Understanding a franchise agreement
How to evaluate the purpose and terms of a franchise agreement and negotiate the best franchisee deal
The first step to understanding a franchise agreement centres on knowing exactly what is meant by the term ‘franchise’.
What is a franchise?
The British Franchise Association (bfa) is the best place to start, outlining the key rules that must be respected for a business model to be considered a ‘business format franchise’:
- The business must involve a trademark
- The business must have a defined and proven method of trading (proven system)
- The franchisor and franchisee must use a licence (franchise agreement) to use the trademark, which must be adopted and paid for by all franchisees
- The franchisee must be able to sell the business on to a third party with the benefit of the goodwill derived from developing the business over time
Other forms of licence agreement or partnership do exist but are not considered a franchise unless the above criteria are met.
The purpose and terms of a franchise agreement
In line with the industry code of ethics, a good franchise agreement should clearly outline the rights and obligations of the franchisor as well as the franchisee.
The essential minimum terms of the agreement, as defined in the code of ethics, cover:
- The rights granted to the franchisor
- The rights granted to the individual franchisee
- The goods and/or services to be provided to the individual franchisee
- The obligations of the franchisor
- The obligations of the individual franchisee
- The terms of payment by the individual franchisee
- The duration of the agreement which should be long enough to allow individual franchisees to amortize their initial investments specific to the franchise
- The basis for any renewal of the agreement
- The terms upon which the individual franchisee may sell or transfer the franchised business and the franchisor’s possible pre-emption rights in this respect
- Provisions relevant to the use by the individual franchisee of the franchisor’s distinctive signs, trade name, trade mark, service mark, store sign, logo or other distinguishing identification
- The franchisor’s right to adapt the franchise system to new or changed methods
- Provisions for termination of the agreement
- Provisions for surrendering promptly upon termination of the franchise agreement any tangible and intangible property belonging to the franchisor or other owner thereof
Put simply, this is a document (generally 40+ pages long) that outlines in legal terms how the franchisor / franchisee relationship works with respect to rights and obligations (most often within a given geographical territory or location).
It covers the provision of goods and services from the franchisor to the franchisee, payment terms e.g. detailing a management service fee and a marketing levy, how long the initial agreement is for and what happens at renewal time, the sale of an established franchise, expected practice with relation to the trademark and brand, any future adaptations to the franchise system and how to end an agreement.
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Before signing any franchise agreement it’s imperative to seek legal advice. In the case of A-Star Sports, we particularly recommend our prospective franchisees look for a lawyer with specific experience of franchise agreements. It has been our experience that whilst such specialist support may appear to be more expensive (in terms of hourly rates), the process is quicker, the costs even out and franchisees have a greater peace of mind when the legal content can be put into perspective with an industry-wide view.
Negotiating an agreement
Given that strong franchise businesses are the result of experience from pilot programmes, a fundamental understanding of and proven success in particular markets and the important lessons of taking franchisees from start-up to profit-making, it is often the case that they’ll use a contract template so the terms of a franchise agreement are non-negotiable.
A franchisor’s willingness to negotiate substantive parts of a franchise agreement is often considered a ‘warning sign’ and should lead prospective franchisees to question confidence, brand and systems.
That said, as a due diligence measure prospective franchisees should always ask about a franchisor’s position with regards to negotiation and never be afraid to request as much clarification as is necessary on any of the points in the franchise agreement.
A key thing to consider in the responses is ‘does this response protect the franchise system as a whole?’ If it does, then the franchisor is doing their job.
But don’t just take the franchisor’s word for it, always speak to current franchisees as well.
Sharon Bassett is co-founder, director and coach at A-Star Sports, a multi-sports coaching franchise for children aged 2-10 years www.a-starsports.co.uk.