Key Elements of the Franchise Agreement
Starting a new business is exciting, but can also seem a little scary if you don’t have a full understanding of what is expected of you, or how it might work. You are taking a leap of faith by becoming your own boss, perhaps with the hope of a better work-life balance or a lucrative return on your investment. When you become a franchisee, there are many legal matters to take care of, but much of the stress of starting a new business is already taken care of.
However, one source of worry and concern for many franchisees is that they do not fully understand the franchise agreement. When you commit to a significant investment in starting a business, you need to be sure that the opportunity is right for you. In the post, we look at the critical elements of a franchise agreement, to help you better understand the offer that is being presented to you.
First things first, if you’re unsure of what a Franchise Agreement is, you can read our guide: what is a franchise agreement.
Provisions setting out the franchisor/franchisee relationship
Generally, there will be three parties included in the franchise agreement. This may seem odd, but you must remember that many franchisees trade as a limited company. Limited companies are a separate legal entity. The franchise agreement contract includes the franchisee, an individual and the franchisor. The franchisor needs a guarantee that the franchisee will meet the performance required, and so the individual is obliged to act in a certain way under the contract, not just the franchisee company.
Furthermore, often the individual is named to prevent them from setting up a competitor company if the franchise agreement comes to an end.
The duration of the contract
Every franchise agreement is different, include the length of time the franchise agreement will last. When setting the duration of a franchise agreement contract, the franchisor will take several things into account. Generally, they will look at the profitability of the franchise, how long it might take for the franchise to break even, and also how long the franchisee might expect to b running the franchise successfully.
Once the initial term of the franchise agreement expires, you will typically have the option to renew the contract. Renewal of a franchise agreement gives both the franchisor and the franchisee the opportunity to review the relationship and the success of the franchise. Unfortunately, renewal is not guaranteed. Where the franchisor is not happy with the performance of the franchisee business or the franchisee’s behaviour, they may choose not to renew the contract. Franchise agreement renewal is one of the main reasons franchisees adhere strictly to franchising guidelines.
On the other hand, where the franchisor is happy to renew the contract, the franchisor and the franchisee will enter into a period of negotiation and discussion. You should expect the terms of renewal to be different from the initial franchise agreement, as it is highly likely the business will have experienced changes in that time. You may also be required to pa a fee to renew the franchise agreement.
An integral part of becoming a franchisee, is paying an initial upfront fee to the franchisor known simply as ‘the franchise fee’. The franchise fee is intended to cover the cost of the initial set up of the franchise, training of the franchisee and recruitment where required. The fee may also cover any expenses or professional fees which may be incurred in the early stages of setting up. However, the franchisor should not make any profit from the franchise fee, this is only to cover costs.
After the initial set up fee has been paid, the franchisee will often make regular payments to the franchisor known as ‘royalty payments’. Fees are normally calculated as a percentage of profits, or may be a flat fee.
You may also be expected to make a contribution to national marketing campaigns. One of the biggest benefits of becoming part of a franchise is taking advantage of a recognised brand. However, this brand is achieved and maintained through nationwide promotions. This marketing activity will be highly valuable to your business and as a result, you are expected to invest in it.
We understand that a franchise agreement may be intimidating, and where you have concerns, you should seek advice from an experienced franchise agreements lawyer. Having a good understanding of how franchise agreements work, and your obligations as a franchisee can help you feel confident moving forward in your business.
Ready to start your franchise journey?
Take a look around the Quality Franchise Association website for more useful franchising help and guides.