Buying an existing franchised business involves two separate but overlapping legal transactions: buying an existing business operation from the current owner, and buying franchise rights from a franchisor. The overlap of these two transactions create several legal issues for the buyer and the seller:
1. Franchisor’s Approval and Transfer Process. In nearly all franchise systems, the franchise agreement will prohibit a sale of the franchise without the franchisor’s prior approval. The buyer and the seller should alert the franchisor early in the process. The parties will want to ensure that the franchisor will approve the buyer and the proposed purchase, and find out any conditions the franchisor will impose for its approval.
A good franchisor will have a clear, written process for the parties to follow in connection with the sale of the franchise.
2. Brand Compliance; Reimage. Generally, the buyer needs to know if the seller is in compliance with all of the franchisor’s brand requirements, and the parties need to allocate the costs of bringing the franchised business in compliance.
More specifically, if the franchised business does not conform the franchisor’s current “brand image” for new franchises, the franchisor will often require the seller or buyer to “reimage” the business to the current brand image. The buyer and seller need to understand what is required, the cost involved, and who will bear the cost.
3. Training. If the buyer is new to the franchised brand, the buyer will usually need to attend and complete the franchisor’s training program. Before the buyer and the seller agree on a closing date, they need to consider the franchisor’s training schedule.
4. Transfer Fee. The franchise agreement will typically require payment of a transfer fee – often $10,000 or more – to the franchisor. The buyer and seller need to decide who pays the fee.
5. New Franchise Agreement versus Assignment of Existing Franchise Agreement. The franchisor will often require the buyer to sign the then-current form of franchise agreement, rather than allow the buyer to take over the existing franchise agreement. The buyer needs to be aware of any material differences in the current form, including new or higher fees. Unless the franchisor is actively encouraging the sale, the buyer will usually not have any leverage to negotiate changes to the franchise agreement.
6. Marketing Funds. If the franchise system has a regional or local marketing fund or cooperative, the buyer and seller will need to understand what will happen to any unspent funds.
7. Lease Term and Franchise Term. A common problem for franchises that lease their business location is a mismatch between the franchise term and the lease term. The problem can be even worse when the franchisor requires the buyer to sign a new franchise agreement. If the new franchise agreement has a 10-year term but the business lease has only seven years left, the buyer will need to negotiate an amendment to the lease.
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