At its heart a franchise is no more than a contract between two parties. Franchise agreements are often detailed complicated documents and will often vary greatly franchise to franchise.
A franchisee needs to consider the terms of its lease and the interrelationship of that document with the franchise agreement.
While it’s impossible to give an exhaustive list of considerations the following are some common lease issues that can arise for a potential franchisee.
Terms and rights of renewal:
Any franchisee should consider the term of the lease. The lease and the franchise agreement go hand in hand and therefore their terms should be aligned. If the lease expires before the franchise agreement then a franchisee could be left in the potentially costly situation of having a business but no premises. On the other hand if the franchise term expires before the lease then a franchisee is left with the equally costly situation of having premises but no franchise. At a minimum, terms and rights of renewals should be aligned.
In addition to aligning the terms a franchisee would also be wise to have frequent rights of renewals in both the lease and franchise agreement. Frequent rights of renewal will allow a franchisee to exit an unfavourable arrangement earlier, both in terms of the lease and the franchise agreement. While in many cases franchisors may require a non-negotiable term, a landlord may be more flexible. It will be a matter of negotiation. At the very least a lease with frequent rights of renewal will give some protection for an unexpected termination of the franchise agreement or on a more positive note potentially allow a franchisee to find alternative premises if business is booming.
Liability on assignment:
It is not commonly known that at law an assignee of a lease is liable under the lease to the termination date or the next renewal. This means that a franchisee who sells its business could remain liable for the lease long after the sale has settled. Any change to this position will require negotiation of the lease at the outset. You can also mitigate this risk by contracting out of liability on assignment or limiting liability on assignment to a monetary amount or length of time.
Franchisor lease requirements:
Some franchise agreements will require the franchisor to hold the head lease while the franchisee receives a sublease from the franchisor. This is so the franchisor retains control of a strategic site. This seems fairly innocuous; however it’s vital that a franchisee understands what impact the franchisor could have on its sublease. For example reviewing rent under the head lease is likely to increase rent under the sublease where you cannot object to rent increases.
Alternatively a franchisor may allow a franchisee to contract directly with a landlord, but it’s important that a franchisee clearly understands what control the franchisor has over the lease. If the franchisee fails, for example, to get the landlords approval or understand the fit out requirements for the premises before signing an agreement to lease then the franchisee is potentially left with unsuitable premises or premises only made suitable through costly upgrades.
This post was published in the FMCG Business magazine