Understanding the Franchise Agreement [GUIDE]

By Sarah Stowe | 29 Oct 2015 View comments

Buying a franchise business is a significant undertaking – one that requires thorough research of the franchise system, speaking to existing and past franchisees and most importantly understanding the franchise agreement you are signing.

Below is a summary of our guide "Understanding the Franchise Agreement". Download the full guide.

As Joanna Bairamidis from MST Lawyers explains, the franchise agreement is the document that will govern the relationship between you as a franchisee and the franchisor and it is critical that you understand the essential elements of, and your obligations under, the agreement.

“The agreement is governed by the Franchising Code of Conduct which dictates the documents that must be provided to a franchisee by the franchisor, the time lines that need to be observed and the processes that must be followed by both the franchisee and the franchisor throughout the life of the relationship between the parties."

What is a franchise agreement?

Michael Schaper is deputy chairman of the Australian Competition and Consumer Commission. He explains “Under Australian law, the pile of documents that a franchisor will give you before you sign any agreement must contain a disclosure document, a copy of the Franchising Code of Conduct and a copy of your franchise agreement (in the form in which it is to be signed).

“The franchise agreement is a binding contract that governs the relationship between you and your franchisor. Most franchise agreements run for five or 10 years with an option to renew if you meet certain conditions. If you breach any of your obligations under the agreement, the franchisor may have the right to terminate the agreement and you could be forced to hand over your keys,” he says.

Reading the agreement

The Victorian Small Business Commissioner, Geoff Browne, says “It is important to spend time understanding your obligations and the commercial terms in a franchise agreement and minimise the likelihood of a dispute arising. Be prepared to pay for professional advice before you sign an agreement.  It may cost you some dollars, but it may be a very wise investment.”

Franchising documents can be complex, and lengthy. But it is important for a franchisee to understand the commitments he or she is agreeing to with their signature. The terms and conditions of the contract may not be exactly what was expected of the business.

Schaper suggests thoroughly reading through the franchise agreement a few times until each aspect of the document is understood. “There is no point reading a clause for the first time when you are encountering a problem with it,” he says.

There are some clauses in the agreement which are considered critical, and the disclosure document will identify some of these; for instance, item 15 of the disclosure document will point to where the franchisor’s obligations are outlined in the agreement, item 16 will outline the franchisee’s obligations, and item 17 will point to other conditions, including the term of the agreement and termination provisions.

Common clauses

While each franchise system has a unique franchise agreement, there are common clauses found in most agreements, including around territory, fees, term, breaches and termination.

 “Most agreements contain a clause that prevents the franchisee opening up a similar business after they leave the franchise,” Schaper says. “There will probably also be a clause that prevents you from discussing certain aspects of the franchise with anyone, both during and after the term of the agreement. However, this shouldn’t stop you discussing the wide range of other critical issues that you are free to debate with current and past franchisees,” he advises.

Each franchise agreement must include a dispute resolution procedure, one that is compliant with the procedure outlined in clause 29 of the Franchising Code.

If there are any special conditions negotiated with the franchisor, these need to be specified in the agreement.

Clauses to look out for

The governing Franchising Code actually prohibits a franchisor from including certain clauses in a franchise agreement.

“For example, the agreement cannot require you to sign a general release of the franchisor from liability towards you (whether this is contained in the franchise agreement or in another document). The agreement also cannot require you to sign a waiver of any verbal or written representations that the franchisor has made to you. You also cannot be prevented from associating with other franchisees for a lawful purpose.

“Before you sign the agreement, you should talk to the other franchisees in the system and find out if any clauses in their agreements have caused them problems. The disclosure document must contain the contact details of all current franchisees and some past franchisees,” says Schaper.

“If you are unhappy with any part of your agreement, try to negotiate with the franchisor before you sign it. If the franchisor refuses to make any changes, remember that you can always walk away,” he says.