What is a Franchise and How Do They Work?

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Table of Contents

• What is Franchising?
• The Franchising Code of Conduct
• Business Operations
• Benefits of Franchising 
• Risks of Franchising
• Key Takeaways
• Frequently Asked Questions

The franchising business model is becoming increasingly popular. Indeed, franchising your business is a great way to expand your already successful brand. Alternatively, if you are looking for ongoing support while running your business, becoming a franchisee can also provide great opportunities. Further, there are several features unique to franchises that you must consider before starting or joining one.

This article will outline: 

• how franchises work;
• the benefits and risks of franchising;  
• the Franchising Code of Conduct; and
• franchising business operations.

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What is Franchising?

Franchising is a business structure whereby a brand owner (the franchisor) offers a licence to others (the franchisees). With the franchisor’s permission, franchisees can sell the goods or services under that brand. You can enter this arrangement by signing a franchise agreement. In this agreement, the franchisor will grant you the right to:

• use their intellectual property and trademarks; and 
• operate your business using their business structure and systems.

Ultimately, there are many reasons why franchisors may decide to franchise their business. For example, franchising allows businesses to expand domestically and internationally by accessing franchisees’ capital. Franchising also benefits franchisees as it allows them to run their own business without needing to develop a product or service. Instead, the existing business will provide them with:

• goodwill; and
• the systems and processes they will need.

The Franchising Code of Conduct

Australia’s franchise industry is vast and currently has:

• more than 1,100 franchisors; 
• 65,000 franchise units; and 
• 8,000 company-owned units Australia-wide. 

Therefore, the Franchising Code of Conduct (the Code) plays a critical role in providing legal protection for franchisees and franchisors. The Code includes several key provisions, which we outline below.

Disclosure requirements

The Franchising Code of Conduct outlines disclosure obligations for franchisors. The Code requires franchisors to provide existing or prospective franchisees with specific information about the business when entering (or renewing) a franchise agreement. For example, franchisors must disclose essential financial information about the business and details of any legal disputes involving the franchisor. This ensures total transparency between the franchisor and the franchisee. Furthermore, it informs the franchisee to make a good decision before entering any agreement. 

Dispute resolution mechanisms

The Franchising Code of Conduct provides a mechanism for dispute resolution. This ensures that parties to a franchise agreement have a reliable way to resolve disputes while maintaining their business relationship. Moreover, your franchise agreement should outline potential dispute resolution procedures reflecting the processes within the Code. 

Good faith obligations

Franchisors and franchisees must act in good faith towards one another. Essentially, both parties should act with honesty towards one another and will face harsh penalties if they do not. 

Business Operations

Franchises within Australia may adopt one of many different business models.

Currently, however, the most common model is the retailer-retailer franchise model. This model allows the franchisor to market the goods or services of their business through its network of franchisees. Additionally, each franchisee-run business will use the same:

• name; 
• systems; 
• processes; 
• intellectual property; and
• advertising materials.

Furthermore, under this model, each franchisee must follow any guidelines the franchisor sets. These limitations can help maintain a certain standard across the franchise. Although, it also means the franchisee has less flexibility and creativity. For example, this model will often restrict franchisees in regards to:

• the franchise’s location; 
• the standards of the goods and services; and 
• the general business operations. 

Benefits of Franchising 

Several benefits come with a franchise system. For instance, franchisors have the opportunity to be their own boss. Further, they can avoid the hassle of setting up a business and growing a loyal customer base. Moreover, franchisees have access to brand recognition and the business’s intellectual property, such as trademarks and branding. This means your business is more likely to be successful. 

Additionally, franchises often come with better financing options. For example, when purchasing a franchise, your initial outlay costs may be less than starting a new business.

Risks of Franchising

However, it is crucial to understand the potential risks of purchasing a franchise. Firstly, you must consider the financial risks, including legal fees and the initial setup costs. Additionally, if you are a franchisee, you must make ongoing royalty payments to the franchisor. 

Furthermore, a franchising agreement creates obligations for both parties. If you cannot meet them, you might be in breach of the agreement and could face potential fees.

You might also find that any negative attention that other branches or the broader management receive impacts the success of your business.

Key Takeaways

Franchising is a business structure whereby a business owner (the franchisor) owns a brand. The franchisor then offers a licence to others (the franchisees), so they can sell the goods or services under that brand. Some crucial things to understand before purchasing a franchising business include:

• what a franchise is;
• how franchises work; and
• the benefits and risks that come with franchising.

If you need assistance understanding how franchises work, our experienced franchise lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 1300 544 755 or visit our membership page.

Frequently Asked Questions