The Franchise Agreement: What is a Franchise Agreement?
Buying a Franchise
By choosing to buy a franchise, you become the owner of a small piece of a very large corporation, whose buying power and well-recognized brand name can contribute significantly to your financial success as a small-business operator. One of the key elements to the relationship between franchisor (the parent company) and franchisee (that’s you) is something called a franchise agreement. In general terms, this franchising agreement provides considerable detail regarding the relationship the two parties will enjoy during the entire time you own the business. While there is no standard among franchise agreements—every corporation uses its own template and may emphasize different aspects of the arrangement between the two parties—most franchise agreements contain similar elements. This is a legally binding document that is executed once the deal is set, and it should not be confused with the franchise disclosure document (FDD) that the home office provides to each of its prospective buyers. The FDD contains details of the corporation’s fiscal health, disclosure of bankruptcies or lawsuits to which the organization has been a party, or various other financial details such as cash flow and profit-and-loss numbers from its existing franchise locations. Instead, the franchisee agreement is an outline of what the home office expects of you, and what you should expect the home office to offer in return.
Key Franchise Agreement Provisions
As mentioned above, not every franchising agreement will be the same from one corporation to another. A sample franchise agreement, however, should contain the following basic elements:
- Explanation of the contract – This is an introductory section that often includes a definitions of terms and other legal explanations, as well as a general outline of the nature of the relationship between franchisor and .
- Franchise fee – Payment of an initial fee to the parent company is part of the initiation process. This portion of the franchise agreement declares the dollar amount involved and also lists the expected total financial investment, which may include estimates on other startup costs such as real estate or remodeling expenses, equipment costs, and the expected price of stocking inventory.
- Term (duration) of the agreement – Some franchises are awarded in perpetuity, which means that you will own the business as long as you like. Others are sold with a fixed expiration date (perhaps ten to fifteen years), after which the must reapply and also pay another franchise fee.
- Business manual – Every franchisor has specific business methodologies to be followed, which is one of the most compelling reasons to . The operations manual lays out all of these elements, notably the guidelines every must follow. These will be very specific, and any violation can cause the owner serious legal complications.
- Territory exclusivity – A is generally given a limited area in which to practice his or her trade. If you are opening a retail-type business, the home office will have plenty to say about where your store should be located. If you have a mobile operation, you may find restrictions on the distance you can travel to dredge up customers. The purpose of this provision is to avoid infringing on another ’s sales territory.
- Use of trademarks, patents, and corporate insignia – Every franchisor has proprietary material that sets it apart from the competition. Your usage of things like logos, signage, and other copyrighted elements will be strictly controlled.
- Advertising and marketing – The franchisor has the obligation to provide a wide range of advertising and marketing efforts for its small-business owners. This might include TV and radio spots, print and online ads, and direct-mail coupons to prospective customers in your immediate area.
- Training and ongoing support – Every franchise operation has its own type of instructional regimen, such as training at the home office, onsite training at an existing franchise location (or both), plus additional training for employees and assistant managers.
- Royalties and other fees – Nearly every franchisor expects its subsidiaries to pay ongoing fees in addition to the initial franchise fee. This amount is usually calculated as a percentage of gross sales and can range anywhere from 3.5 percent to 10 percent, or even more.
- The right of resale – In the event a elects to move on, most corporations choose to exercise some level of power over the resale process. This could be as benign as simply asking to be notified one’s intentions, or as controlling as a demand for the right of first refusal. This means that the home office gets first crack at buying the business back from you (usually by using some predetermined pricing factor), or matching an existing offer from an outside buyer.
- Penalties – No legal agreement would be worth its weight in paper if it did not also describe the penalties in store for whoever might violate its provisions. Most agreements include penalties that range from a slap on the wrist (minor fines) to the figurative death penalty (termination of the franchise). Many agreements include an arbitration clause, which provides for the intervention of a disinterested third party to arbitrate the disagreement and thereby prevent it from going to court. Sometimes the arbitration is meant to be merely advisory and an attempt to get both sides talking again, while other times it may be legally binding.