Franchise agreement: drafting note

Resource type: Drafting note

Status: Maintained

Jurisdictions: England, Wales

This drafting note accompanies the standard document franchise agreement.

PLC Commercial (with thanks to John Pratt of Hamilton Pratt)

Standard document: Franchise agreement

Contents

General document notes

Legal issues

Negotiating and drafting issues

Clause notes

Parties

Background

Definitions: clause 1

Clause 1.1

Advertising Levy

Business

Equipment

Financial Package

Gross Monthly Receipts

Initial Fee

Intellectual Property

Lease

Manual

Premises

Products

Services

Start Date

System

Territory

Trade Marks

Trade Name

Interpretation

Rights granted: clause 2

Clause 2.1

Clause 2.2

Clause 2.3

Term: clause 3

Clause 3.1

Clause 3.2

Clause 3.3

Clause 3.5

Clause 3.6

Fees: clause 4

Clause 4.1

Clause 4.2

Clause 4.5

Franchisor's initial obligations: clause 5

Clause 5(a) and (b) - Premises

Clause 5(d) − supply of equipment and products

Clause 5(e) - public relations launch of the franchisee's business

Clause 5(f) - the provision of the franchisor's operations manual

Clause 5(g) - local advertising

Clause 5(h) - provision of the financial package

Franchisor's continuing obligations: clause 6

Clause 6(b)

Clause 6(c)

Clause 6(d)

Franchisee's obligations: clause 7

Employees: clause 8

Training: clause 9

Clause 9.1

Clause 9.2

Anti-bribery compliance: clause 10

Clause 10.1(b): outside the UK

Clause 10.1(c): relevant policies

Clause 10.1(d): adequate procedures

Clause 10.1(e): reporting bribes

Clause 10.1(f): foreign public officials

Clause 10.1(g): monitoring and review

Clause 10.2: supply chain

Clause 10.4: definitions

Accounting records: clause 11

Advertising: clause 12

Clause 12.1

Clause 12.2

Telephone numbers: clause 13

Insurance: clause 14

Premises: clause 15

CRC Energy Efficiency Scheme: clause 16

Clause 16.1

Clause 16.2

Clause 16.3(b)

Clause 16.5

Clause 16.6

Clause 16.7

Clause 16.8

Clause 16.9

Intellectual Property: clause 17

Clause 17.1

Clause 17.2

Clause 17.4

Clause 17.5

Clause 17.6

Sale of business: clause 18

Clauses 18.1 and 18.4

Clause 18.2

Clause 18.4

Clause 18.6

Clause 18.7

Death or incapacity of individual: clause 19

Clause 19.1

Clause 19.2

Confidentiality: clause 20

Termination: clause 21

Clause 21.1

Clause 21.2

Conditions following termination: clause 22

Clause 22.1

Clause 22.3

Clause 22.4

Restrictions: clause 23

Indemnity: clause 24

Individual's guarantee and covenants: clause 25

Entire agreement: clause 26

Further assurance: clause 27

Data protection: clause 28

Assignment: clause 29

Rights of third parties: clause 30

No partnership or agency: clause 31

Force majeure: clause 32

Set-off: clause 33

Default interest: clause 34

Severance: clause 35

Variation: clause 36

Waiver: clause 37

Expert: clause 38

Counterparts: clause 39

Notices: clause 40

Alternative dispute resolution: clause 41

Governing law and jurisdiction: clause 42

Trade marks: Schedule 2

GENERAL DOCUMENT NOTES

The Standard document, Franchise agreement (www.practicallaw.com/9-223-1966) is an agreement which may be

adapted according to whether non-exclusive or exclusive rights in a particular territory are to be granted.

This drafting note does not discuss taxation in relation to franchises.

Legal issues

For discussion of franchising arrangements generally, see Practice note, Franchising:

overview (www.practicallaw.com/2-107-3749).

The CRC Energy Efficiency Scheme (CRC), which applies to franchises, came into force on 1 April 2010. For

information, see Practice note, Franchising: overview: CRC Energy Efficiency Scheme (www.practicallaw.com/2-

107-3749).

A franchise agreement is a typical vertical agreement - that is, an agreement between parties at different levels in

the economic supply chain. On 1 June 2010, the new vertical agreements block exemption (Regulation 330/2010)

and its associated vertical restraints guidelines came into force (replacing the previous vertical agreements block

exemption (Regulation 2790/1999) and its associated vertical restraints guidelines).

