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Back in the 1970’s a court formulated an often used definition of a franchise agreement. It said that the term franchise agreement refers to those chain style operations in which the owner of a national brand product or service sub-contracts to permit a local dealer or person to use his brand name and agrees to provide advertising and know-how services, equipment and other benefits to the franchisee for the purpose of running his business.

Thus, in a nutshell, a franchise is a safe way of being in business for yourself, but not by yourself.

What to consider

When considering which franchise to go for, you should consider the level of demand for the franchised products or services as well as the level of competition that this potential franchise could face. Some franchises have very strict controls, which would assist inexperienced entrepreneurs in avoiding some of the possible pitfalls of a new business. Other things a potential franchisee should consider is the strength of the franchise brand (and related intellectual property), the training and support provided by the franchisor systems (with or without computer hard and/or software) provided by the franchisor, the franchisor’s experience in managing a franchise system and the opportunity for growth offered by a specific franchise.

Without a doubt, the biggest consideration for a franchisee is the cost of acquiring all the rights associated with the franchise. Included in these costs could be your initial franchise fee, which can be seen as compensation for the privilege of using the franchise brand. The franchisee will then also have to make continuing royalty payments (based on income) for the use of the name and business plan of the franchise. In some instances advertising fees may also be payable into an advertising fund as a contribution towards the advertising costs of the whole franchise operation.

As an alternative to being obliged to part with a portion of hard earned gross revenue, some franchisors are prepared to accept a once off payment in exchange for the franchise rights over an agreed period. This is often called a license agreement although the principles are similar. The advantage to the franchisee is that the costs are capped but the obvious disadvantage is that you pay notwithstanding that your business may not be a success.

One should also not overlook other important considerations, like controls and termination or renewal rights. For example, particular controls that should be considered are pre-approval for locations; design or appearance standards (to ensure that customers receive the same quality of goods and services in each outlet) – it has happened that a franchisor has a change of style or in any event requires the franchisee to refurbish in accordance with the agreement at the franchisee’s expense (which could be material); restrictions placed on goods and services offered for sale by the franchisee; the franchisor may also restrict the manner in which you have to operate your franchise; franchisors may limit your business to a specific geographic area; some franchise agreements require the franchisee to purchase from the franchisor or its nominees (on their terms which may be onerous); some franchise agreements prescribe the terms on which the franchisee is obliged to sell including as to fixed retail prices (in the 7 eleven case this has been unsuccessfully challenged by the franchisees); et cetera.

Termination and renewal considerations include the grounds upon which the franchisor can terminate the franchise agreement. This is a very important consideration because, in certain circumstances, should the agreement be terminated you could lose your investment. Franchise agreements also typically run for 15 to 20 years. You will need to know whether the contract is renewable.

Franchise agreement is a normal contract

Unlike the American and many European systems, South Africa does not have an established regulatory franchising body. Franchising agreements are governed by normal South African contract laws.

A franchise is regulated by the agreement which you enter into with the franchisor and the agreement will be subject to certain terms and conditions, just like a normal contract. If you fail to keep within the confines of the agreement you could be faced with your agreement being terminated and you losing your investment.

In light of this and the fact that the legal situation pertaining to franchises in South Africa was formalised by the courts (there is thus no act which specifically pertains to franchise agreements), it might be wise to consult an attorney with experience in this area before concluding such an agreement.

In conclusion, a franchise might give you the advantage of not having to reinvent the wheel when it comes to handling the various aspects of your business from marketing to human resource management, from accounting to distribution. A proven system will enable you to avoid the traps or mistakes a new business makes, allowing you to focus all your energies on growing your business, rather than setting up your business.