China: New China Franchise Regulation To Be Effective February 1

Last Updated: 6 January 2005
Article by Lee J. Plave and Tao Xu


Over the past several years, developments regarding the adoption of a franchise law in China have taken various turns, culminating in significant activity in the last two months of 2004. As predicted in our December 3, 2004, article reporting on China’s draft Provisional Measures on the Regulation of Foreign-invested Enterprises Engaging in Commercial Franchising Business (the Provisional Measures), the Ministry of Commerce of the People’s Republic of China (MOFCOM) published the Measures for the Regulation of Commercial Franchise (the Measures) over the New Year weekend. This article will report on the newly adopted Measures and the effect we believe they will have on franchising in the world’s most populous country.

Background and Implications for Franchisors

MOFCOM issued the Measures on December 31, 2004. We have obtained the official copy of the Measures in Mandarin and prepared an unofficial English translation. Our analysis is based on those documents, as well as on consultation with our partners in our Hong Kong and Shanghai offices and others engaged in the process in China.

The new Measures will take effect on February 1, 2005. They will completely replace the previous regulatory system, under which a regulation issued in 1997 applied to domestic (Chinese) franchisors (the 1997 Interim Measures for the Regulation of Commercial Franchise Operations [the Interim Measures]), with somewhat uncertain impact on foreign franchisors. They will also supersede the proposed Provisional Measures, issued for comment in November 2004, which were to have applied to non-Chinese franchisors offering franchises through foreign-invested enterprises (FIEs). It appears that MOFCOM wisely decided to abandon this dichotomy. The Measures will thus replace both the Interim Measures and the Provisional Measures and become the sole legal framework under which franchisors will operate in China, applying to foreign and domestic franchisors so long as the franchise operations are conducted within the People’s Republic of China.

As we also reported in the December 3, 2004 article, these Measures are themselves expected to be replaced, perhaps in late 2005 or 2006, by formal legislation – tentatively entitled the Commercial Franchise Regulation (the Regulation). The Regulation has been pending before the State Council of the PRC for some time. The State Council privately solicited comments on the draft Regulation in late December; and, as 2004 was drawing to a close, our firm submitted comments. The contents of the draft Regulation itself are still highly confidential and subject to change by the State Council. We will report further on the draft Regulation when appropriate. For the present, it is the Measures which must engage the attention of franchisors interested in the China market.

That is because, in our view, the Regulation likely to be enacted into law will adopt in substantial degree the same provisions as were found in the Provisional Measures and the Interim Measures and which are now found in the new Measures. The drafts of the Regulation that we have reviewed are identical or very similar to the Measures, including provisions such as those discussed in this article. This likely reflects the Chinese government’s determination that the policy judgments underpinning its Measures are appropriate and that, once issued, the Measures will become the sole legal framework under which franchisors will operate in China in the near future. While we can hope – and advocate – that any Regulation ultimately enacted into law will be revised to address the current problems we perceive, we think it is unlikely that the fundamental approach will change.

What Franchisors Need to Know about the Measures

We reviewed the Provisional Measures in detail in the December 3, 2004, article and will not repeat those particulars here in the interest of brevity. Rather, we will focus on what is new.

1. Coverage


The Measures now clearly state that they will apply to subfranchising. Unfortunately, there is no language spelling out the government's view of the relationship between the franchisor, the subfranchisor and the subfranchisee. Moreover, there is no clear statement as to which party – the franchisor or the subfranchisor – bears the responsibility for providing disclosure to prospective subfranchisees.

Direct Off-Shore Franchising

The Measures are silent on the possibility of foreign franchisors offering franchises directly to prospective franchisees in China without setting up a wholly-owned subsidiary or joint venture in the PRC – the so-called "direct off-shore" approach to franchising. Reading this omission in the Measures, together with the Measure for the Administration of Foreign Investment in the Commercial Sector (the Foreign Investment Regulation), which took effect in early 2004, we believe there is a significant likelihood that direct off-shore franchising will be deemed illegal since the Foreign Investment Regulation explicitly provides that a foreign franchisor must set up an FIE in China in order to offer franchises in the country.

