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Franchise opportunities
Last Updated:24-September-2016

The franchise legal stages

When buying a franchise there are several franchise legal stages you need to go through. Before signing any franchise agreement or other franchise legal documents, it is vital that you seek legal advice from a solicitor who specialises in franchising.

It is no use using the same solicitor you used when buying your house as though they may be very good at what they do, they are not franchise legal experts.

For a list of franchise solicitors, affiliated to the British Franchise Association, please visit our Franchise Solicitor Directory

Stage 1.

Many franchisors at the interview stage will ask you to sign a confidential agreement.

This allows them to give you confidential information about their business operation and seeks to prevent you from disclosing this information to anyone else. It is normal practice for a franchisor who is disclosing confidential information to ask you to sign this. 

Stage 2.

You may be asked to enter into a deposit agreement which will require you to pay a deposit to the franchisor.

Please note that not all deposits are refundable and so if you decide not go ahead with buying the franchise you may not receive your deposit back. You should always ask if the deposit is refundable. If not, you need to be certain that you are serious about the franchise.

Stage 3. 

Obtain a copy of the franchise agreement from the franchisor.

This is the legal franchise document that outlines the obligations of both the franchisee and the franchisor; it protects the interests of all parties involved.

Stage 4.

As the franchise agreement is weighted in favour of the franchisor and will not be changed by the franchisor, it is vital that you ask a franchise solicitor to check the agreement for you.

You should only use a solicitor who specialises in franchising as they will have checked through hundreds of agreements and so whilst it cannot be changed, they will have the experience and knowledge to highlight to you those areas of which you need to be aware of.  They may also advise you to ask for a side letter if appropriate. A normal solicitor may not do this.

Stage 5.

If the franchise is premises based, you should also seek legal advice when looking to buy/rent premises.

Stage 6. 

Finally, for the franchise to be granted, you and the franchisor both need to sign the franchise agreement.

Author: Manzoor Ishani, Sherrards Solicitors LLP


Top legal tips for franchisees

In this article we cover the 5 key franchise legal requirements of buying a franchise business. 

Franchise agreements are usually lengthy (around 40-60 pages) and contain many obligations and restrictions on the franchisee. Before signing the agreement, it is important to take franchise legal advice from a BFA affiliated solicitor who will be used to seeing franchise agreements from across the industry. Whilst the terms may be stated to be non-negotiable, it is still vital that you are aware of your legal position.

The following areas are of particular significance:

1. Costs

Check that the initial franchise fee and royalty payments correspond with what you have been told by the franchisor.

Also, will you have to pay any other costs e.g. for equipment and additional training; and will there be further costs if you wish to renew at the end of the term?

Most ongoing royalty payments will be calculated as a percentage of turnover and not as a percentage of profit and, therefore, you could still be required to make payments to the franchisor even if your business is making a loss.

Finally, watch out for unexpected costs i.e. often if you choose to sell the franchise business you will have to pay the franchisor a percentage of the sale price, particularly if they have introduced you to the purchaser.

2. Personal guarantee

There the franchisee is a newly formed limited company, the franchisor may require the individual behind the franchisee company to give a personal guarantee.

You may be referred to as the "individual" or the "principal" and this means that you will be personally liable to the franchisor in the same way as the (company) franchisee. If the franchisee company is in breach of any of its obligations under the agreement, you will be personally liable for the full extent of any losses suffered by the franchisor. In such circumstances, it is common for the franchisor not to have to take steps to enforce its rights against the company, before pursuing you.

Restrictions on your business activities Franchisees are often prevented from being involved in other business interests during the term of the franchise agreement. If you have other business interests you will need to ensure that the franchisor consents in writing to you continuing to operate them.

Something franchisees are normally unaware of are the restrictions put in place post-termination, preventing them from being involved in a business which is the same or similar to the franchise business (the post-termination restrictions normally cover a specified geographical area and last for a set period of time i.e. one year post-termination). Such restrictions could have a significant impact on you in terms of your ability to carry on in your chosen industry following termination of the agreement.

3. Early termination

There are often extensive termination provisions in favour of the franchisor, enabling it to terminate early, if the franchisee is in breach of the agreement.

However, once the agreement is signed, the general position is that the franchisee is unable to terminate until the end of the initial term (typically five years) even if the business is not working. A franchisee may be able to argue that there has been a misrepresentation by the franchisor in terms of what they have been sold or the franchisor is in breach of the agreement. However, such cases can be difficult to establish and are seldom clear cut. Alternatively, the franchisee may be able to sell the franchise business on. This is likely to be difficult if the business is failing or has little goodwill.

4. Side Letters

Franchise agreements include a clause which states that the agreement represents the whole agreement between the franchisor and franchisee.

As mentioned above, franchisors are not keen to negotiate the terms of their standard franchise agreement and to make amendments save where there is an obvious error (often this is no more than a clerical error). Therefore, if you have been told or promised anything which induced you to buy the franchise, this must be set out in writing and annexed to the agreement. Side letters should be properly drafted and checked by your solicitor to ensure they are legally enforceable and can be relied upon.

5. Other obligations

The obligations of the franchisee under the franchise agreement will be extensive and specific.

This is in contrast to the obligations of the franchisor which are often quite general and sometimes difficult to interpret. You must read each obligation in detail and ensure that, on a practical level, you are able to fully comply.

Author: Emily Sadler at Paris Smith LLP


Why use a franchise solicitor?

by David Kaye, Harper Macleod

An experienced franchise solicitor will be able to provide you with specialist advice and will know whether or not the franchise agreement is one that follows a typical franchise format, compliant with UK law or if appropriate, European law and the relevant code of ethics.

A franchise solicitor will outline the rights and obligations which apply to the franchisee and explain what is expected of the franchisor and ensure that it has all been appropriately documented in the agreement.

Franchise solicitors are also able to assist in any dispute resolution that may be necessary having an in-depth knowledge of franchising and the most effective way of resolving disputes.


Legal steps to buying a franchise in the UK

Having selected a franchise you wish to buy, there are a number of matters to which you have to attend before you can open for business.

The following general guide should help you to complete the transaction more efficiently, both in terms of costs and also in terms of your time and effort.

Step 1: Obtain as much detail from the franchisor as possible.

Where the franchisor provides financial illustrations, study these carefully to satisfy yourself that the income shown in those illustrations satisfies your needs and requirements but always bear in mind that these are only illustrations and may be optimistic.

Step 2: Contact the bank.

Whilst reviewing the information supplied by the franchisor, contact your a franchise department in a major bank (if you think you will need a loan) and discuss with him/her whether, in principle, the bank will lend you the money you require for the type of franchise you are contemplating buying.

Most banks now operate fairly sophisticated information systems whereby bank managers have access to a central office from which they can obtain detailed information about many franchises, which will enable them to make a decision.

Step 3: Contact a franchise lawyer.

If your efforts at stages 1 & 2 above prove to be satisfactory your next step is to arrange for a franchise lawyer to review the franchise agreement and advise you on it.

Step 4: Contact your financial adviser.

If you and your franchise solicitor are satisfied with the agreement see your accountant for advice as to the detailed financial aspects of the franchise.

By this time you should have some idea of the sort of premises you will be occupying or your "territory" i.e. your area of operations in the case of a mobile franchise.

The franchisor may have produced some financial projections for your particular business, if not, your accountant will help you to put together profit projections etc. and, if necessary, a business plan in support of your loan application with your bank.

Step 5: Sign your franchise agreement.

At this stage you will probably be asked to sign the franchise agreement.

You should be guided by your franchise solicitor as to the timing of signing the franchise agreement, which should be conditional on your securing satisfactory premises and a bank loan.

Step 6: Secure your premises.

Where retail premises are involved, at this stage serious effort should be made to secure satisfactory premises and you should start talking to your franchisor about the details of converting the premises into a franchised outlet.

Step 7: Finalise applications.

By this time your bank should have responded to your application for a loan and if the answer is yes you will be in a position to push those involved into finalising the lease for the premises.

It is important that you do not enter into a binding commitment to take on premises unless and until you have your bank's agreement to the loan and you have signed the franchise agreement.

Step 8: Receive training and support.

Once you have completed the acquisition of the premises you can go about converting the premises into a franchised outlet and going on the franchisor's training course.

From step 5 the sequence of events up to when you are ready to open for business will vary depending upon the nature of the franchise.

The important thing to remember is that there will come a time when you have to make 3 significant commitments to 3 different parties

      • To the franchisor by signing a franchise agreement or an agreement to purchase a franchise
      • To your landlord by signing a lease or an agreement to take a lease of the premises (or in the case of a mobile franchise, signing a lease, hire purchase or purchase agreement for a vehicle); and
      • To the bank to take up the loan. Wherever possible you should aim to synchronise these different transactions so that you undertake the three commitments simultaneously.

© Manzoor G K Ishani All rights reserved.


Legal due diligence by prospective franchisees

Before taking a Franchise you should always carry out legal due diligence in respect of all relevant matters.

Your legal due diligence should cover:

1) Financial Due Diligence: Do a full credit check on the Franchisor. Check out its latest accounts. Make all appropriate enquiries as to the financial position of the Franchisor.

2) Market Due Diligence: Make sure that there is a real need for the product or service in your area and check out the competition.

3) Franchisee Due Diligence: Talk to as many existing franchisees as you can and glean from them as much information about the Franchisor and the Franchise as you can.

4) Legal Due Diligence: There is no substitute for having your Franchise Agreement checked out by an experienced, specialist franchising solicitor but here are some pointers for some basic clauses to look for and to consider. 

1. Misrepresentation and promises

Most Franchise Agreements will endeavour to exclude any representations, warranties or promises made to you during the course of the procedure which leads to you taking the Franchise.

In this respect, it is not unusual to find a clause usually towards the end of the Agreement, often headed up “Entire Agreement”. The aim is to achieve certainty by providing that all of the agreed terms are set out in the Agreement. You should however make sure that they are. An important part of one such clause is as follows:

“The Franchisee acknowledges that he has not relied on any oral or written representations or statements about the System, the Franchisee's Business, the prospects for the same, turnover, profitability or any other matter unless such representations or statements are reduced to writing and annexed to this Agreement and signed by the parties and incorporated herein”.

So, make sure, if the Franchisor has told you something important on which you wish to rely and which is one of the main reasons you are taking the Franchise, that the relevant matter is written down, signed by both parties, is attached to the Agreement and is incorporated into the Agreement.

For example, “It is agreed that you have represented to me that all of your Franchisees are earning net profits before tax of at least £40,000 per annum. This is of fundamental importance in my decision to enter into this Agreement”.

Similarly, if the Franchisor has promised something which is important to you and which does not appear in the Agreement: write it down and have it incorporated into the Agreement.

2. Renewal

Make sure that you can maintain your investment, so ensure that:

(1) You will have a right of renewal at the end of your first term;

(2) No further initial fee or renewal fee is payable on renewal;

(3) The renewal term will be for at least the same period as the first term;

(4) (Since it is likely that you will be obliged to sign a Franchise Agreement in the then current form at the time of renewal) the management service fees and advertising levies (if any) will not increase on renewal (although the Franchisor may well resist this suggestion) and/or that the terms of the renewal agreement will be no more onerous than the terms of your first Franchise Agreement which is being renewed.

3. Sale of your business

Make sure, when the time comes to move on, that you can cash in on your investment, so ensure that:

(1) You can sell your business for its market value at any time before the Franchise Agreement expires (albeit the Franchisor will wish to agree to the identity of the purchaser and will probably have the first right to buy your Franchise);

(2) The transfer fees (if any) are not excessive.

4. Read the agreement

Make sure that you read the Agreement thoroughly and make sure you understand it. Where you do not understand it, take specialist franchise legal advice.

You will usually be able to get a fixed price deal from a franchise solicitor which is almost invariably good value for money. If you are going to spend a substantial sum on an Initial Fee and commit (usually) five years of your life to your Franchise, it does not make sense to ‘buy blind'.

Overall therefore the byword is the same in buying a franchise as it is in buying any business. Be careful and do your homework thoroughly.

Ask legal expert David Bigmore a question

© David Bigmore Limited


The Franchise Agreement

What should you expect from a franchise agreement? The short answer is a complex and detailed commercial contract.

The great majority of franchise agreements are 40 (or thereabouts) pages long and some are well over 100 pages! If you are presented with a short and simple agreement that may not necessarily be a good thing because the agreement does need to deal with a significant number of issues which cannot be addressed in only a few pages. The most important provisions in a legal franchise agreement are:

a. Duration

Most franchise agreements last for five years and give franchisees at least two “automatic” renewal options so, provided a franchisee has complied with the terms of the agreement, the franchise will carry on for fifteen years.

The franchisor usually has the ability to change the franchise agreement every five years and require a franchisee to enter into the revised agreement provided it is the franchisor’s “current form of agreement”.

b. Exclusivity

By no means all franchise agreements give franchisees an exclusive territory and indeed in a retail based franchise you would generally not expect any exclusivity to be given.

c. Fees

In franchising fees are payable by franchisees. The initial fee is the lump sum capital sum that franchisees have to pay for taking the franchise.

This fee should not contain a significant profit element for the franchisor. Its purpose should be to reimburse the franchisor the very substantial costs incurred in recruiting and training franchisees.

There is also a continuing fee (very often referred to as a management service fee) which is usually calculated as a percentage of a franchisee’s turnover (8-9% is average) and a marketing/advertising fee to enable the franchisor to promote the brand nationally, of around 2.5%.

If franchisees have to purchase products or services from the franchisor or its nominated supplier, the franchisor may earn a profit or retain discounts (if so, that would need to be specified in the franchise agreement) and that should reduce the other fees that a franchisee pays.

