Acquiring a franchised business (whether an existing business or a new business) can be an exciting prospect, but that should not cause you to overlook the importance of carefully considering all aspects of the new business venture, and how that may affect you moving forward.
Whilst it is true that many franchised businesses enjoy a better prospect of success (anecdotal evidence is that a franchised business is five times less likely to fail than a one-off business), there are still many obligations that you should be aware of before buying a franchise.
Both franchisors and selling franchisees are motivated (often without any intended malice) to put a positive spin on your proposed acquisition, and possibly paint it in a light that may not really address just how important the decision is for you. Therefore, you should always do your homework before buying a franchise: that should cover not just the legal and financial framework of the business, but the personalities involved too.
Importantly, franchising as an industry is regulated by the Franchising Code of Conduct, and many other aspects of the Australian Competition and Consumer Law also affect parties’ conduct in the franchise relationship.
It is not a business relationship that should be taken on lightly, and unlike many other types of purely contractual relationships, it is considered by most to be a “relational” contract, given the interdependence of the franchisor, the franchisee and indeed other franchisees within the system. It is important to note that how a particular franchisee operates can affect other franchisees within the system, and ultimately the goodwill associated with the franchised brand.
Franchising Code of Conduct
The Franchising Code of Conduct (Code) requires the Franchisor to provide a detailed Disclosure Document to all prospective franchisees (and in certain circumstance to existing franchisees too), before the prospective franchisee enters into a franchise agreement or makes any non-refundable payment to the franchisor or an associate of the franchisor in connection with the proposed franchise agreement. It must be given no less than 14 days before the prospective franchisee can enter into the franchise agreement.
The Disclosure Document can be very detailed and technical in parts, must include a copy of the Code and the form of franchise agreement, and is otherwise designed to contain a lot, but not all, of the information that should be considered when thinking about taking on a franchise.
The purpose of the giving of the Disclosure Document is set out in Clause 8(2) of the Code and, insofar as it is relevant to a new franchisee, is stated to be:
“… to give a prospective franchisee … information from the franchisor to help the franchisee make a reasonably informed decision about the franchise …”
The Code supports this by requiring mandatory statements to be embedded at the front of the Disclosure Document, recommending the conduct of a full review by the franchisee, the taking of independent advice and the undertaking of educational courses by franchisees. The regime is designed to encourage prospective franchisees to undertake a thorough due diligence before making a decision to take on a franchise.
The Code further supports this regime by clause 10 of the Code. This requires, as a statutory minimum, that a franchisor must not enter into a franchise agreement unless the franchisor has received from:
- the prospective franchisee a written statement that the prospective franchisee has received, read and had a reasonable opportunity to understand the Disclosure Document and the Code; and
- the prospective franchisee’s independent legal adviser, business adviser and accountant a signed statement that the prospective franchisee has taken such advice about the franchise agreement or the proposed franchised business, or for each such signed statement not provided, a signed statement by the prospective franchisee that such advice has been taken or that he/she voluntarily decided not to take it. It is also our strong recommendation that you do not “opt out” of taking that advice, although this can be an attractive option where costs seem to mount up in the initial stages of taking on the franchise. What you should cover Therefore, when deciding whether to acquire a franchise, a prospective franchisee should not only take the independent advice referred to earlier, but should also consider (and this is by no means a complete list):
- The central theme of franchising is for a person to be ‘in business for themselves, but not by themselves’. By definition, however, this means that the franchisor needs to have a certain level of control over all aspects of the business that may temper entrepreneurial spirit for the benefit of the larger group.
- In our experience, a properly qualified advisor that knows about the franchising industry can add real value when a prospective franchisee is deciding whether to take on a franchise, as they are impartial and can provide an objective view of the benefits and pitfalls of entering into a franchise relationship. Taking advice upfront can cost you less in the long-run.
- Some of the more sophisticated franchisors will insist on the prospective franchisee taking independent advice before they will grant a franchise, and will not allow them to “opt out” of taking that advice.
- Are you suited to being a franchisee? Can you follow a system, and be part of a larger team?
- Are you suited to the particular type of franchise and the industry in which it operates?
- The term of the franchise, and whether this is sufficient to allow you to make a return on your investment.
- Whether the financial figures stack up, how long you will need to work in the business, and whether that would suit your lifestyle. Can you afford it from both a financial and a lifestyle perspective?
- An exit strategy; i.e., prior to entering into the franchise, have an ideal time to leave the franchise.
- Talking to as many of the existing franchisees as you can. Get a good cross-section all of the franchisees and try to obtain a realistic picture of how much work is involved in operating the franchise, the returns to be generated, and how the franchisor and the other franchisees interact with each other. Remember, many of these personal relationships can impact upon the success of your business. Should you require assistance in considering a franchise opportunity, please do not hesitate to contact our Franchising Team on +61 8 9404 9100.
At LSV Borrello Lawyers, our team members have been intimately involved in the franchise industry for many years, and can give a realistic assessment of franchise arrangements. Franchising is not for everyone, but making the right choice can be very beneficial, as well save a lot of grief in avoiding making a wrong choice.
Should you require assistance in considering a franchise opportunity, please do not hesitate to contact our Franchising Team on +61 8 9404 9100.