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Here are some aspects that both parties need to be mindful about:
Issues for the franchisor
* Protection of intellectual property rights: There should be stringent obligations on the franchisee to protect the Intellectual property, technology, knowhow, modules, trademarks and proprietary information provided by the franchisor. Adequate IP registrations should be procured.
* Identification of suitable local partners: The franchisor should undertake a thorough examination of the local market and ascertain the true potential of the synergies sought to be explored with the franchisee. The aim should be to establish mutual goals, competencies and ethics.
* Ensuring corporate governance and goodwill of the brand: For a well established franchisor, any practice that compromise corporate governance or ethics may lead to a severe loss of goodwill and brand value. Obligations should be cast on the franchisee to adhere to the highest norms of best corporate and business practices.
* Planning for emergency exit without effecting the business: In an operational franchise, several events may suddenly come up that may make the franchisor reconsider the subsistence of the arrangement. These could include material breach by the franchisee, non adherence to milestones, or events that disparage the IP. Issues such as these and implications thereof (payments, return of IP, post termination non compete, transfer of the business, valuation etc) need be well addressed.
* Integration into global business plan and ring fencing: Franchise models are unique in terms of their want for uniformity across global markets - on diverse aspects ranging from re-branding to discount seasons. The franchisee should be flexible and willing to adhere to the same. Having said that, the franchisors should explore corporate structures that ring fence the global business from local vagaries and risks of business.
Issues for the franchisee
* Sources of funding to enable expansions: Typically the financial risk and burden rests with the franchisee and it is imperative for the franchisee to understand the financial outlay of the business both in the short run and long run. Avenues for future funding need to be explored, and can range from sale of a specified percentage of shareholding (to the franchisor) and/or recourse to third party funds.
* Long-term prospects: The franchisee should discuss the long-term plans and prospects of the franchise to provide against a situation where the franchisor is only "testing the waters" for a few years and does not have any specific long terms goals for the business. Duration and milestones for the franchise need to be well established and respected and resources committed accordingly.
* Exclusivity vs non-exclusivity: The franchisee needs to make a crucial decision regarding this aspect and explore innovative solutions to strike a balance between commercial freedom and commitment towards the franchise. These solutions can be devised around duration, and/or geographical extent (pan India versus locality specific versus area of protection around store/hotel), type of products (apparel versus accessories), or activities (five star hotels versus two star hotels). Enforceability of provisions that create exclusivity need to also be examined from a contract law and competition law perspective.
* Hidden monetary commitments: Franchise arrangements tend to have hidden costs and commitments that often take the franchisee by surprise. These could entail not only the obvious investments in setting up, operations, and franchise fees, but also hidden commitments such as training costs, minimum purchase commitments, marketing and advertising fees, costs for rebranding etc.
* Mitigation of legal and tax inefficiencies: The business and operations should be structured so as to mitigate legal, regulatory and tax inefficiencies - especially on the indirect tax side - that often have multiple incidences of taxation on the supply chain (import, local souring and sale) and overall business.
Note: This piece does not, in any way, constitute legal advice
Aparna Mittal
Partner, mergers & acquisitions, and retail & franchise, Luthra & Luthra Law Offices
Partner, mergers & acquisitions, and retail & franchise, Luthra & Luthra Law Offices