Further, franchisees need “comfort” that they will be able to buy those products or services on reasonably competitive terms.

d. Continuing Obligations

Franchisees must comply with the “manual”.

The manual is a “living” document which the franchisor updates regularly and sets out the operational obligations with which a franchisee must comply.

Ideally franchisees would be shown a copy of the manual before they commit to the franchise agreement.

e. Resales

Franchisees have the right to resell, but only to those persons who are approved by the franchisor because, obviously, the franchisor does not want to be obliged to grant franchises to people who it would not wish to have as a franchisee.

f. Termination

There will “tough” termination clauses because it is essential that the franchisor is able to bring the franchise to an end if the franchisee is acting in a way that brings the brand into disrepute.

g. Post termination

There will be provisions to prevent a franchisee from operating a similar or competing business following termination or expiry of the franchise agreement and unlike similar restrictions in employment contracts, these are generally enforceable.

h. Minimum Performance

Many franchise agreements contain a minimum performance clause which either requires a franchisee to pay a minimum amount of continuing fees, or to perform to minimum levels, failing which the franchisor can take action which may include termination.

Sometimes these minimum performance provisions are “disguised” in the form of an obligation on a franchisee to prepare a business plan which the franchisor must approve. Either way, the British Franchise Association has made it clear that minimum performance requirements must be set at a relatively low level – no more than 70% of the average performance of franchisees.

i. Misrepresentation

In franchising, franchisors are concerned to reduce the risk of being sued for misrepresentation – the making of false statements with a view to inducing a prospective franchisee to enter into the franchise agreement.

Very few franchisors deliberately set out to provide incorrect information but, inevitably, franchisors may be “over enthusiastic” about the attractions of their franchise! As a result, all franchise agreements contain clauses which seek to protect the franchisor from such claims so franchisees should check out a franchisor very carefully before they enter into the franchise agreement.

j. Personal Guarantee

If the franchisee is going to operate a franchise through a limited company, then the franchisor will require a personal guarantee from the one or more individuals who have established the franchise company.

Conclusion

You will also need the advice of an expert franchise lawyer on the franchise agreement – use one of the affiliated lawyers that is on the British Franchise Association list because many lawyers (whatever they may claim) do not know enough about franchising to advise properly.

What you should look for from your franchise lawyer is advice as to which provisions are unusual, unfair or unworkable and only those lawyers who are actively involved in the legal aspects of franchising will be able to give you that guidance.

It has often been said that franchise agreements are the most one sided commercial agreements and that, to some extent is true. After all a franchisor is allowing you to use its brand, benefit from its reputation and also make use of all of its know how. In the circumstances it is perfectly reasonable to ensure that a franchisee does not do anything that can harm the franchisor’s brand and thereby damage the investment made by other franchise owners.

Author: John Pratt, Hamilton Pratt Solicitors


Renewing the franchise agreement

The overriding objective of providing for a right of renewal in a franchise agreement is to ensure that the franchisee has had the opportunity to recover his franchise specific initial and subsequent investments and to exploit the franchised business for as long as the contract persists.

The BFA's view

Whilst the European Code of Ethics for Franchising does not require a franchise agreement to contain a right of renewal, the British Franchise Associations' (bfa) takes the view that so long as the parties both discharge their obligations, the franchise relationship should be capable of continuing on a long term basis.

Typical is a "5+5 renewal" where the franchisee, provided he is not in breach of the conditions for renewal, can be sure of a second five year term, which is ordinarily adequate time for a franchisee to build up value in the business.

The fact of renewal goes to the heart of the value of the franchise business. Thus a franchisee should have the right to re-sell towards the end of their last term and the franchisor should be prepared to grant a new five year term to the buyer, else the value of the business will be drastically diminished, if for example, the buyer can only have the balance (perhaps one year) of the outgoing franchisee's term.

Conditions for renewal

The terms of renewal should be clearly stated. The right to renew is often conditional upon the following:

      • Payment of a renewal fee. The BFA discourages the charging of renewal fees if used as a method of unfairly imposing a financial burden at a time when the franchisee may be in vulnerable position. Alternatively it is common to see a provision whereby the franchisee just has to pay the franchisor's legal costs and other expenses associated with a renewal.
      • There being no material breaches of the franchise agreement by the franchisee or the guarantor. The right to renewal should not be lost merely for minor breaches.
      • There being no grounds in existence upon which the franchisor can terminate the agreement.
      • The franchisee and the guarantor have performed their obligations to the reasonable satisfaction of the franchisor. Franchisees should be cautious of such clauses as this does give the franchisor some discretion as to whether to allow a renewal or not.
      • The Franchisee complying with the notice provisions contained within the renewal clause.

Typically as long as the conditions set out in the agreement are met, the franchisor will be under an obligation to grant a renewal. The new franchise agreement should be on the then current terms of the franchisor's standard franchise agreement. The franchisor should not introduce unattractive commercial terms as a mechanism to discourage renewal.

Franchisee's considerations

      • Ensure that you have complied with any notice provisions set out in the agreement regarding renewal as otherwise you could lose your right to renewal.
      • Franchisor's considerations:
      • Should the franchisee have the right to renew an indefinite number of times or just once?
      • Do you want the right to vary the terms of the franchise agreement upon renewal?
      • Do you want to use renewal as an opportunity for the franchisee to bring their franchise up to standard and offer refresher training e.g. to renovate/refurbish and purchase new, updated equipment - this is particular relevant to shop based franchises.
      • Will you charge a renewal fee and is the franchisee to pay your legal costs incurred?

What if the parties do not go through the renewal process?

If this happens (and it's quite common!) there is sometimes a clause in the agreement addressing what will happen if the parties allow the agreement to run on after the end of the term.

Generally it will provide that either party can terminate the agreement by giving the other a period of notice but that otherwise the terms of the existing franchise agreement will be deemed to continue in force.

Author: Emily Sadler at Paris Smith LLP


Can you break the franchise agreement once you have signed it?

It is surprising how many legal ways there are to break an agreement once you have signed it and  I have set out a selection of these below.

It is not meant as a checklist for those who are seeking to avoid their legal obligations, but it may shed light on and inform some presumptions about the legal efficacy of agreements. Needless to say, any particular situation should be considered by a qualified lawyer having been properly instructed.

1. Both parties agree to breaking the agreement

The first and most obvious example of legitimate breaking of an agreement is if the other parties to that agreement consent to the break.

There may be good reasons why they would do so and, if so, it would be advisable to record that consent in writing and, depending on the circumstances, to insist that it be irrevocable.

2. Be prepared to face consequences

The second is to break an agreement and to accept that there are consequences of such breach and be prepared to accept these consequences.

In the franchise context, this might mean that a franchisee breaks the agreement with the franchisor but is prepared to pay whatever compensation is provided for either under the general law, or specifically under the contract.

3. Demonstrate a fundamental breach

A third category of legitimate break is if the person wishing to break the contract can show a repudiatory or fundamental breach by the other party.

The acceptance of a repudiatory breach by the innocent party brings the contract to an end and can result in the innocent party recovering damages to put it in the position it would have been in if the contract had been performed as intended.

4. Non-binding agreement

You are also legally able to break an agreement if it is only, for example, a gentlemen's agreement or is otherwise not binding.

It might also, for example, be an agreement to agree. Many agreements comprise hybrids of legally enforceable obligations and those which are included in the text to direct people's minds to what else needs to happen, but are not always specific enough to hold the parties to legally binding obligations.

5. Non-consequential

You can also break an agreement if the breach is not material and no consequences flow from it.

So in many situations agreements are being broken all the time, but the way in which they are being broken is not fundamental to the operation of the contract.

6. External conditions

Another situation is where external conditions force a breach of contract.

Confidentiality commonly provides for someone to be permitted to disclose what would otherwise be confidential information if they are legally required to do so by a court order.

It is best not to rely on the general law in this regard and to make sure that the contract is specific about what is permitted and what is not.

7. If the agreement is illegal

If an agreement is illegal, then it is not enforceable and you can break it without legal sanctions.

Also, if an agreement has restrictions that are too broad, which we see in the case of restrictive covenants that are drawn too widely or for too long. In those circumstances you can avoid those restrictions without sanction.

The uncertainty of those situations is, however, irksome and it is not until you actually go before a judge that you will finally know whether or not they are enforceable.

8. Other considerations

- Commonly, agreements provide for parties to avoid legal liability if there are situations which sit beyond the control of one or both of the parties in cases of what is known as 'force majeure'. That is commonly provided as an example and expressly in contracts where elements that are beyond the control of the parties prevent performance.

- Liquidators have powers to disclaim onerous contracts which enables them to break agreements in that sense. Furthermore, where contracts are entered into between businesses and consumers, legislation may provide a get-out for the consumer if any of the terms in the contract are unreasonable.

- It is important to distinguish between provisions that make a contract void and those which only make it voidable. Certain defects of documentation within the corporate sphere can mean that agreements fall into either of those categories. For example, if resolutions are passed incorrectly within a company, then this could make contract void or voidable, as the case may be.

- 'Mistake' is a situation where, in certain circumstances, the parties can avoid the contract. There are various different categories of mistake and it is a topic all of its own, but suffice to say there are situations in which particular types of mistake can lead to parties being able to avoid contracts.The question of signing is interesting, because if the signatory lacks power to sign the agreement, then again that may make the agreement void or voidable.

Conclusion

As you will have seen from the above discussion, it is very wide and encompasses a number of different areas of law and legal practice, each of which merits analysis of its own.

Both Mark Lello and Parker Bullen LLP disclaim any responsibility for any actions or omissions arising as a result of anything mentioned in this article. We would be pleased to provide detailed advice on request and in accordance with our usual terms should anything in this article or otherwise occur to you on which you would like further guidance.

Author: Mark Lello, Managing Partner & Notary Public


Recruiting staff for your franchise business

Lindsay Parkinson from Avensure discussed the recruitment process for franchisees when selecting the right people to work in your franchise business.

Well I have done it…It has been my life-long dream to take on the franchise, but where do I start? There are so many things to consider before I open the doors for the first time under my management. I need to know what the key issues are going to be moving forward.

First steps

It all looks fairly simple from a strategic level, but I need to integrate the people aspects with all other tasks I need to complete to ensure a successful launch. And, as we all know, people are unpredictable. The key elements are quite simple…

      • Hire the right people
      • Issue contracts of employment
      • Issue an employee handbook
      • Manage performance

Hiring the right people seems easy right? The detail makes it more complicated, but making it very simple and breaking it down to a number of key activities:

      • Defining the role
      • Managing the application and selection process
      • Making the appointment
      • Managing performance

Recruitment process

I want the best people in order to promote my brand, I will need to make sure they are professional, understand the products and are able to upsell the business to customers, to enhance their experience and further promote the services we will provide. In order to ensure consistency in your recruitment and selection practices, the following steps provide a framework to follow in order to attract a talented and diverse pool of applicants. Let me break it down into steps so it’s easier and you can see key points.

Identify vacancy and evaluate need

Recruitment provides new opportunities for businesses/departments to align staff skill sets to initiatives and goals, and for business, department and individual growth. Proper planning and evaluation of the role will lead to hiring the right person for the role and team.

Essential job activities

Essential job activities describe the duties and responsibilities of a position. A job function is considered essential when the performance of the function is the purpose for the position.

Typically, an essential function occupies a significant amount of time of the employee’s time and requires specialized skills to perform. By accurately describing the essential functions of the job, job seekers will have a clear understanding of the role and your expectations for performing them.

When developing essential functions for the position the following should be noted:

      • Functions of the job which are critical for the position are arranged by importance and percentage of time spent
      • Complexity level and authority for the role should be described to help attract the appropriate level of qualified candidates
      • Essential tasks listed should be inter-related to the accomplishment of the essential function.

Job description

A job description is at the heart of a successful recruitment process. It forms the basis to develop interview questions, interview evaluations and reference check questions.

A well-written position description:

      • Provides a first impression of the business to the candidate
      • Articulates responsibilities and qualifications to attract the best suited candidates
      • Provides an opportunity to clearly articulate the value proposition for the role
      • Serves as documentation to help prevent, or defend against, discrimination complaints by providing written evidence that employment decisions were based on rational business needs
      • Improves retention as turnover is highest with newly hired employees. Employees tend to be dissatisfied when they are performing duties they were not originally hired to perform.
      • Identifies tasks, work flow and accountability, enabling the department to plan how it will operate and grow
      • Assists in establishing performance objectives
      • Is used for career planning and training by providing clear distinctions between levels of responsibilities and competencies required

Attracting a talented diverse applicant pool

Once you have identified the position purpose, essential functions and qualifications, you will want to go back and review the description.

Is it written to attract an individual who is a top performer? Does it describe the inclusive culture of your organization? Marketing the job to a diverse audience is just as important as accurately describing the role.

Minimum requirements

The minimum requirements or “basic qualifications” are those qualifications or criteria which was established in advance and advertised to potential applicants:

      • They must be relevant and relate to the duties and responsibilities of the job (e.g., should not list driving requirement if not part of responsibilities or duties of the job).
        • “Soft skills” can be required qualifications (e.g., communication/collaboration) and will vary among applicants
        • Not be absolutely ascertained in resume
        • Be evaluated in interview
      • Can be position/department specific (e.g. valid driver’s license)
      • Can be assessed by reviewing the resume
      • Must be objective, non-comparative and business related:
      • The minimum requirements should support the accomplishment of the essential function.

Listing too many skills as requirements significantly limits your applicant pool and selection. It is recommended no more than 3-5 “hard” job skills (e.g., Bachelor’s degree, 5 years accounting experience, experience in accessing and retrieving data from financial systems using PC based tools and other “technical job skills”) in addition to the “soft skills” be listed depending upon the level of the position.

