Article by A City Law Firm
The person who sells their business operation as a franchise is known as the “franchisor” and the person buying the business operations is called a “franchisee”.
It is often known as selling a “business in a box” given the concept behind the franchise model is that there is a ready-made business ready for the franchisee to own and operate.
The goodwill and intellectual property in the business remains in the franchisor but the franchisee can own their own business, have some degree of flexibility on how this is run and make as much profit as possible from the same.
There are many very successful franchises like McDonalds and KFC. Franchising your business can work well, but where do you start and what do you need to do before you can start to franchise your idea?
It may seem obvious, but it is important that your existing business is properly operating since it will be under scrutiny from any potential franchisees. Have you properly considered how and why your business operates as it does? With a franchise you will effectively be selling someone the right to use your business as a blueprint, so it is important that you have properly road tested your ideas, have confidence in how to market your product and/or services and have a clear idea on the operational challenges and market. You need to be able to understand clearly what you would want to control and how you would like the franchise business to operate. You need to consider where your red lines are that if crossed will mean that you would want the franchise terminated and where you can put in support measures to try and encourage improvement instead.
In franchising your brand is paramount. It is important that you have properly protected all of your intellectual property rights. You should ensure that you have secured trademarks for all trading names, brand names and logos used in the course of the business.
It is important that comprehensive searches have been made to try and give as much certainty as possible that your trademark is not at risk of infringing any other third parties trademarks.
As a franchisor you will typically be responsible for dealing with any infringement and it is usual to give this assurance to potential franchisees that you will deal with any issues at your cost that may arise in respect of your brand. Given the importance of protecting your intellectual property rights it is important that professional advice is sought. You should consider carefully the territories that you are looking to expand into and take active steps to protect your brand. Registering a trademark in the UK takes a minimum of around three months, so it is important that steps are put in place from the outset and ensure that you have registered all relevant trademarks prior to commencing the franchising.
It is important that you are very confident on your figures for your business. As part of any franchise model, you shall be asking a franchisee to trust that they can make money from operating your franchise business. This is more so given the franchisee do not ever have a capital interest in the brand or the goodwill. It is important you clearly understand what the business is turning over, what are its operational costs, what are the capital costs of setting up the business and operating the business. This is also important for being able to determine your pricing models. Typically, franchisees pay a management fee based on an agreed percentage of turnover. There are also fees payable for marketing and the franchisee will typically cover any legal or operational costs incurred.
There are different franchising models available, and it is important for you to properly consider what is the best option for you as the franchisor. You should consider carefully how you structure your business – in which corporate entity should the intellectual property rights reside, what corporate entity should be used as the franchisor.
Where the franchisor is also the manufacturer of products, they are likely to want to retain that position and as part of the franchise dictate that the franchisee must purchase the products from them for resale. This is known as a Product Distribution Franchise. You may also be able to negotiate bulk discounts with other suppliers where you can pass savings on to franchisees and receive commission for the same. Some franchisors also act as the landlord of their franchisees and force them to use their premises.
There are numerous different options, and hybrids of the franchising models. What is important is that the structure works for you and your business. In some cases, it may be suitable instead to look at licensing or distribution models or even operating as a joint venture partnership model such as Specsavers.
Typically, franchises are carved up into territories and franchisees are given the right to operate their business in a particular geographical region. When deciding on how you intend to franchise the business it is important to carefully consider the carve up of the territories for the business. It is important to know your market and the areas. You do not want to go too large with the territories as you will find yourself with less scope for expansion but too restrictive the territories the less commercially attractive the franchise.
If you have decided that franchising may be suitable for your business, then you should look to set up a pilot operation to trial the operation of the franchise. This will help to identify some of the key problem areas you may experience in rolling out the franchise. You will typically have to spend longer and more resources for your first franchise, but this should be treated as a learning exercise to help you to scale the franchise.
It is imperative that you have a properly drafted franchise agreement to protect your goodwill and brand. Whilst franchising can be lucrative for a franchisor it does expose your brand and goodwill. You are enabling someone to trade using your name and business model, you are effectively endorsing them and their association to you. With this in mind Franchise Agreements tend to favour the franchisor. You need to consider how long the franchise will be for and whether there is an option for a break and/or renewal. Some of the key points to consider include how do you balance a franchisee trying to promote the business as against protecting your brand – will you enable franchisees to be able to do any marketing, will it all have to go via you, will you do all marketing at franchisor level only. Typical practicalities include such as a forcing a franchisee to use domain names and telephone numbers owned by you, so that if the franchise is terminated you retain continuity with the clients. As businesses change some franchisors require all clients to pay the franchisor centrally and then this is accounted to the relevant franchisees and their fees deducted at source. You also need to consider whether you want to include minimum targets that must be achieved, restrictions on the franchisee and business owner on termination, what happens if the owner of the business dies or what if they want to sell the franchise. It is important that you take legal advice early from an experienced franchising lawyer who should be able to guide you on what may be most appropriate for you and your business.
The manual is the key document in any franchise. This is the business operational ‘rule book’ which sets out in sufficient detail exactly what needs to be done to run the business to successfully replicate the business. It is important that this is carefully put together with the support and guidance of an experienced franchise lawyer, but it will be led by the franchisor and is intended to be a workable document suitable for the business and industry.
Whilst franchising does not work for every business it is an interesting business model that successful business owners should consider whether they could use to scale whether this is nationally or internationally. It is important, however, that clear legal advice and support is taken to guide any potential franchisor through the potential pitfalls and risks so that they can concentrate on growing and scaling their operation.