What is a franchise, and how does a franchise work?
A franchise is a business relationship that is created for the distribution of goods and services under a proven business model. Federal and state laws vary in the way the word “franchise” is defined, but generally a business relationship must have three distinct characteristics to be classified as a franchise. First, the franchisor gives its franchisees the right to use an established trademark or name in connection with the franchisees’ business operations. Second, the franchisor requires the franchisees to operate their businesses in accordance with established standards, and the franchisor provides the franchisees training and support in connection with the franchisees’ business operations. Third, the franchisees normally are required to pay an initial fee to operate as franchisees and are often required to pay the franchisor ongoing royalty and advertising fees.
Because of the extensive regulations that apply to franchise relationships, business owners looking for ways to expand a successful business model need to be careful about structuring their business relationships so they don’t unknowingly enter into business relationships that are legally considered franchises without complying with the franchise laws. Our experienced franchise attorneys advise clients on how to structure their business in a manner that complies with applicable franchise laws. We also represent clients who are investigated by state and federal regulatory authorities for potential franchise law violations.
How is franchising regulated?
Franchising is regulated on the federal level by the Federal Trade Commission (FTC) and on the state level by state agencies. The agency differs from state to state. In Virginia, franchises are regulated by the Division of Securities and Retail Franchising of the State Corporation Commission. The FTC regulations apply to offers and sales of franchises by a franchisor in all states. State laws and regulations apply to the offer and sale of franchises within a particular state. Franchisors must comply with both federal and state laws and regulations relating to franchising. The laws and regulations are intended to protect prospective franchisees by requiring the franchisor to provide the prospect with a franchise disclosure document (the FDD) that contains detailed information regarding the franchisor, the business relationship and the provisions of the franchise contract.
Should I franchise my business?
If you are the owner of a successful business, there are many reasons why you may want to franchise. A franchise offers you the opportunity to expand your business without being responsible for the day-to-day operations of each new unit. Also, because an independent person is spending the time and money to establish a unit, expanding a business by franchising can help grow a business concept faster and often more economically than other methods of business growth.
Are there any drawbacks to franchising?
As a franchisor, you do not have the complete control over a franchised unit that you would with a company-owned store. Also, not all business concepts are suitable for franchising. There are many factors to consider, such as the marketability of the business in other geographic areas, the presence or absence of competitors, the ability to replicate your business model successfully, your capacity to train and support your franchisees, and many more. All of these factors should be considered with your attorney and business consultant before deciding whether to franchise.
When should I buy a franchise?
If you are interested in running a business, buying a franchise allows you to own and operate a business using a proven concept and established name, rather than trying to build a business from the ground up. Additionally, instead of learning how to run a business through trial and error, as a franchisee, you will be provided with the tools and training necessary to setup and run the business successfully. Before deciding to become a franchisee, however, you should consider many factors, including your prior business experience, your knowledge of the particular industry in which the business will operate, your financial resources, the amount of competition in the area, and your tolerance for business risk. These factors, along with your overall business goals, will help you decide whether to become a franchisee and whether to invest in a newer or more established franchise. Each has its own advantages and drawbacks, and even an established franchise does not guarantee success for the franchisee.
How do I know if a particular franchise is a good investment?
Before you sign a franchise agreement or pay the franchisor any money, you should carefully examine the Franchise Disclosure Document (FDD), which the franchisor is required to provide to the franchisee with at least 14 days to review. The FDD should disclose information relating to the franchisor’s business experience and finances and contain an explanation in plain English of the franchise business and the legal obligations imposed under the franchise agreement.
The FDD is a very important source of information, but it is not the only source. Existing franchisees will be able to tell you about their experiences with the business model and the franchisor. Also, information regarding the franchisor usually can be found by searching the internet. An experienced franchise lawyer can review the franchise agreement with you, explain the legal obligations imposed under the agreement, and advise you which provisions of the agreement may be negotiable with the franchisor. An experienced business lawyer can assist you in negotiating and drafting revisions to the franchise agreement and can help you form the appropriate business entity from within which to run your company.