Preferred qualifications

Preferred qualifications are skills and experience preferred in addition to basic qualifications and can be used to narrow down the pool of applicants.

These preferred skills, knowledge, abilities and competencies can describe a more proficient level at which the essential functions can be performed such as prior experience with corporate/institutional event planning (prior experience in a related area can be preferred) and knowledge of applicable policies and procedures (prior experience within the Business system can be preferred).

Advertising

Advertisements should be clear and indicate the:

      • requirements of the job
      • necessary and desirable criteria for job applicants (to limit the number of inappropriate applications received)
      • the organisation’s activities
      • job location
      • reward package
      • job tenure (for example, contract length)
      • details of how to apply and the deadline.
      • Length advertised dependent on the type of role and

Other ways to attract applications include building links with local schools, colleges and universities, working with local jobcentres and holding open days. The list is not exhaustive, but tailor your advertising to the role.

Click here to find out more about the services of Avensure


Grounds for terminating a franchise agreement

There are no special laws applicable to Franchising in UK. So, the general law applies. The basis of the relationship between the Franchisor and the Franchisee in all Franchises is the Franchise Agreement. The law which most often comes into play, therefore, is the law of contract.

The Franchise Agreement

Franchise Agreements are always for fixed terms, usually of 5 years. Franchise Agreements are seldom terminable by notice during the Term by either party.

A Franchisee cannot therefore, without cause, just resign or walk away without being liable in damages to the Franchisor for breach of contract. The relationship is that of two independent contractors. It is not a partnership or a joint venture nor is it an employment contract.

Franchise Agreements are not usually negotiated. This is because a Franchisor will wish all Franchise Agreements to be the same: otherwise the Franchise could turn into a nightmare with each Franchisee having different rights and different obligations.

Taking out a Franchise is rather like joining a golf club. The Franchise Agreement sets out all of the rules. If you had fifty members of a golf club, no-one would want or expect different rules for each member.

As I said earlier, general contractual principles apply to terminating a Franchise Agreement. In practice, however, because of the fact that the Franchise Agreement is prepared by the Franchisor, there are usually differences in practice between the way in which a Franchisor terminates a contract and the way a Franchisee terminates the relationship.

1. Provisions in Franchise Agreement: Termination for Breach:

Franchise Agreements invariably give to the Franchisor very extensive express powers to terminate the Agreement. By BFA rules, notice to remedy any breach should usually be given first to the Franchisee. There are often as many as twenty different express situations in which the Franchisor is allowed to terminate.

For example, non-payment of fees, non-delivery of sales reports or failure to achieve minimum performance. The Franchisor also usually has very wide express rights to terminate the Franchise Agreement if the Franchisee has made any misrepresentation to the Franchisor before the contract is entered into – so it is unusual to see a Franchisor terminating a Franchise Agreement for misrepresentation. He simply terminates for breach.

The Franchisee’s position is the mirror image. The Franchisee usually has no express right to terminate under the Franchise Agreement. The Franchisee only therefore has the rights given by common law to terminate which in the context of particular franchise situations are seldom clear cut. So, the usual way out of Franchise Agreement used by Franchisees is misrepresentation (although obviously only where that is available).

Misrepresentation:

There are three types of misrepresentation:

a) Fraudulent;
b) Negligent; and
c) Innocent

The misrepresentation must be of existing fact rather than an opinion or about the future and the misrepresentation must have induced the entry into the Franchise Agreement.

The misrepresentation must be the main reason why the Franchisee entered into the Franchise Agreement. The remedy for all misrepresentations (subject to the right of the court to award damages in lieu of rescission as set out in Section 2(2) of the Misrepresentation Act 1967) is rescission.

If the right to rescind is exercised, the contract becomes void “ab initio” (i.e.”from the beginning”). That means that all of the Consequences of Termination in the Franchise Agreement fall away (although the Franchisor can still protect his intellectual property by virtue of the general law: e.g. protection of copyright and trade marks).

In franchising situations, most misrepresentations, when they are made, are financial or affect the economic feasibility of the franchise. So it is not difficult to allege that the misrepresentation induced the Franchise Agreement since the main reason why the Franchisee entered into Franchise Agreement is almost always to make money!

Every Franchise Agreement has a clause or clauses within it seeking to exclude liability for misrepresentation, but will it be effective?

These type of clauses are subject to the provisions of Section 8 of the Unfair Contract Terms Act 1977. This Section says in effect that a clause seeking to exclude or restrict liability for misrepresentation made by a Franchisor or remedies available to a Franchisee shall be subject to a test of reasonableness.

Section 11 of the same Act states that the term in the contract needs to be a fair and reasonable one having regard to all the circumstances which were or ought reasonably to have been known or in the contemplation of the parties at the time when the contract was made.

So how does that apply to franchising?

The situation was examined in the recent case of Peart Stevenson Associates Limited v Brian Holland which is a classic case of misrepresentation in franchising.

The facts were as follows. Mr Peart operated through his Franchisor company a franchise called “the Power Service”. Mr Holland had been a senior academic at Wolverhampton University and took voluntary redundancy to take up a franchise. Mr Holland carried out some pretty good due diligence. He asked a series of searching questions, as well as receiving financial information from the Franchisor. He was told by the Franchisor amongst other things that

1) based upon existing experience and the pilot operation carried out by the Franchisor, he could expect a turnover of £60,000 in his first year with a profit of £26,000, both of which would double in the second year.
2) there were 35 – 40 Franchisees in the UK and only 2 Franchisees had ever failed and both by reason of their own shortcomings.
3) the average profit margin was 55% - 60% and Mr Holland could expect that.

Note that all of these three representations were based on existing fact. All of them were false and the judge found them to have been fraudulent. Mr Peart knew they were not true. Counsel for Mr Peart then sought to argue that the misrepresentations were not operative because there was a non-reliance clause in the FA.

The non-reliance clauses were set out in clauses 17.12 and 17.14 of the Franchise Agreement.

Clause 17.12 stated

“The Franchisee acknowledges that this Agreement contains the whole agreement between the parties and it has not relied upon any oral or written representation made to it by the Franchisor or its employees or agents and has made its own independent investigations into all matters relevant to the business.”

Clause 17.14 stated

“a) The Franchisee hereby acknowledges

1) that in giving advice to and assisting the Franchisee in establishing the business the Franchisor bases its advice and recommendations on experience actually gained in practice and is not making or giving any representation, guarantees or warranties with regard to such matters or generally in connection with the sales volume, profitability or any other aspect of the business.”

His Honour Judge Richard Seymour QC decided as follows:
First, he went through the two leading cases, both in the Court of Appeal, before Lord Justice Chadwick of EA Grimstead & Sons Ltd v Mcgarrigan (1999); and Watford Electronics v Sanderson CFL Ltd (2001).

He noted that that part of the judgment in both cases relating to non-reliance clauses in both cases were obiter (i.e. not binding on junior Courts or the Court itself).

In those cases Lord Justice Chadwick had decided that an acknowledgement of non-reliance is capable of operating as an evidential estoppel(an “estoppel” is a legal term meaning that you are not allowed to do something or rely on something: in this case you are not allowed to rely on certain evidence which assists you because there is already an acknowledgement to which you have agreed that there is no evidence). Both cases related to parties to a commercial contract who had equal bargaining power and had the benefit of professional advice. The reasoning was that first the parties wanted commercial certainty and secondly it is reasonable to assume that the price to be paid reflects the commercial risk which each party is willing to accept.

The non-reliance clause must however, he said, satisfy the three requirements of Mr Justice Diplock in Lowe v Lombank Ltd (1960). These are that in order to found an estoppel based on the non-reliance clause the defendants must show that:

1) it is clear and unambiguous;
2) the plaintiff meant it to be acted upon by the defendants (or the plaintiff so conducted himself that a reasonable man in the position of the defendants would take the representation to be true and believe it was meant that the defendant should act upon it). Roughly translated, this means, in effect, in a Franchising situation, that the Franchisee intended that the Franchisor could rely on the exclusion clause; and
3) the defendant in fact believed it to be true and was induced by such belief to act upon it.

The judge in Peart Stevenson decided that whatever approach he adopted neither of the non-reliance clauses provided a defence to the Franchisor in relation to the fraudulent misrepresentations made by the Franchisor. The circumstances in EA Grimstead v McGarrigan were completely different he said from the Peart Stevenson case. The Grimstead contract was a sale of shares with extensive warranties given by the vendor.

The Peart Stevenson case was a Franchise Agreement with no material warranties given by the Franchisor. Mr Holland was not experienced in matters of business. The parties were not of equal bargaining power. The Franchise Agreement was in standard form. The Franchisor did not offer to negotiate the terms of the Franchise Agreement it was offered on a “take it or leave it” basis.

All that could be said in favour of the non-reliance clauses being operative was that Mr Holland had read the Franchise Agreement before he signed it. He believed however that he had a right in any event not to be lied to.

Interestingly, the fact that he had consulted a number of Franchisees on their experience within the franchise was held not to oust the right of Mr Holland to rely on the false representations made by the Franchisor.

The Judge found that the clauses did not satisfy the test of reasonableness in section 11 of UCTA and therefore each of the two clauses was of no effect.

As to the Lowe v Lombank test whilst the judge accepted that the clause had satisfied the first requirement (the clause was clear and unambiguous), it was not accepted that Mr Holland had meant the statements in clauses 17.12 and 17.14(a) (i) to be acted upon by the Franchisor simply by signing the Franchise Agreement. What is needed, the judge said, to satisfy the second requirement is the demonstration of a conscious intention to make the statements upon which reliance is placed or to have conducted oneself in such a way as to lead a reasonable person to conclude that there was such a conscious intention. The judge also found that the Franchisor did not believe the statement, in clause 17.12 and 17.14 (a)(i) to be true: the Franchisor knew that Mr Holland was relying on the misrepresentations.

The judge in Peart Stevenson did cite an extract from Watford Electronics which refers to the Thomas Witter case (1996). He did not however base his judgment on the Thomas Witter case, which was that liability for fraudulent misrepresentation cannot be excluded (which would have been a much simpler basis for the decision).

As to excluding liability for negligent and innocent misrepresentations, it can be supposed that the more innocent the misrepresentation the more likely it is that a non-reliance clause will be effective although at least one prominent commentator has said
“It is difficult to envisage circumstances in which a court would be prepared to hold a term fair and reasonable which sought to exclude liability for representations made during the negotiation of a franchise.”

Termination by a Franchisee for breach of Franchise Agreement:

In order to terminate a Franchise Agreement for breach by the Franchisor, the Franchisee must show that the Franchisor has breached a condition of the Franchise Agreement or fundamentally breached an intermediate term (an “intermediate” clause is one which is neither a condition nor a warranty: it is between the two (see below for a more precise definition).

At law, a “condition” is a very important term in a contract, the breach of which justifies termination. If a term in a contract is a “warranty”, the only remedy is damages.

The Franchise Agreement is drafted by the Franchisor so there are never any express clauses containing obligations on the Franchisor which are stated to be conditions. As to what may be considered conditions, breach of which would justify termination, these might include a Franchise:

1) where no Manual was supplied
2) where no training whatsoever was supplied
3) where no support whatsoever is given.

These are not common occurrences. As to intermediate clauses, these are those clauses which are capable of being broken either in a manner which is trivial and capable of remedy by an award of damages or in a way which is so fundamental as to undermine the whole contract.

The breach has to be so fundamental in order to terminate that in effect the innocent party is deprived of substantially the whole benefit of the contract. In my experience, in franchising, one seldom comes across breach of a single intermediate clause which would justify termination although one can argue that the cumulative effect of a series of intermediate breaches by a bad Franchisor (little support, defective training, and an antiquated System) may allow termination.

If termination is not possible it is always open to a Franchisee to sue for damages for breach in the usual way (and obviously a Franchisee can also recover damages in the event of a termination).

Sale:

A happy consequence for both parties is where a termination occurs because the Franchisee has decided to sell his Franchise. This may be by reason of retirement or because the Franchisee wishes to sell and move on.

Franchisors seldom allow Franchise Agreements to be assigned by an outgoing Franchisee. The existing Franchise Agreement is always terminated as regards the vendor Franchisee and the new Franchisee purchasing the franchise enters into a new Franchise Agreement in the latest form. The outgoing Franchisee must then conform with all of the consequences of termination.

Derogation from Grant:

Derogation from Grant is another way by which a Franchisee may terminate a Franchise Agreement. The principle is much the same as in cases involving leases. That is, a Franchisor is not allowed to give with one hand and take away with the other. If he does, he is considered to have repudiated the Franchise Agreement and the Franchisee may accept such repudiation and terminate.

The leading case on the principle of derogation from grant in franchising is the decision of the court of appeal in Jeffrey Stone and Lynn Ashwell (t/a Tyre 20) v Fleet Mobile Tyres (2006) (the “Fleet Mobile” case).

What happened in that case was the following:

The Franchisor operated a mobile franchise network which replaced tyres wherever that was necessary (at a customer’s home or by the roadside).

The Franchisor granted the Franchisees the right to trade under the trade names. The trade names were “Fleet Mobile” and “eTyres”. The Franchisor operated a central internet service (which was the eTyres part of the operation) and handed out work received over the internet to its Franchisees in the particular territories where the customers needed the tyre to be fitted.

The price charged for the eTyres part of the Franchisee’s work was usually less than the Franchisee received from the Fleet Mobile part of his work. Moreover the Franchisor deducted its expenses for the internet operation (without any authority to do so in the Franchise Agreement) before accounting to the Franchisee for its charge for supplying the tyre. The Franchisees’ vans were all liveried with the Fleet Mobile logo and the other contact particulars of the Franchisee.

The Franchisor decided that the internet part of the business was the future and therefore instructed its Franchisees to change the van livery to identify eTyres as the principal brand with similar changes to business cards, stationery and promotional material where eTyres was to be the only branding.

