There is no standard form for a franchise agreement and at times, they can be difficult to interpret.
At Primas Law, our commercial lawyers are experts in handling a range of commercial contracts to help protect your business.
In our “A Guide to” series we take a look at some of these agreements and how they can be used in the business world.
Here, we look at franchise agreements, how they work and the considerations that each party must make in order to safeguard its business interests when thinking about entering into a franchise arrangement.
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What are franchise contracts used for and why are they required?
A franchise is the granting of a licence by one person, known as the franchisor, to another, known as the franchisee. The licence enables the franchisee to trade under the franchisor’s brand, using their proven business model. The franchisee will have access to the brand name, trademarks and any intellectual property which is licenced or owned by the franchisor.
A well-drafted franchise agreement will ensure that quality control is being exercised throughout the franchise network while maintaining a balance between giving the franchisor sufficient control over the franchise operations and making the terms of the arrangement attractive to any potential franchisee.
As with any other commercial agreement, a franchise agreement is required in order to set out the terms of the relationship between both parties and their rights and obligations. The agreement is essential to facilitate a mutually beneficial working relationship between the two parties. At the same time, a well-drafted franchise agreement will make provisions for an exit in the event of a breakdown in the relationship or a change in circumstances.
What is included in a franchise agreement?
Although the main components of a franchise agreement are usually the same, critical differences may be vital if a highly specialised agreement is required. For example, the franchisor will need to consider the structure of its franchise network and whether it wishes to grant a franchisee exclusive rights within a particular territory.
A franchise agreement will usually be accompanied by an operations manual, which is a key document regulating the terms on which a franchisee operates the franchise business. There is usually one operations manual for all franchisees in the network.
Franchise agreements are usually very detailed and extensive documents, however, the key terms that the agreement should cover include:
- The rights to be granted: The agreement should specify the scope of the franchisee’s permitted operations and whether the franchisee will operate in exactly the same format as the franchisor’s business or particular elements only.
- Territory: The agreement should specify in which area the franchisee will operate, including the boundaries and geographics of the decided area. It is important that franchisors do not allow a territory which is too large, as this could limit the expansion of the franchise.
- Term of Agreement: This is an example of no-size-fits-all, and the duration of the agreement will vary significantly from franchise to franchise. The usual term is 5 years, however, this could be increased to 10 or 20 years after taking into consideration the return on investment, or in some cases could be shorter.
- Renewal of Agreement: A franchise agreement will ordinarily include a right to renewal, however, the agreement will usually set out the criteria that the franchisee must meet in order to receive an offer to renew.
- Fees: This will include the initial fee payable by the franchisee (if any), the ongoing management fee and any associated advertisement and marketing costs.
- Respective Obligations: This is where each party will set out what they expect from each other, usually set out into initial obligations and continuing obligations. This will include training, accounting, employees, vehicles, premises etc.
- Post-termination provisions: These provisions set out what the franchisee can and cannot do after the term has ended, in order to protect the franchise and its commercial interests.
- Selling the business: In order to protect the franchisor’s intellectual property and its business, the franchisor will want to have a degree of control over what happens to the franchise if the franchisee decides to exit. One option to exercise that control is to include a right of first refusal for the franchisor giving it an option to acquire the business if the franchisee wishes to sell it. Alternatively, the franchisor may wish to have a right to select the appropriate candidate and terms of the sale.
Regulation of franchising in the UK
Despite franchising networks expanding in the UK, the franchising industry is not governed by any regulations, allowing foreign franchisors to establish a franchise in the UK without adhering to any special regulatory requirements.
Across the border, the EU has been considering measures to implement the regulation of the franchise industry in an attempt to increase business confidence. If the EU does introduce franchising regulations, the UK may follow suit. However, the current framework is one of self-regulation through organisations such as the British Franchise Association and its code of conduct..
As the UK does not have any specific franchising laws, the relationship is governed by the contractual terms which are drawn up in the franchise agreement. As such, the parties will want to ensure that the agreement accurately sets out the agreed commercial terms of the arrangement.
Is a franchise agreement negotiable?
A franchise agreement is typically less contentious than many other forms of agreement when it comes to negotiation, as both parties want the other to succeed for the benefit of the franchise. However, the franchisor’s brand and reputation are at stake and therefore it has to ensure that their business model is consistent across all franchises. For a franchisee, its main concern will be around the profitability of the franchise, so it will want to be comfortable that it will have the right support and enough flexibility to make the arrangement viable. As the parties will have competing interests in certain areas, there’s scope for negotiation with each party wanting to protect their interests.
As the franchisee is using a pre-established brand, the agreement will invariably be weighted in favour of the franchisor. The obligations of a franchisee are normally extensive and specific, primarily focusing on ensuring the franchisee is committed to the success of the franchise.
The franchisor will want to ensure that the appropriate fees are paid on time, although the fees are not usually excessive as it is in both parties’ interests to succeed. There will normally be an upfront fee for the initial grants of rights and a monthly payment based on the turnover that the franchisee generates. The franchisor may also enforce fees for training and contributions to national marketing spend. The franchisee will want to ensure that they receive adequate support and training throughout the term.
The franchisor will also want to ensure that the operations manual and licences are complied with in order to implement a consistent quality of support at each franchise outlet. It is important for the branding to also stay consistent to ensure all customers receive the same customer experience across all outlets.
The franchisor will want to have adequate protections in place to ensure that its intellectual property and know-how cannot be used by a franchisee to operate a similar business either during or after the term of the franchise agreement.
For the franchisee, they will want to have a degree of confidence that the franchise has a realistic prospect of success, and to that extent, it will be in the interests of the franchisor to avoid making any statements that could give rise to any misrepresentation claims. Any claims arising from this will indicate the failure of the business in public eyes, which both parties will want to avoid. The franchisor will want to have certain provisions in place to manage these risks, such as acknowledgement from the franchisee that there is no guarantee of the financial success of the franchise.
Overall, both parties are working towards the same outcome and in practice require similar terms, although the franchisor in particular must exercise caution to not put their brand and reputation at risk.
Do you need a solicitor for a franchise agreement?
Whether you are a franchisor or a franchisee, you will be aware of the significant risks that are associated and will therefore require a franchise agreement that reflects this. An inadequate contract may result in negative consequences for your business and it is important that your contract is drafted by a reputable, trusted solicitor.
Drafting this extensive document needs to be exercised with care and caution, as does the negotiation of the commercial terms of the agreement. There is no standard form for a franchise agreement and at times, they can be difficult to interpret. A good solicitor will have the ability to identify any potential issues at an early stage and ensure that your requirements are met within the agreement.
For more information on how to ensure your agreement is watertight, contact our commercial team today.