Franchises are a great way for a small business person or entrepreneur to build a path toward a lucrative career. With a franchise, you purchase the right to use the branding and intellectual property of an established business right here in your own neighborhood. Whether you are looking at opening a McDonald’s, Starbucks or other food franchise, or want another type of business like a car wash or delivery service, becoming a franchisee provides you with a fast track for your small business. However, as with any business relationship, there are going to be potential pitfalls and key terms you will need to watch out for. This is why you should retain the services of an experienced franchising attorney to guide you through the process.
What Are the Key Terms in a Franchise Agreement?
The franchise agreement is the lynchpin of your deal with the franchisor. This will set forth all of the terms and conditions of your relationship, so you should be aware of some key terms. Understanding these will help protect your interests while growing your business.
One of the key terms is the royalties you will be paying to the franchisor. In return for using the franchisor’s intellectual property, branding, and advertising, you will have to pay fees and also a percentage of your sales to the franchisor as royalties. You should consider going over these with an accountant so you can understand the potential profitability of your franchise.
You are also going to want to know the terms that govern termination of the franchise relationship. This is usually limited to the franchisee’s bankruptcy, nonpayment of fees and royalties, and failure to comply with brand standards. You need to make sure that there are no at will termination provisions as this could render your franchise worthless.
Similarly, you are going to want to make sure that you have renewal rights at the end of the term of the franchise. You do not want to be in the position of building the franchisor’s business only for it to refuse to renew the agreement and then sell the business to someone else.
One of the biggest reasons to go into a franchise is to be the exclusive one selling the franchisor’s product or service. This is why it is vital to have exclusivity rights. The greater the exclusive area you have, the more valuable your franchise will be. This also connects to having rights to sell the franchise. If you cannot sell it, then the value will be limited to the income you can derive from the business.
Finally, there is always the chance that you may get into a legal dispute with the franchisor. While things may be fine when getting into the business, further down the road there may be a dispute. In most cases, the franchisor will be bigger than your business and have deeper pockets. So, the choice of dispute resolution by arbitration or mediation could help to level the playing field, while courtroom litigation could be something you cannot afford.
What Are Some Pitfalls to Franchising?
There are a number of things that can go wrong when entering into a franchise agreement. For example, some franchisors do not do as well as others in supporting their franchisees. A good franchisor will provide training and assistance so you can create a win-win situation with the business.
Another potential pitfall is territorial disputes. You want to know that another franchisee won’t be setting up too close to the area that you are planning to serve. You also want to make sure that the franchisor doesn’t sell its product to retailers or wholesalers in your territory. This has happened in some cases, and can undercut your profitability. Getting a strong exclusivity clause can help address this.
Franchises can often be expensive. Many have a high initial cost, with the franchisor demanding payment of a large fee, as well as equipment and setup expenses. In addition, royalties can also create a financial burden for your franchise business. This is why you need to do the math before doing the deal.
In the worst case scenarios, you may encounter fraud. Unfortunately, some business people are not reputable and will make exaggerated claims about the business or misrepresent the earnings potential of your franchise.
What Can You Do to Get Better Terms and Mitigate Risks?
There is no way to eliminate all of the risks associated with a franchise business. But you can do some things to get better terms and help reduce the risks associated with the franchise. This starts with putting together a good team of an experienced attorney and an accountant or other financial advisor.
First, your team can do a due diligence review of the franchise. This will make sure that the claims made by the franchisor are valid. It will also help determine if the franchise is suitable for you and potentially profitable as well.
Second, you can look into other franchises to see how the terms compare to those offered by similar franchise businesses. For example, if you are looking to go into a food business, it may pay to examine the terms offered by other franchises in this industry. This could include such key terms as exclusive territory and royalty structure in the franchise agreement.
Call Our Franchise Attorneys Today
While starting a franchise business can be a lucrative proposition, the process has many risks and potential pitfalls. The experienced franchise attorneys at Jones, Gregg, Creehan & Gerace will help guide you through the process, making sure to protect your interests along the way.