Lord Justice Keene quoted from the judgment of Lord Denning, Master of the Rolls, in Molton Builders v City of Westminster (1975) as follows:

“[The doctrine of derogation from grant] is a general principle of law that, if a man agrees to confer a particular benefit on another he must not do anything which substantially deprives the other of the enjoyment of that benefit: because that would be to take away with one hand what is given with the other.”

The test is “substantial”, not “total”, deprivation. Lord Justice Keene found that what the Franchisor had sought to do was to inhibit the promotion of the Fleet Mobile Tyres brand by the Franchisees and what he said amounted to a substantial impairment of the Franchisees’ enjoyment of the rights they had acquired under the Franchise Agreement.

He reinforced his reasoning by referring to the judgment of Mr Justice Moore-Bick in Esso v Addison who said:

“…Parties to a contract are unlikely to have intended to make significant derogations through the operation of a subsidiary clause from the primary benefits intended to be conferred under it.”

This illustrates an important aspect of the case. The Franchisor in Fleet Mobile was held to have repudiated the Franchise Agreement without breaching the provisions of Franchise Agreement. On a literal reading of Franchise Agreement the Franchisor was entitled to change the livery of the vans to whatever it liked. Moreover eTyres was one of the trade names, as defined in the Franchise Agreement.

Notwithstanding that, the right of the Franchisor to change the livery was held to be a subsidiary clause which could not be operated to take away the primary benefit of trading as “Fleet Mobile”.

There is another interesting aspect of the case, especially in these times of austerity. In the court below the judge thought that a Franchisee could terminate a Franchise Agreement “if the Franchisor insisted on the Franchisee carrying on its business in accordance with a System that on objective analysis was bound to deprive it of the chance of trading profitably.” The Court of Appeal thought that that was too strong a test.

It would appear therefore that a Franchisee will be able to allege derogation from grant if carrying on his franchised business would substantially deprive him of the chance of trading profitably if that can be blamed by objective analysis on the Franchisor’s system.

The Fleet Mobile case is the only case so far in franchising on derogation of grant. The concept however is used a great deal amongst franchising solicitors, some sprinkling around allegations of derogation from grant like confetti. Perhaps one of the possible developments may arise where the Franchisor also has company owned operations and so conducts the franchise unfairly to favour its own company-owned network over the franchised network

Trading Schemes Act 1996:

This is not a very well known Act outside franchising circles (or indeed, in some cases, within such circles). The Act is very technical. This is a short summary.

The Act amended section 118 of the Fair Trading Act 1973. That section regulates what most people would understand as pyramid trading schemes (and chain letters which are irrelevant for present purposes).

For reasons which I will not go into in detail most, if not all, franchises fall within the definition of a “Trading Scheme” (which is now much wider than it was before 1996).

If a Franchise Agreement falls within the definition of a Trading Scheme (which as I say is likely) it must conform with the Trading Scheme Regulations 1997. If it does not conform, affected contracts can be terminated forthwith and most of the post-termination provisions usual in Franchise Agreements will be unenforceable (although non-compete clauses may survive).

There is a way out afforded by the Trading Schemes (Exclusion) Regulations 1997 and the Trading Schemes (Exclusion) (Amendment) Regulations 1997. So a Franchise will not need to conform with the Trading Scheme Regulations if either:

1) it is a two-tier system. That is, one Franchisor who operates on one level and the only other level consisting of Franchisees; or
2) all parties in the UK involved in the scheme as participants, however many tiers, are registered for VAT.

So if the franchise has more than two tiers, for example, if it is a master franchise (say an Australian Franchisor appointing Regional Master Franchisees in England, Wales, Scotland and Northern Ireland with the right to appoint their own Franchisees in each region) all participants trading in the UK must be registered for VAT. In the above example, the participants would be the Regional Master Franchisees and all franchisees below them. If all participants are not registered for VAT, the agreement will be terminable forthwith and there are criminal and civil consequences.

That is why you will often see Franchise Agreements which provide that the Franchise Agreements will not be effective before the Franchisee is registered for VAT and also if such registration ceases at any time during the Term the Franchise Agreement will automatically expire.

I have in fact recently terminated a Regional Master Franchise Agreement on behalf of a Regional Master Franchisee who was not registered for VAT. The overseas promoter had not had the proper advice on the Trading Schemes Act from his English solicitors. In those circumstances the agreement was terminable right away.

I would add that this Act and its effects are complex and specialist legal advice should be taken in every case on its provisions before taking any action. The above is of necessity an outline summary only.

Expiry:

The Franchise Agreement will also terminate at the end of five years if the Franchisee does not wish to renew it (assuming he could renew it). What happens if a Franchisee does not renew because of the non-fulfilment of one of the terms of renewal or does not renew but continues to trade? Both situations are the subject of two (relatively) recent cases.

Renewal: the Green Thumb Case: Grow with Us Limited v Green Thumb (UK) Limited (July 2006): First, a word on renewal of Franchise Agreements. The usual provisions are (in general terms) that a Franchisee has an express right to renew provided that certain conditions are fulfilled, which include:

1) he has not committed any material breaches during the Term;
2) he serves notice not more than (say) 9 nor less than (say) 3 months before expiry;
3) he is not in breach when he serves notice or thereafter;
4) he signs a new agreement on the then standard terms or on the same terms as his existing Franchise Agreement.

The facts in the Green Thumb case were that the Franchisee wished to renew. The Franchisee had fulfilled all of the first three conditions set out above. The fourth condition was that there should be unspecified “uplifted minimum performance requirements” but otherwise the Franchise Agreement would either be the same as his existing one or the then current form of Franchise Agreement. The Franchise Agreement did not specify who should decide on the extent of the new Minimum Performance requirements.

The Franchisee’s counsel argued that the Minimum Performance requirements should be those which were “reasonable”. The court decided that that was not the court’s function. It was for the Franchisor to propose the Minimum Performance requirements and for the Franchisee to agree them if it did. The Court found that the so-called right of the Franchisee to renew in this case was no right at all. If the Franchisee did not accept the Franchisor’s requirements as to Minimum Performance then there was no contract. In short it failed on the ground of offer and acceptance. There was simply no agreement.

Holding over; the Swinton case: Finally what happens if the Franchise Agreement expires but the Franchisor allows the Franchisee to continue to trade? In those circumstances the Franchisee is considered to be “holding over” even though the Franchise Agreement has expired. What should be the length of reasonable notice to terminate that holding over?

The position was explored in the Swinton case. Paperlight Ltd and Others v Swinton Group Ltd (1998).

Briefly Swinton had for many years been saying to its Franchisees whose contracts had expired that it was in the process of redrafting its renewal form of Franchise Agreement but that it would let its Franchisees have the renewal form of Franchise Agreement “shortly”. The years rolled by. There were various different classes of Franchisees who had been on different Franchise Agreements or to whom different promises were given. Swinton then decided to quit franchising. The question was in all of the circumstances of the case how much notice should certain of the Franchisees be given? Some of the Franchise Agreements had been for 10 years and a renewal had been promised. The Franchisees’ businesses were worth a considerable amount of money. Mr Justice Clarke decided that a reasonable amount of notice for one class of the Franchisees would be five years.

The general view in franchising is that the case was decided on its own special facts. The Franchisees were messed around for a long time and given promises of renewal. Absent those special circumstances (or other special circumstances) the received wisdom is that

1) The length of reasonable notice will depend upon all of the relevant circumstances (which indeed was the principle laid down in the Swinton case); and
2) Depending upon 1) (i.e. all relevant circumstances) the period of such notice is unlikely to be more than one year in ‘non-special’ cases and may be as little as three or six months.

Summary and Caveats

As will be seen from the above, with the continuing development of the law on Franchising, there are some serious traps for the unwary either in terminating Franchises or creating the conditions where Franchisees may be able to terminate. If there is one golden rule that you should always follow, it is “Do not terminate a Franchise without specialist advice from an experienced Franchise solicitor.”

A wrongful termination of a Franchise Agreement could cost you a very substantial amount of money in damages. Creating a repudiatory breach, which a Franchisee may accept and terminate the Franchise Agreement, can have similar consequences.

You must also be very careful when setting up your Franchise. The provisions of the Trading Schemes Act 1996 have been little used over the last decade or so. They are of immense importance in Master Franchising, both in international master franchising and domestic regional franchising.

Author’s biography

The text of this article is derived from the TV programme presented by David Bigmore for Legal Network TV for transmission by the College of Law to the UK legal profession. David Bigmore has specialised in Franchising for the last 25 years. He represents both Franchisors and groups of Franchisees. His work includes setting up domestic franchises and international franchises (both at home and abroad) and dealing with Franchisor/Franchisee disputes. He was an original member of the BFA’s legal committee and represented the BFA in the negotiations with the Government in respect of the Trading Schemes Act 1996. He is the sole UK representative of the International Franchise Lawyers Association and his firm works in association with Goodman Derrick LLP, a leading firm in the City of London.
©David Bigmore Limited: 2014.
 


Franchise deposits – are they ethical?

When it comes to franchise sales, prospective franchisees are anxious to secure a deal whilst franchisors are keen to secure a commitment (usually in the form of a financial payment) from prospective franchisees so that they can take their applications for a franchise seriously and engage in discussions with them.

franchise lawFor a number of years, it was fairly uncommon for franchisors to require franchisees to pay a deposit as a sign of good faith. Most franchisors were content to entertain applications from prospective franchisees and to take time and trouble in explaining to them what was involved.

Short of actually training prospective franchisees or disclosing to them in detail the contents of their operations manual, franchisors did impart a great deal of information about their business system. Franchisees, for their part, tended to be fairly settled in their minds as to the type of franchise they wanted.

For them, it was not so much a matter of choosing which franchisor they wanted to do business with, but rather, a matter of deciding whether they were suited to the category of business (i.e. quick print, dry cleaning, fast food etc.) they had chosen.

In these circumstances if no deal was done, then by and large, each party walked away from the other and there were no recriminations.

What changed?

This idyllic period came to an end in the seventies and as franchising grew apace during the eighties and the nineties, there were more franchisors in the same category of business than previously. This in turn meant that for the first time, prospective franchisees had a choice.

If a prospective franchisee had set his mind on running a convenience store, in the early seventies there would in all probability have only been one franchisor in this line of business. By the end of the mid nineties, there were a number of franchisors who were operating similar businesses. The franchisee would have had a pick of one of at least seven such franchise offerings.

This was also a period when franchisors were finding it easier to recruit franchisees and there were more prospective franchisees on the market looking for franchises than ever before. The combination of these factors led to franchisees being more analytical in their approach, investigating franchises more thoroughly and shopping around.

Franchisors also found that they were spending a great deal of time showing franchisees around who did not necessarily sign up with them. Unlike the seventies, franchisees were now not only examining the concept but the franchisor also and it was not unusual for a franchisor to find, after having spent a day or more with a prospective franchisee, that that franchisee had indeed bought a franchise, not from them, but from a competitor.

Filtering prospective franchisees

For the first time we heard franchisors complaining that some applicants were “time wasters” or “giving them the run around”. Some franchisors determined that the best way to sift the wheat from the chaff was to require prospective franchisees to pay a deposit as a sign of good faith and commitment.

The terms of such a deposit varied from franchisor to franchisor. The object, however, was the same for all franchisors. Each wanted to ensure that the franchisee took the franchisor seriously.

There is nothing illegal about franchisors taking deposits from franchisees. Whatever the agreement between the franchisor and franchisee in this respect, the law will enforce it.

Whether or not the taking of such a deposit is ethical depends on the circumstances under which the deposit is taken and whether or not it is refundable, in whole or in part.

I see nothing unethical in franchisors taking a reasonable sum, by way of a deposit, if it is fully refundable. In these circumstances, it is my experience that problems only arise when the terms for the deposit’s refund are not clearly stated.

Are the deposits refundable?

The taking of a deposit which is not refundable under any circumstances should be regarded as unethical unless the franchisor can justify it.

Most deposits, however, tend to be partially refundable, with the franchisor reserving the right to retain a part of any deposit paid by a prospective franchisee. Here, ethics and fairness seem to go hand in hand. If franchisors wish to take deposits then, the following basic rules ought to be observed:-

1. The franchisor should be able to justify the taking of a deposit.

2. If the prospective franchisee does buy a franchise, he ought to be given credit for the deposit towards the payment of the initial franchise fee.

3. Except in the most exceptional circumstances, a deposit should be either fully or partially refundable. Where it is partially refundable the franchisor should be entitled to retain only that part of the deposit which constitutes a genuine cost to the franchisor of his dealings with the prospective franchisee up to the moment when the deposit is refunded and the franchisor should be ready able and willing to show the prospective franchisee how that figure is arrived at. Without exception the franchisor should be able to justify the amount retained.

4. There should be a definite period within which a decision has to be made as to what is to happen to the deposit i.e. the franchisor should not be entitled to hang on to the deposit indefinitely!

5. Where the deposit or a part of it is to be refunded, it should be refunded without delay.

6. It should be clear at the outset who is to get any interest earned on the deposit.

7. The amount of the deposit must be reasonable bearing in mind the initial franchise fee and the investment the prospective franchisee will be required to make if he purchases the franchise.

Economic considerations

In the present economic climate, some franchisors who were previously taking deposits as a matter of policy are now relenting on this issue and are willing to give prospective franchisees the benefit of any doubt. As franchisors mature, they are more able to form a judgment as to whether or not they are dealing with a “time waster”.

The British Franchise Association has ‘clarified’ its position on the taking of deposits. For the most part, it reflects what is set out above.

