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Tips for signing a franchise agreement

Purchase and ownership options
Prospective franchisees must consider (a) whether they wish to purchase a new franchise directly from the franchisor or an existing franchise from another franchisee and (b) whether to take ownership personally or through another business entity, such as a partnership or corporation. There are a variety of pros and cons for each form of business ownership, but partnerships and corporate entities must be properly set up or incorporated in advance of the purchase.

If you are buying a franchise through a resale from another franchisee, there are a number of extra matters you may wish to consider ahead of time. The franchise agreement and other legal documents, such as leases or intellectual property (IP) licence agreements, can prevent such a sale, for example, unless the landlord or franchisor, respectively, has given consent to the sale and the reassignment of franchisee rights and obligations.

It is also important to understand why the previous franchisee is selling the business. You may want to retain an accountant to confirm it is not because the franchise is struggling financially, for example, or the franchisor is difficult to work with. You probably have less to worry about if it turns out the franchisee is relocating or retiring, as long as the numbers still look good. There is no substitute for performing thorough due diligence and retaining the assistance of professional advisors.

Another significant decision when purchasing such a franchise is whether to buy the shares or the assets of the selling franchisee. Each of these options has advantages and disadvantages.

In an asset purchase, the buyer can select which of the seller’s assets and liabilities he/she wishes to purchase and assume, while leaving the excess with the selling company. Since this lets buyers avoid assets and liabilities they do not want, they tend to prefer this option.

Conversely, sellers typically prefer to structure the transaction as a share purchase, because then the buyer purchases the company’s shares and, consequently, all of its assets and liabilities. This can also mean favourable tax treatment for the seller.

So, this question can be the focus of highly negotiated decisions between buyers and sellers. As such, professional advisors can provide assistance in identifying the key issues and structuring the transaction to optimize the tax implications for both parties.

The franchise agreement
Once you have researched a variety of franchising opportunities, spoken to other franchisees and vetted the relevant financial statements, you may be ready to choose your business. It is time to set out the details of the franchisee-franchisor relationship.

Failing to do so can negate all of your earlier meticulous research, as the terms of the franchise agreement and ancillary documents will govern the remainder of your time working with the franchisor and, most importantly, define your rights and remedies in case of a dispute.

For these reasons, it is essential to consult a lawyer familiar with both the legal and business-related implications of establishing the franchise relationship. An experienced lawyer can negotiate and draft the legal documents. The following are some of the more prominent factors your lawyer will look for and evaluate when reviewing the franchise agreement.

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