We have learned that the drafters of the Regulation have stated their intention to remove this uncertainty in the Regulation. However, the Measures reflect their concern with the possibility that a foreign franchisor might offer franchises in China without a physical presence there. An example of this concern is reflected in the new requirement discussed immediately below.

2. Qualifications to Be a Franchisor in China

Here, the Measures include a significant departure from the earlier draft Provisional Measures: they now adopt a requirement that before offering franchises, a franchisor must first establish and operate two company-owned units in China for more than one year. Similar requirements have generally not been favored in other countries, because they impose an unnecessary burden upon a franchisor while the results of the company-operated units may not provide a true indication of whether the business model will work for a franchisee. This provision in the Measures reflects a similar requirement that is included in the draft Regulation and appears to reflect the concern, as observed above, that Chinese regulators have with foreign franchisors that do not have any presence in China.

3. Disclosure Obligations

The disclosure obligations that were included in the Provisional Measures are not significantly changed in the Measures. While these disclosure obligations are not excessively onerous, some of the requirements remain ambiguous and raise practical concerns. For example, the requirement that a franchisor must disclose its franchisees’ "operational results" still remains one of the most troubling disclosure obligations.

The Measures add another troublesome disclosure obligation: the franchisor is required to make any disclosures "requested by a franchisee." First, it is unclear what is meant by use of the term "franchisee" in place of the term "prospective franchisee." It will certainly be very worrisome if an existing franchisee can decide what a franchisor should disclose to a prospective franchisee. Even if the term is clarified as referring only to a "prospective franchisee," the provision remains a concern. The disclosure obligations enumerated under the Measures are obligations imposed by a government agency. It would be highly disruptive to give a prospective franchisee, a private party, the right to enlarge the list of such obligations under the regulatory scheme.

The one improvement over the Provisional Measures is the clarification that the litigation history need only go back five years, and the requirement to disclose "disputes" is dropped. While we still view this requirement as overly broad, we are somewhat relieved that the disclosure obligation is at least manageable in practical terms.

Not surprisingly, the Measures now grant a private cause of action to a franchisee for its economic losses caused by a franchisor’s misrepresentation or omission. This provision, together with the ambiguous disclosure obligations, underscores the importance of careful preparation of the disclosure document.

4. Franchisor-Franchisee "Relationship" Issues

By according the parties the freedom to contract and act in accordance with the terms of their agreement, these provisions show welcome evidence of the Chinese government’s support for the sanctity of contract. As valuable as that is, there were a few substantive changes from the Provisional Measures that are unclear but that may have ominous overtones.

First, the Measures now include a provision imposing an obligation that franchise operations be conducted in accordance with the principles of fair dealing, honesty, and trustworthiness. While these are, of course, laudatory goals, it remains to be seen how such a subjective standard will be viewed in the context of a typical franchise dispute by Chinese government agencies, bureaucrats, subfranchisors, subfranchisees, and, of course, Chinese courts.

Second, the Measures broadly define the term "franchise fee." The definition captures not only traditional initial franchise fees and royalties, but also takes in other sums that a franchisee pays, such as payments for goods and services supplied by the franchisor. An additional clause requires that these fees be set by the parties to the agreement – and, more importantly –determined on the basis of fair dealing and reasonableness. Again, the meaning of these terms and the imposition of a subjective standard raise serious concerns. For example, we cannot predict whether the Measures will be interpreted to require that the parties engage in negotiation over the fees, given the requirement that the fees be set by the parties. Moreover, the inclusion of a "fair dealing and reasonableness" standard may leave room for a subfranchisor or subfranchisee to argue before a Chinese tribunal that even though the parties agreed to certain fees, those fees were not actually fair or reasonable in the circumstances. Finally, the fair and reasonable standard may also be argued to apply to payments for goods and services – leaving open the possibility of disputes over this very subjective standard in the context of the tug-and-pull inherent in the bargaining between a buyer (the Chinese subfranchisee) and seller (the offshore franchisor) over the cost of a particular item or service.

