Franchise Agreement Provisions You Need to Understand Before Buying a Franchise

Franchise Agreement Provisions You Need to Understand Before Buying a Franchise

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Like any business, there are legal documents that govern the partnership between a franchisee and franchisor—the franchise agreement.

Not to be confused with the Federal Trade Commission’s Franchise Disclosure Document, which describes the relationship between a franchisor and franchisee and contains historical data about the franchisor’s company, the franchise agreement is a legal document that spells out each party’s specific legal obligations.

If you’re pursuing multi-unit franchise opportunities, it’s important as a franchisee to have a clear view of your operational and financial commitments, as well as understand the obligation of both parties.

With that said, you should have an attorney with relevant experience review your franchise agreement. Below, we outline the key provisions in your franchise agreement that you need to understand and review with your lawyer.

Contract duration

Every franchise agreement is different, including the terms set for how long the agreement will last. Typically, the duration depends on the profitability of the franchise, how long it might take to break even, and the length at which you, the franchisee, expect to run the franchise successfully.

When the agreement nears its expiry, you can opt to renew the contract. This gives you and the franchisor the opportunity to review your franchise agreement and make adjustments to accommodate what the franchise has evolved into under your leadership.

Keep in mind, though, that contract renewal may not be in the cards. If the franchisor does not think your franchise location has been profitable enough, they may choose not to renew the contract.

Franchisor/franchisee relationship

Franchisees need the continued support of their franchisors if they are to succeed. This is why it’s important for both parties to establish and define the working relationship and expectations they have of each other in the franchise agreement.

For one. it needs to lay out the franchisor’s training program for franchisees and their staff. This can include training done at your location or a corporate headquarters. This also means offering ongoing support, from administrative to technical.

On the franchisee’s side, the franchisor might require you to keep and submit adequate records. They might also set performance standards to comply with certain milestones you’re supposed to hit to ensure that the franchise is growing as it should.

With these terms laid out, each party will know their obligations and have an easier time adhering to them.

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Royalties and other franchise fees

As a franchisee, you need to pay an initial upfront fee simply referred to as the franchise fee. This covers the cost of the setup of the franchise, as well as training and recruitment. This may also cover other professional fees incurred in setting up the new franchise location.

However, the franchise fee only covers costs and doesn’t make the franchisor any profit. This is where royalties come in. Royalty payments are calculated based on either an established percentage of your profits or a flat fee.

Other franchise fees may include contributions to national marketing campaigns. This is especially applicable to bigger franchises where brand recognition can be achieved through nationwide promotion, which then benefits all franchisees.

Assigned territory

Franchisors typically won’t want to cannibalize their franchises by placing two or more so close to each other. This is why franchise agreements set up a franchisee’s assigned territory.

This provision in the contract designates a territory in which you can operate and whether you have exclusive rights to it. For example, you may be granted exclusive rights to set up the franchise in a smaller city but non-exclusive rights in a bigger one.

Use of trademarks and patents

One of the main benefits of purchasing a franchise is that you don’t have to start marketing from the ground up. There will already be logos and other trademarked brand identity elements you can use for your business.

In your franchise agreement, the provision of the trademark should list the trademarks and logos franchisees are entitled to use. It should also lay out how and where you can use these marks, as well as the restrictions for using them.

Franchise renewal and termination policies

The franchise renewal and termination clause describe how the franchise agreement can be renewed or terminated. It states your rights and obligations upon the termination of the contract and the transfer of the agreement, as well as important information about renewal negotiations.

Franchisors may also include an arbitration clause here, which makes an arbitrator review the case if either party warrants legal action.

A franchise agreement can be this long, confusing document but it contains all the legal information you need to successfully purchase and run a franchise. Understanding these provisions can help you make better decisions as you move forward in your business.

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