Selecting the most suitable type of franchising is a crucial step on your road to international expansion say Emma Lusty
Most franchisors will tell you they have been approached at one time or another by third parties wanting to become an operator of the franchisor’s brand in their country. While this is very flattering and potentially lucrative, franchisors should be careful not run into business relationships with third parties – especially not just the party waving the most cash – without properly considering how such arrangement should be structured and whether expansion into that country is sensible or even viable for that franchisor.
There are many different options available to franchisors wishing to expand abroad and there may not be a global “one size fits all” strategy – it may be that a master franchise arrangement works better in the UK, whereas an area development arrangement works better in China, for example. The following methods of expansion are available to franchisors.
The franchisor grants to unit franchisees the right to operate individual units in the relevant territory. This is likely to be the preference in the franchisor’s home country or in countries which are similar to the franchisor’s home country in terms of geography, language and culture. It could also potentially be preferable in countries where the franchisor has, for example, a wholly-owned subsidiary.
This is because the franchisor will need to be able to provide the services of a franchisor, including on-going support and training, to the unit franchisees in the territory which will be difficult if the franchisor does not have a business presence in that territory. The benefit of this method is that the franchisor retains closer control over its franchisees and doesn’t have to share any of the profits from franchise activities.
The franchisor grants to the master franchisee the right to grant unit franchises to independent third parties in the relevant territory. This tends to be the most common method for international expansion of a franchise because not only are all of the capital costs associated with setting up the operation in that territory passed to the master franchisee, but the master franchisee also benefits from having local knowledge and a local presence.
The franchisor’s relationship with the master franchisee is governed by a master franchise agreement which will allow the master franchisee to use and sub-licence to unit franchisees the brand and system in respect of whom the master franchisee will act in the capacity of franchisor.
The franchisor will benefit from an initial fee and on-going royalties. The downside of this approach is that the franchisor does not have direct control over the unit franchisees, so the master franchise agreement will need to give the franchisor sufficient control over the master franchisee to alleviate this risk. For this method of expansion, the franchisor will need to ensure there is sufficient margin available in the business for three parties to make money.
The franchisor will grant to a developer rights to operate unit franchises itself and to introduce – as unit franchisees – third parties to the franchisor. The developer will have no rights to grant unit franchises itself. This approach is useful in situations where the franchisor wants to retain ultimate control over the unit franchisees but is not usually as useful in small territories such as the UK.
Joint venture arrangements
The franchisor and a local business become shareholders in the master franchisee vehicle which then grants sub-franchises to unit franchisees in accordance with the terms of a master franchise agreement between the franchisor and the joint venture master franchisee vehicle.
Franchise purists would say this is not franchising, however, it is not unheard of in a franchise context and can allow for expansion in situations where the local business does not have the resources to start the business alone. The franchisor will have to act carefully to avoid conflict between its roles as both franchisee and franchisor.
As mentioned above, whichever option is adopted will not necessarily be the same for each territory in which the franchisor wants to expand, and will depend on many factors. Once the international franchise package has been structured, the franchisor will need to ensure that its international support infrastructure is in place and capable of delivering that package. That will involve ensuring there is buy-in from the senior management team because international expansion will likely require all hands to the pump.
Disclosure and registration requirements often require information to be provided to the prospective franchisee a certain amount of time prior to signing the franchise agreement and can take significant resources (both time and financial) to prepare. Such timescales and costs will need to be factored in when establishing the best franchise model to use and which territories to target.
It is crucial that franchisors take advice both from franchise consultants and from franchise lawyers to ensure they adopt the correct approach for their expansion and that they document their approach correctly and to their best advantage. In addition to selecting the right franchise model and expansion strategy, the importance of selecting the correct franchisee cannot be underestimated.
While developing their international expansion strategy, franchisors should consider carefully what their ideal international franchisee should look like and should try not to stray too much from that brief.
There is no ‘right’ way, but with the right approach and guidance, international expansion can be very successful, although it is not something that should be rushed into, particularly if the franchisor is not ready to take that next step.
ABOUT THE AUTHOR
Emma Lusty is a commercial senior associate in Shoosmiths’ business advisory division. Emma has an interest in commercial contracts, specialising in franchising and works with franchisor and franchisee clients on a wide range of franchise matters. Emma is noted in The Legal 500 for franchising and is acknowledged as a notable practitioner by Chambers & Partners and by Legal Who’s Who as an expert in franchising.