Franchising

Franchises are becoming an increasingly widespread phenomenon and many people consider operating one. But are they right for everyone? Our article looks at the benefits and disadvantages of franchising, giving you a balanced view.

What is a franchise?

You may be shopping in one, eating in one or drinking coffee in one right now.

Figures from the British Franchising Association show that there are 930 franchise systems in operation in the UK. Within those systems, there are 39,000 franchised units and 561,000 people are employed, just under half of whom are in full-time employment. Franchising contributes £13.7 billion to the UK economy, which is almost 1% of GDP. There are about 22,400 franchisees and a quarter of them run multiple units.

What are the characteristics of a franchise?

A franchise must include a franchisor and at least one franchisee.

A franchisor is a person or business who sells the right to use its products or services to another person or business. They allow the franchisee to use a name which is associated with the franchisor, exercise continuing control over the franchisee and provide assistance to the franchisee (for example, advice on finding and acquiring premises).

The franchisee is the business or individual that purchases the rights to use the franchisor’s products or services. The franchisee will periodically have to make payments to the franchisor.

What are the advantages for the franchisor?

• Franchising provides a business with the opportunity to secure distribution for its products or services more quickly than if it had to train up its own employees and develop its own internal marketing, sales and distribution organisation.

• Using a franchisee’s capital will enable a business to expand more quickly than if it had to find the funds itself.

• Many businesses involved in the supply of goods or services motivate their employees by linking their remuneration to sales. Franchising takes this one step further by linking the franchisee’s financial well-being to the success of the franchisor’s business.

• Franchising a business may provide the franchisor with increased purchasing power and possibly reduced overheads, therefore increasing its profitability.

What are the disadvantages for the franchisor?

• While a franchise agreement will impose substantial restrictions on the franchisees, it is important to remember that they will be independent third parties who will be seeking to maximise their own profits. This can sometimes happen at the expense of the franchisor.

• Part of the profits the franchisor makes will be used to support the franchisee’s business.

• By involving a third party, the franchisor will have to divulge substantial know-how and information concerning its business. Although a franchise agreement will contain restrictions on the franchisees’ ability to make use of this information for their own purposes, it is often hard to enforce these types of provisions in practice.

• The business skills required to control franchisees and provide back-up are different from those involved in operating a business with its own employees.

• A franchisor may owe a duty of care to its franchisees and prospective franchisees. The High Court has held that a franchisor must ensure that when they provide advice to a prospective franchisee, they must do so with due skill and care (MGB Printing and Design Limited v Kall Kwik UK Limited (2010)).

What are the advantages for the franchisee?

• A franchisee has a certain amount of independence in the way that they operate their business; theirs is a freer relationship than might be the case between an employer and employee.

• Because a franchisor provides an established product with existing brand recognition, the franchisee benefits from a customer base that would otherwise take them years to build up. When combined with the support that a franchisor can offer, including site selection, financing, training and advertising, this can greatly increase the chances of the franchisee succeeding.

What are the disadvantages for the franchisee?

• The franchisee will never enjoy complete independence in the way that they run their business. They are obliged by the procedures and restrictions of the franchise agreement to operate in a particular way. Such restrictions can include the types of products or services that can be provided, the prices that can be charged and the geographic area in which the franchisee can operate.

• Franchisees must also pay out an initial fee to purchase the franchise, as well as ongoing royalties and advertising fees. The duration of a franchise agreement is often limited and a franchisee may well have little input into the terms of a termination.

It is crucial for both franchisor and franchisee to ensure that they have any franchise agreement drafted and checked by legal representatives. To get a franchise agreement drafted by a team of highly-skilled civil and contractual solicitors, email contactus@rradar.co.uk

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