Franchising arrangements form the basis of a very common business model. Some of the best known franchises exist in the fast food industry, but you’re likely to have seen or even employed franchised services in a whole host of industries, from lawn and garden care, to accounting and IT. The wide-ranging presence of franchised businesses seems to suggest that they’re quite successful. And certainly, that can be the case. However, franchise arrangements are not without risk. If you’re considering entering a franchise arrangement, you should look at the advantages and disadvantages on a case-by-case basis. Before you do, though, let’s take a look at the principles underpinning franchise arrangements.
What is a franchising arrangement?
If you’re considering purchasing franchise rights, the first thing you need to know about franchising arrangements is the parties. If you are looking to purchase franchise rights, you will be the franchisee. The money you pay will purchase the right to use certain aspects of the franchised business, such as intellectual property, or plant. The party who is selling franchise rights is called the franchisor. The franchisor will usually set out a series of conditions surrounding the rights you gain with your purchase.
Historically speaking, the term ‘franchise’ has described a whole host of different arrangements. Those arrangements include everything from licencing agreements, to distribution and agency agreements. However, as franchising models have grown – especially over recent decades – the law has expanded to govern them specifically. Currently, franchise agreements are regulated under the Competition and Consumer (Industry Codes – Franchising) Regulation 2014, which is a federal code.
While a variety of franchise frameworks still exist, one is more prevalent than the others: business format franchising. Business format franchising is the framework adopted by some of the most prominent franchises in Australia. Essentially, a business format franchise agreement is a business template. When you become a franchisee under this model, you will be given a prescribed business model to follow, which will prescribe things like advertising methods, areas of operation, restraints of trade, and other such guidelines. Often, the idea behind these arrangements is to ensure that franchisees from the same franchise do not compete with each other.
Franchising has some advantages and disadvantages: here’s an overview
Franchising has allowed certain businesses to achieve great success. It has some considerable advantages, especially for inexperienced businessowners. However, it is not without its pitfalls. As with any business model, franchises come with a trade-off. Some of the things that have made franchises so successful are the same things that can end up limiting them. Before you enter into a franchise agreement, you should seek legal advice as to the benefits and shortcomings of your proposed franchise. With an experienced commercial lawyer conducting due diligence on your behalf, you will be able to gain greater clarity into the advantages and disadvantages of your proposed franchise specifically.
Common advantages of franchising
Overall, the most widely-recognised advantage of becoming a franchisee is brand. If you were to commence your own business without a franchise agreement, you would need to develop your own brand. That takes time, effort, money, and patience. And it’s never a guarantee, either; many independent businesses operate for years without managing to develop a strong and easily recognisable brand presence. That is one of franchising’s great appeals: when you buy franchise rights, you can buy a recognisable name and reputation with them.
Brand is not the only advantage of becoming a franchisee, though. If you enter into a business format franchise agreement, you can enjoy the benefit of tried and tested business systems. Generally, business format franchise agreements will instruct you on certain aspects of your business management. As a result, you do not need to invest additional time and money into developing your own business management processes.
Another notable advantage of franchising is competition-related. As we mentioned earlier, many franchise arrangements limit your geographical field of operation. That means you may not, for example, be able to operate outside of a certain area in your capacity as a franchisee. At first glance, that may seem restrictive. However, it’s important to remember that such restrictions also prevent other franchisees of the same franchise from operating in your area. That means you’ve less competition to worry about.
Common disadvantages of franchising
When you enter a franchise agreement, you generally remit some of your commercial independence and autonomy. Basically, you agree to submit to the systems already implemented across the franchise as a whole. Those systems can relate to a range of operational measures, including service standards, production standards, advertising, and personnel management. Of course, when you agree to be bound by the franchisor’s standards, you get all the advantages that come with them. However, you get the disadvantages, too.
It’s common for franchisees to experience a certain degree of disillusionment as they become more experienced in their chosen industry. Experience provides insights that you may not have when you initially signed your franchise agreements. And in light of your newfound experience, you may start to notice aspects of your business model that you don’t agree with. Usually, you will have very little flexibility, which can inhibit your capacity to change perceived problems.
In addition to inflexibility, profits can present some issues to franchisees as the success of their businesses grows. The same safeguards that contributed to your success initially – such as geographical trading restrictions – can soon put a ceiling on the profits you’re realistically able to attain. If your franchise is successful, you’re often left with few options for further expansion, other than purchasing addition franchise rights. And with many franchising agreements imposing ongoing fee obligations, opening up further franchises can come with costs of its own.
Here are some causes of franchise failure, and some tips to avoid them!
Franchisees often achieve success and stability through the business format franchising model. However, there are many franchises that fail, as well. Perhaps the most common cause of failure is under-capitalisation on the part of the franchisee. If you enter into a franchise agreement that requires ongoing working capital to breakeven in the early stages, you may find your business struggling to source the money it requires.
On the other hand, if your business overextends and borrows too much money in the early stages, then significant debts can result in franchise failure as well. Sometimes, franchisees can fail for more personal reasons. Traumatic personal events such as death and divorce are a common cause of franchisee collapse. Then there are compliance factors; a failure to follow franchise guidelines can result in lost productivity, or even the termination of your franchise agreement.
Finding success as a franchisee is always possible. However, it requires some careful planning. If you’re entering into a franchise agreement as franchisee – or have already – you should consider seeking the advice of a commercial lawyer. An experienced business lawyer will be able to clearly articulate your position as a franchisee, and advise you of what to do next.
The information provided by Kafrouni Lawyers is intended to provide general information and is not legal advice or a substitute for it. Business people should always consult their own legal advisors to discuss their particular circumstances. Kafrouni Lawyers makes no warranties or representations regarding the information and exclude any liability which may arise as a result of the use of this information. This information is the copyright of Kafrouni Lawyers.
Liability limited by a scheme approved under professional standards legislation.