Have you found yourself staring at a franchise agreement, scratching your head at all the legal business jargon? Here’s our guide to deciphering franchise contract legalese.
Franchise agreements are legal documents, so they come with their fair share of jargon. The best way to decipher contract legalese is always to consult an experienced franchise solicitor, who will be able to tell you what you’re agreeing to.
However, it can be useful to understand some of the key franchise legal terms before you sign on the dotted line and start your franchising journey. So, we’ve created a quick run-down of some of the words and phrases you’re likely to come across. Although these are franchising terms, many of them are also relevant to general business documents.
Key terms in a franchise agreement
Agent - An individual or group who is able to act on someone else’s behalf.
Arbitration - The process of resolving a dispute by consulting a third party, who hears the evidence and makes a non-binding verdict or proposal.
Break even - To reach the point when the business makes enough money to cover all investment costs and expenses and starts to turn a profit.
Broker - Someone who organises the sale of franchise units on the franchisor’s behalf.
Business Format Franchising (BFF) - Another way to describe the franchise model; in other words, when a franchisor gives investors the right to replicate their business, with a series of specific regulations.
Certification - A programme giving employees within individual franchise units the chance to prove they have the skills and experience to perform their job to the franchisor’s standards.
Churning - When the franchisor acquires a failing franchise unit and resells it to another investor, even if it is likely to continue performing poorly.
Conversion - Turning an existing business into a franchise unit and its owners into franchisees. Often, franchisors choose this approach as a way to make sure their new investors have the skills to succeed.
Default - To fail to uphold the franchisor’s rules or the franchise agreement terms.
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Design - The business’s brand identity, including its logo, signage, colour scheme and store layout.
Distributorship - The right to sell certain products, usually given by a manufacturer or wholesaler.
Fair market value - The term used to describe the amount of money the average person would pay for a product under normal circumstances. Often, franchisors agree to pay ‘fair market value’ for franchisees’ store furniture, equipment and other items at the end of the contract term.
Force majeure - A clause added to a franchise agreement to change the franchisee or franchisor’s obligations in extraordinary circumstances. For example, the franchisor may stop collecting fees during industry strikes, environmental disasters or pandemics.
Franchise disclosure document (FDD) - A piece of paperwork covering information about the franchise, franchisor and franchisee obligations. It gives prospective investors the chance to learn more about the opportunity and decide whether to join the business.
Franchise agreements contain language that materially affects the franchisee’s rights. This language is often identified by its legal title or name, or is described in sufficient legalese to cause the reader’s eyes to glaze over.
—Rick Grossmann, Entrepreneur Magazine's Franchise Bible, CEO Franchise Hub
Franchisee in good standing - A franchisee complying with the franchisor’s requirements and paying all the fees they owe.
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Grey marketing - The process of buying products approved by the franchisor and selling them outside of the agreed distribution channels; for example, in another business. This practice can be legal or illegal, depending on the situation.
Implied covenant of good faith and fair dealing - The unwritten assumption that the franchisor or franchisee will act reasonably and without prejudice throughout the contract term, particularly in relation to processes not covered in the franchise agreement.
Indemnification - The act of paying for another party’s losses. Usually, a franchisee will agree to indemnify the franchisor by remunerating them for causing damage to the brand as a whole through problems within their franchise unit(s).
Item 19 - The section of the franchise disclosure document (FDD) where franchisors sometimes reveal existing franchisees’ revenue figures. There’s no obligation for franchisors to provide this information, and they may only list the earnings of their most profitable business partners.
Operating principal - A person appointed by the franchisor to make decisions on behalf of franchisees. They usually play a significant role in the decision-making process when it comes to shaping the future of the business.
Product and trade name franchising - When a franchisor gives a third party the right to sell their branded products. With this system, the third party sells the items in their own business, rather than replicating the franchisor’s, as with business format franchising (BFF).
Retrofranchising / Refranchising - When a franchisor sells businesses they own and manage to new franchisees.
Successor agreement - A clause or contract allowing franchisees to continue running their businesses after their initial term is over. There are usually extra conditions associated with this agreement; for instance, the investor must have proven themselves to be a capable business owner.
System brand fund - Money collected by the franchisor to finance advertising activity for the franchise as a whole. Usually, all franchise units and company-owned businesses contribute to the fund.
Trademark - Any names, logos or marks characterising the franchise. Franchisors give franchisees the right to use their trademark when they set up their business units.
How to read a franchise agreement
Whether you feel you have a good grasp of franchise agreement legalese or not, it’s important you consult a lawyer to help you review your contract before you sign it. Although legal professionals can charge hefty fees, getting expert advice is worth the expense, as you’ll have peace of mind knowing you won’t face any nasty surprises in the future.
We recommend you approach lawyers with plenty of franchising experience. The franchise industry has its own terms, processes and unique challenges, so consulting someone who knows the sector inside out will help you avoid potential complications.
Our article, 14 Things To Look For in a Franchise Lawyer, will help you find a suitable legal advisor as you start to weigh up investment options. You could also take a glance at our summary of the key criteria for evaluating a potential franchise opportunity.
Alternatively, find other informative business guides through the search box or discover the best franchise investment opportunities from the main menu.
Alice Tuffery, Point Franchise ©