Prospective franchisees who have been reluctant to pay deposits to franchisors have, on occasions, suggested that such sums should be paid to the franchisor’s solicitors who are required to hold the money as stakeholders. This can work well but much depends on the nature of the franchise and how much is involved.

In the final analysis, it boils down to a matter of trust between franchisor and franchisee, the reputation of the franchisor and the ability of the franchisee to look after himself.

© Manzoor G.K. Ishani All rights reserved
Manzoor Ishani is a Senior Consultant Solicitor with Sherrards (Solicitors), a commercial practice advising franchisors and franchisees in the UK and internationally. He has specialised in franchising for more than 30 years and is a former member of the Legal Committee of the British Franchise Association and is co-author of “Franchising in the UK”, “Franchising in Europe” and “Franchising in Canada”, and has helped UK companies franchise into more than 32 countries.
 


Franchise Disputes

Franchise disputes arise frequently, not because franchisors are necessarily keen to have a fight with their franchisees or the other way round, but because franchise agreements are complex, commercial contracts which last for a considerable period of time, normally between five and ten years and are entered into by a large number of people – many networks have 200 or more franchisees.

It is inevitable, in such circumstances, that disputes will arise. Essentially disputes occur when either franchisees believe that they do not receive value from the franchisor or the franchisee fails.

How disputes can occur

When a franchisee ceases to believe that he obtains value from the franchisor or simply gets greedy, the franchisee will look at ways of doing work/selling products outside the franchise system.

Sometimes this involves setting up a separate company either through a member of the franchisee's family or simply not declaring jobs. This is, of course, a really serious situation for a franchisor. It goes to the heart of the relationship between the franchisor and its franchisees.

There needs to be trust and good faith. From a franchisor's point of view, if the franchisor allowed franchisees to do this he simply wouldn't have a franchise network and, accordingly, franchisors have to take action when faced with situations such as this because if they don't then other franchisees will do the same.

When a a franchisee fails

When a franchisee fails, a franchisee will usually blame the franchisor rather than himself and, on occasions, he may well be right! These claims normally are in two parts.

First franchisees allege that franchisors have not complied with their obligations in their franchise agreement and, secondly, that the franchisor made misrepresentations – in other words the franchisor has provided information to encourage the franchisee to sign the franchise agreement which has proved to be untrue. Normally this information is of a financial nature and relates to how much money franchisees can expect to earn.

How to handle disputes

The best way to handle disputes is always to look for a commercial solution rather than a “fight”. Usually both parties want to resolve the dispute commercially unless the franchisor really believes that it is essential to make an example of the franchisee so as to maintain the integrity of the network.

If a commercial solution cannot be found (this could include encouraging the franchisee to sell his franchise business) then franchisors and franchisees need to investigate resolving the dispute by way of mediation. Mediation is usually a relatively quick and inexpensive way of trying to resolve a dispute. It does not involve anyone deciding who is right or who is wrong because all that the mediator does is to encourage the parties to resolve their disputes themselves in a commercial way.

Clearly mediation is not appropriate for situations where the franchisor has to take immediate action against the franchisee in order to protect the network, but can be used very effectively in resolving disputes with franchisees. Indeed, in many situations franchisors and franchisees can continue to be “friends” after a mediation.

If mediation isn't successful then the parties will inevitably have to consider arbitration - the BFA offers an arbitration scheme - or litigation. Either way it is going to be expensive.

How the British Franchise Association (bfa) can help

If a franchisee is unhappy with its franchisor and the franchisor is a member of the bfa then franchisees can write to them to complain.

The bfa will encourage the parties to resolve their disputes and can, in certain circumstances (although this is very rarely used) oblige its members to participate in arbitration. Certainly if the bfa receives a large number of complaints in relation to similar matters from franchisees it will look very closely as to whether the franchisor should continue to be a member of the bfa.

Who else can help me?

It is a good idea before embarking on any course of action to obtain franchise legal advice to know how strong or weak your legal position is and to obtain an understanding of the likely costs involved – litigation is a very expensive passtime!

When seeking advice from franchise lawyers always try to obtain a clear understanding of the costs involved so that there are no subsequent unpleasant surprises. If you really believe that there is a major problem with the franchise then there are some advantages (as well as disadvantages!) in getting together with other franchisees.

The major advantage is, of course, that the payment of lawyers fees can be shared, the franchisor has to take your claim seriously if it is made by a significant number of franchisees and the fact that a number of franchisees are making the same claim reinforces the validity of the claim. The down side is that franchisee actions are difficult to coordinate.

Whilst there is normally a great deal of enthusiasm in the early days this often wains and very often franchisees drop out. In addition if you are looking for a repayment or damages from a franchisor your chances of receiving payment may well be reduced if a large number of franchisees are making the same claim because whilst a franchisor might be happy to pay one franchisee £10,000 it may not be able to pay ten franchisees £10,000.

The best advice is to try hard to avoid disputes. Take a long hard look at the situation and obtain impartial and objective advice before you go too far down the dispute route – we have seen too many situations where the dispute simply has too much momentum to stop and, lastly, look at commercial ways of resolving disputes rather than using the courts.

Author: John Pratt, Partner Hamilton Pratt


Refusing a franchisee consent to sell

There is a provision in most franchise agreements that outlines if a franchisee wishes to sell their business then they must seek and receive the consent of the franchisor. It does however also stress that the franchisor should not unreasonable withhold giving permission to sell.

What if the franchisor does not like the buyer (the incoming franchisee) or feels that the price it is willing to pay for the business is too high?

Possible financial failure

The point about the price is that if the buyer buys at a price which the franchisor considers to be too high, it may have a very difficult time of making a success of the business.

The margins and the turnover may just not be there to support a purchase price of that nature. It may be a case of the buyer having more money than sense and a franchisor may feel very strongly about granting consent to a sale in circumstances which it believes will lead to financial failure.

In any event, the franchisor is going to have to show that it has reasonable grounds for refusing. Certainly the point about the business being over-priced will be easier to prove than its point about not liking the buyer. The test is going to be an objective one and unless the franchisor can reach some accommodation with its franchisee, a judge will have to decide, something neither of them wants.

Buying with the intent to sell at a profit

Most franchisees buy a franchise with a dream in mind. For some of them that dream is also their ultimate objective, which is that after a number of years of hard work and dedication they will have built up a business, which they will eventually be able to sell. Surveys have shown that around 13 % of franchisees buy a franchise to increase their investment.

Franchisors encourage prospective franchisees in this dream. However, in commerce as in life, things are seldom straightforward. Franchisees who buy on a promise from the franchisor that they will be able to sell often forget that any such promise was coupled with certain conditions. Certainly most franchise agreements are very clear about such conditions.

However, at the time of buying a franchise, franchisees are concerned about other things. They are concerned to secure the franchise and start the business, and having established that, whether they have the right to sell, but do not concern themselves too greatly about the fine detail of the conditions. So what exactly are these conditions? Most are what one would expect:

      • Training the buyer
      • The payment of the franchisor's costs and (sometimes but not invariably) some sort of fee by way of franchise transfer fee
      • Obtaining the consent of the franchisor
      • Rights of first refusal in favour of the franchisor (sometimes)

Most seem innocuous enough but the devil, as they say, is in the detail. The condition which creates the most difficulty is the one which requires the franchisee to obtain the franchisor's consent.

Ensuring standards are maintained

Franchisees need to be reminded that one of the prime objectives of a franchisor is to ensure that standards are maintained, and this means ensuring that all franchisees satisfy the franchisor's criteria with regard to ability, skill, financial strength, character, etc.

Just as franchisors are very careful in the selection of their initial franchisee, so they are keen to be equally careful in approving an incoming franchisee who buys from an existing one.

Were they not so careful they would soon find themselves with a sub-standard network of franchisees, many of whom would have acquired their franchise from an existing franchisee. It makes sense therefore that all prospective franchisees, irrespective of how they came to be prospective franchisees (and this includes candidates introduced to franchisors by brokers, consultants etc.) satisfy the franchisor's criteria for franchisees and pass the same rigorous tests.

Those franchisees, while accepting the underlying reasons for the imposition of such a condition, nevertheless feel uncomfortable about the franchisor retaining total discretion as to whom they can sell their business. It is a circle that cannot be fully squared and franchisees usually content themselves with having to rely on the reputation of the franchisor by talking to existing franchisees and doing their homework to see whether or not in the past, the franchisor has exercised such powers as it has retained, reasonably.

Past conduct

Past conduct is of course no guarantee as to future conduct, but it is now by and large accepted practice that most prospective franchisees rely on the reputation of a franchisor amongst its franchisees.

It is not all one-sided in favour of the franchisors. One has to remember that a franchisor has little to gain by being obstructive and in my experience there has been virtually no abuse of such a condition by a franchisor.

As always a distinction has to be made between those franchisors who are ethical and those who are not. Prospective franchisees therefore need to take care to investigate the franchisor's track record and background thoroughly, and to take proper advice on the franchise agreement, because the same set of conditions can have remarkably different effects when operated by different franchisors.

For the buyer the big question is – if it knows that the franchisor is dead against the idea why would it want to persist in its proposed purchase?

© Manzoor G K Ishani. All rights reserved.

Manzoor Ishani is a Senior Consultant Solicitor with Sherrards (Solicitors), a commercial practice advising franchisors and franchisees in the UK and internationally. He has specialised in franchising for more than 30 years and is a former member of the Legal Committee of the British Franchise Association and is co-author of “Franchising in the UK”, “Franchising in Europe” and “Franchising in Canada”, and has helped UK companies franchise into more than 27 countries.


Terminating a franchise agreement

A franchise relationship is one, which should be capable of subsisting over a long period of time. Nevertheless there will be occasions when it comes to an end.This can arise in a number of ways:

      • There may be a breach of the franchise agreement by the franchisor .
      • There may be a breach of the franchise agreement by the franchisee . Usually the agreement will provide for the franchisee to be given the opportunity to remedy his breach before the franchisor will terminate.

Where, at the end of an agreement for a fixed term, the franchisee, who may hold a right of renewal, may choose not to exercise that right. The franchisee may sell the business and the purchaser may be granted a new franchise agreement if that is permitted.

The interests of the franchisor and franchisee on termination are similar, although viewed from a different angle. Each is concerned to safeguard his commercial and financial interests.

The franchisor will be concerned to safeguard his commercial interests so that he can appoint a replacement franchisee. On the other hand, the franchisee will be concerned to recover as much as he can financially, and to minimise the extent to which his future business activities will be restricted by the fact that he was a franchisee.

The Consequences

Most well-drafted franchise contracts will spell out clearly what is to happen upon the termination of a franchise contract for whatever reason.

The post-termination provisions of a franchise contract can usually be broken down into two categories.

The first category will deal with those aspects which are concerned with the severance of the relationship and the protection of the franchisors name and goodwill.

The second category will deal with the method by which the franchisor will seek to protect his franchise's know-how, trade secrets, and business methods so as to prevent the departing franchisee from unfairly making use of them in order to compete with the franchisor and the other franchisees.

Goodwill

The objectives of the first category are usually secured in the following way:

The franchisor will be anxious to ensure that customer contact and continuity of service is maintained with the customers of the departing franchisee. In this respect, a well-drafted franchise contract will provide for the transfer of existing contracts between the franchisee and his customers to the franchisor together with any necessary financial adjustments.

To complete the change of the visible public image reflecting the franchisors name and goodwill, the franchisee will be required to take certain steps such as:

      • Make application to the appropriate authorities to cancel any trade mark licence, which may be recorded with them relating to the use by the franchisee of the franchisor's trademarks or service marks
      • When appropriate, change the fascia, décor and shopfitting of premises and the livery of any vehicles
      • Return all advertising, packaging, marketing and promotional material associated with the franchise
      • Cease to use stationary, literature, etc. bearing the franchisors trademarks and service marks, trade names and other reference to the franchise
      • Return operations manuals
      • Cease to use the franchisors system
      • Cease to use the franchisors copyright material

Protection

The objectives of the second category are usually secured in the following way:

The franchise contract will contain promises on the part of the franchisee which are commonly known as convents in restraint of trade and non-competition convents. For example, it is usual for the franchisor to extract a promise from the franchisee in the franchise contract that the franchisee will not compete with the franchisor, or any other franchisees within a certain area and stated period after termination.

The franchisor will be anxious to ensure that the franchisee does not disclose any confidential information imparted to him while he is not used to compete with the franchisor, or any of his franchisees.

Restraints

Difficulties arise in relation to the imposition of restraints on the future business activities of the franchisee and the extent to which they may become competitive with the business of the franchisor and his other franchisees.

It should be appreciated that to some extent each franchisee is concerned that a fellow franchisee should not breakaway and engage in unfair competition, making use of the knowledge acquired as a former franchisee.

The fixing of reasonable periods of time and area of operation has to be done by reference to what is permitted by law, the nature of the business and its area of operation. Obviously, the criteria applied for a retail shop in a densely populated city will be different from those, which will apply to a mobile phone operation in a sparsely populated rural area.

Settlement

By and large, most terminations, even for breach, can be settled between franchisor and franchisee in a civilised way.

Once the relationship has broken down an amicable parting is usually capable of achievement and will provide the best solution for a franchisee whose business may be bought, either by a franchisor, or by a prospective franchisee who is interested in taking it on.

Sale of Stock

Where property does not play a significant part in the operation of a particular franchise, the franchise contract may nevertheless require the franchisee to sell to the franchisor all his equipment, stock of products, etc. Such provisions operate for the benefit of both parties.

They enable the franchisor to ensure that the franchisee is divorced from the franchise system.

The franchisee, on the other hand, is able to obtain a fair price (if the content is properly drafted) for his equipment and stocks. These would otherwise be of little use to him, given the nature of the non-competition and restraint of trade covenants, which are invariably to be found in franchise contracts.

