given access to a proven business model, saving you a lot of time and money;
- You are immediately linked with a business with an established brand and reputation;
- You are assisted with securing finance, site selection, lease negotiation, builder and shop fitter selection, as well as with purchasing stock, inventory and equipment;
- You are given standard procedures, operating manuals and stock control systems;
- You are provided with an established financial and accounting management system;
- You are included in nation-wide or coordinated marketing initiatives;
- You are provided with training and ongoing support;
The main disadvantages of franchising are, in most instances:
- You are severely restricted in how you run the business because, as a franchisee, you will be required to strictly operate in accordance with the franchisor’s business model;
- The success of your business will remain closely tied to, and be heavily dependent upon, the ongoing success of the franchisor’s business;
- You are required to pay an initial lump sum to access the franchisor’s business model, and this amount can be quite significant depending on the business;
- You are generally required to make ongoing payments to the franchisor (whether as royalties, for the provision of its ongoing support, for marketing, or some other stated reason);
- You will be restricted in the geographical area in which you can operate your business;
- You will be required to seek the permission of the franchisor if you decide to transfer or sell your business later on, and the sale process will be subject to the specific procedures set out in the franchise agreement;
- You generally do not get to retain the business or its goodwill at the conclusion of the franchise agreement;
- You will be subject to a “restraint of trade” obligation after you sell or terminate the franchise agreement.
The legislative framework
In Australia, the laws governing franchising are primarily found in the Trade Practices (Industry Codes – Franchising Regulations 1998), which includes the Franchising Code of Conduct overseen the by Australian Competition and Consumer Commission (ACCC).
The Franchising Code of Conduct requires franchisors to give prospective franchisees the following documents at least 14 days before signing the agreement or paying non-refundable money:
- Franchising Agreement in final form – setting out the parties rights and obligations;
- Disclosure Document – setting out all key information about the franchise;
- Franchising Code of Conduct;
The Disclosure Document would be required to include such information as:
- Franchisor’s name, ACN/ABN, business address and phone number;
- Description of the business;
- Name, position, qualification and business experience of each officer of the franchisor;
- Details of any current legal proceedings (civil or criminal);
- Whether the franchisor or any of its directors has been convicted of a serious offence or been bankrupt in the last 10 years;
- Details of existing franchises – number, location and contact details;
- Details of past franchises – transferred, terminated, ceased or not renewed;
- Whether the franchise offers an exclusive or non-exclusive territory;
- Details of the franchisor’s requirements for supply of goods or services;
- Obligations in relation to marketing and other cooperative funds;
- Details of required payments – prepayments, establishment costs and ongoing costs;
- Franchisor’s obligations (eg. training and ongoing support);
- Financing arrangements; and
- Earnings information or projections (if possible).
The franchisor must ensure that the prospective franchisee is given reasonable opportunity to read and understand the Franchising Agreement, Disclosure Document and Franchising Code of Conduct.
There is a seven (7) day cooling off period, running from the earlier of when the franchisee entered into the agreement or made any payment of money.
Other documents that would normally be produced are:
- Confidentiality Agreement – protects the franchisor’s intellectual property even if the parties do not proceed;
- Deed of prior representations – this reduces to writing all material pre-contractual representations made by the franchisor and its agents, if any;
- Statement of independent legal advice – confirms that the franchisee has had the benefit of seeking legal advice before committing to the franchise agreement;
- Statement of independent business advice – confirms that the franchisee has had the benefit of seeking business advice before committing to the franchise agreement;
- Statement of independent accounting advice – confirms that the franchisee has had the benefit of seeking accounting advice before committing to the franchise agreement;
- Operations Manual – sets out in detail how the business is to be conducted day-to-day;
- Lease or Agreement for Lease – where the franchisee leases from the franchisor.
Common franchising issues
It is not at all uncommon for disputes to arise after the franchise agreement is entered into, particularly where the business is not performing as the franchisee has expected. The most common franchising issues are:
- Earnings or profitability of the franchise business;
- Initial and ongoing costs payable by the franchisee;
- Growth estimates of the franchise business;
- Ownership and value of the goodwill;
- Availability of stock, supplies or new product lines and services;
- Availability of new territories;
- Exclusivity of allocated geographical territories;
- Scope of support to be provided by the franchisor;
- Marketing and advertising of the franchise;
- Future saleability of the franchise business;
- Rights of renewal of the franchise agreement;
- Restrictions around termination or sale of the franchise business.
It is, therefore, important that the parties take great care in clearly outlining their respective rights and obligations, and to seek appropriate legal, business and accounting advice in order to ensure that their interests are adequately protected.
- For more information about buying a business (franchise or otherwise), go to “Buying a business” (link)
- For more information about transferring a business (franchise or otherwise), go to “Transferring a business”. (link)
- For more information about selling a business( franchise or otherwise), go to “Selling a business” (link)
Winthrop Mason Lawyers can assist by:
- Providing advice to franchisors on how to protect their business model and intellectual property, and avoid allegations of non-disclosure, misrepresentation and other contractual breaches;
- Provide advice to franchisees to highlight potential legal risk areas and recommend strategies protect your interests before, during and after the franchise agreement takes its course;
- Prepare or review franchise agreements, disclosure documents and other related material;
- Negotiate revised terms of franchise agreements as necessary;
- Undertake business due diligence on franchise business opportunities;
- Advise on appropriate legal and financing structures for asset protection and tax minimisation;
- Assist in the buying (franchisees) or selling (franchisors) of franchise businesses;
- Act for franchisors or franchisees in legal disputes, including litigation;
Franchising is a heavily regulated area, and the financial and legal risks are high for both franchisor and franchisee. For a no-obligation initial consultation, go ahead and give us a call.