Entering into a franchise is a serious undertaking that should not be taken lightly. There are inherent risks associated with starting a business and the task of finding the right franchise can be daunting.
So, what should potential franchisees do before entering into a franchise agreement and what due diligence should be undertaken? We have outlined below some tips and considerations for potential franchisees to consider before making a decision.
Review the Franchisor’s Disclosure Documents
Franchising law is regulated by the Franchising Code of Conduct (the Code). Under the Code, a franchisor must provide a prospective franchisee with:
• a copy of the Code;
• a disclosure document outlining key aspects of the franchisor’s business;
• a copy of the proposed franchise agreement in final form; and
• a short information sheet outlining the risks and rewards of franchising.
It is critical that you review these documents carefully with your advisors. They contain important information about the franchise and your rights and obligations under the franchise agreement.
There may be matters within the disclosure documents provided by the franchisor that you wish to consider more closely. You should not feel pressured to enter into the franchise agreement if you are not satisfied with everything the franchisor has told you and you should review all documents carefully and make further enquiries until you are satisfied.
Seek Business Advice
It is best to seek expert advice and support to ensure you know what you are getting yourself into. Professional business advisors and accountants can review the financial and other information provided by the franchisor and check it thoroughly for inconsistencies and signs of trouble. There may be problems which you are not aware of which can become evident from a review of the franchisor’s materials.
In particular, business and accounting advisors can help you determine:
• whether financial statements provided by a franchisor are consistent and appear to indicate a healthy business;
• the options you may wish to consider to finance your business;
• how you should operate the business and its finances if you choose to proceed; and
• what capital investment you will need to get started.
You should also consider carefully with your business advisers:
• the best business structure to use to operate the franchise and whether a company will need to be set up to become the franchisee entity;
• whether you have conducted enough due diligence and know all there is to know about the franchise;
• what the general reputation of the franchise is in the marketplace; and
• whether the franchisor has a strategic plan and good track record of growing and managing the franchise.
The more you know about the business before entering into the franchise, the more likely your business is to be successful.
Review any Proposed Lease
One of the most crucial documents in a franchised business is the lease under which the business will operate from particular premises.
Leases are generally complex documents with many important conditions of which you may not be aware. Landlords will often prepare leases anticipating that a tenant will negotiate certain conditions within the agreement, making it important that you have obtained legal advice and reviewed the lease before signing.
With the help of a good leasing agent, finding the best location and negotiating the right amount of rent for your business should be easier than if you were doing all that yourself. Further, a good leasing agent and/or legal advisor may help you avoid:
• excessive security and bank guarantees, which will mean you will need to set aside a large amount of funds with your bank which you cannot use until the lease ends;
• unnecessary or excessive refurbishment or redecoration requirements;
• personal liability or director guarantees under the lease to ensure only your business and not your personal assets are exposed if the lease is not complied with;
• ‘demolition’ and similar clauses often used by landlords, which would allow them to unfairly end the lease agreement early;
• help you get the right term and any option for renewal you may need to see a return on your investment; and
Entering into the right lease can make the difference between a successful business and a business that struggles to turn a profit.
Review the Franchise Agreement
Then you get to the Franchise Agreement. This is the most important document for your new business. It will guide and govern your franchise relationship with the franchisor for many years to come and set out exactly what you can expect from your franchise.
It is vital that you understand all of your rights and obligations under the Franchise Agreement. You should read the documents carefully, ask your legal advisers to review the documents and work closely with your legal advisors to ensure it meets your needs.
In particular, you should consider:
• what rights the franchise agreement gives you to operate the business and how these rights will come to an end;
• what your rights are should you wish to extend the franchise agreement or sell the franchised business;
• what fees will you be required to pay the franchisor;
• what you are not allowed to do and what will be considered a breach under the franchise agreement; and
• what happens after the franchise comes to an end.
Get Legal Advice
There are many important terms within the franchise agreement which you will need to ensure you understand and obtaining good legal advice, from franchise law specialists, is fundamental in this regard.
When choosing a lawyer to provide you with that advice, you should consider:
• whether they have experience with this type of law and franchising in general;
• the kinds of clients they work with and their reputation within the industry (or feedback from other people you know);
• how well they communicate with you and whether they are able to give practical and jargon-free advice;
• whether you understand their fee structure and what their advice will cost you; and
• how comfortable you feel with the individuals who will be helping you.
Good legal advisors will be with you throughout the journey and will contribute immensely to the success of your business.
Take your time, consider all of the information and advice you have received carefully and make a sound business plan and your business has every chance of growing to become a successful and long-lived business.
Blake Palmer is a Partner at Baybridge Lawyers where he leads the Litigation Practice. Blake has been practicing litigation in Sydney for 15 years including four years at the NSW Bar. His principal practice areas are commercial litigation, franchise disputes, equity and contract, competition and consumer law, construction, insolvency, mediation and alternative dispute resolution. Blake has a record of achieving successful outcomes from complex disputes.
If you would like to know more or for more information and confidential advice, contact:
02 8413 3684