As we have seen, the end of a franchise relationship need not be as traumatic as some people appear to believe. If the franchise is subject to a well-drafted contract, there is no reason why both parties should not know precisely where they stand in such a situation and be able to separate amicably.

However, this subject does provide yet another illustration of the need by both parties to have a contract which has been professionally prepared by an experienced franchise lawyer and specifically for the franchise in question with the objective of covering such eventualities as are foreseeable in that particular franchise.


The risks and rewards of social media in franchise networks

The relatively recent explosion in the use of mobile technology, tablets and increased access to the internet has disrupted the traditional one-way marketing approach of "control, command and influence" and lengthened the buying cycle of consumers.

Brand owners now need to engage in a genuine two-way conversation with their target customer by finding, following, engaging, creating relevant content and building trust with their target online customer – all in the name of ultimately making a sale.

Social media is a powerful tool for any business, but there are a number of legal risks which can arise if it is misused and social media has the potential to create more harm than good for a brand.

For franchisors, there is an additional layer of risk and opportunity. Franchisors therefore need to develop a clear online strategy and look to harness the resources of their employees and franchisees to drive brand participation, awareness and sales, whilst at the same time retaining ultimate ownership over the brand, its presentation and the key brand messages.

The key legal risks

The key legal risks include:

      • the misuse of the brand online which can lead to reputational damage;
      • engaging with consumers and user generated content can create liability for website operators in respect of defamation, infringement of third party intellectual property rights and breaches of advertising codes of conduct and regulations;
      • relationship theft and potential breaches of confidentiality and data protection; and
      • an increased risk of misrepresentation where franchise sales and franchisee recruitment is being conducted online.

Can franchisors prohibit their franchisees from participating in social media?

Outright bans on “passive selling” are not permitted under European Competition law and franchise agreements which include these types of "hard core" restrictions put the franchisor at risk of substantial fines and/or having their entire agreements rendered void and unenforceable.

Operating a website is deemed to be passive selling but the European Commission's (EC) guidelines are unclear where the use of social media sits with this definition, and in particular social media on third party platforms.

It is arguable that a franchisor can prohibit this type of activity within the EU, but even if that is true now, the general direction of competition law suggests it will not hold true for much longer. In time, the EC may deal with social media and other forms of online marketing and bring them expressly within the meaning of "passive selling".

Outside of the European Union, subject to the local laws of the territory in which the franchisee operates, it may or may not be possible to prohibit a franchisee's participation in online activities.

However, whilst this may be legally possible in some jurisdictions, from a commercial point of view, is prohibition really in the interests of a franchisor's target consumer who expects a seamless and consistent brand experience, regardless of where they are in the world and whether the interaction is with the franchisor itself or one of its franchisees?

The answer to that question is invariably "no". One of the strengths of franchising is the ability for a brand owner to tap into a franchisee's capital resources and their knowledge of the local market (and local language and culture, in respect of international franchising). If this is true for a bricks and mortar business, then as technology increasingly integrates the digital and the physical world, it is logical that franchisees should also play a role in the online activities, such as e-commerce and social media.

There are, broadly speaking, four potential sources of misuse and they all need to be managed differently:

1. Employees' personal use of social media

A few years ago, two employees of a well-known pizza chain posted obscene video-clips of themselves on YouTube "experimenting" with novel and unhygienic pizza toppings. The YouTube clip received over 1 million hits and was an international news story overnight and caused significant brand damage.

Whilst it is impossible to prevent employees from doing stupid things, it does nevertheless highlight the importance of ensuring that you have appropriate guidelines and training for an employee's use of social media within the workplace. These guidelines should ensure that:

      • the personal use of social media does not make any reference to the company for whom they work and this would include the use of the company name in Twitter handles for example or Facebook account names;
      • it is clear what is acceptable and not acceptable behaviour; and
      • employers have a right to monitor employees' use of social media.

An effective social media policy and social media guidelines have been used successfully as a defence against unfair dismissal. However, it is important to note that dismissing an employee for breaching these guidelines must be proportionate to the harm done.

2. Employees' business use of social media

The issues of ownership and use of social media accounts (and access to their followers) have been widely debated, but little judicial guidance exists. However, the courts have confirmed that LinkedIn contacts can constitute confidential information belonging to an employer.

Franchisors should consider approaching the ownership of social accounts in the same way as they do with trademarks and domain names. The main social media platforms grant non-exclusive and non-transferable licences to the account holder and are reluctant to be drawn into disputes over account ownership. If the ownership of the account is with an employee or franchisee, it can be very difficult for a franchisor to take back ownership of that account once its relationship with the employee or franchisee comes to an end and the franchisee or employee is unwilling to transfer the account to the franchisor.

There have also been a number of reported instances of employees inadvertently disclosing confidential information via social media, breaching Data Protection and Privacy regulations or failing to respond appropriately to online reviews and posts about the brand and its products and/or services.

A further area which is particularly relevant to franchise networks which use social media as a recruitment tool for new franchisees is the risk of misrepresentation. As with all marketing collateral, it is important that any and all financial statements and projections can be substantiated, are based on clear assumptions and are accompanied with appropriate disclaimers. These principles should underpin any training which is given regarding "real time" conversations with prospects.

Franchisors should develop a business-use policy which clearly sets out:

      • the roles and objectives of the relevant employee;
      • who registers for and own accounts and has access to administration rights for social media accounts;
      • a damage limitation policy and procedure to enable the franchisor to respond quickly and effectively to events unfolding online;
      • clear "rules of engagement" for members of the sales team who might engage in "real time" conversations with potential franchisees; and
      • special terms in employment contracts, particularly in relation to confidentiality and non-competition for key individuals who are entrusted with the development of the social media policy.

3. Consumers

"User generated content" typically means comments, video, audio clips and pictures which are posted by consumers as they engage with the brand online either on social media pages on the franchisor's or franchisee's own website or on third party platforms such as Twitter, Instagram or Facebook.

In respect of corporate websites, there is a risk of criminal and civil liability for the website operator in relation to the infringement of intellectual property rights, defamation and the breach of applicable advertising codes.

Previously, website operators ran a high risk for assuming legal liability for defamatory content which they actively moderated. The Defamation Act 2013 has improved this position for website operators and provides a new defence; website operators can use the defence where the author of the defamatory material is identifiable and the website operator responds to the complaint in accordance with the new statutory process.

Therefore, on corporately run websites it is essential that franchisors and franchisees have an acceptable user policy and also a legally compliant process for handling complaints and removing infringing content.

If franchisors wish to use user generated content as a means of marketing and promoting their products and services, it is important that they effectively obtain appropriate waivers of moral rights and consent to use such material.

Franchisors in the UK should also be aware that use of this "adopted" content in online promotional campaigns (as well as any promotional content it generates itself) is subject to the rules and regulations of the Committee of Advertising Practice. US law takes a similar approach.

Finally, in relation to third party platforms such as Facebook, franchisors need to be aware that these platforms have their own specific rules and regulations on legal liability and promotional campaigns.

4. Franchisees

Generally speaking, it is important to ensure that a franchisee is regulated by the franchisor in the same way as the franchisor regulates the personal and business use of social media by its employees.

Business-Use Policies and Personal-Use Guidelines should be adapted where appropriate for a franchisee to use in their own business and in respect of its employees.

There should be clear policies, procedures, processes and training in relation to the operation and presentation of social media pages which are not directly controlled by the franchisor, including which platforms are authorised and how social media campaigns are run in conjunction with the franchisee's business.

The Franchise Agreement should refer to the "social media policy", which should capture these processes and procedures and sit within the manual as an evolving policy which can be adapted from time to time to take account of changes in technology and consumer preferences. Franchise Agreements are typically out of date on this crucial area of marketing compliance.

Traditionally, the frame of reference in franchise agreements only extends to the franchisee's ability to operate a website. Franchisors should consider expressly drawing in the use of social media and ensure that the references to social media tie in with the obligations on confidentiality, contributions towards marketing funds, general marketing obligations, the rights of termination and the consequences of termination of the franchise agreement.

Conclusion

Franchisors and their key stakeholders should develop a social media strategy which is appropriate for their business. The strategic thinking should include identifying the key commercial and legal risks and reducing and managing those risks through effective policies, procedures and training.

Below are some final tips to help franchisors reap the rewards and minimise the risks of using social media:

      • special terms in employment contracts, particularly in relation to confidentiality and non-competition for key individuals who are entrusted with the development of the social media policy.
      • policies and procedures will not eliminate the risks, but they will help manage them;
      • policies should be dictated by practice, not vice versa;
      • educate, monitor and train employees and franchisees;
      • ensure that policies and procedures link into employment contracts and the Franchise Agreement;
      • consider the approach to user generated content;
      • consider special terms for key players in the social media strategy; and
      • take legal advice if there is any doubt about what to do!

Author: Gordon Drakes is a Senior Associate at the law firm, Field Fisher Waterhouse LLP. Gordon is a commercial lawyer specialising in franchising and licensing and the firm's practice is ranked as the leading franchising practice in the UK by the independent legal directory, Chambers & Partners (2014 Edition).


Legal advice for buying a franchise resale

Buying a franchise is a big decision. It is difficult enough when it is a green field site. When it is a "used franchise" that has already been operated by a franchisee and is being sold on it is even more complex.

This is because you are undertaking two totally separate transactions. The first transaction is the purchase of the right to operate the business under the Franchisor's brand and using its know how. The second is the purchase of an existing business , with all of its potential liabilities and creditors. Each transaction is related to the other but is with different parties. The franchise purchase is with the Franchisor. The business purchase is with the outgoing franchisee ( unless the franchisor has already bought it from the former franchisee and is selling it on to you). The two transactions need to be co-ordinated so that they both complete at the same time.

Buying the franchise you will need to do your due diligence on the concept by, amongst other things, speaking to as many of the existing franchisees as is practical. You need to learn the four basic rules of life for franchisees. These are that;
(1) You must take and follow professional legal and financial advice,
(2) you must follow the system,
(3) You must work hard and
(4) You must accept that you may fail.

Buying the business you need to decide whether you are buying the shares in the existing company or merely its assets. Purchasing the shares is often easier but means that you are taking on all of the company's debts and liabilities as well as its assets. Buying just the assets allows you to be more discriminating in what you purchase.

There are tax, employment, pension, real estate and other legal issues that need expert attention when buying an existing business and without such advice you will be heading for big and potentially very expensive problems.

It is therefore essential that when purchasing a resale franchise you invest in good quality expert advice from a lawyer who has a proven track record of such deals. Not to do so will mean that you are being penny wise, but pound foolish.

 


What is a side letter?

It is generally accepted that Franchisors do not amend their Franchise Agreements when contracting with new franchisees or when renewing a Franchise Agreement with an existing Franchisee. There are good reasons why this approach is undertaken.

Franchisors spend considerable time, effort and money investing in their franchise brand and systems and it is this product that franchisees are buying into when they agree to acquire a franchise from a Franchisor. They are also acquiring a proven model which, if run in accordance with the Franchisor’s instructions, is intended to provide success in the Franchisee’s business.

Look for uniformity

Uniformity in the Franchise Agreement assists the Franchisor in ensuring the same package is provided to each Franchisee. Ultimately, where the Franchisor has a significant number of Franchisees this uniformity decreases its management costs and allows it to provide a better service to all Franchisees.

Furthermore, the Franchise Agreement is integral to protecting the Franchisor’s brand and it is imperative that it controls all Franchisees’ use of that brand in the same way. If Franchisees were given a variety of different rights in relation to the brand, its value would likely decrease.

The Franchise Agreement itself is usually a substantial document totalling in excess of fifty pages. It is extremely costly for both the Franchisor and the Franchisee to seek legal advice and draft and agree amendments to the document. If a Franchisor negotiated each franchise agreement this increase in its costs would be reflected in an increased franchise fee and ultimately the start up costs for the Franchisees.

Seek clarity

A Side Letter is an extremely useful tool for succinctly clarifying and supplementing the terms of a Franchise Agreement and in specific circumstances, where agreed with a Franchisor, a Side Letter may also vary specific terms.

Both the Franchisor and the Franchisee rely on the Side Letter as it reflects the agreed deal between the parties upon which their business relationship is based and should a situation arise in the future whereupon the Side Letter is to be relied on, it is essential that it is deemed enforceable in the same manner as the Franchise Agreement.

Case Study

Case of Barbudev v Eurocan Cable Management Bulgaria EDOD & Others. The recent Barbudev case concerned an individual who had agreed that on the sale of his company he would receive shares in a new company via an Investment Agreement.

It became clear that his company was to be sold before the Investment Agreement could be drawn up and the parties entered into a Side Letter regarding their intention to enter into an Investment Agreement. The Side Letter was challenged and the High Court concluded that, due to the manner in which it was drafted, it was merely an agreement to agree, and thus not legally binding.

This will raise concerns within the franchising community due to the reliance placed on side letters as noted above.

Tips when putting together a Side Letter

Ultimately it will be always be up to the Courts to decide the enforceability of the terms of a Side Letter. However, below are some tips to consider when putting together a Side Letter:-

  1. Get your lawyer’s opinion.
  2. It will usually be cheaper to ask your lawyer to put together your Side Letter as he or she will have knowledge of your franchise agreement and business. However, if you have decided to draft your own Side Letter ask your legal adviser to review it.
  3. There must be an intention between the parties to create legal relations.

It is not enough to rely on the title of a Side Letter as being supplemental to a Franchise Agreement to suggest that there is an intention to create legal relations.

This will ultimately be decided based on the communication between the parties and the contents of the Side Letter. However, as a Side Letter is usually signed at the same time as the Franchise Agreement this will assist in the assumption that it was the intention of the parties to create legal relations. Attaching the Letter to the Franchise Agreement also helps to confirm the parties’ intentions.

