6 rules you must comply with as a franchisee
We all know that franchisees have to comply with the rules of the franchise — it’s part of the “deal” you make when you join a franchise network. But what happens if you don’t comply?
This article examines six franchise rules you must comply with. We’ll look at what each rule is, why it’s important, and what could happen if you breach the franchise rules.
1. Payment of fees
Franchisees pay regular fees to the franchisor for the right to operate the business. Franchise fees can either be a flat amount or a percentage-based fee derived from sales revenue. It’s also common (particularly in larger franchises) for a franchisee to contribute to a marketing fund, used by the franchisor to market the network as a whole. You must pay these fees as non-payment of any fee is a breach of the franchise agreement.
A big part of the franchising business model is the requirement to follow a very specific set of operational directions in running the business. These directions are set out in a comprehensive resource usually called the operations manual. This manual may cover:
- site selection;
- use of branding (trade marks);
- employee management; and
- service procedures.
The franchisee can be in breach of the franchise agreement if they do not comply with any part of the operations manual.
3. Franchisor approved supplier list
Franchisors can require franchisees to purchase stock and equipment from a list of “approved” suppliers as a way of maintaining standards throughout the business. The operations manual will usually contain these approved supplier lists. If a franchisee then buys from a supplier not on the list, the franchisor can issue a breach notice. Furthermore, the franchisor may eventually take legal action to recover the loss of profits it suffered due to the franchisee's failure to purchase goods through the approved supply chains.
4. Employment obligations
Franchisees who hire employees must comply with workplace legislation. Franchisors are placing increased importance on this, due in part to Parliament passing a “Vulnerable Workers Law” this year. This law makes some franchisors responsible for their franchisee’s failure to provide employees with the minimum statutory compensation and benefits. With franchisors now having greater legal responsibility, franchisees should expect their franchisors to closely monitor compliance with employment laws.
5. Premises licence and territory provisions
The franchise agreement often restricts franchisees from operating only within a specific location or geographic territory. This is particularly important for mobile service-based franchises who routinely travel to service clients. Franchisees accepting jobs and servicing customers outside of their territory can quickly find themselves facing breach notices.
Franchisees operating from fixed locations must also ensure they comply with their premises occupancy licence when the franchisor holds the lease. The occupancy licence sets out how a franchisee is permitted to use the premises, and breaches of the licence are serious. They may even mean the end of the franchise contract as well. The franchisor controls the lease and can terminate an occupancy licence.
6. Renewal provisions and transfer provisions
When the franchise agreement ends, franchisees are generally required to comply with the franchisor’s particular directions. If the franchisee wants to renew the franchise agreement for another term, they will need to resolve any breaches and pay a renewal fee. Franchisors will often have the right to refuse renewal when the franchisee has not met conditions set out in the franchise agreement.
When a franchisee is selling their franchise, there are typically requirements to have resolved breaches, pay reasonable costs, and provide reasonable information about the incoming franchisee for the franchisor’s consideration. “Reasonable” means what would ordinarily be expected when selling a business. For example, paying for equipment maintenance to ensure everything is in working order would be a reasonable cost. However, buying new equipment, if the existing equipment still functions, may not be considered reasonable.
Franchisees should be careful to meet any transfer obligations. Otherwise, their efforts in securing a buyer may go to waste because the franchisor doesn’t consent to the transfer.
Consequences of non-compliance
So, what happens when a franchisee fails to comply with one or more of the points above? Falling short of any rule of the franchise will generally give the franchisor a right to issue a franchisee with a breach notice. A breach notice is a formal notice to the franchisee that it has failed to comply with a requirement of the franchise agreement. The breach notice will allow a franchisee a period of time—which doesn’t have to be longer than 30 days— in which to rectify the breach. If the franchisee fails to fix the problem, the franchisor has the right to terminate.
The franchise agreement may also contain a ‘restraint of trade’ clause that prevents the franchisee from operating a similar business after they leave the franchise. This will effectively force the franchisee to cease trading.
In addition, if the actions of the franchisee result in the franchisor losing money, the franchisor may take legal action to recover these losses from the franchisee.
In summary, franchisees should be careful to avoid noncompliance with the six points discussed here. Each will potentially allow the franchisor to terminate the franchise agreement. However, the franchisor is legally required to give the franchisee the opportunity to fix the problem before taking such action.