Frequently Asked Questions about Franchises and Franchising
Q: What is franchising?
A: When people think of franchises, the first thing they think of is McDonald’s. The Golden Arches have made an enormous amount of money for many thousands of people – franchisees and the franchisor alike. But franchising is much more than that. It is a way of delivering your goods and services, under your standards, using your brand, through independent business operators who use their own money. Franchises can sell services as well as physical goods and products.
Q: Is it difficult to start a franchise?
A: To someone who has not done it before, franchising a business can be confusing. Federal law establishes requirements for disclosing information before a franchise can be sold. Some states have laws that require the franchisor to register its franchise offering. The Johnson Franchise Law Firm limits its practice to franchise law and its peripheral issues so that it can keep up to date with changes in the law and forms, thereby expediting the process. The firm has helped many other companies expand their businesses through franchising. Contact us today to see if now is the right time to franchise your business.
Q: Are there ways to expand my business other than franchising?
A: Yes. Depending on your revenue goals, your need to maintain control over your business, and your marketing plan, you may want to explore alternatives, such as pure licensing, distributorships, business opportunities, multilevel marketing, sales agencies, partnerships, or joint ventures. Different laws – many of them varying from state to state – govern these forms of businesses, so even if the initial start-up work and associated costs are less than establishing a franchised business, the legal risks may be greater. Uniform federal franchising laws often remove uncertainty and make franchising a better choice. The Johnson Franchise Law Firm can help you decide which form is best for you and your business. Contact us today to schedule an initial confidential interview to discuss your choices.
Q: If you could give a new franchisor a piece of advice, what would it be?
Do it right the first time. You will never regret doing it right the first time. Imagine, in 10 years, walking into your file room. You look at your franchise files: there are 900 of them. You say one of two things to yourself:
Every one of these files is in perfect shape. Our agreements are outstanding in every respect. We complied with every law, and we can prove it. We took advantage of every protection available to us. We are making money from every available source. Every ‘i’ is dotted and every ‘t’ is crossed. We did everything right.
Every file in this room is a ticking time bomb. Our agreements are poorly drafted, ambiguous, and in some places, contradictory. We gave away too many of our rights. We are making money, but we left half the money we could have made on the table. Our disclosures, when we made them, were often wrong. We sold franchises in states where we were not authorized to sell. We are one good class-action lawsuit away from disaster.
You will never, if you have done things right, say
"I wish I had cut corners. I wish I was not as protected as I am."
Q: If you could give an experienced franchisor—for example, a franchisor with 100 franchisees—a piece of advice, what would it be?
We would ask,
"Are your files in perfect shape? Are your agreements outstanding in every respect? Have you complied with every law? Can you prove that you complied? Have you taken advantage of every protection available to you? Are you making money from every available source? Is every ‘i’ dotted and every ‘t’ crossed? Have you done everything right?"
If the answer is
"no," then we would advise the franchisor to work with us: (i) to evaluate what must be done to change the
"no" to an
"absolutely"; and then (ii) to do it. You may not have done things right the first time, but that does not mean you should keep doing them wrong.
Q: What laws regulate franchising?
All franchising in the U.S. is governed by federal law. Some states have also enacted their own franchise laws.
With regard to federal law, the U.S. Federal Trade Commission (the
"FTC") promulgated 16 C.F.R. Part 436, titled
"Disclosure Requirements and Prohibitions Concerning Franchising." Franchisors generally refer to this as the
"FTC Franchise Rule" or, more simply, as
"The Rule." The Rule governs franchising in all U.S. jurisdictions, including the 50 states; Washington, D.C.; and Puerto Rico, the U.S. Virgin Islands, Guam, and the Commonwealth of the Northern Marianas.
With regard to state law, although some states have enacted franchise laws, many have not. Where states have enacted laws, the laws fall into two broad categories:
sales laws and
Sales laws govern the offer and sale of franchises. They do not govern the ongoing franchise relationship between the parties.
Sales laws generally provide prerequisites that a franchisor must meet before it offers franchises in the state. For example, they may require the franchisor to register its franchise offering in the state, or to file its franchise documents with the state. They may also require a franchisor to file advertising material with the state, or they may require a franchisor to give state-specific disclosures, in addition to the disclosures The Rule requires, to a prospective franchisee.
Relationship laws govern the ongoing franchise relationship between the parties; e.g., they regulate matters like the franchisee’s right to renew the franchise, the franchisee’s right to transfer the franchise, discrimination among franchisees, breaches of the franchise agreement, and termination of the franchise.
Q: Do I have to file something with the government if I want to offer franchises?
The Rule does not require a franchisor to file anything with the federal government.
However, many states require a franchisor to register its franchise offering with a state agency, or to file its franchise documents with a state agency. These states are California, Hawaii, Illinois, Indiana, Maryland, Michigan, Minnesota, New York, North Dakota, Rhode Island, South Dakota, Virginia, Washington, and Wisconsin. Other states do not require a franchisor to register its franchise offering or to file franchise documents, but do require the franchisor to obtain an exemption from the state’s business opportunity laws. These states are Florida, Kentucky, Nebraska, Texas, and Utah.
Q: Is it expensive to deal with the states?
No, relative to the benefits of actually selling franchises in the state.
