Commercial - Franchising

What is franchising?
Generally, the term "franchising" is used to describe the licensing of a business system which invariably includes the licensing of various types of intellectual property.

What is the procedure?
The Franchise Association of Southern Africa (FASA) is an association which assists members to follow and uphold business principles adopted and accepted internationally. According to its Code of Ethics, franchisors should provide prospective franchisee with three documents, namely the Franchise Agreement, the Disclosure Document and the Operating Manual.

The Franchise Agreement provides for a framework and may require the conclusion of other agreements. The Franchise Agreement places legal obligations on both parties to their mutual advantage.

The purpose of the Disclosure Document and Operating Manual is to disclose the know-how necessary to operate the business system and to train the franchisee and its employees to operate the business system. The requirements for these documents depend on the nature of the business and relevant sector.

Intellectual property:
Before considering a franchise business structure, it is important to assess which intellectual property exists and will be necessary to use by each franchisee to operate the business system.

It is possible to distinguish between common law and statutory intellectual property rights. Statutory rights mainly cover trade marks, copyright, designs and patents. Common law rights may exist in other forms of intellectual property, for instance, know-how and confidential information.

In practice, the intellectual property rights most frequently covered by Franchise Agreements are trade marks, copyright and know-how.

One of the most important elements of a franchise scheme is the licence granted in terms of the use of the trade marks. To strengthen its rights in the trade marks, it is recommended that the franchisor obtain statutory rights for its trade marks and trade dress. Prior to applying for trade mark applications, as always, it is recommended to conduct searches of the Trade Marks Register to determine that the trade marks are available.

The franchisor must at all times be in a position to exercise control over the nature and quality of the goods or services covered by the licence and the manner of use of the trade mark by the franchisee. Uniformity is important as it promotes the distinctiveness of the trade marks. The franchisee must acknowledge the rights of the franchisor in the trade marks and must undertake to cease using the trade marks upon termination of the agreement. The franchisee should also not be allowed to use the trade marks in a company name or trading style. The use of the trade marks will inure to the benefit of the franchisor.

As soon as the trade marks are registered, it is recommended that licences be recorded at the Trade Marks Office and the franchisees become Registered Users of the trade marks. There are a number of advantages relating to the recordal of trade mark licences which include that the franchisee will be in a better position to interfere and participate in a case of infringement and claim damages.

Know-how generally refers to technical and commercial information that are confidential. The nature of the know-how must be described in the Franchise Agreement and the franchisee must be required to maintain the confidentiality of the know-how.

Save for cinematograph films, it is not possible to obtain registration for copyrighted works. It is therefore necessary to describe the precise nature of and extent of the rights of copyright covered by the licence.

How do the payments work?
The Franchise Agreement generally provides for the payment of an initial payment by the franchisee. This amount is intended to cover the franchisor's costs relating to training and assisting the franchisee's establishing and opening the franchised business.

Royalties (or management service fees) are amounts which are payable for the continuing support by the franchisor and the continuing use of the rights granted in terms of the agreement. The royalties may be granted calculated as a percentage of the franchisee's turnover or net sales within a certain period.

In addition, the franchisor may require royalties (periodic payments) for specific services such as marketing fees which are also calculated as a percentage of the net sales.

The franchisee must keep good accounting records and should be obliged to account monthly or preferably weekly.

What are the duties of the franchisor?
Generally, the duties of the franchisor include the following:

• The franchisor is obliged to disclose the business system to the franchisee and to make available the intellectual property licensed in terms of the Franchise Agreement. A Disclosure Document and Operating Manual must be provided in this respect.
   
• The franchisor must also assist with the establishment of the franchised business on the premises, such as the design and decor of the premises, suitable building, shopfitting, electrical signwriting and other contractors, sources of supply of equipment, furnishings and other requirements relating to the particular franchise.
   
• The franchisor provides training to the franchisee and its employees.
   
• The franchisor must provide continuous support services after the conclusion of the agreement.
   
• Where improvements and developments in the business system involve additions and alterations to intellectual property, they must be disclosed to the franchisee and will form part of the intellectual property which was licensed in terms of the Franchise Agreement.

• The franchisee is obliged to conduct the franchised business strictly in accordance with the Operation Manual and other specifications and directions prescribed by the franchisor from time to time.
   
• The franchisee and/or his employees are obliged to undergo training in the business system. The franchisee may not entice employees away from fellow franchisees.
   
• The franchised business is usually conducted from premises which were approved by the franchisor. The premises must be maintained in a good and clean condition. The franchisee may also be required to keep minimum business hours. The franchisee is obliged to allow the franchisor at all reasonable times to carry out inspections and investigations.
   
• The franchisee is not allowed to advertise or conduct promotional material activities without the prior written approval of the franchisor, but is obliged to use and display the franchisor's point-of-sale, advertising or promotional material.
   
• The franchisee may be obliged to take out insurance policies and note the franchisor's interest in such policies. The franchisee should also indemnify the franchisor against claims made against the franchisor arising out of the conduct of the franchised business.

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