A franchise agreement is the agreement concluded between a seller "Franchisor" and the buyer "Franchisee" by which the franchisor allows the franchisee to use its trade mark and provides him with the knowhow and the manual book of business (the rules, steps and manuals to run the business), while the franchisor is not liable for the franchisee's illegal acts or conducts.
A- Types of franchises:
Franchises may be divided into three types:
1- Business Format franchise:
- It is the franchise in which the franchisee adopts the entire business systems of the franchisor, and it is the most common type of franchising, e.g. McDonalds and KFC.
2- Product distribution:
- It is the franchise in which the franchisee sells the franchisor's products with more freedom to choose business styles and distribution techniques and the franchisor exercises less control than in the business format franchise e.g. automobile dealership.
3- Business opportunity:
- It is the franchise in which the franchisor makes representation to the franchisee showing him the minimum profit to be obtained from the opportunity which shall exceed the amount of the purchases; also, the franchisor shall provide a plan in order to reach the promised minimum profit, and also the franchisor is obligated (according to the contract) to re-purchase or refund the business back if the franchisee doesn't achieve the promised profit, e.g. vending machines.
B- Franchise packages " the content of the contract":
1- The turnkey package:
- It is the package where the franchisor is responsible for funding or constructing, preparing and equipping the franchised premises before handing it over to the franchisee. Turnkey package is suitable for franchisee entering the market for the first time and the franchisor has the required knowledge starting from finding the location, extracting required licenses ...etc.
2- Unequipped premises:
- In this package the franchisor will supply the premises and the franchisee will be required to equip them, the franchisor may offer to sell or lease the required equipment to the franchisee. In some cases when the franchisor is a manufacturer he may require the franchisee to buy goods or supplies from the franchisor himself or from a certain supplier.
- The packages may refer to the provision of future supplies, equipment, goods or other facilities to be provided by the franchisor, and the performance of such an obligation shall be postponed until it is needed. The franchisee shall make sure that he is not obligated to accept the supplies unless it's needed, and also needs to make sure that there are no additional charges other than the adjustments needed to be done according to the market price.
C- Franchising Methodologies ( the contract structure):
1- Direct franchising:
- It is the method by which a direct relationship between the franchisor and the franchisee is created. Using this method the franchisor can enter into a franchising agreement individually which guarantees in case of any dispute that no third party may interfere, and also the franchisor takes all the paid fees to himself as no further fees will be paid to intermediaries or sub franchisors.
- Using this method, the franchisor is required to provide more training and support to the franchisee as the franchisee is usually less experienced.
- This method is commonly used in national franchising as the franchisor is required to make sure that the business is in compliance with the domestic laws and he is fully aware of the domestic situation and needs, having direct control over the franchisee national or similar area is where this method commonly used as it's not that hard to communicate with the franchisee.
2- Area Development Agreement:
- It is an umbrella agreement also known as multiple unit development rights agreement in which the franchisor sells a bundle of franchised units in a specific territory to a franchisee developer who shall be responsible for operating and developing the franchise in accordance with the plan agreed upon and he also shall be responsible for issuing separate agreements with each sub-franchisee for each unit separately.
- This method is usually used when the franchisor wants to reduce the number of franchisees in a foreign territory by having one developer operating the whole business through sub-franchisees while remaining in control.
- The franchisor usually concludes two contracts with the franchisee, the first is a framework agreement with a pre-scheduled development plan for all the franchised units, and the second is a separate franchise agreement for each unit the developer operates under the framework agreement through which he has the same rights and obligations of each individual franchisee.
- The developer usually pays fee for the specific territory in addition to the individual fees payable for each unit separately, and the agreement usually contains sanctions clause to be applied in case the developer didn't fulfill his obligations.
3- Master franchise agreements:
- It's when a franchisor (the "master franchisor") grants the franchisee (the "sub-franchisor") the right to license third parties (the "sub-franchisee") to operate franchised outlets through sub-franchise agreements with each sub-franchisee operating in a specific territory.
- In this method two agreements are concluded, the first one is the international franchise agreement between the master franchisor and the sub-franchisor, while the second one is the domestic agreement concluded between the sub-franchisor and each sub-franchisee and the sub-franchisor shall be held liable if the sub-franchisees didn't fulfill their responsibilities. Although there is no direct relation between the master franchisor and the sub-franchisee, master franchisor retains the right to determine the features of the relationship between the sub-franchisor and the sub-franchisees e.g. site approvals and fees paid to sub- franchisees.
- Any changes occurring to the master franchise agreement shall affect the sub-franchisee agreement, accordingly most sub-franchise agreements provide an automatic transfer of the sub-franchisor rights to the master franchisor in case the sub-franchise agreement is terminated.
- The sub franchisor usually pays the master franchisor initial fees and a certain percentage of the profits achieved representing continuing fees in return for the granted license. Both master franchisor and sub-franchisor share the achieved profits according to the terms of the international franchising agreement
- This method is commonly used to achieve rapid growth for business within the franchised industry, and also when the master franchisor has less experience about running business within the targeted territory as the sub-franchisor is usually responsible for the training of the sub-franchisees, and if the capital resources is not enough it is better to use this method as the sub-franchisor pays for the training, employees, premises, supplies...etc.
