Do Business Well

It is not at all unusual for newcomers to franchising to go into a state of shock when they first realise the complexity of a typical franchise t agreement. But whilst efforts to draft franchise agreements in plain English, thereby enhancing their user-friendliness, are laudable, attempts to keep them “short and sweet” are generally doomed to failure. The reason for this is that unlike other legal agreements that will deal with one specific transaction, a franchise agreement has to cover an entire portfolio of commercial arrangements of varying complexity that may appear to be almost unrelated, yet, by virtue of the fact that they are part of one specific franchise arrangement, they are in fact closely intertwined.

To illustrate this point, let us look at just one of the areas that are dealt with in a typical franchise agreement, namely the grant of the franchise.

The Grant

A franchise is granted, never sold. Typically, franchisees will be licensed to operate one unit of the franchise, either at a specific address or within a clearly defined territory, using the system’s brand name(s) and corporate mage, sometimes known as the get-up, as well as its know-how as described in the franchise agreement and the operations and procedures manual. This license is usually issued for a fixed period. Although the grant constitutes only one of the many facets of the franchise arrangement, it nevertheless deals with several complex issues, as the example reproduced as the following.

The Grant of a Franchise

A franchise is granted, never sold. The franchisee will be licensed to operate the franchised business from a certain location using the franchisor’s intellectual property as described in detail in the franchise agreement. The grant will be for a specific period and will be subject to certain conditions. Even throughout this period, however, ownership of the licensed intellectual property remains with the franchisor.

Duration

In South Africa, franchise agreements are usually entered into for periods of between five and ten years. The actual period will be a compromise between the franchisor’s need to update the relationship from time to time and the franchisee’s desire to protect his investment.

If the initial term is very long, the franchisor may be hampered in his freedom to react appropriately to changes in the market. If, on the other hand, the initial term is unrealistically short, the franchisee may have insufficient time to recover his investment and generate a reasonable capital profit. Moreover, he would experience problems in raising medium-term finance, as lenders would be reluctant to lend him money for a period exceeding that of the franchise agreement.

Option to renew

It is customary to grant the franchisee an option to extend the initial agreement at the end of its term, usually for an equal period. The granting of an extension may be subject to the fulfillment of certain conditions, for example satisfactory sales performance, enthusiastic participation in network-wide programmes or a requirement to update the decor and / or certain equipment.

Some franchisors will also insist that franchisees whose agreements come up for renewal sign a new agreement. This enables the franchisor to ensure that the agreement reflects changes that have taken place in the interim, pertaining, for example, to consumer preferences, demographics or relevant legislation. It follows that, in many instances at least, the agreement that results from a franchisee exercising hisoption to renew will not be identical to the original agreement. It would be reasonable to expect, however, that the new agreement is in line with the standard agreement used by the franchisor at that time, save for the fact that it is unlikely to contain a further option to renew.

Cooperation extending beyond the expiry of the second term is usually subject to fresh negotiations between the franchisor and the franchisee.

Whatever the preconditions for exercising an option may be, franchisees should protect themselves against unpleasant surprises by insisting that these are clearly spelled out in the initial agreement.

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• Some Franchise Terminology
• The parties to the franchise agreement
• What does a Franchise Agreement cover?
• Open-ended franchise agreement
• Preparations for franchising
• Is a franchise the optimal solution? From the prospective franchisor's viewpoint
• Selling the Franchise
• Franchising Disadvantages Part 1
• Business format franchise

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