First, the good news: If you do not offer franchises in a state (or to citizens of that state), you do not have to deal with the state. In other words, you do not have to register your franchise offering, file your franchise documents, or obtain an exemption from the state’s business opportunity laws, in that state. For example, a franchisor that offers franchises only in the Pacific coast mainland region must register its franchise offering in California and Washington, but is not required to register in Illinois, New York, or Virginia.
Second, there are two components to costs of registration, filing, or obtaining an exemption: (i) filing fees; and (ii) legal fees and costs. Filing fees vary widely, from $750 (for franchise registration in New York), to $0 (for an exemption in Kentucky). They average about $500 per state. If your franchise documents are skillfully drafted, the legal fees are minimal.
Q: How long does it take to get started?
The answer depends largely on you. We will have discussions with you about how you want us to structure your franchise system, the fees you will charge, the controls you will place on your franchisees, the information you will give your franchisees, your expertise, and other matters. We will use your responses to prepare your franchise documents. If you are able to provide us with quick, accurate responses, we can prepare your franchise documents promptly.
At The Johnson Franchise Law Firm, we operate on this principle: You will not lose a prospective franchisee because we took too long to prepare your franchise documents.
Q: Do you charge extra for rush work?
Never. Many firms charge extra for work that requires its people to work after certain hours, or on weekends or holidays. We never charge extra for rush work. We expect rush work.
Q: How will I know how to comply with the franchise laws?
Two ways. First, we will provide you with a
Compliance Guide. The Compliance Guide will be tailored for you and your business. It will explain what you must do to comply with the franchise laws.
Second, we will walk you through the laws, and how to comply with them. We are always available to answer your questions 24/7, year-round. We do not expect you to sink or swim on your own.
Q: How will I know how much to charge?
We will discuss a strategy for fees. The strategy will focus on two key questions:
- What types of fees should you charge?
- How much should you charge for each?
The answers depend on you and your franchise system. Most systems charge an initial franchise fee, a periodic (weekly or monthly) royalty, and a periodic advertising fee. We will also discuss additional sources of revenue. These sources may include:
- The lease of real estate to franchisees. One of my most successful franchisors leases turnkey operations to its franchisees. The revenues it earns from real estate rental approach the revenues it earns from initial franchise fees and royalties combined.
- Developing the franchisees’ sites. Even if you do not lease turnkey operations to your franchisees, you may still form a development company that would be an affiliate of your franchise company. Your development affiliate would build out the franchisees’ stores, restaurants, or other premises for a fee.
- The sale of products and services to franchisees and to the public. One well-known franchisor I represent earns over 35% of its revenue from the sale of branded merchandise through its franchised and company-owned restaurants.
- Fees for services. You will usually provide franchisees with services. These services often include training, site selection assistance, leads and referrals, computerized resources, marketing assistance, operational assistance, assistance with obtaining permits and licenses, and other services. We will discuss your ability to profit from the services you provide.
As a general rule, the amounts you charge depend on factors that include:
- The value you bring to franchisees;
- What your competition charges;
- What the market will bear;
- The costs of operating and promoting your system; and
- Your individual financial needs.
Here’s the point: the types of fees you should charge, and the amount you should charge for each, will vary markedly from one franchisor and one franchise system to the next. We will discuss alternatives with you to help ensure that your choices maximize your revenues.
Q: Do franchise agreements have to be long?
Not necessarily. Three factors generally determine the length of your franchise agreement:
- The complexity of your franchise system. A complex franchise system needs a longer agreement because there are more items for the agreement to cover.
For example, assume your franchisee does not have to lease real property. You provide minimal training. Either party has the right to terminate on reasonable days’ notice. The franchisee’s investment is less than $10,000. In that case, your franchise agreement may be as little as 8 to 12 pages.
In contrast, assume your system is complicated (e.g., a full-service casual dining restaurant with a full bar). The franchisee must purchase or lease real property, build it out, equip it, and decorate it. You may provide multiple levels of training and opening assistance. You must deal with issues like liquor licenses, laws governing alcoholic beverages, and additional insurance. The franchisee’s investment may be $3,000,000 or more, so both parties want the agreement to be clear and detailed. In that case, your franchise agreement may be 60 or 70 pages, plus exhibits.
- The level of protection you need. Will your system have a royalty that franchisees accrue, then pay at the end of the week or month? If so, you are extending credit. You may want the franchisees’ individual owners to give you personal guaranties.
Will you provide significant confidential information? If so, you will want confidentiality agreements and covenants not to compete from the franchisee and its key people. If the franchisee has valuable telephone numbers, you will want a power of attorney to transfer them to you when the franchise agreement ends.
If your guaranties, confidentiality agreements, covenants not to compete, and powers of attorney are thorough and well-drafted (and they should be), they may add 35 pages or more of exhibits to your franchise agreement.
- What the franchise system offers. The agreement for a franchise for a single outlet, in a system that has fixed fees and no advertising, may be as short as 10 or 15 pages.
However, if you offer a multi-unit franchise, the opportunity to develop outlets in nontraditional locations, variable fees, and other benefits, you will need a development agreement, a nontraditional rider, fee schedules, and other material. These items are of tremendous value to the health of your system (and to the franchisees), but they may add 30 pages or more to the franchise agreement and exhibits.
A skilled and experienced franchise attorney can advise you on what you should include, and can present you with a well-drafted set of documents that is as short or as long as you need.