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Franchise contracts: what to look out for Part 2

AmyL
Franchise law specialist Amy Leite's latest article on WorkingMums.co.uk looks at key terms to be aware of, regarding renewal and franchisor obligations, in a franchise agreement contract.
 
Franchise law specialist Amy Leite is currently writing a series of articles for WorkingMums.co.uk, a leading job and community website for professional working mothers and fathers.

Her last article focussed on the key franchise agreement terms of the franchise contract that franchisees should be aware of to help ensure they sign up with their eyes fully open. You can read this here. 
 
The article below continues to demystify some key terms, covering renewal and the franchisor’s initial and continuing obligations.
 

A foreword from amy

As I said previously, before you read any further, articles such as this should not be seen as a substitute for taking legal advice on the terms of your franchise agreement but more a tool to help you have a working knowledge of the terms of the franchise agreement before you have it reviewed and thereafter.

There are key franchise agreement terms you should look out for in your draft franchise agreement. We are often surprised to hear how many people do not take advice on the terms of their franchise agreement prior to signing it. Often we hear that this was because they were told it was non-negotiable or the fees for a review seemed high. In our experience, regardless of whether the franchise agreement is negotiable or not, being fully aware of what your franchise agreement means in order to take a considered commercial decision and enter the agreement with your eyes open is invaluable.

It is therefore very important that you have at least read the franchise agreement ahead of your solicitor carrying out a review for you. It is very rare that a franchise review (either by report or otherwise) would comment on every single clause of the agreement and, as you will be expected to abide by the terms, you need to be clear on what all the terms are however unimportant certain things may seem.

Renewal

When considering whether a franchise will be suitable for your needs you need to consider what your long term business goals are. Are you looking to take a franchise as an income stream to carry you through to retirement in 5 years time? or are you looking at the franchise as a long term income stream and potentially with a view to building a business up which is capable of being re-sold?

It is important to consider your strategy in light of the renewal provisions in your franchise agreement. Your franchise agreement should contain a right of renewal i.e. the right to enter into a new franchise agreement for a further term after expiry of the first 5 (or 10) year term.

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Franchise contracts: what to look out for

AmyL
Franchise law specialist Amy Leite's latest article on WorkingMums.co.uk focuses on the key terms to be aware of in a franchise agreement contract. 
 
Franchise law specialist Amy Leite is currently writing a series of articles for WorkingMums.co.uk, a leading job and community website for professional working mothers (and fathers).

She continues her series of articles this month, focussing on the key franchise agreement terms of the franchise contract that franchisees should be aware of to help ensure they sign up with their eyes fully open.

The importance of reading your contract

There are key franchise agreement terms you should look out for in your draft franchise agreement. Firstly, I need to remind you that articles such as this should not be seen as a substitute for taking legal advice on the terms of your franchise agreement. These are more of a tool to help you have a working knowledge of the terms of the franchise agreement before you have it reviewed and thereafter.

We are often surprised to hear how many people do not take advice on the terms of their franchise agreement prior to signing it. Often we hear that this was because they were told it was non-negotiable or the fees for a review seemed high. In our experience, regardless of whether the franchise agreement is negotiable or not, being fully aware of what your franchise agreement means in order to take a considered commercial decision and enter the agreement with your eyes open is invaluable.

It is therefore very important that you have at least read the franchise agreement ahead of your solicitor carrying out a review for you. It is very rare that a franchise review (either by report or otherwise) would comment on every single clause of the agreement and, as you will be expected to abide by the terms, you need to be clear on what all the terms are however unimportant certain things may seem.

We are therefore preparing a series of articles which will cover, each time, two or three of the main clauses you need to be aware of in your franchise agreement. This first article will cover parties, the grant, territory and term.

The parties:

You need to be clear on who the parties to the franchise agreement are. The first party will be the franchisor which will almost always be a company. It is advisable to do some research at Companies House on how long the company has been going, if there are any similarly named companies and whether these are linked to the franchisor and have a look at their accounts if possible.

