Advice & Tips Ask an Expert January/February 2022

Q: Besides the franchise fee and royalties, what other provisions should I consider when reviewing my franchise agreement?

A: While evaluating potential franchises, prospective franchisees may naturally zero in on the franchise fee and royalties, but there are three other provisions to consider and revise in the franchise agreement, if possible.

Dixie Ho, V.P. Legal, Mary Brown’s Inc.

1. Resale conditions

No one wants to rain on the exciting parade of purchasing a franchise by considering the exit strategy before things have even started. Still, whether due to life changes, shifting priorities, or as part of the business lifecycle, it’s natural for a franchisee to consider selling the franchise at some point. They’ll generally not be able to sell without the franchisor’s consent. The following are common examples of conditions to the franchisor’s consent:

  • Right of first refusal: the franchisor may have a certain period to step in as the purchaser. This right could be a continuing right, where the franchisor gets another “kick at the can” if the sale isn’t completed within a certain period of time. A franchisee will want a short period (for certainty with their potential purchaser), and a sufficiently long period to complete the transaction to account for any disclosure period, obtaining landlord’s consent, and the purchaser completing financing arrangements and due diligence. 
  • Release: the franchisor may require a release from the franchisee. A franchisee may want to ask their lawyer to review whether this provision is enforceable.
  • Fees: various fees may be payable by the seller on a transfer provision, such as transfer fees, administration or “other fees.” Rather than generally described fees, for certainty, fees should be specifically enumerated, such as the franchisor’s reasonable legal costs, training, legal fees, costs associated with credit checks, and more. When the time comes, the seller will need to factor these fees into their desired purchase price.
  • Store upgrades: the franchisor may also require that the premises be updated prior to the transfer. It may be possible to include certain exemptions, such as if the premises were recently updated at time of the transfer. Franchisees are well-advised to budget for this when prepping their business for sale. 

2. Rebrands, system updates, and renovations

Generally, franchise agreements will require a franchisee to implement all system changes that the franchisor imposes at any time at the franchisee’s cost. Additionally, a franchisee may be responsible for conducting a “mid-term” refresh of the premises. For example, franchisees may need to purchase new equipment for new product lines or change signage to reflect new logos or store designs. Some franchisors may allow for a “freeze” period so that the franchisee would be exempt from making these changes in the early part of a franchise agreement’s term while the business is still being established. Capping the amount that the franchisee will be required to spend may also be appropriate. Ultimately, franchisees should budget for these requirements and regularly set aside funds.

3. Renewal

Franchisees often assume that the renewal of a franchise agreement is a “given,” which can be a dangerous assumption. Renewals are generally subject to conditions, such as the following:

  • Notice: franchisees are commonly required to provide written notice of their intent to renew within a window prior to the expiry of the current term. This window should be reviewed to ensure that it’s not overly broad or restrictive and lined up with any lease renewal notice windows, if possible.
  • Release: similar to the resale condition, the renewal provision might also require that the franchisee provide a release of the franchisor, which legal counsel may also want to review for enforceability.
  • New franchise agreement: franchisors often require that franchisees sign the then-current form of the franchise agreement on renewal, which may contain materially different terms and fees. These changes could be quite impactful on the franchisee’s business. The franchisee should request that the renewing franchise agreement preserves critical terms, such as its exclusive territory.
  • Store upgrades: similar to the resale conditions, the premises may need to be upgraded to the franchisor’s then-current standards prior to or immediately after renewal. Franchisees are well- advised to plan for this expense by either setting aside a renovation budget during the term or by making financing arrangements in advance of the term’s expiry.  

These three examples highlight how important it is to fully understand all provisions of the franchise agreement. These and other provisions may seem burdensome, but franchisees are encouraged to raise any concerns with the franchisor. Even if a franchisor won’t make changes to the franchise agreement, this discussion can be helpful to gauge how a franchisor might generally respond to a franchisee’s inquiries and can help ensure that each party has a clear understanding of its obligations, which are the foundation of any successful franchise relationship.

Dixie Ho
V.P. Legal
Mary Brown’s Inc.
dixie@marybrowns.com

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