The Letter should also include clauses known as “boiler plate” clauses for example specifying the law governing the Side Letter, to confirm that it is to be considered a legal agreement.

During the negotiation of a Side Letter, the parties may include wording such as “subject to contract” or “draft” and it is important that any such wording is removed prior to signature.

Finally, it is important that the Letter is signed by the parties. If the Letter is signed by a Representative of either party they should have appropriate documents confirming that they have been given the power to sign on behalf of that party. Care should also be taken in relation to the timing of signature to ensure the franchise agreement does not supersede the Side Letter. Inclusion of an ‘entire agreement’ will cover this issue.

4. There must be certainty within the Side Letter.

The wording used within the Side Letter must be certain and not simply an agreement by the parties to agree something in the future. As with the Barbudev case above, such agreement may not be legally binding.

The case highlighted again that the Courts will not “make” a contract but will only interpret it and it is therefore extremely important that the terms of the Side Letter are as precise as possible.

5. There must be consideration for the Side Letter.

All contracts must contain some form of consideration. This is easily dealt with in the Franchise Agreement as a franchise fee and monthly payments are usually payable however it may not be so clear in the Side Letter. It should be noted that this consideration may be both in the form of money or obligations.

Where there is any doubt over consideration the Side Letter should be completed as a Deed.

Conclusion

Many Side Letters are put together quickly at the last minute which usually leads to mistakes. Should the parties need to rely on the Side Letter at a later date, as can be seen from the Barbudev case, care must be taken over both the structure and content of it.

Side Letters are extremely important to both Franchisors and Franchisees and if they were to be considered unenforceable it would be to the detriment of both parties.

Mundays is a leading law firm which provides specialist legal advice to corporate and private clients. Established in 1960 and based in Surrey, Mundays has a diverse client base that includes major international and national companies as well as smaller businesses, individuals and families. Mundays specialises in Corporate & Commercial, Dispute Resolution, Employment, Family, Private Wealth, Property, and a wide variety of industry sectors.


Pitfalls to look out for when entering into business contracts

Both franchisors and franchisees regularly enter into business contracts as part of their franchise business. For example franchisors may contract with suppliers to provide certain goods for their franchisors and franchisees would regularly contract with clients to provide various goods and services.

When entering into any contract with a new business partner and/or client, it is extremely important to be aware of areas where you need to be on your guard. This is not to say that your new partner is out to deceive you, but there are many pitfalls within the process of signing a new contract that, if you slip into, can be difficult to get out of.

You should have in mind a basic checklist of issues you need to be aware of. Not all are legal but all certainly represent good commercial sense and will help avoid problems, whether of a legal nature or otherwise.

You must know who you are signing your agreement with.

This sounds obvious but how much do you really know about the other party? Many businesses fail to spend enough time ‘checking out’ their prospective business partners.

It is well worth researching their past deals, the current work they are undertaking and the sort of businesses they currently have contracts with in the same way that franchisees originally researched their franchisors.

Through identification of their past and present business partners you can obtain references, which are a vital resource when validating the credibility of your potential new partner.

A credit check and review of their statutory accounts will also aid in this evaluation as it is an indication of a company’s creditworthiness and the potential financial risk of dealing with them particularly if they have the potential of owing you money. You should also get details of their corporate structure and ensure you are dealing with the main trading company in the structure.

Next steps after initial research

Once you have done your “homework”, the next step will often be the signing of a non-disclosure agreement (NDA), or confidentiality agreement (CA) which will be similar to that which a franchisee signs with a franchisor before being provided with a franchise agreement.

An NDA/CA can be mutual, meaning both parties are restricted in their use of information exchanged, or one way which restricts only one of the two businesses. The issue for each party is to make sure that the information provided is used for a specific purpose, cannot be passed to or used by a third party and that it remains confidential whether or not the deal proceeds.

Do bear in mind that when passing over information, and regardless of how watertight your NDA or CA is, you should never disclose any more than you have to and certainly not find yourself in a position where you end up having given away the “family silver” for example in the form of sensitive commercial information in your contracts which your prospective partner would like to get hold of.

Understand expectations

It is surprising how often the parties do not really understand what their respective obligations are to each other and what is expected of them. The more detail included in the agreement the better.

It will be more beneficial in the long run for both parties if the objectives are clearly set out in the contract. Key Performance Indicators (KPIs) and Service Level Agreements (SLAs) can be a useful tool as they force the parties to think exactly what is required, agree the service level standards (often by reference to time) to which they will work and in so doing clarify issues that might otherwise not have been thought about, or resolve something that had been misunderstood and could have become an issue at a later stage.

Clear provisions regarding payment terms need to be set out detailing what is due and when. This is important to both parties as the payer should be legally bound to pay contractual payments due when required and the payee must have the security of knowing that it will be receiving the money agreed upon on a certain date.

Also written into the contract must be the auditing of the financial statements of the payer, any interest added to the required amount if a late payment occurs and, where possible, a guarantor who can pay the sum required if the business partner is unable to. If you are working with an overseas company, bear in mind the currency for payment and whether you may be taking a currency risk which should be hedged.

Clearly states terms

The term or length of the contract must be clearly stated in the agreement and understood by both parties, as this recognises the commitment that the business partners have to each-other.

When thinking about the term bear in mind the length of time it might take you to recover your set up costs. You should also consider the reliance you might have on your new business partner, particularly if that partner will represent your biggest client.

Any agreement will have termination provisions which could inevitably leave you exposed particularly if there is a termination for convenience clause included. You should also consider whether the contractual arrangements should be exclusive so that you know you have all the business in question. Such a request is likely to be met with a demand for strict performance criteria on your side.

Clarify termination process

The termination process will tend to concentrate on circumstances when the agreement will terminate automatically. For example, if one of the parties goes into liquidation then the agreement should terminate immediately.

However, there are more subtle termination processes such as those where a party fails to meet a sales target or is in breach of another term of the agreement and fails to remedy it. You need to make clear the circumstances in which you want the agreement to terminate especially if you need to appoint a third party to replace your business partner.

The termination provisions should also consider the consequences of termination in terms of liabilities and how you might wish to limit the liabilities that you have. For example, you would not want to leave yourself open to open-ended claims for damages where the other party claims that their whole business collapsed as a consequence of you not performing your contractual obligations.

Cater for potential disputes

The contract should contain provisions for dealing with disputes. In practice, one hopes that the parties will be talking to sort out any issues. However, sometimes it is useful to have an escalation provision within the agreement setting out how disputes will be dealt with, starting with, for example, two senior representatives of each party meeting together to try and resolve the issue.

Following that, many people believe that courts are the last place where commercial disputes should be resolved and therefore recommend mediation to deal with any problems. The provisions of such terms need to be carefully set out and in particular address whether the outcome of such discussions will be binding on the parties. Whatever happens, you need to set out the law which will govern the terms of the contract and, regrettably, which court or arbitration process will deal with any dispute in the event that the resolution provisions have not been successful.

Benefits of contracts

Contracts between businesses are what keeps the franchising world spinning, but they also provide a potential minefield for both parties. By making a contract as clear and specific as possible, it will help in the long run when clarity is needed on a matter that may arise.

As beneficial as it could be to form a new business partnership, without getting the contractual agreement correct from the beginning, it could do more harm than good. The best sort of agreement is one which is put straight into a drawer and forgotten about and the parties get on and do business based on the understanding they originally agreed and talk as and when there is any issue. However, you need that contract in case it does all go wrong which should tell you what happens in such a situation and how to deal with it.

Author: David Irving is a Partner at Mundays LLP


Internationalisation of franchise networks - part 1

Introduction to international franchise networks

After a successful development of his network on his domestic market, a franchisor can rightly be tempted by seeking new growth drivers through international expansion.

International expansion can prove to be very profitable for the franchisor provided that it is well and carefully prepared and planned in advance.

The following developments aim at giving franchisors a general overview of the most important legal issues to be taken into consideration once the choice of growth through internationalisation has been taken.

These issues are the following:

    • The choice of the right business model (direct setting up of operations, joint venture, master franchise, area developer, unit franchise, simple license) for the right country (1);
    • The protection of the trademark in the target country (2);
    • Compliance with the requirements of local law in terms of pre-contract disclosure and registration (3);
    • The choice of the law governing the agreement and compliance with local overriding mandatory rules (4);
    • The choice between national courts and arbitration or a mix of these two dispute resolution systems (5).
    • Last, the tax and foreign exchange regulations in the target country (6).

1. Choice of the model for international expansion

From a legal perspective, the starting point for a franchisor wishing to expand its franchise network abroad through franchising is to determine what model suits best to its expansion.

Depending on its financial resources, the originality and complexity of the concept, its development philosophy and the specificities of each country, the franchisor may choose between various options:

    • the direct setting up of a subsidiary in charge of running the local network (1.1);
    • a joint-venture with a local partner to run the local network (1.2);
    • a direct cross-border franchise (1.3);
    • a master franchise (1.4);
    • or less stringent systems such as licensing (1.5).

1.1 Setting up direct operations

Setting up a direct entity in the targeted foreign country to manage and develop the network allows the franchisor a direct and solid control over the network’s development.

This model is reserved to franchisors having sufficient financial and managerial resources in order to hire local employees in charge of the franchisees’ recruitment, training, and monitoring.

However, in some countries, the support of local partners can be advisable notably to get entries with local public administrations.

1.2 Establishing a joint-venture with a local partner

Joint-venture can be an interesting option for the franchisor because (i) the costs and profits are shared with the local business partner who – at least supposedly – has knowledge of the local market and (ii) the franchisor still has a direct eye on the operations in the country.

Once set up, the joint-venture can operate stores directly and/or become a master franchisee and develop a network of sub-franchisees in the country.

A good example of a successful mixed network of branches and franchisees is the case of Mc Donald’s in China. Mc Donald’s decided to enter the market by setting up a joint-venture with a strong local partner (Beijing Agricultural, Industrial and Commercial Federal Corporation) in charge of dealing with local officials. The joint-venture first opened hundreds of directly operated restaurants and from 2004 Mac Donald’s developed a franchise network, with the aim of having a total of 2,000 restaurants in 2013.

1.3 Direct cross-border franchising (through unit franchise or Area Development agreements)

Direct franchising from homeland can be an efficient way for developing in border countries which are close to the franchisor’s domestic market, where the consumption patterns are similar and where the language is sometimes the same.

Indeed, in these countries, providing direct support and training to the franchisees is not too complicated thanks to the geographic proximity.

As an example, French networks expanding abroad often choose to expand first into Belgium and Luxemburg through direct franchising.

The franchisor may choose between entering into Single Unit or Multi-Unit Franchise Agreements (called Area Development agreements), depending on the financial resources of the franchisee, the size of the territory and the franchisor’s strategy.

Under Area Development agreements, the same franchisee is authorised and requested to open several franchised units within a certain territory and over a certain period of time.

The main advantage of Area Development agreements is that they allow a continuous expansion of the network with selected partners and spare the time that would otherwise be necessary to find new franchisees.

Direct franchising is complicated in distant countries because it is not easy for the franchisor to provide support and training from a long distance.

In addition, direct franchising is not always permitted by local law. For example in China, following the entry into force of the last regulations on franchising in 2007 and 2012, it is still uncertain whether foreign franchisors are permitted to offer direct franchising from outside China to local Chinese franchisees without having to establish a presence in Mainland China – or at least in Hong Kong – first.

1.4 Master franchising

In this model, the franchisor appoints a local partner called Master franchisee who will act as the franchisor in the territory with the aim of developing the network through sub-franchising.

Master franchising offers a lower level of control on the franchise network to the franchisor but is an efficient way of developing in foreign countries for three main reasons:

    • it allows a quick expansion with limited financial resources since it is the Master franchisee who will bear most of the financial risk;
    • it requires limited human resources compared to direct franchising;
    • it provides the franchisor with a business partner having a local expertise.

Master franchise is therefore often the preferred choice for a franchisor expanding abroad.

Of course, the franchisor must carefully choose the master franchisee because in many ways, successful market entry will depend on the qualities of the latter and a bad choice could severely and durably damage the reputation of the brand.
The Master franchisee should be:

    • an experienced businessman / entity;
    • with a good knowledge of the local market; and
    • with sufficient resources to finance the development of the local network.

Master franchising being a complex tri-partite relationship (franchisor – master franchisee – sub-franchisees), it is all the more necessary for the franchisor to rely on a well structured master franchise agreement, which should notably provide for:

    • Clear targets for the master franchisee in terms of development of the network in the allotted territory, with sanctions in case of failure to achieve the targets. The sanctions may vary from financial penalties to a termination of the master franchise agreement or a reduction of the allotted territory;
    • Audit procedures to ascertain first that the master franchisee is faithful but also that he is correctly implementing the franchisor’s concept in the territory. To that end, it is useful to provide that the franchisor will be entitled to conduct direct controls in the sub-franchisees premises;
    • The process for adapting the concept to local habits, tastes and practices of the customers;
    • A standard sub-franchise agreement (as an appendix to the master franchise agreement) in line with the franchisor’s expectations, which will be used by the master franchisee with sub-franchisees (after the necessary amendments for compliance with local law have been made);
    • Clear transfer provisions, with pre-emption rights in favour of the franchisor, but also, to avoid bad surprises, provisions in the standard sub-franchise agreement on the prior consent given by the sub-franchisee to a transfer of the sub-franchise agreement from the master franchisee to the franchisor or any third party designated by the franchisor;
    • Clear and efficient termination provisions in case the business relationship with the master franchisee is not going well. These provisions must be easily and quickly enforceable under the law chosen by the parties but also under the laws of the country where the master franchisee is operating;
    • Clear and efficient post-term provisions, which must notably determine the conditions under which the master franchisee will transfer the network and all individual sub-franchise agreements to the franchisor or to the following master franchisee.

