Despite signing the lease for the business property, hiring the employees and managing the enterprise, experts warn prospective franchisees that they don’t own the business. This argument is justified by noting that the franchisee is beholden to franchisor processes and does not hold any equity in the overall brand. Franchisees are also strictly limited in their ability to sell or transfer rights in the business. Even further, franchisors often retain rights to pull funds from a franchisee’s account and demand a non-compete agreement to limit a franchisee’s future operation or employment opportunity. For more on this continue reading the following article from Blue MauMau.
Many franchisees consider themselves to be business owners. A franchisee might hire and manage employees, sign the lease on a store or restaurant, handle customers, keep the books and take home profits at the end of each month.
However, the modern franchise owner often lacks a critical element to business ownership—an equity ‘ownership’ in the business. Most modern franchise agreements state the franchisee is an "independent contractor," but ‘independence’ ends with the lip service recitation.
To begin with, franchisees are (rightly) required to strictly adhere to the franchisor’s operating system. Although following system standards is counter to ‘independent’ judgment, this limitation is expected and justified in franchising—after all, you likely invested in a brand because you believe in it. But beyond the expected adherence to the franchisor’s system, other serious forfeitures of equity rights are much harder to justify and accept:
Most important, franchise agreements universally claim that all goodwill of the business belongs to the franchisor, even though it is the franchisee’s capital and sweat equity that contributes mightily to the business value.
Modern agreements increasingly provide that all customer information and the right to communicate with customers belong solely to the franchisor. Franchisees should be recognized to have at least a shared interest in the customer relationships that are developed through personal efforts.
Franchisee renewal and transfer rights are severely limited in most franchise agreements. Without a reasonable right to renew or sell the business, what do you truly own?
At the end of the typical franchise term, the franchisee forfeits the right to continue in business and agrees to not compete with the former franchisor for a period of years. These provisions usually apply even if the franchise has simply expired with both parties fully performing all duties to the end of the term. The post expiration right to remain in business is a fundamental element of business ownership.
Increasingly, franchisors even retain the right to pull funds from the franchisee’s bank account, and franchisees often lack control over their own funding accounts.
Although franchisees expect to follow franchise system standards, that doesn’t mean franchisees should have no contribution to the development of system-wide evolution. When the franchisor can choose to unilaterally amend the operations manual that the franchisees must follow, franchisees have no protection that their business interests will be preserved, let alone enhanced.
For current franchisees, all is not lost. Many franchise systems now have recognized and respected franchisee associations that are able to negotiate the terms of the franchise relationship. The evolution of franchising is beginning to evidence respect for the existence and protection of franchisee equity rights. Joining together with other system franchisees to gain negotiating leverage with the franchisor is the best path to bring balance to a franchise system.
Prospective franchise buyers who think that investing in a franchise is business ownership should think again. Those who are comfortable receiving a license to operate the franchisor’s business for a period of time, agreeing to adhere to system standards, and to be compensated with the net profits of the business are likely to make good franchisees. Those who want a business they can control, change and use to express their creativity are not good candidates for franchising. True entrepreneurs should not apply! Beyond asking "is franchising right for me?" the more fundamental question is: "Does this franchise opportunity confer any ownership equity I can grow, enjoy and ultimately sell?"
This is part four of a nine part series exposing franchising myths.
The content in this blog post is based in part on Chapter One of The Franchise Fraud, written by Robert Purvin. The Franchise Fraud is available for purchase in print and for the Kindle on Amazon. To understand the AAFD’s vision of Total Quality Franchising, view the AAFD’s Fair Franchising Standards.