So you have just purchased a stake in a franchise business as a franchisee. Before you start making millions it is vital to consider and understand your obligations as a franchisee as this will put you well on the way to maintaining and running a profitable and successful franchise.
With the introduction of the concept of ‘good faith’ into the amended Franchising Code of Conduct along with added transparency there is now more equality in the franchisee/franchisor relationship than ever before (for more information see our guide on what you must know about franchise agreements). However, elements of control by the franchisor over the franchisee remain. Stemming from this control are the duties in which you as franchisee must exercise. These are:
- the duty of disclosure;
- the duty to act in good faith;
- the duty to comply with the business model;
- the duty to maintain a minimum level of performance;
- the duty to contribute to the market fund;
- and the duty to purchase and supply products and services.
Duty of disclosure
Obligations of the of the franchisee exist both prior to and during the franchise agreement. One of the primary duties of franchisees and prospective franchisees is the duty to disclose a written statement that gives advice to the franchisor before entering into the agreement.
Except in circumstances where the franchisee is simply renewing or extending the scope of a franchise agreement, the written advice must be:
- signed;
- and approved by an independent legal advisor, accountant or business advisor.
A requirement of disclosure is that the franchisor has a reasonable opportunity to read and understand the disclosure document.
This duty to give advice is also required when a franchisee:
- extends the term of the agreement;
- changes the scope of the agreement;
- or transfers a franchise agreement.
The duty to act in good faith
An obligation to act in good faith is imposed on all parties in a franchisee relationship and this obligation cannot be excluded by the franchise contract. This obligation to act in good faith in commercial contracts is less than clear. Speaking generally the term good faith is often linked to cooperation, reasonableness, fair dealing, fair conduct and honesty.
Any actions that you as a franchisee undertake that are unjust, harsh or arbitrary could potentially breach the obligation to act in good faith. For example, setting prices of your products to an unreasonable amount without sound reasons or terminating the franchise agreement without proper cause may breach the duty of good faith under the Franchising Code of Conduct.
The duty to comply with the business model
Arguably, the most general and clear obligation of a franchisee is to act in accordance with the business model of the franchise relationship. The basis for this is that the franchisor has usually undertaken hard work to set-up its business model, therefore, upholding and maintaining the business model is an essential obligation to the franchisee.
What level of performance are franchisees required to maintain?
Critical to a franchise agreement is performance. It is the norm that franchise agreements stipulate the minimum performance criteria that must be satisfied in order for the contract to remain on foot. The key to such a criteria is maintaining performance for the duration of the agreement rather than simply performing obligations at the start of the relationship.
Contributing to the marketing fund
For the reason that the success of a franchise largely depends on a good reputation, marketing is a critical aspect of a franchise agreement. In most circumstances, the franchisor establishes a pool of money and resources dedicated to marketing, know as a ‘marketing fund’. As profit for a franchisor comes from its franchisees, there is a duty to commit financially to the marketing fund. In normal circumstances, the contributions are based on the gross output of each franchise.
Of course, this obligation is not a one sided affair because a richer marketing campaign will benefit your business and hopefully allow your franchise to succeed in gaining those illustrious dollars.
The obligation to purchase and supply products and services
As you will know going in, the primary function of a franchise will be to supply the franchisor’s products and/or services to customers.
Two main duties stem from this arrangement.
- A franchisee has to order products.
- A franchisee is under a duty to maintain minimum stock levels, though it is a good idea to keep stock more than a marginal amount above the minimum levels.
As a franchisee you also must be prudent and it is worthwhile considering the viability of the products that you are selling. Finally, it is essential to exercise diligence when purchasing products from your franchisor in order to determine whether these products are reasonably priced.
Following these obligations will ensure that the contractual relationship between you and your franchisor continues to be a viable business platform and will put you on the path towards commercial success.
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