Franchise contracts: what to look out for Part 2

Franchise law specialist Amy Leite’s latest article on WorkingMums.co.uk looks at key terms to be aware of, regarding renewal and franchisor obligations, in a franchise agreement contract.
 Franchise law specialist Amy Leite is currently writing a series of articles for WorkingMums.co.uk, a leading job and community website for professional working mothers and fathers.

Her last article focussed on the key franchise agreement terms of the franchise contract that franchisees should be aware of to help ensure they sign up with their eyes fully open. You can read this here.  The article below continues to demystify some key terms, covering renewal and the franchisor’s initial and continuing obligations. 

A foreword from amy

As I said previously, before you read any further, articles such as this should not be seen as a substitute for taking legal advice on the terms of your franchise agreement but more a tool to help you have a working knowledge of the terms of the franchise agreement before you have it reviewed and thereafter.

There are key franchise agreement terms you should look out for in your draft franchise agreement. We are often surprised to hear how many people do not take advice on the terms of their franchise agreement prior to signing it. Often we hear that this was because they were told it was non-negotiable or the fees for a review seemed high. In our experience, regardless of whether the franchise agreement is negotiable or not, being fully aware of what your franchise agreement means in order to take a considered commercial decision and enter the agreement with your eyes open is invaluable.

It is therefore very important that you have at least read the franchise agreement ahead of your solicitor carrying out a review for you. It is very rare that a franchise review (either by report or otherwise) would comment on every single clause of the agreement and, as you will be expected to abide by the terms, you need to be clear on what all the terms are however unimportant certain things may seem.

Renewal

When considering whether a franchise will be suitable for your needs you need to consider what your long term business goals are. Are you looking to take a franchise as an income stream to carry you through to retirement in 5 years time? or are you looking at the franchise as a long term income stream and potentially with a view to building a business up which is capable of being re-sold?

It is important to consider your strategy in light of the renewal provisions in your franchise agreement. Your franchise agreement should contain a right of renewal i.e. the right to enter into a new franchise agreement for a further term after expiry of the first 5 (or 10) year term.

The word renewal in the franchise context sometimes slightly misleads people. I often hear franchisees talking of renewal as being an agreed extension of the term of their current franchise agreement. This is not usually how renewal works. Renewal will usually require that the franchisee enter into a new franchise agreement to take effect from expiry of the original agreement.

Your draft franchise agreement should set out on what basis you will be entitled to renew your franchise agreement after the first 5 year term. Generally, you would have the right to enter into a new franchise agreement so long as you meet a list of requirements such as there being no outstanding breaches of the franchise agreement, you must have met minimum performance standards/targets if applicable or operated the business at a standard which is acceptable to the franchisor and an agreement that you will bring the franchise business (premises or equipment) up to the latest standards the franchisor requires.

There is usually a notice requirement on your part. You would have a time frame in which you must give notice to the franchisor of your intention to renew the franchise. This can be between 6 and 3 months before expiry of the term but in some cases it is between 9 and 6 months before expiry. If the notice period is missed and you do not give notice the franchisor can refuse to grant you a renewal, so knowing your renewal notice period is very important.

Once notice is given and so long as you meet the requirements to renew the franchise you will be required to enter into a new franchise agreement. Often the original franchise agreement will provide that the renewal franchise agreement will be the current version of the franchise agreement which is on offer to new franchisees at the time of renewal (you should, if the original franchise agreement is silent on the point, ensure it is confirmed for what term renewals are offered – it should be no less than your original term). This means you are likely to be looking at an agreement that has very different terms to the original agreement (franchise agreements naturally develop over time).

The original franchise agreement will often go as far to say that the renewal franchise agreement may and probably will contain different terms to include higher fees and greater contributions than under the original franchise agreement. This means the goal posts can be changed on renewal which often puts franchisees in a very difficult position. The franchisee either accepts the terms of the renewal agreement (which could be very different and much more onerous) or, if they refuse to accept the terms, the original agreement will expire and the franchisee will no longer have a right to operate the business they have spent 5 years developing.

You can also expect to see a clause which states you will be deemed to have waived/released the franchisor from any claims or liability under the original franchise agreement on renewal. So, in effect, when you sign the renewal franchise agreement you will have to agree to wipe the slate clean if the franchisor has done anything that could have resulted in liability to you under the original franchise agreement.

Sometimes the franchise agreement will set out a limit on how many renewals the franchisor has to offer you. This will give you an idea of how many years you may be able to operate the franchise business for.

You can also expect to see a clause providing for the situation where you have not entered into a renewal agreement but have continued to trade as a franchisee. This is known as operating as a franchisee at will. Often this clause takes effect where the renewal agreement is still being drafted, reviewed or amended and has yet to be signed by the franchisee but there is the desire to renew. This clause often provides for a notice period by which the franchisor can bring the franchisee at will to an end without any cause. This is a situation best avoided if you want the certainty of being able to continue to operate the business.

Franchisor’s Obligations

The franchisor’s obligations in the franchise agreement are generally split into two clauses. The first being the initial obligations i.e. those obligations the franchisor has to you when you first sign up to the franchise. These often include providing initial training, providing advice, guidance and know how on the operation of the business, providing a copy of the operations manual, providing advice on an initial advertising campaign and sometimes providing an initial package/start up package.

It is very important to be aware that if an obligation is not listed as such in the franchise agreement there is no contractual right for you to rely on it. Therefore, you should check what you have been told you will receive by way of initial assistance and ensure all these items are listed in the franchise agreement. The same goes for ongoing obligations of the franchisor. If you have been told the franchisor provides leads or operates a telephone answering service you must ensure that these are in the franchise agreement.

You should also check that the initial package contains what you expected. If the package simply refers to stationery try and have the franchisor split this down into what exactly is included i.e. 200 business cards, 300 flyers etc.

The ongoing obligations of the franchisor are generally quite vague, that is normal in franchise agreements and they are certainly much fewer than the franchisee’s obligations. The ongoing obligations are those which the franchisor has to comply with during the term of the agreement. These usually include providing know how, advice and guidance (be prepared to see there is a fee for substantial, continual or on site assistance), updating the operations manual, supply products (if there are products), provide stationery for you to use (at your expense) and providing update/refresher training. As mentioned above you need to ensure that anything particularly important that you are told you will receive is set out here. If it is not an obligation, then you will find it difficult to complain you do not receive it.

MORE INFORMATION

In the next article we will be looking at training and the franchisee’s obligations.
For more information please contact our Franchise Law Department.