Franchise Agreements: Buyer Beware

One of the most popular business forms in this country is based upon franchise relationships. A franchise is a relationship whereby the owner of valuable tradename or trade secrets allows a business owner to use such valuable property in their business under certain conditions. Common franchise relationships are McDonalds, Subway, or Starbucks. When entering into a franchise relationship, it is critical that a party retain the services of an attorney to guide them through that process.

It is true that a franchisor will unlikely agree to major changes to the franchise agreement. Franchisors want to have consistent relationships so they can manage each franchisee. Nevertheless, it is critical to ensure that one entering into a franchise relationship understands what they are getting in return. Entering a franchise is often an expensive proposition and before making that investment, it is important that all of the risks, benefits, and obligations are understood.

Here are the main areas that deserve attention:

1. Exclusivity: Are you obtaining an exclusive territory whereby you will not have to face competition from other franchisees? Moreover, does the franchisor have a right to compete with you? It is a competitive economy and knowing that you are the sole party who can use such trade secret or trade name in a particular territory would provide some comfort.

2. Royalty/Franchise Fee: What will be your financial obligations under this relationship? Most likely, there will be an initial franchise fee. In addition, there will most likely be ongoing royalty fees due as well as advertising costs. Royalties are not necessarily a bad thing as it puts the franchisor with some skin in the game. Nevertheless, you need to understand what your expected financial obligations will be moving forward.

3. Franchisor Controls: In exchange for your right to use the trade secret tradename, the franchisor will set forth certain requirements and/or controls in how you operate your business. The franchise agreement should be thoroughly reviewed to determine if those controls would create additional financial obligations and/or unduly interfere with your plans on how you will operate the business. In addition, does the agreement give the franchisor the right to terminate the relationship and, if so, do you have the right to cure? You are spending a significant amount of money, most likely, in this relationship and want to be assured that the relationship will not be terminated unless there is a good reason.

4. Exit Strategy: You should anticipate a time where you will be looking to exit from the operation of this business. When that happens, what controls does the franchisor have in being involved and how you may sell your business? Certainly, it is understandable for the franchisor to have certain review rights. However, their discretion should contain a reasonableness requirement.

The franchise agreement that you will receive will contain many pages of language containing rights and obligations. Moreover, you most likely would have been promised many things by the franchisor broker. It is critical that your expectations in the relationships are clearly reflected in writing in the franchise agreement. Although you many not necessarily be able to negotiate the terms of the agreement, you will have the ability to operate with full transparency so you can make an intelligent business decision on whether or not to enter into the relationship in the first place.

If you would like more information on this subject, please feel free to contact attorney Ted McGinn at Lavelle Law at 847-705-7555 or tmcginn@lavellelaw.com.