Retail Management Selecting A Franchisor And Reaching An Agreement

IDENTIFYING THE FRANCHISOR'S RESPONSIBILITIES

An important step in making an informed decision about purchasing a franchise is to know the responsibilities a franchisor is legally obliged to fulfill. One of the hardest decisions a entrepreneur faces is whether or not to purchase a franchise. And while buying a franchise means obtaining a complete system of doing business, there is no guarantee for success.

Being aware of the franchisor's responsibilities takes some of the guess work out of the decision making process. Learn as much as you can about the franchise and the franchisor's obligations before entering a purchase agreement, or even before meeting with the franchisor or his or her representative to discuss the possibility of purchasing a franchise.

Many states have franchise disclosure or registration laws that require the franchisor to prepare documents for submission to state authorities. The FTC requires in all states that a lengthy disclosure document, as well as financial statements be given to franchisees before purchasing the franchise. In addition to state filing fees, printing and accounting and legal expenses, the franchisor must have internal controls and policies to ensure ongoing compliance with regulations.
 

Franchisors Are Obligated to:

• Give you a copy of the Uniform Franchise Offering Circular (UFCO) at least 10 days before you sign an agreement. If you meet face to face with the franchisor's representative and have serious discussions concerning the purchase of the franchise, the UFCO must also be given to you at this time.
• Give you a copy of the franchise agreement, other contracts and the franchisor's financial statements. The franchisor, however, cannot, under federal law, make claims concerning the amount of money you will make. The UFCO will disclose estimates of all initial start-up costs.
• Provide one week of training to you, the franchisee, and your manager in one of the parent stores, the operational manual and ongoing support and assistance to you and other franchisees.
• Provide guidelines on audits and assignment procedures and any extra franchisor criteria for approving an assignment (e.g., ownership rights -- franchisee rights to sell a franchise if it becomes successful).
• Provide information on franchisee's initial fees and other costs (e.g., royalties, promotional fees).
   

Franchisors Should:

• Provide a marketing plan, promotion materials, and site-selection assistance to franchisees.
• Provide enough insurance coverage for franchises. Insurance coverage generally includes:
  • fire insurance
  • inventory insurance
  • burglary insurance
  • workmen's compensation
  • accident and health insurance
  • use and occupancy insurance
  • general liability insurance
  • automobile insurance (may be optional depending on franchise type)
• Provide a trademark or service mark that is known, or will be known through advertising in the geographic area of use.
• Provide guidelines on purchasing inventory and equipment, requirements on restrictions on goods sold, and the terms of agreement and renewal.

Most of these responsibilities are or should be included in the UFOC document, but since there are no uniform regulations governing the operation of franchises in any given state, make sure the UFOC document complies with the FTC's regulations, and the regulations of the state in which you plan to purchase the franchise. Review the UFOC document carefully with your attorney before signing the purchase agreement.
 
 

DETERMINING WHAT THE FRANCHISE PACKAGE CONTAINS

After gathering all the information you will need to make an informed purchase decision, carefully examine this information with your attorney, accountant, or business advisor ensuring that it is addressed in the franchise contract. Think carefully about the level of independence you will maintain as a franchisee and how comprehensive the operating controls will be. Be very clear about the cost of purchasing the franchise and the documents that make up the franchise package.

You can obtain information on franchising from: 1) a directory of franchises, 2) the disclosure document, 3) current franchisees, 4) other references, such as the SBA, FTC, Better Business Bureau, local Chambers of Commerce, 5) professional advisors, and 6) reference materials on franchises from the local library.
 

Your Franchise Package Should Contain the Following Information:

• The full initial costs and what they cover
• Licensing fees
• Land purchase or lease
• Building construction or renovation
• Equipment
• Training
• Starting inventory
• Promotional fees
• Use of operations manuals
• Continuing costs related to the franchisor
• Royalties
• Ongoing training
• Cooperative advertising fees
• Insurance
• Interest on financing
• Requirements regarding purchasing supplies from the franchisor, and if the prices are competitive with other suppliers
• Restrictions as they apply to competition with other franchisees
• Terms covering renewal rights and resale of the franchise

In reviewing the franchise contract with your attorney, familiarize yourself with the language. Be aware of terms such as hold harmless clauses, integration clauses, and choice of venue or choice of law provisions. These terms may favor the franchisor over you if improprieties arise during or after the settlement process. Hold harmless clauses may require that you release a franchisor from specific acts or violations of state laws. Integration clauses may prevent you from successfully suing for any deceptions preceding the signing of the contract. Choice of venue or choice by law provisions are especially important if a franchisor has headquarters in another state. These clauses may dictate that you settle all disputes in your franchisor's state of residence, and settle your claim under laws favorable to the franchisor.

Other important clauses to consider deal with severance, renewal, and transfer of the franchise.

Again, use professional help when examining the franchise contract. And remember some of the contract terms may be negotiable. Find out which terms are negotiable before you sign; otherwise, it will be too late.
 