Needless to say, the master franchisee should be trained comprehensively by the franchisor in order to acquire his know-how with respect to the concept but also with regard to the way the network is monitored and managed (recruitment methods, communication, management of conflicts etc.).

1.5 Other models

Other models, which necessitate fewer human and financial resources such as licensing and master licensing can also be chosen for certain concepts, where the know-how does not require too much training and support.

This model can especially be chosen in certain countries, where there are excessively stringent regulations on franchising (pre-contract disclosure requirements, registration process, controls by local authorities, mandatory requirements on the content of the franchise agreement).

This is a matter of legal strategy, which should be dealt with cautiously as it may have important practical consequences on the ground.

2. The necessary protection of the Trademark

The question of the protection of the Trademark in the targeted country or countries must be dealt with at the early stages of the expansion preparation.

Indeed, there can be no franchise without a brand and the grant to the franchisee or the master franchisee of a license of use on the Trademark is the core of franchising.

Before filing the Trademark, an IP rights search is necessary in the targeted countries (2.1).

Once this has been done and registration is possible, the franchisor can either file the Trademark on a state by state basis or in several countries at the same time through international institutions such as the Office for Harmonisation in the Internal Market (OHIM) in the European Union (2.2) or the World International Property Organization (WIPO) at an international level (2.3).

2.1 The prior IP rights search

The first thing that the franchisor must do, with the help of Trademark specialists, is to invest in some research on the existence of a possible registration or use of the Trademark or of similar Trademarks by third parties in the target country.

Indeed, if the Trademark or a similar Trademark has already been registered or is already used (in common law countries) by a third party in the country, the franchisor will have to decide on a trademark strategy: trying to purchase the trademark; seeking a co-existence agreement; challenging the registration by the third party, choosing another brand…).

If the trademark is available in the target country, filing and registering the Trademark will be a pre-requisite to expansion in that territory in order to prevent third parties from using, without consent, the same or a similar trademark for identical or similar goods and/or services as those protected by the Trademark.

2.2 The Community trademark

In the European Union, the franchisor is offered the possibility to register his trademark for a renewable period of 10 years with the OHIM, which is based in Alicante (Spain).

A community trademark confers to its proprietor an exclusive right to use the trademark in the 27 Member States of the European Union. It is therefore a very cost-effective way of protecting the trademark on the whole territory of the European Union.

If the trademark is already registered as a Community Trademark or as a national trademark in at least one Member State, the former owner of the trademark may oppose the filing and prevent the registration of the Community Trademark within 3 months as from the filing date.

If the former proprietor is the owner of a Community Trademark, it will not be possible for the Franchisor to register the trademark on a case by case basis in each Member State.

On the contrary, if the opposing party has registered the Trademark in only one or several Member States, it will be possible to request the registration of the Trademark at a national level, in the Member States where the trademark has not yet been registered.

In any case, to avoid losing time and money, it is highly advisable to invest in some research on the existence of the registration of the trademark or of similar trademarks in the various Member States before launching the registration procedure with OHIM.

It is all the more so advisable that even if there is no opposition to the Community Trademark during the 3 months opposition period, the third party proprietor may still launch proceedings for IP rights infringement afterwards to obtain damages and the prohibition to use a similar trademark.

2.3 The International registration with the WIPO

In case of international expansion outside the European Union, it is possible to register the trademark at the same time in several countries through the WIPO in Geneva (Switzerland).

The pre-requisite is that the target country must be a member of the Madrid Protocol, which is the case of 88 countries (including most industrialised countries).

In the countries which are not members of the Protocol, it will be necessary to proceed to registration on a case by case basis. That is the case, for example, of Brazil and of most countries in the Middle East (such as UAE, Lebanon etc.).

Here again, it is highly advisable to proceed first to a prior rights search on the Trademark in all targeted countries.

Link to Part 2 of article


Internationalisation of franchise networks - part 2

Link to Part 1 of article

3. Pre-contract disclosure and registration requirements

In several countries of the world, the franchisor will face either pre-contract disclosure or registration requirements or both.

Before entering into franchise or master franchise agreements with local partners, it will therefore be necessary to check the existence of such set of rules and, as the case may be, to comply with local requirements which vary from a country to another and are usually considered as overriding mandatory rules by local laws.

3.1 Pre-contract disclosure requirements

With respect to pre-contract disclosure requirements, it is possible to distinguish three different types of countries:

    • Countries where there is no pre-contract disclosure requirement. That is the case for example in the UK;
    • Countries where there are statutory pre-contract disclosure obligations. That is the case, for example, in six European countries (France, Belgium, Italy, Romania, Spain and Sweden) and in different countries in the world (Australia, Brazil, China, the USA both at Federal level and in certain federated states…);
    • Countries where there are no statutory requirements but where case law has imposed a minimum pre-contract disclosure. That is the case, for instance, of Germany, Austria and Portugal.

The aim of pre-contract disclosure is to protect the party considered as being the weaker party in the contractual relationship (the franchisee/master franchisee) and to reduce the information asymmetry.

The time period within which the information must be provided to the franchisee varies from a country to another (e.g. 10 days in Brazil, 14 days in Australia and the USA, 20 days in France, 30 days in China and Belgium).

The common information that must be provided almost everywhere relates to:

i) the franchisor (who he is, what is his history etc.),
ii) the Trademark,
iii) the franchisor’s business and its network,
iv) the main terms of the franchise agreement (restriction of franchisee, exclusivities, personal involvement, term, renewal, termination etc.),
v) the financial investment that is necessary to launch a franchise outlet and the fees to be paid.

That being said, there are variations and specificities in each country.

For instance, in France, under the so-called Doubin law of 1989 (articles L.330-3 and R.330-1 of the French Commercial Code) the franchisor must provide information on the general and local state of the market plus a market development outlook to the franchisee and master franchisee. This can be difficult for a foreign franchisor who is sometimes less aware of the market specificities than the local partner himself.

In practice, pre-contract disclosure requirements are often considered as overriding mandatory rules.

The sanction for non-disclosure or incomplete disclosure varies from state to state but is often the possibility for the franchisee to seek the termination of the franchise agreement or its annulment, and even damages if the franchisee can prove a loss.
It is therefore essential to request the assistance of a local franchise law specialist to ensure that the pre-contract information provided to the prospective franchisee or master franchisee complies entirely with local law.

3.2 Registration requirements

Registration requirements are meant to:

    • control the entry of foreign companies into the market (usually in developing countries); and/or
    • ensure the compliance by franchisors with a minimum level of ethics and quality (in more industrialised countries).

Within the European Union, there are generally no registration requirements with government agencies, with the noticeable exceptions of Romania and Spain.

In Spain, for example, the franchisor (and the master franchisee as the case may be) must register with the Registrar of Franchisors (before the second franchised outlet begins operating) and must notably provide information on the trademark, the concept as well as statistics on the franchised and directly operated outlets in Spain. The information must be updated on an annual basis.

Outside the European Union, one finds registration requirements in several countries such as Brazil, China, Russia and 15 states of the USA (California, Hawaï, Illinois, Indiana, Maryland, Michigan, Minnesota, New York, North Dakota, Oregon, Rhode Island, South Dakota, Virginia, Washington, Wisconsin).

The scope of registration varies from country to country.
For example, in Brazil, the agreement must be registered with the Brazilian patent and trademark office (the INPI) and with the Brazilian central bank.

In China, the franchisor must register with the Ministry of commerce (Mofcom) and within 15 days from the signing of the 1st franchise agreement the following documentation: 1) its business licence or registration certificate, 2) the draft franchise agreement, 3) the operation manual, 4) a market development plan, 5) evidence that the franchisor’s qualification requirements have been met. Then, an annual update of the number of franchisees in the Chinese network is necessary. The fact that the operation manual must be disclosed is considered as an issue by many franchisors.

Of course, registration requirements usually imply that the agreement must be translated into the local language. Bi-lingual agreements are therefore necessary in those countries.

4. Choice of applicable law and overriding mandatory rules

As a general rule, the parties to an international agreement can freely choose the law applicable to their relationship (4.1).

However, choosing the law of the franchisor or any other law will not prevent the application of the domestic overriding mandatory provisions of local laws (4.2).

4.1 Choice of the law

Most of the time, if the balance of power is in his favour, the franchisor will choose his domestic law. Sometimes, however, the master franchisee will be in a position to refuse the franchisor’s law.

In such a case, three options are possible:

  1. choosing the master franchisee’s law.
  2. choosing a neutral law. This is a complicated compromise because both, the franchisor and the franchisee, will reflect in light of their own laws while being compelled to refer to rules that generally neither of them will fully master.
  3. choosing not to refer to a state law but instead referring to international commercial rules such as the Unidroit Principles of International Commercial Contracts (updated in 2010), which are harmonised uniform rules of private law with the aim of finding the right balance between the rights and obligations of the parties. Although this option is rather balanced, it is rarely chosen by the parties.

4.2 Overriding mandatory rules

Once the franchisor and his business partner have agreed on the applicable law, it is still necessary to check whether the terms of the agreement are compliant with the overriding mandatory rules applying in the country where the franchised business will be run.

Such rules can be found in franchise specific legislations (in around 30 countries in the world) but also in competition laws and general commercial laws.

The following are a few examples of overriding mandatory rules that can impact the drafting of the agreement:

    • whereas Anglo-Saxon agreements commonly provide for the possibility to terminate the franchise agreement unilaterally in case of insolvency of the co-contracting party, in France termination is possible only with the prior agreement of the administrator appointed by the Court;
    • French law prohibits purchase exclusivities for periods longer than 10 years. That is sometimes an issue for long term master franchise agreements;
    • Cooling-off periods” can be found in certain jurisdictions such as China, Malaysia, Mexico or Taïwan. Under such rules, the franchisee is entitled to withdraw from the contractual relationship without any penalty within a certain period of time after the signing of the agreement;
    • some countries impose a minimum term for the franchise agreement, from 3 years in China for franchise agreements up to 10 years for master franchise agreements in Indonesia.

5. Choice of jurisdiction: national courts or arbitration?

The parties must also decide either to give jurisdiction to national courts or to an arbitral tribunal. Both systems have their advantages and disadvantages.

National courts proceedings are less expensive and the parties (as well as their lawyers) are more used to them. That is why franchisors usually prefer giving jurisdiction to their domestic courts, which is also coherent with the choice of the franchisor’s law in most cases.

Arbitration is a confidential, more flexible and quick mean of resolving disputes, but it is more expensive than a procedure before a national court.

As a matter of principle, in international agreements, the choice between national courts and arbitration should be determined (i) by the level of neutrality expected from national courts, should a dispute arise, but also (ii) by the enforceability of the decision that would be rendered.

There is indeed no point for a franchisor in getting a satisfactory decision before his domestic courts if the decision is not enforceable in the country where the franchisee is operating, i.e. where the monies are or where the court’s injunctions must be enforced.

For European franchisors, the choice of their domestic courts is an acceptable option since decisions rendered in a Member State are easily enforceable in the other member states thanks to EU Regulation n° 44/2001 of 22 December 2000 on jurisdiction and the recognition and enforcement of judgments in civil and commercial matters.

Outside Europe, enforcement of the decisions of national courts in foreign countries is sometimes difficult.

On the contrary, arbitration is a good – and neutral – way of having a dispute settled since arbitration awards are well recognised in most countries thanks to the New York Convention of 1958 on the recognition and enforcement of foreign arbitral awards. This convention has been ratified by 147 countries in the world as of today.

If arbitration has been retained, the franchisor must then choose either to refer to the rules of an arbitration institution (such as International Chamber of Commerce (ICC), the London Court of arbitration or the China International Economic and Trade Arbitration Commission (CIETAC) etc.) or to an ad hoc arbitral tribunal, which is not common in international agreements.
The parties must also decide how many arbitrators they will appoint.

A sole arbitrator usually costs less than half the price of 3 arbitrators and the sole arbitrator option should be chosen for the agreements (or disputes) of low financial value.

For more important agreements (or disputes), the parties may prefer having a panel of arbitrators to be certain to obtain a balanced decision.

To limit the costs of the proceedings, it is advisable to add an amicable dispute resolution (ADR) clause pursuant to which, before launching proceedings, the parties must try to find an amicable solution to their dispute, with the help of a mediator. The ICC provides such a service.

Last but not least, the questions of injunctive relief and emergency proceedings in order to prevent substantial harm should not be ignored and should be mentioned clearly in the agreement. The parties can either decide that they may seek injunctive relief with local courts, despite the choice of arbitration, or give such power to the arbitration tribunal. For example, in 2012, the ICC instituted such a mechanism whereby an emergency arbitrator can be appointed in the event that a party seeks an interim injunction.

6. Tax and foreign exchange issues

Finally, the franchisor must take two additional issues into consideration:

    • the taxation system in the target country: royalties and other fees are often subject to withholding taxes and other business taxes, which vary from a country to another and also depend on the international bilateral treaties between states. The advice of tax specialists on a case by case basis is therefore highly advisable in order to minimise the amount of taxes that must be paid both by the franchisor and by his local partner;
    • the existence of foreign exchange regulations. These regulations are usually found in developing countries and are sometimes extremely strict.

Both the tax system and foreign exchange regulations might have an impact on the choice of the legal structure and of the business model by the franchisor. These issues should therefore be addressed cautiously.

7. Conclusion

Growth through internationalisation implies an in-depth preparation in order to choose the right business model and the right business partner(s).

To maximise the franchisor’s chances of success, it is advisable to prepare the international expansion with the assistance of franchise specialists in various fields (franchise recruitment, development and strategy, legal, insurance, marketing…).
 


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