The second party to the franchise agreement will be the franchisee. The franchisee will either be a company or an individual person. Where the franchisee is a company there will be a third party to the franchise agreement who will be an individual who is a party to the franchise agreement for the purpose of guaranteeing all of the obligations of the company franchisee (usually they are described as the individual, principal or guarantor).

The key thing to understand is that because the franchisor is a company it will always have a limited liability status, but if you are the individual, principal or guarantor to a franchisee company you will not have limited liability status and you will be personally responsible for ensuring that the franchisee complies with their obligations under the terms of the franchise agreement. You will agree in the franchise agreement to personally guarantee the franchisee’s obligations and to indemnify the franchisor against costs and losses it suffers if the franchisee does not keep to their end of the deal. If you personally are the franchisee all of the responsibilities will be yours in any event.

Grant, Territory and Term:

The grant clause is one of the most important clauses in the franchise agreement, it sets out what the franchisee is being licensed by the franchisor to use and do during the term of the franchise agreement. It is key that you are clear on what your franchise business can do.

The franchisor will generally grant the franchisee the right to use their intellectual property, method or system (the know-how, procedures for operation of the business/provision of the services, expertise, methods of marketing etc) to operate the franchisee’s business in the territory during the term.

You should always check the definition of the “business”, “franchisee’s business” or “franchise business” so that you are clear what the business involves according to the terms of the franchise agreement. Generally, the “business”, “franchisee’s business” or “franchise business” will be limited to the provision of the defined Services and/or selling/using the defined Products or Equipment. You need to be sure that the definitions of Services and Products cover everything you believe you are entitled to do as part of the franchisee’s business as you will not be permitted to offer additional services/products without consent if they fall outside of the grant.

You should look closely at the territory you are being granted. It should be defined by a map attached as a schedule or a number of postcodes. Ensure that it is large enough to provide you with good income and look closely at the make- up of the territory – is it rural or town based and is it made up more or commercial or residential customers? Consider how this affects your target market.

You also need to be clear on what, if any, exclusivity you are being granted in respect of the territory. Is it exclusive only in terms of the franchisor not being allowed to grant third parties the right to operate in your territory or does it also expressly exclude the franchisor from operating in your territory too? Look out throughout the franchise agreement for circumstances in which your exclusivity does not apply or where it can be removed or limited, for example, in the case of national accounts or if you fail to hit any performance targets.

You must be clear that the rights you are granted by the franchisor only last for the term (the length) of the franchise agreement. Ordinarily a franchise agreement term is five or, less commonly, 10 years.

On expiry of the term if you do not renew your franchise agreement your rights under the franchise agreement will come to an end and you will no longer have a right to operate the franchisee’s business using the items the franchisor granted to you.

In the next article we will be looking at rights of renewal and the franchisor’s initial and continuing obligations.

 

More information

For more information please contact our Franchise Law Department.

For the full article on WorkingMums website click here

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What to ask a franchisor when buying a franchise

AmyL
Amy Leite provides regular franchise law advice on WorkingMums.co.uk. Her latest article focuses on what to ask a franchisor when buying a franchise.
 
Amy Leite is a solicitor at Pinney Talfourd Solicitors in Essex. She has specialised in franchise law for many years and shares her expert legal knowledge with WorkingMums.co.uk readers who are looking into buying a franchise.

"The most important tip is not to be afraid to ask the franchisor difficult questions", says Amy "these will undoubtedly form part of your decision-making process. If the franchisor can’t or won’t answer them you should think very hard about whether you really want to be tied in to a five-year agreement with that franchisor."

What is my commitment?

You need to know from the start exactly what your commitment is. Is the franchise agreement for a term of five years or more or less? And what are your commitments in terms of opening hours/ business hours? Can you carry out the business part time or is it strictly a full time (and potentially more) business? Some franchisors will tell you it is up to you how many hours you put in, but you must check the franchise agreement and/ or operations manual which often stipulate the minimum business hours. Also consider the amount of admin/ back office work you will be required to do and add this on to your time commitment each day. Try to find out how much back office assistance you get from the franchisor (if any) so do they centrally invoice for example or do they offer a calls line to cut down your admin time?

What support am I going to get from you?