Broadly, the vertical agreements block exemption provides a "safe harbour" for vertical agreements that meet

certain conditions. Where the market share of the franchisor does not exceed 30%, and the market share of the

franchisee does not exceed 30%, the vertical agreements block exemption covers:

The licensing of intellectual property rights in franchise agreements insofar as the licence provisions do not

constitute the primary object of the agreement and are directly related to the use, sale or resale of goods or

services; and

Vertical restraints (such as selective distribution, non-compete or exclusive distribution obligations) on the

purchase, sale and resale of goods and services under a franchising arrangement.

However, to have the benefit of the vertical agreements block exemption, the agreement must not contain certain

listed "hardcore" restrictions. The inclusion of any such restraints prevents the entire agreement from obtaining the

benefit of the block exemption, not merely the clause or sub-clause in which the restraint is contained: there is no

severability for hardcore restrictions. The vertical agreements block exemption also identifies a number of "grey

list" obligations that fall outside the scope of the vertical agreements block exemption, even though the market

share threshold is not exceeded. Unlike hardcore restrictions, severability does apply to these obligations, so that

the inclusion of such an obligation will mean that the benefit of the vertical agreements block exemption is only lost

in relation to any part of the agreement from which the offending obligation cannot be severed.

The inclusion of reference to the market share of the franchisee is a key change brought about by the new vertical

agreements block exemption (in the previous vertical agreements block exemption (Regulation 2790/1999), the

market share of the franchisor was generally decisive (except in the case of exclusive supply obligations)).

For information, see Practice note, Franchise: overview: EU competition law (www.practicallaw.com/2-107-3749)

and Distributorships: overview: EU competition law and regulation (www.practicallaw.com/6-107-3648).

This standard is not drafted to fall within the "safe harbour" provided by the vertical agreements block exemption

(assuming the parties satisfy the requirements for relevant market shares), as it includes provisions that as drafted

do not comply with conditions in the vertical agreements block exemption (see commentary at clause 7). If the

parties can and wish to rely upon the vertical agreements block exemption, practitioners should seek specialist

competition law advice and amend accordingly. Where the vertical agreements block exemption is not available,

specialist competition law advice will be necessary to assess any restrictions or exclusivity in light of Article 101 of

the Treaty on the Functioning of the European Union (formerly Article 81 of the EC Treaty). For information, see

Practice note, Franchise: overview: EU competition law (www.practicallaw.com/2-107-3749) and Distributorships:

overview: EU competition law and regulation (www.practicallaw.com/6-107-3648).

A franchisor owes a duty of care in tort to franchisees and prospective franchisees. In MGB Printing and Design

Limited v Kall Kwik UK Limited [2010] EWHC 624 , the High Court held that a franchisor owed a duty of care in tort

and gave negligent advice to a prospective franchisee when, at the relevant time, the prospective franchisee was

considering buying an existing franchise business as a going concern and the franchisor advised on the cost of

refitting the premises to the franchisor's mandatory requirements. It transpired after the acquisition that these costs

were significantly lower than the true cost of the refitting works. For more information, see Legal update, High Court

holds franchisor owes duty of care to franchisee (www.practicallaw.com/5-502-0180).

The Bribery Act 2010 (BA 2010), effective 1 July 2011, replaces the existing bribery offences and introduces new

offences. In particular, it introduces a strict liability offence which may affect franchisors. Under section 7, a

commercial organisation (which includes a company or partnership) commits an offence if a person associated with

it bribes another person, intending to obtain or retain business or a business advantage for the organisation. A

person (A) is associated with a relevant commercial organisation (C) if A is a person who performs services for or

on behalf of C (section 8, BA 2010). In certain circumstances, a franchisee may be an associated person to the

franchisor: for further information, see the commentary at clause 10.

Negotiating and drafting issues

In practice, it is the franchisor's solicitors who prepare the franchise agreement. However, as the agreement will be

the same one that is used for all franchisees, it will also be part of the package which potential franchisees

consider when negotiating the franchise deal. Therefore, although the standard document has been drafted from

the perspective of the franchisor, it is intended to strike a balance between protecting the franchisor's interests and

being acceptable to potential franchisees.

