LEASING: What you need to know as a Franchisee

Peter Fiasco and Alex Ellis-Czerkaski, Hairhouse Warehouse

You’re thinking of becoming a franchisee and you need a location to run your business. That means that you most likely need a lease – but what do you need to think about when committing to a lease for a new site, what are the things that you need to be aware of, and how do you get help?

Here’s a list of a commonly asked questions when entering a new lease.

Who holds the lease?

Store or site leases can be set up in many ways – the franchisee can take out a lease in their own name or in some cases the franchisor holds the head lease. There’s no right or wrong way about it. If the franchisor holds the head lease you need to check what your rights are - what will your responsibilities be under the lease?

How long should the lease be?

A typical retail lease comprises a term in the range of five (5) to seven (7) years. Prior to the lease commencement date you will be given a handover date. This refers to the period given to fitout the store in preparation for opening, this period is generally a month and is rent free.

Thinking further into the future; leases can contain options to renew at the expiry of the initial term. These options will generally be the same amount of years as the initial term. In conjunction, there maybe multiple options meaning you can then further continue to renew well into the future. As franchisee it is paramount that you understand the concept behind these options as it will provide a secure future to your business.

What happens at the end of the current lease term?

Your lease may contain options to renew. If it is your intention to continue with the site then the renewal is simple. Your rent will be decided between you and the landlord. If the terms cannot be agreed on, then a third party determining valuer will provide the binding commencement rent. In major shopping centres however, you will not be given any options to renew at the end of your initial term. However, in most cases the centre will begin negotiations with you to settle a new lease.

What happens if negotiations aren’t settled before your expiry?

That’s a common occurrence and a holding over period will commence. In this period you will pay the final year’s rent on a month to month basis whilst negotiations are finalised.

What if you do not want to renew the lease at the end of the term?

You are under no obligation to renew the lease at the expiry of the initial term unless specifically mentioned in the lease. Rent is a substantial overhead cost that can determine the longevity and success of your business. As a franchisee, you must consider what is in the best interests of your store and you are encouraged to analyse and review your current and future arrangements before committing to a renewal or relocation.

Leasing in a shopping centre versus leasing in a strip location

Shopping centre leases are very different to that of standalone strip retail. Shopping centres as mentioned before do not offer options whilst strip retail do generally offer multiple options. Moreover, shopping centres will charge what’s known as a promotions levy which is generally a percentage, around 5 per cent of rent, in conjunction with outgoings. Outgoings are also derived differently - shopping centres will derive your outgoings based on a percentage of area that you occupy and charge you the relative outgoings based on the whole centre. For example; if your store occupies 100 sq. m. whilst the shopping centre has a lettable area of 5,000 sq. m. you are responsible for paying 2 per cent of the total outgoings of the centre. Whilst strip retail is much more simple as outgoings are clearly charged to the single standalone chamber.

What is a Bank Guarantee?

When entering a lease the lessee is required to provide a bank guarantee to the lessor. This is simply a bond provided by the bank on the behalf of the lessee, to assure the lessor that the lessee is financially viable and can afford the rent.

What insurance might you require?

Insurance is mandatory when investing in a franchise or operating in any centre. In the lease such insurance requirements will be clearly stated. This figure should cover all content within the store as well as any unforeseeable events which could be devastating to your business.

Permitted Use – What does this mean?

In every lease agreement, there will be a permitted use clause. This clause is simply as the name suggests. This outlines the permitted uses within the site. However, this isn’t something to stress over as each company will have a standard permitted use which is inserted in every lease.

Market Reviews – What are they?

There are two types of reviews contained in a lease; annual reviews and market reviews. Annual refer to the fixed increases at the end of each year of the term. For example, the annual reviews can be fixed at 4 per cent meaning the rent will increase by 4 per cent at the end of each year of the term. Market review refers to the review that occurs at the end of the full term, which results in the rent being taken to ‘market’.

What if you don’t pay the rent?

As a franchisee you are responsible for paying the rent in a timely fashion and if you fall behind this is called going into arrears. This situation is not ideal and any company would advise against it. It is in your best interests as a franchisee to pay the rent by the due date to create a sense of credibility within the respective management or landlord. A lack of punctuality will be counter-intuitive to the lease renewal and can result in landlords acting unfavourably towards your particular site. However, in some cases it is your right to refuse rent if there is a legal issue or breach of contract.

Selling your business? What do you need to keep in mind in regards to your lease?

When selling your business you need to keep in mind the lease that is connected with the store. If the lease is assigned to the company then you as a franchisee can sell the business with ease as the lease is technically not assigned to you. However, if the lease is assigned in your name you are required to make a changeover of lease or formally exit the lease. The landlord in most cases will happily change over the lease as this will have no effect on the income flow.

Current Legislation

In Australia, there is no legislation at a federal level to regulate the relationship between the lessor and lessee in relation to commercial and retail premises. Retail leasing legislation is the responsibility of individual State and Territory governments and differs in each State and Territory. The current relevant legislation for each State and Territory is as follows:

• Victoria - Retail Leases Act 2003
• New South Wales - Retail Leases Act 1994
• Australian Capital Territory - Leases (Commercial and Retail) Act 2001
• Queensland - Retail Shop Leases Act 1994
• South Australia - Retail and Commercial Leases Act 1995
• Western Australia - Commercial Tenancy (Retail Shops) Agreements Act 1985
• Tasmania - Fair Trading (Code of Practice for Retail Tenancies) Regulations 1998
• Northern Territory - Business Tenancies (Fair Dealings) Act 2003

When looking to purchase a franchise business or negotiate your lease, it’s always recommended to source a reputable lawyer that understands both franchising and leasing. Have your lawyer review all documents and arrangements and clearly explain to you what your rights are.

Peter Fiasco and Alex Ellis-Czerkaski, Hairhouse Warehouse