 

UNDERSTANDING THE FRANCHISE CONTRACT

The franchise contract, like the UFOC, is a very important document. The contract is probably the most important document in the transaction process. It is a legal commitment which is binding on both the franchisor and franchisee. In the franchise contract, the franchisor's promises have to be presented to the franchisee in writing and subjected to careful scrutiny. During this stage of the buy/sell process, the franchisee must have competent legal advice regarding the meaning and effect of the contract.

When reviewing the contract, you and your attorney will need to determine if it confirms what you have been told. If you find improprieties in the contract, at this point, you may decide to withdraw from the transaction before committing your time, energy and money to an agreement that may not be beneficial for you. If, however, you choose to continue with the process, you may be able to negotiate favorable terms, but remember by signing the contract, you are legally bound by the provisions of the agreement.

The franchise contract consists of a purchase agreement and a franchise or license agreement. For convenience, occasionally, the franchise transaction is split into two stages. Then, some franchise firms have two contracts, rather than a single one. While it isn't necessary to have two contracts, it can be better where there is a comprehensive equipment and initial services package.

The purchase agreement of the contract covers:

• the franchise package
• the price
• the services to be provided.
   

The franchise or license agreement covers:

• the rights granted to the franchisee
• the obligations undertaken by the franchisor
• the obligations imposed upon the franchisee
• trade restrictions imposed upon the franchisee
• assignment/death of franchisee
• termination provisions.
   

A brief explanation of each agreement follows.
 

Purchase Agreement

The franchise package. Consists of an equipment or inventory list. This list must contain all the items the franchisee has been told to expect. Some franchise companies regard this list as being confidential and stipulate in the contract that it must be so treated.

The price. The price and the manner of payment will be specified. This may be cash on signature, although rare. More often, a deposit is required on signature with payment of the balance to follow on delivery of the equipment or at other stages of the transaction.

The services to be provided. This section outlines or lists the franchisor's responsibilities to the franchisee. Those services the franchisor is required to provide the franchisee before he or she is ready to open for business are called the initial services. Those services the franchisor provides periodically are called continuous services. A more detailed explanation of the services provided by the franchisor are included in the next section on the license agreement.
 

Franchise or License Agreement

The rights granted to the franchisee. The franchisee will be given rights as apply to particular circumstances. As a franchisee there are certain rights that are extended to you. They include:

• use of trademarks, trade names, and patents of the franchisor (including the brand image and the design and decor of the premises developed by the franchisor.
• use of the franchisor's secret methods.
• use of the franchisor's copyright materials.
• use of recipes, formulae, specifications, and processes/methods of manufacture developed by the franchisor.
• conducting the franchised business upon or from agreed premises strictly in accordance with the franchisor's methods and subject to the franchisor's directions.
• guidelines established by the franchisor regarding exclusive territorial rights.
• rights to obtain suppliers from nominated suppliers at special prices.

The obligation undertaken by the franchisor. This item in the contract tells prospective franchisees what the franchisor will do for them both before and after start-up. That is why this item frequently refers to specific contractual obligations detailed in the franchise agreement, which is attached to the UFOC.

The obligations imposed upon the franchisee. Certain obligations are required of you by the franchisor. These obligations include:

• to carry on the business franchised and no other business upon approved and nominated premises.
• to observe certain minimum operating hours.
• to pay a franchise fee.
• to follow the accounting system laid down by the franchisor.
• not to advertise without prior approval of the advertisements by the franchisor.
• to use and display such point of sale advertising materials as the franchisor stipulates.
• to maintain the premises in good, clean sanitary condition and to redecorate when required to do so by the franchisor.
• to maintain the widest possible insurance coverage.
• to permit the franchisor's staff to enter the premises to inspect and see if the franchisor's standards are being maintained.
• to purchase goods or products from the franchisor or his designated suppliers.
• to train a staff in a franchisor's methods to ensure they are neatly and aptly clothed.
• not to assign the franchise contract without the franchisor's consent.

Trade restrictions. The restrictions imposed upon a franchisee may prohibit him or her from carrying on a similar business except under franchise from the franchisor, taking staff away from other franchisees, carrying on a similar business in close proximity to other franchised businesses within that chain, and continuing after termination of the franchise contract to use any of the franchisor's trade names, secrets, and so forth.

Assignment/death of the franchisee. The franchisee should ensure that in the event of death his personal representative or dependent will be able to keep the business going until one of them can qualify as a franchisee, and that arrangements can be made to keep the business going until a suitable assignee can be found at a proper price.

Termination provisions. The termination of a franchise is an event heavily regulated by the franchise laws of 17 states. Franchise relationship laws in many states specify the conditions under which a franchisor may terminate or refuse to renew the franchise, imposing a standard of "good cause," "reasonable cause," or "just cause" as defined by those laws. Minimum advance notice usually has an opportunity to cure the default and avoid termination; notice ranges from five days to 90 days. Many states also specify circumstances under which the standard notice and cure requirements need not be met.
 

In view of the close working relationship that must exist between the franchisee and franchisor, all provisions must be stated clearly in the contract. In this transaction, no small print should exist. Make sure, if possible, the franchise contract contains provisions that are favorable for both you and the franchisor.

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