D- Rules to govern the franchise agreement:
1 Relationship Laws:
- Laws organizing the franchise parties' rights and obligations; few countries have laws organizing this subject matter.
- Relationship laws should regulate the following elements:
- to which extent the franchisor controls, manages and assists the different aspects of the franchised business e.g. choosing location, design, operation of business, marketing, accounting systems...etc.
- Marketing plan:
- Putting a marketing plan which outlines the operating system set by the franchisor using his trademark, business standards, training manuals ...etc.
- Community of interests:
- There should be a mutual financial interest particularly when each of the parties depend on each other and that's what leads to the success of business as it guarantees a certain degree of seriousness from the contracting party.
- Fees: the process by which the franchisee or any other party acting on his behalf is going to pay to the franchisor and what to pay for.
- Licensing the use of intellectual property:
- It is the cornerstone of this agreement as the franchisee enters into this agreement for the purpose of using the franchisor's trademarks, trade secrets, trade name, or any other property.
- Prohibitions against discrimination:
- It's important to regulate prohibition against discrimination to guarantee equal treatment of different franchisees by their franchisor, taking into account the different circumstances surrounding each franchising transaction.
2- Disclosure and registration laws:
- Disclosure and registration are the most important issues arising in franchising to the extent that some countries undertake disclosure franchise laws e.g. USA Franchise Law. Disclosure laws requires franchisors to disclose to the potential franchisee any information that would probably affect the franchisee's decision to invest within a reasonable period of time. Registration laws requires disclosing certain documents to a concerned authority usually including information about the franchisor as well as information on their intellectual property. Both methods allow the franchisee to access all the necessary information regarding the franchised business in order to take the best investment decision and it also reduces the chances of fraud, misunderstanding, and uncertain assumptions.
E- Franchising and other transactions:
- Common misunderstanding occurs when it comes to franchising; it first occurs between franchising and transfer of technology and also between franchising and distributorship. Accordingly, courts may interpret the franchise agreement in a way that differs from its essence. As mentioned above a franchise agreement is: the agreement concluded between a seller (the "Franchisor") and the buyer (the "Franchisee") by which the franchisor allows the franchisee to use its trademark and provides him with the know-how and the manual book of business (the rules, steps and manuals to run the business), while the franchisor is not liable for the franchisee's illegal acts or conducts., while transfer of technology is: the agreement where the licenser undertakes to transfer technical information to the licensee to use in a special, technical way to produce specific commodities or to install or operate specific equipment. Transfer of technology transactions could be related to dangerous technology being imported into a country.
- While distributorship agreement is: the agreement where a distributer buys the goods from the producer and the title is transferred to the distributer once payment is made. In addition, distributers may sell competing or complementary products in addition to the products they are charged to distribute. And also distributers sell the products in their own way, using their own business systems and methods.
- A misconception also occurs when dealing with the franchisor as an agent, while a franchisor is a trademark owner who wishes to sell his trademark in different countries as a sort of investment, an agent is someone who is only entitled to act on behalf of his principal and for the principal's most needed interest within the granted rights and may not exceed it.
F- Why Franchising:
– Franchisor will be entering a new market in different regions expanding his business and, hence, increasing income.
– Franchisee can start a new investment depending on the franchisor's guidance under an already established trademark which is mostly well known.
– The hosting country shall have an economic growth due to the new foreign investments and also the national franchising shall help the hosting country by providing new job opportunities which decreases the country's burden and supports it economic growth.
G- Franchising in Egypt:
1 Governing Laws:
When it comes to the situation in Egypt there is no separate law organizing franchising. To conclude a franchising contract parties must keep in mind that their contract shall be subject to the law which bears the closest relationship to, mainly the contract will be subject to the Commercial Law rules related to commercial contracts, in case of not finding related rules, Civil Law rules shall apply. In Egypt, the main law to be resorted to when needed, is the Civil Code. In addition to the Commercial Law, some relevant provisions can be found within the Intellectual Property rules, Taxation law, Labor law and Insurance law covering many aspects in the franchising contract.
2- Egypt's efforts to develop the franchising sector:
- In a trial to develop the franchising sector, Egyptian government established The Egyptian Franchise Development Association (EFDA).
- EFDA was established in 2001 to promote the franchising sector in Egypt, as a result, Egypt has become the first Middle East member in the World Franchise Council.
- The importance of EFDA can be seen through the Code of Ethics it adapted which is obligatory for each Member. As a franchisor, registration at EFDA shall help you to set forth your obligations clearly as well as provide you with an ongoing assistance. The membership could be easily made online.
The Egyptian market is one of the most attractive markets when it comes to establishment of a franchise, especially, fast food franchises as they are the most common franchises in Egypt such as KFC, Dunkin Donuts and McDonalds. In addition to that garments franchises which are widely established in Egypt; for example, Adidas, Nike, and Timberland. Although Egypt has the highest rate of franchising sector especially after the open door policy followed since 1973, which made it easier for the investors to enter the Egyptian market.
Although there are no specialized laws governing the subject matter, according to recent studies, franchising sector in Egypt reached USD 14 billion within the franchising sector only, which is internationally considered a great success. It shall be mentioned that significant effort has been exerted to promulgate a new law regulating matters related to franchising which is listed as a top priority within the current Parliament's agenda, and expected to be issued soon.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.