Franchise Agreement definition

It should come as no surprise that there is a considerable amount of franchise-specific terminology in franchise agreements. For the franchise newcomer, this jargon can be quite intimidating. In order to help you understand the document that little bit better, we've compiled this glossary guide to terms you're likely to find in the franchise agreement.

Advertising/marketing fee

Some franchises require contributions to an advertising/marketing pot that is then spent on improving brand awareness across an entire market (regional, national, or international). Generally, the fee is paid and the central franchise management team dictate how it is spent, with little or no input from individual franchisees.

>> Read more on our franchise fee definition.

Frachise Agreement

Capital requirement

Refers to the wealth required by franchisees in order to start a franchise unit. Though capital typically refers to financial wealth, it can also be used in various other contexts. For instance, human capital could refer to experience, expertise and leadership abilities. Working capital refers to the funds necessary to keep the franchise running until its profitable.

Certification

Employees may be certified by either the franchisor or franchisee to attest to their ability to perform tasks or functions to a certain standard. The franchise agreement may require a certain number of (or all) employees to be certified in order to maintain standards across the franchise network.

Clause

A clause is an entry in the franchise agreement that expands upon a certain topic or point of interest. In other words, it establishes a rule or condition for the relationship between the franchisor and franchisee. The franchise agreement is largely made up of clauses.

Exclusive territory

Refers to the geographical area within which a franchisee has the rights to operate and trade. No other franchisees from the same franchise can operate or trade in this area. This prevents inter-franchise competition. However, franchisors may detail exceptions to this exclusivity in the franchise agreement. They often include locations like shopping centres, airports, and events arenas.

Exit

Refers to the means by which a franchisee can end the franchise agreement and what conditions are attached to their departure. For instance, many franchisors ensure that there are clauses in the franchise agreement giving them the right to veto departure if they dont approve of the franchisees replacement.

Franchise agreement The franchise agreement is the document that describes the limits, responsibilities, and obligations the franchisor and franchisee have to one another. It establishes the rules for the working relationship that will develop over the course of franchise ownership and details what each party owes the other.

Franchise fee

The initial fee that is paid by the franchisee to the franchisor. Generally, it covers the cost of setting up a new unit, the marketing costs for the new unit, and other initial expenditures. Usually, the franchise fee is a flat fee. It could also be considered an initial subscription fee.

Franchisee company

The franchisee company is one of three parties typically involved in the signing of the franchise agreement. Many franchisees trade as a limited company to limit the possibility of personal losses. Limited companies are separate legal entities and this is reflected in the terms of the franchise agreement.

Franchisor company

A franchise company is one of three parties typically involved in the signing of the franchise agreement. The other two are the franchisee and franchisee company. The franchisor company is the entity that represents the franchisor(s).

Initial investment

This is the amount of capital required to fund the initial stages of business growth for a new franchise unit. The initial stages are sometimes restricted to the first three months of business, although many franchises utilise a much looser definition. It should include everything necessary to launch the business, including fees, equipment, inventory, and working capital.

Liquid capital

Liquid capital refers to assets with a value that can be immediately accessed and realised. The term is most commonly used to refer to money in hand (i.e. cash). Capital is not liquid when it is tied up (e.g. when an order has been delivered but the invoice has not yet been paid) or when the value cannot be easily realised (e.g. property or equipment). Many franchisors will require franchisees have access to a minimum amount of liquid capital when entering into the franchise agreement.

Quality standards

These are the standards to which the franchisor holds all franchisees. Though they can sometimes be found in franchise operations manuals, they can also be included in the franchise agreement. Failure to meet the quality standards could result in a franchisee having their right to a franchise unit revoked.

Renewal

The duration of the relationship between franchisor and franchisee is generally established in the franchise agreement. At the end of the period established in the agreement, the franchisee may be offered a renewal. This is the opportunity to sign another agreement and continue operating as a franchisee. Occasionally, there are conditions written into the franchise agreement that establish when a renewal will be offered and why it might not be offered.

Resale

A franchise resale occurs when a franchisee decides they want to leave the franchise before the end of the franchise agreement and sell their unit in the process. The franchisor will set out all of the conditions a franchisee must meet to follow through with a resale in the franchise agreement. This can include the ability to veto the franchisees choice of buyer or the charge a fee if the franchisor is the one to find a suitable buyer.

Royalty fee

The royalty fee is a regular payment made by the franchisee to the franchisor. It forms the basis of the franchise model without the royalty fee, the franchisor would not profit from franchising. It is typically calculated as a percentage of turnover.

As you can see, there are a large number of franchise-specific terms associated with the franchise agreement. Some of these you may have heard before and some may be new to you. The franchise agreement is a long and complex legal document, that often utilises niche language. Consequently, it's often a good idea to have your agreement looked over by a legal professional with experience in franchising.

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The Editorial Team, Point Franchise ©

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