Thus, the Chinese government still seeks to impose requirements that are unrelated to the terms of the franchise agreement itself. In addition to the subjective terms discussed above, another provision of significant concern is the requirement that a franchisor be liable for the products and services provided by its designated suppliers. Additionally, the Measures require that a franchise agreement include provisions addressing the issue of consumer complaints. Although the intention behind these provisions is laudatory, it is unrealistic to seek to remedy the perceived problems in this fashion. We remain troubled by the notion that a U.S.-based franchisor is assumed to have influence over, or responsibility for, a third-party supplier – whether that supplier is based in the U.S., China, or elsewhere. In this respect, the Measures impose yet more significant burdens upon franchisors.

5. Approval Process

Although the Measures as a whole apply to both domestic and foreign franchisors, the application and approval system, which also appeared in the Provisional Measures, is only imposed upon FIE franchisors. That is, before an FIE can offer franchises in China, it must first apply for approval from various government agencies. By contrast, a domestic Chinese franchisor can bypass this protocol and start offering franchises without submitting to any such approval process.

The reasons behind this deliberate arrangement are not clear. Clearly, one possibility is to insulate domestic franchisors that might otherwise be forced to compete, unprotected, with foreign franchisors. However, that approach appears to run directly afoul of China’s WTO commitments, such as the commitment to treat foreign investors on an equal footing with domestic investors.

6. Penalties

The Measures add two specific penalties for violating the disclosure obligations, and violating the provisions requiring certain "qualifications" of the parties. First, MOFCOM can issue orders to force the parties to comply with the Measures and possibly impose fines of less than RMB30,000 (roughly US$3,600). Second, as discussed above, a franchisee is expressly allowed to sue a franchisor for economic losses caused by misrepresentations and omissions in the disclosure document. Clearly, the second is far more important to franchisors, but the role of the government in this scheme is more significant that the size of the fine would suggest.

7. "Amnesty"

The Measures also provide an "amnesty" for those FIE franchisors offering franchises in China prior to the adoption of the rule. Those franchisors are, however, required to file a report with the original registration agency summarizing their franchise operations thus far, and apply for approval, as must all other FIE franchisors, to offer franchises in China. Although no time frame has been provided in the Measures, existing FIE franchisors certainly should take the appropriate actions as soon as possible after these Measures go into effect. Of course, existing direct off-shore franchisors need to consider their proper course of action in view of the possibility (if not probability) that those arrangements have now become illegal in China, when considered under both the Foreign Investment Regulation as well as the newly-issued Measures.


Beginning next month, all franchisors will confront a new regulatory scheme. The Measures will apply to domestic franchisors in China as well as FIEs. The Measures, as well as the anticipated Regulation, are requirements that will be largely tolerable for most franchisors. But the regulatory approach adopted thus far and anticipated in the coming year is quite seriously flawed in many respects. We hope – and will urge – that these shortcomings be addressed in the Regulation.

This article is intended to provide information on recent legal developments. It should not be construed as legal advice or legal opinion on specific facts. Pursuant to applicable Rules of Professional Conduct, it may constitute advertising.

To print this article, all you need is to be registered on

Click to Login as an existing user or Register so you can print this article.

This article is part of a series: Click The New Chinese Franchise Regulation: Worth the Wait? for the next article.
Some comments from our readers…
“The articles are extremely timely and highly applicable”
“I often find critical information not available elsewhere”
“As in-house counsel, Mondaq’s service is of great value”

Related Topics
Related Articles
Up-coming Events Search
Font Size:
Mondaq on Twitter
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
Email Address
Company Name
Confirm Password
Mondaq Topics -- Select your Interests
 Law Performance
 Law Practice
 Media & IT
 Real Estate
 Wealth Mgt
Asia Pacific
European Union
Latin America
Middle East
United States
Worldwide Updates
Registration (you must scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of

To Use you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.


The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.


Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions