Thinking of franchising in China? You’re not alone. Franchising is arguably one of the fastest-growing sectors in China, particularly in fast food, restaurants and the education field. With 1.4 billion eager consumers anxious to try anything that is new, trendy and foreign, China is ripe to ride the brand war and open its doors for foreign franchisors to extend their footprint.
Hundreds of well-known brands have already made their presence known and, for some, the Chinese market is the bright light in a sea of dismal performances brought on by COVID-19. As the world turns the corner on COVID, China’s zero- COVID policy is gaining both traction and respect – stores are opening up, shoppers are out again and the time to launch a brand, in collaboration with local investors, is more tempting than ever. Franchisors with foresight are seizing the opportunity and moving forward with their expansion plans. One successful example of this approach is the famous burger chain, Five Guys, which opened its first franchised outlet in Shanghai right in the midst of COVID in 2021. On opening day, lines were three to four hours long with hundreds of people prepared to wait for that special American taste that only Five Guys can deliver. The chain has never looked back.
The path to franchising in China is fraught with mystery, but not to those in the know. The truth is franchising in China is no different than in any other country. You need to have a brand, your intellectual property properly registered and, of course, a franchise disclosure document.
This serves as the public pronouncement detailing what the franchise is all about and what a franchisee, unit developer or master franchisee ought to know, so there are no misunderstandings. Full disclosure is the goal, so inevitably it’s a seminal document crafted with care and precision by knowledgeable attorneys.
The franchise manual, the proverbial bible of what to do and how to do it, is the secret sauce if faithfully followed, enabling franchisees to manifest the ‘goodness’ of the brand. Although not a guarantee, as localization is critical, following the franchisor’s true and tried formula allows the franchisee the greatest chance to succeed.
The 2+1 rule
To be able to franchise in China, it’s well reported that the franchisor must be able to meet the 2+1 rule. This states that in order to qualify to franchise in China, the franchisor must have operated two corporate-owned outlets for a period of at least a year. In order to be eligible to franchise to a Chinese investor, the franchisor must also have direct experience operating the outlets too.
The franchisor is defined as the applicant seeking MOFCOM approval to franchise. The rationale behind the rule is that the Chinese government needs to be convinced that the franchisor has real, practical experience in running the outlets, and only with such experience is a franchisor able to tackle issues that can arise from franchising operations in China. The Chinese government is concerned that if a franchisor hasn’t operated its own outlets (two for a period of one year), it lacks the qualification to tackle China. Right or wrong, this is the rule.
What is often misunderstood about this 2+1 rule is that the franchise outlets don’t need to be in China – they can be anywhere in the world. As long as the applicant for MOFCOM approval (the franchisor for China) has had corporate-owned locations for at least one year, then MOFCOM approval will not be denied as long as other aspects of the application can be proven and validated without complications.
Other crucial criteria in the MOFCOM approval process includes traceable ownership of the trademarks, clarity in corporate ownership of the applicant and the operational ownership by the applicant, with distinct and provable dates of operation.
The requirements are simple and direct enough, but where many franchisors trip up is in being able to present documentary proof that passes muster. Often documents from overseas (non-Chinese documents) will need to be notarized and legalized by the Chinese embassy at the country of origin to ensure the authenticity of the documents. This could be an arduous process requiring multiple steps and need for translation. When an inquiry is raised by a MOFCOM inspector, often the applicant or their attorneys are unable to promptly and comprehensively reply to queries. This kind of interaction comes only from experience and foresight, planning ahead with answers before the questions are raised.
Finally, the biggest issue for many applicants is failure to simply and logically structure their own house prior to applying for approval at MOFCOM. Like with all government agencies, follow the KISS principle – keep it simple stupid.
Time and time again, our experience leads us to conclude that meandering through the MOFCOM process is not difficult if well prepared, well planned and managed by seasoned professionals.
So don’t be misled or misinformed. You may qualify to franchise in China and take advantage of the 1.4 billion eager consumers as long as you have operated two outlets anywhere in the world for at least one year. The process to successfully achieve approval may take up to a year, so if the process begins even before the one year of operational experience expires, you will still be qualified when it is up for final approval review. As our firm motto says: If you have a brand, we have a plan. Don’t get left behind!
Peter C. Pang is the principal attorney and managing partner of IPO Pang Xingpu, helping foreign enterprises obtain entry into highly regulated Chinese industries