What to look for in a franchise agreement

The franchise agreement is a legal document that sets out the relationship between a franchisor and franchisee. Shelley Nadler, senior solicitor in the franchising team at Field Fisher Waterhouse, details what it should contain

A franchise agreement is subject to the usual principles of contract law. It can be a fairly long document, as it sets out each and every term that has been agreed in respect of the franchise relationship. The franchise agreement will usually be a largely non-negotiable, standard form contract that the franchisor uses for all of the franchisees in its network to ensure uniformity.

A franchisee may feel, on first reviewing a franchise agreement, that it is one-sided, as franchise agreements are often said to be unfair and loaded in favour of the franchisor. There are many obligations and controls on the franchisee, but these are necessary to allow the franchisor to protect its brand name - the brand name the franchisee will be using.

Standards
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If a franchisee runs his operation in a manner that is inconsistent with the standards associated with the franchisor’s brand and image, it will damage the goodwill associated with them, thereby adversely affecting the business prospects of other franchisees. The franchisor needs to have a wide range of controls in the franchise agreement to enable standards, quality and uniformity to be maintained across the network, not just for the franchisor’s sake, but for the sake of all franchisees, as all have an interest in protecting the brand they operate under.

The franchise agreement is also a licence to use the trademarks and trade name of the franchisor, as well as the franchisor’s business format, which is the system recorded in the operating manual. The system will contain some elements that are secret and confidential, such as formulae, recipes, specifications, design drawings, trade dress and operational documents.

There will also be a license to use the copyright in any written materials provided, such as the manual and any software specially prepared for the franchisor. These trademark rights, trade secrets, designs, copyright, etc are referred to as intellectual property rights. Like any other licence agreement, the franchise agreement specifies what rights can be used, how the rights that are licensed are to be used, quality control provisions relating to the goods and services to be provided under the trademarks and that the rights licensed cannot be used after termination.

The creation of the franchise relationship usually involves the sale by the franchisor of the franchise package and its purchase by the franchisee. This buyer/seller relationship can continue throughout the term of the franchise agreement. There will usually be an initial sale of products, equipment, fixtures and fittings, etc to allow a franchisee to establish the business. In a product franchise, the continuing relationship may involve the ongoing supply of the products that are to be sold by the franchisee. The terms of sale for these products should be set out in the franchise agreement or provided to the franchisee prior to signing it.

The contents of a franchise agreement should cover a number of areas. In the UK there are no hard and fast rules regarding what provisions need to be included, but the most important of these are:

Franchisee’s rights
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There should be a ‘grant of rights’ clause that will set out the rights the franchisee has been granted by the franchisor. In particular, it should state if the franchisee is granted an exclusive or a non-exclusive territory in which to operate its franchise business or if the franchisee has only been given the right to operate from particular premises.

The territory for a mobile business will be an area within which the franchisee can operate its business, but for premisesbased franchises the territory can be a radius from the premises. This clause will set out which trademarks and other intellectual property rights of the franchisor the franchisee is entitled to use.

Term
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The franchise agreement should set out the period of time the contract is intended to last for, if it is possible to renew the contract and any conditions that need to be satisfied in order to obtain the renewal. These renewal conditions usually consist of providing notice within a specified period, the franchisee having not been in breach of the agreement and complying with any updating, refurbishment and/or retraining requirements.

Franchisor’s obligations
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This clause will set out the services, products and training the franchisor will provide to the franchisee at the beginning of the contract to help them set up the business. The franchisor’s ongoing obligations to the franchisee will include providing advice, assistance, training and potentially the supply of products and services such as central invoicing and call centre facilities.

Franchisee’s obligations
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This part of the franchise agreement sets out the obligations the franchisee owes to the franchisor. These will usually include:

* Buying all products, fixtures/fittings and equipment from either the franchisor or specified suppliers.

* Only providing the goods and services specified by the franchisor.

* Following the franchisor’s system by operating the franchisee’s business in accordance with the franchisor’s methods and standards and in compliance with the
operating manual.

* Employment and training of employees.

* Using the IT systems and complying with requirements regarding websites, social media, etc.

* Providing management accounts and sales figures to the franchisor on a regular basis.

* Advertising and marketing requirements.

* Maintaining adequate insurance protection.

Fees payable to the franchisor and other financial obligations
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The franchise agreement usually contains a clause that sets out all the monies the franchisee must pay the franchisor and other financial obligations under the agreement. These are usually divided into upfront fees, such as the initial franchise fee or a fee for a start-up package of items, and ongoing fees, such as management services fees (franchise fees) and advertising contributions. The franchisee may be required to purchase goods or services from the franchisor, in which case the franchisor’s terms of sale or supply should be set out in the agreement.

Right to sell the franchisee’s business
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The franchise agreement should give the franchisee the right to sell its business subject to certain conditions, which should be set out in the franchise agreement.The franchisor will have the right to approve any purchaser of the franchisee’s business. It is common for the franchisor to take a percentage of the sale price of the franchisee’s business and the franchise agreement should set out how much this will be.

Termination
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This provision specifies when the contract can be terminated by the franchisor. There will usually be a right to terminate immediately for the most serious breaches and for the franchisee to have the right to have a period to remedy other breaches.

After termination
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The franchise agreement should set out the provisions that will apply on termination. All rights to carry on the franchise business will cease on termination of the franchise agreement. The franchisee is usually prevented from competing with the franchisor’s business after termination and the franchise agreement should set out for how long this restriction will last and what geographical area it will apply to. There will also be a prohibition on approaching customers the franchisee has dealt with.

Prospective franchisees should always obtain professional accounting and legal advice from a British Franchise Association affiliate member before signing a franchise agreement.