A franchisor should not generally vary the terms of its franchise agreements because this may cause strong

feelings between franchisees if they discover that some have better terms than others. Disparities in contract terms

may also result in a greater administrative burden on the franchisor. The only times at which variations in terms

should be considered are at the development stage, where the franchisor may find it expedient to offer better terms

to the first franchisees in return for assistance in setting up certain elements of the franchise system and where

external circumstances, such as the terms of a third party lease, necessitate a variation.

A franchise agreement should be well set out and contain no typing mistakes, as an agreement that is difficult to

follow or written in "legalese" may put off a potential franchisee. A prospective franchisee will have every reason to

believe that a poorly presented franchise agreement reflects poor preparation of the franchisor itself.

CLAUSE NOTES

Parties

The franchisee may be a sole trader, partnership or a limited liability company. This will depend largely on the

requirements of the franchisor and the advice concerning the tax and legal implications of carrying on business without

limited liability which has been given to the franchisee.

The individual will normally be the majority shareholder in the franchisee, and the standard document is drafted on the

basis that there is just one individual. If, however, there is more than one, then references to the individual should be

amended accordingly and the agreement should make it clear that they have joint and several liability for all their

obligations.

The franchisor will almost inevitably be a limited liability company.

If a franchise is to be given to a franchisee trading as a limited liability company, the franchisor will ideally try to obtain a

guarantee of the obligations of the franchisee company from the individual who has set up the company and who will

operate the franchise. The reason for this is that franchisee companies are very often newly incorporated with few or no

assets, and if the franchisee breaches the agreement, it may not have sufficient assets to meet a claim. However, it is

harder for individuals to put their assets beyond the reach of a franchisor. The franchisor should also consider

restrictive covenants and undertakings from individuals (such as those set out in clauses 17, 22 and 23) so that they

will not transfer their shares in the franchisee.

Background

This section (recitals) sets out the background and purpose of the agreement. It can be used to provide brief details of

any master franchise agreement.

Definitions: clause 1

Clause 1.1

Advertising Levy

The Advertising Levy is paid by the franchisee to cover a proportion of the cost of the advertising undertaken by the

franchisor on a national basis. Consider whether the franchisee should be required to undertake its own point-of-sale

advertising as well as paying the Advertising Levy.

Business

The definition of the Business is crucial to the grant of the franchise and must be as accurate as possible, while

allowing for business development. However, as it is used for the purposes of clause 22 (restrictions), it should not be

too widely drafted to avoid the risk that a court would refuse to enforce the provisions of that clause.

Equipment

List here (or in a schedule) all of the equipment that will be supplied by the franchisor in order to set up the franchise.

This standard is drafted on the basis that the franchisee will buy the equipment from the franchisor on the franchisor's

then standard terms.

Financial Package

This refers to the finance and accounting package licensed by the franchisor to the franchisee (see clause 5). This

package will help the franchisee be efficient in its book and record keeping, and will also greatly assist the franchisor in

ensuring that the information it requires from the franchisees is readily available and in a consistent format.

Gross Monthly Receipts

This term is used in the calculation of the payments to the franchisor, so it is important that it is correctly defined to

reflect the intentions of the franchisor.

Consider whether payments are to be made to the franchisor on a weekly or monthly basis. The more frequent the

payments, the better control the franchisor will have over its cash flow and the better its view of the franchisee's

business will be. However, this may not be practical and so the standard document envisages payments being made

on a monthly basis.

It is usual to specify whether this definition extends to sums receivable (which is usual) or only to amounts banked, and

which items (such as VAT, income of a capital nature, sales rebates or discounts, credit card discounts or charges, the

cost of any marketing initiatives such as free offers, sums received under business interruption insurance and so on)

should or should not be included in the calculations.

Initial Fee

The Initial Fee is paid by the franchisee to the franchisor and is intended to cover the start-up costs incurred by the

franchisor in relation to the franchisee. Consider whether the franchisor's legal fees should be included in this amount

or whether they should be reimbursed separately.

Intellectual Property

The intellectual property which the franchise uses may be limited to a trade name only or a complete suite of

intellectual property, including patents and design rights, as well as trade marks and names. Check to what extent

these need to be identified and referred to in the franchise agreement. This definition is used in relation to the grant of

the franchise, and so it is important from the franchisor's point of view that only the intellectual property that relates to

the Business is included, and not its other intellectual property.

Consider whether the definition should be extended to include intellectual property rights which come into existence, or

are registered by the franchisor, during the term of the agreement and which relate to the Business.