You need to know and understand exactly what it is you will be receiving from the franchisor on an ongoing basis. Ask them what they provide i.e. will they negotiate the best deals for franchisee’s from third party product suppliers, do they provide a central telephone enquiry line, do they pass on leads and if so within what timeframe, what advertising and promotion of the business will they do independently of your own obligations? Once you have a detailed and specific list of what you are actually receiving by way of support, assistance and guidance ensure this is set out in the franchisor’s obligations under the franchise agreement. If the franchisor’s obligations are vague and do not specify any of these things you will not be able to force the franchisor to provide these things.

How many franchises have not worked out and why?

Do not be afraid to ask if there have been any franchise failures. These things happen and a good franchisor will be open and honest with you about any franchises that haven’t worked out and the reasons why. You need to know whether there has have been a high turnover of franchisees, why this was and what the franchisor did about this. Ask the franchisor if they have been required to take legal action against any ex-franchisees and for the circumstances. This will help you work out what they do to protect the franchise network from ex-franchisees.

How many franchisees have been able to re-sell their franchise business?

If your strategy is to buy a franchise that you can build up, have an income stream from and then potentially re-sell at a later stage you need to know whether this particular franchise re-sells easily or at all. Find out how many have been re-sold, at what price and how long they were part of the network and how long the businesses were up for sale. This is all key information you will need to know to plan your future within the network.

How many franchisees do you currently have and can I speak to them all?

A franchisor should be willing to provide you with a full list of franchisees who you can speak to about the opportunity. You can then pick from the list a few franchisees who are a few months into their franchise to see what support on setting up they have received and how things are going, a few who are mid-term again to see how they have found things and any tips and a few people who are nearing the end of their term and who have renewed their agreements. This will give you a good spread of people and hopefully you will receive a balanced view of the network. If a franchisor is selecting one or two franchisees that they are willing for you to speak to you should exercise caution and ask to pick your own franchisees to speak to.

Do these cash flows include all the franchise expenditure or is anything missing and whose figures have these been taken from?

More often than not you will be provided with cash flows/projections on what you could/may/might earn whilst a franchisee. You need to be absolutely clear on what the figures show, where the figures came from and that they are showing the full picture. Ask the franchisor whether they are from an existing franchisee and, if so, in what territory. Bear in mind the dynamics of different territories – London figures are highly unlikely to be the same as a town in Yorkshire. Find out whether the franchisee whose figures have been used in the cash flows has any expenditure which is not included and where this particular franchisee sits in the performance of the network – if they are the top performer in the network ask for a mid and lower end performer’s figures. If they are an average across the network dig deeper into how many franchisees figures were used and when the average was taken (think about this if your business is seasonal).

If they are not franchisee figures then whose are they and where have they come from? Ask if there are any circumstances where expenditure may be more – think about staffing and if you need assets such as equipment/vehicles that the other franchisee/figures have excluded. You must remember at all times that the figures given will contain non-reliance statements which try to seek to prevent you relying on them as will the franchise agreement. The franchise agreement may even go as far to say you have not been given any cash flows. If anything is particularly important to you on those cash flows i.e. that they contain all of the expenditure required ask the franchisor to confirm that fact in a side letter attaching the cash flows.


Ask everything possible about the model and what the franchisor’s future plans are?

Find out what the franchisor has in mind over the next one, two, five and 10 years. Are they looking to stay in this business indefinitely, are they developing any new systems, methods, products or services? What marketing campaigns and future plans for growth do they have? These matters are not binding on the franchisor, but at least you will know before you sign up an insight into their plans. Look at how passionate and excited they are about driving the franchise forward and consider how this will help you.

It is absolutely imperative you understand exactly how every aspect of the business works. You should be able to explain to your lawyer how the business works and how that fits with what is in the franchise agreement when asked. If there is anything you don’t know, no matter how small you need to find out.

Finally…
Don’t be afraid to ask all the questions that occur to you and are important to you. The franchisor’s reactions will give a good insight into what you can expect from your franchise relationship.
 

More information

For more information please contact our Franchise Law Department

For the full article on WorkingMums website click here

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