5 Things To Consider Before Buying A Franchise
Starting a franchise business is an exciting business endeavour, but as with many business transactions, there could be legal implications for the parties involved. In this blog post, we discuss five things you should know before entering into a franchise business arrangement.
But first, what is a franchise?
A franchise is a business model that allows companies – franchisees, to resell and distribute the products or services of another business entity – the franchisor. Franchisors grant franchisees the right to sell a product or service and to use the franchisor’s name and other business assets in accordance with their guidelines.
Laws Governing Franchises
There are a number of laws that govern franchise businesses in Australia, notably the Franchising Code of Conduct (‘Code of Conduct’) and the Australian Consumer Law.
The Code of Conduct, implemented in 1998 and significantly revised in 2015, is one of the primary mechanisms that govern franchise businesses in Australia. As such, every franchisor and franchisee business owner should familiarise themselves with the Code of Conduct.
Some key areas that the Code of Conduct covers include:
- Disclosure requirements.
- A good faith obligation.
- A dispute resolution mechanism.
- A cooling-off period.
- Procedures for ending a franchise agreement.
It is important to note that your franchise agreement needs to meet the definition of a ‘Franchise Agreement’ in order for your business to be governed by the Code of Conduct. A ‘Franchise Agreement’ is the contract between franchisor and franchisee which sets out each party’s rights and responsibilities in relation to the business, as well as each other. According to the ACCC, parties usually ‘enter’ a franchise agreement by signing a written agreement, but [the] agreement can be written, oral or implied’.
In addition to the Code of Conduct, parties to a franchise have certain rights and obligations under other legislative regimes, such as:
- The Fair Work Act,
- The Australian Securities and Investments Act,
- Australia’s Tax Laws, and
- State and territory licensing schemes.
With that in mind, here are five questions you need to consider before purchasing a franchise:
1. What is the Franchisor promising?
Franchises can be lucrative businesses; however, it is essential to understand that franchisors can make misleading projections on the sales and revenue your franchise business can generate. As part of your due diligence, you should do extensive research and evaluate whether the opportunity is worth investing in. Make enquiries and find out how long it took for other franchisees to break even or to pay off the initial investment.
2. How does the Franchise Operate?
During your negotiations with the franchisor, you should ensure that you extensively understand how the business operates and what assets, systems and marketing support you will receive. It is also crucial that you understand your rights and obligations under the franchise agreement.
According to the ACCC, if you proceed with the franchise, the franchisor must provide you with a disclosure document at least 14 days prior to entering into an agreement or making a non-refundable payment.
A disclosure document should typically contain the following information:
- Operating costs and fees you have to pay.
- Contact details of current/former franchisees.
- Terms regarding your exclusivity.
- End of term arrangements.
If your prospective franchisor has not provided a disclosure document, make sure you obtain one before entering into an agreement with them.
3. What are the terms of the agreement?
Most franchisees have a standard franchise agreement with terms that define the franchise relationship. As a business owner however, it is in your best interest to negotiate any clause you find unsuitable or constraining. Engage a business lawyer to assist you in amending the franchise agreement to ensure you are comfortable and ready to begin that business relationship.
4. How long do you want to be in business?
Knowing how long you intend to be in business is essential to finding the right franchise. If you are seeking a short-term business opportunity, perhaps the current franchisor doesn’t offer terms that align with your business goal. Alternatively, if you are looking for a long-term business engagement, it is possible that the franchisor is not able to assist you for an extended period of time. Consider your short and long-term goals before engaging with prospective franchisors.
5. What are your IP rights and obligations?
A franchise can be a great business opportunity. However, as a franchisee entering into a business relationship with another business entity, it is absolutely critical to familiarise yourself with your rights and obligations and to take all the precautionary measures outlined above before signing on the dotted line.