For further information, see PLC IPIT & Communications, Standard clause, Definition of intellectual property

rights (www.practicallaw.com/1-201-3359) and its accompanying drafting note (www.practicallaw.com/9-201-3360).

Lease

This term is currently drafted for where the franchisee is to take a lease of premises from the franchisor (see Practice

note, Franchising: overview: Property (www.practicallaw.com/2-107-3749)).

This may not always be the case (and the franchisee will often take its lease of the premises directly from a third party

landlord, as this will involve the franchisor in less risk).

For a case which emphasises the importance to both parties of dovetailing the terms of a franchise agreement into the

terms of the lease agreement for the property from which the franchise is to be operated, see Miscela Ltd & Ors v

Coffee Republic Retail Ltd [2011] EWHC 1637 (QB), where the High Court held that the failure of a company related to

the franchisor to make available the franchise property pursuant to a lease agreement (one of the agreements forming

part of the franchise package) did not put the successors to the franchisor in breach of the franchise agreement.

If the franchisee takes its lease directly from a third party, this term and all references to the Lease should be checked

and amended to reflect the reality of the situation, for example, the franchisor may require prior approval of the terms of

the Lease to make sure that the franchise business can operate effectively from the premises. Other considerations

include:

Where the franchisee does not take a lease from the franchisor, the franchisor may require a separate deed of

option to be entered into to enable the franchisor to take over the premises at termination of the franchise

agreement (subject, of course, to the terms of the Lease).

Additional clauses may be necessary if the CRC applies to the franchise agreement. For background and

information, see Practice note, Franchising: overview, CRC Energy Efficiency Scheme (www.practicallaw.com/2-

107-3749).

(Note that, under clause 1.13, a reference to the Lease is a reference to it as altered from time to time.)

Manual

The Manual will set out how the franchise is to be run, and is an essential part of the operation. Under clause 7, the

franchisee is obliged to run the Franchisee's Business in compliance with the Manual. According to this definition, the

Manual may be altered by the franchisor from time to time. This will give the franchisor flexibility and the ability to

respond to changing market conditions without having to alter the franchise agreements every time it wants to alter the

way in which its franchise outlets are run. (Note that, under clause 1.13, a reference to the Manual is a reference to it

as altered from time to time.)

Premises

If the franchisor is not leasing the Premises to the franchisee, it may have site selection criteria. The franchisee must be

made aware of these (they could, for example, be incorporated into the Manual). The selection of a suitable site is of

the utmost importance for the franchisee, as it is only allowed to trade from the Premises and nowhere else (see clause

7).

You must also consider the impact of the CRC. For background and information, see Practice note, Franchising:

overview, CRC Energy Efficiency Scheme (www.practicallaw.com/2-107-3749).

Products

The list of Products is set out in Schedule 3, or in the Manual which would make the agreement more flexible from the

franchisor's point of view, as the franchisor can update Manual without agreement of the franchisee. However, if this is

the case, the franchisor must not alter the list of Products in a way that could be unreasonable under the Unfair

Contract Terms Act 1977 (UCTA). For further information, see Practice note, Supply contracts:

overview (www.practicallaw.com/0-107-3646).

Ensure that all relevant products are listed, including (if appropriate) stationery.

Services

The Services are those which will be used in or supplied by the Franchisee's Business. The list of Services is set out in

Schedule 3, or in the Manual which would make the agreement more flexible from the franchisor's point of view, as the

franchisor can update Manual without agreement of the franchisee. However, if this is the case, the franchisor must not

alter the list of Services in a way that could be unreasonable under UCTA. For further information, see Practice note,

Supply contracts: overview (www.practicallaw.com/0-107-3646).

Start Date

It is important for the franchisor to know, having allocated a territory to the franchisee, that the franchisee is going to

start trading (and therefore generating income for the franchisor) within an agreed time frame. This date may also be

used as the date at which the term begins (see clause 3.1) and the date from which payment of the Management Fee

and Advertising Levy are triggered (see clause 4.2).

System

Ensure that the definition of the System is adequate to cover all relevant and distinctive aspects of how the business is

run. Details of the System should be contained in the Manual.

Territory

The Territory should be very specifically set out in Schedule 1, using a map if appropriate.

