As you know, there are several aspects to consider when you are either starting a business or in the course of it. That’s why, week after week, we share with you some of our knowledge to help you secure every aspect of your brand. An example is one of our last articles, which provides information regarding how to profit from your invention.
But what happens when your invention or your brand is on the path of expanding, even to become a franchise? Franchising can be an excellent opportunity to tap into an established brand and business model. However, the franchise agreement is a complex contract with many important details that should be noted.
To help you navigate this critical process, our franchise lawyers in Miami will highlight the five essential clauses in franchise agreements that your attorney should carefully review to safeguard your interests and set you up for success.
What is a franchise agreement?
First of all, a franchise agreement is a legally binding contract between a franchisor (the owner of a brand or business) and a franchisee (the individual or entity seeking to operate a franchise location).
This document outlines the terms and conditions under which the franchisee is allowed to use the franchisor’s established brand, business model, and systems. It serves as the foundation of the relationship between both parties and governs key aspects of the franchise’s operation.
The agreement typically includes details about the franchisee’s rights to use the brand’s trademarks, logos, and products, along with stipulations on how the business should be run, including operational standards, marketing guidelines, and quality control. It also specifies the financial commitments of the franchisee, such as initial franchise fees, ongoing royalties, and other payments to the franchisor.
Sometimes, the contract should address the length of the franchise term, renewal options, territorial rights, training, support, and grounds for terminating the agreement.
In essence, the franchise agreement protects the franchisor’s brand while allowing the franchisee to run a business under a proven system with clear rules and responsibilities.
5 essential clauses in a franchise agreement
When reviewing a franchise agreement, as we mentioned, certain clauses are critical as they define the key aspects of the relationship between the franchisor and the franchisee. Here are five essential clauses that should be carefully examined by your attorney:
1. Franchise fees and royalties
The financial obligations of a franchise agreement are one of its most critical components. This clause specifies the initial franchise fee, which is a one-time payment made to the franchisor for the right to use the brand, training, and support services.
In addition to the upfront fee, franchisees are usually required to make ongoing royalty payments, which are often calculated as a percentage of gross sales or as a fixed monthly fee. These royalties provide the franchisor with continuous income and compensate for ongoing support, marketing, and brand maintenance.
2. Territorial rights
Territorial rights define the geographic area in which the franchisee can operate and whether they will have exclusivity in that region. An exclusive territory means the franchisor cannot open another franchise or sell a franchise to someone else within that area. This exclusivity can protect the franchisee from internal competition and market dilution.
However, some agreements grant non-exclusive territories, meaning the franchisor can open new locations or allow other franchisees to do business nearby, potentially reducing the franchisee’s market share.
The size and nature of the territory can vary based on demographics, population density, or geographic boundaries. Understanding this clause is crucial to avoid oversaturation risk and ensure fair market access.
3.- Duration and renewal terms
Franchise agreements are not indefinite and typically have a set duration, often between 5 and 20 years. This clause outlines how long the franchisee is allowed to operate under the franchisor’s brand.
Once the initial term expires, the agreement may include provisions for renewal, but these are often contingent on the franchisee’s performance, adherence to the franchisor’s standards, or the franchisor’s discretion.
The renewal process may also involve additional fees and could require the franchisee to agree to new or updated terms that may not be as favorable as the original agreement.
4.- Operational guidelines
Franchisees benefit from access to a proven business model, but in return, they must adhere to the franchisor’s strict operational guidelines. This clause details the day-to-day operations of the business, including staffing procedures, customer service expectations, inventory management, and product sourcing.
These guidelines are intended to ensure brand consistency across all franchise locations. However, it’s important to understand the level of control the franchisor exerts and the potential lack of flexibility in adapting to local market conditions.
Compliance with these guidelines is typically mandatory, and failure to adhere could result in penalties or even termination of the agreement.
5.- Termination and exit strategy
Last but not least, the termination clause governs the conditions under which the franchise agreement can be ended, either by the franchisor or the franchisee.
The franchisor often reserves the right to terminate the agreement if the franchisee breaches key terms, such as failing to meet financial obligations, violating operational standards, or damaging the brand’s reputation.
On the other hand, franchisees need to understand their options if they wish to exit the franchise, whether by selling the business or ending the agreement. Many agreements include a right of first refusal, giving the franchisor the option to buy back the franchise before it’s sold to a third party.
Additionally, post-termination obligations, such as non-compete clauses or the return of proprietary materials, must be carefully considered to avoid future legal or business restrictions. This clause is critical for planning an exit strategy and understanding the risks of terminating the franchise relationship.
Now that you’ve learned more about franchise agreements contact us if you want to explore that option for your business. Also, if you find this article useful, share it on social media and stay tuned to our blog.