Trade Marks

Consider whether this definition should be extended to include trade marks which are registered by the franchisor, and

which relate to the Business, during the term of the agreement.

Trade Name

Where the Trade Name is included as one of the trade marks (as is often the case), delete this definition and all uses of

it in the agreement.

Interpretation

For discussion of clauses 1.2 - 1.16 and other interpretation provisions, see Standard clause,

Interpretation (www.practicallaw.com/5-107-3795) and its accompanying drafting note (www.practicallaw.com/3-107-

3796).

Rights granted: clause 2

Clause 2.1

This clause sets out the nature of the rights granted by the franchisor to the franchisee.

Not all franchise agreements will grant exclusive territories and, indeed, many franchisors are hostile to the grant of

exclusive rights.

From the franchisor's point of view, the main advantage of granting an exclusive territory is that it will be easier to sell

the franchise.

The main disadvantages for a franchisor are that:

It may cause commercial difficulties for the franchisor who subsequently finds that it has given too large a territory

to its franchisee when its franchise proves a success, with the result that the franchisee's territory is not fully

developed. (The Body Shop is an example of this. At the beginning of The Body Shop operation no one could

predict its subsequent success and, accordingly, exclusive territories were granted for UK cities such as Glasgow,

Edinburgh and Nottingham. Franchisees in these territories were only obliged to open one store, but the territories

should have had three or four stores. As a result, The Body Shop bought back the territories for sums in excess of

£1 million each.)

Terminating a franchise for poor performance may, in practice, be difficult and it may be simpler to put another

franchisee into the territory of an under-performing franchisee.

From the franchisee's point of view, the main advantage of exclusivity is that it will be protected from competition from

the franchisor and other franchisees. The main disadvantage will be that the franchisor may take a strict approach in

enforcing performance criteria in order to ensure that a territory is being properly exploited.

If exclusivity is granted, care should be taken in establishing the territories to be granted. If, for instance, customers for

a franchised business are likely to be obtained by way of telephone directories, the territories to be given should be

linked to the area covered by the directory.

For more about the competition law implications of granting exclusive or non-exclusive rights, see Practice notes,

Franchising: overview: EU competition law (www.practicallaw.com/2-107-3749) and Distributorships: overview: EU

competition law and regulation (www.practicallaw.com/6-107-3648).

Clause 2.2

Trade mark licence

Although it is common for the parties not to enter into a separate trade mark licence, it may be preferable for them to do

so.

From the franchisor's point of view, as long as the Manual has been carefully drafted to include all the obligations that

would normally be contained in a trade mark licence, it can rely on licence terms being incorporated by inclusion in the

Manual. However, if this is to be the case, the Manual must deal with common obligations of trade mark licensees,

such as not doing anything to damage the trade marks' reputation or value, notifying the franchisor of any infringements

by third parties, and following quality control procedures. It is also very important that the franchisee is provided with a

copy of the Manual, and with any revised versions. Even if a separate licence is used, it must incorporate the Manual

as part of its terms, so as to be consistent with the main agreement.

If the franchisor has registered trade marks or registered service marks, it may be desirable to require a franchisee to

enter into trade mark licences because this would ensure that the franchisee did not claim that the use of the trade

marks by him gave him any rights to the trade mark.

There is no statutory requirement that trade mark licences must be registered, although a licensee will want to ensure

that the transaction is recorded, since it will otherwise be ineffective against a third party acquiring a conflicting interest

in the mark. Therefore, from the franchisee's point of view, filing a copy of the licence and registering it with the relevant

trade marks registries ensures that the franchisor cannot sell the registered trade marks free of the licence.

In addition, if a licence is not registered within six months of the date of the transaction, the licensee has no right to its

costs relating to any infringements occurring in the period from the date of the transaction to the date of registration of

the licence. Registration provides licensees with a statutory right (in the absence of any contrary agreement) to bring

infringement proceedings in default of an action by the registered proprietor (section 30(2),(3), Trade Marks Act 1994).

For more information on registration of licences, see Clause 15.2 below, and see Practice note, Registration of

interests in UK trade mark applications and registrations (www.practicallaw.com/6-201-3390).

Both an exclusive non-revocable licence for consideration and a non-exclusive licence are free from stamp duty.

See also Practice note, Franchising: overview: Trade mark licences (www.practicallaw.com/2-107-3749) and PLC IPIT

& Communications, Practice note, Overview of Trade marks: Exploitation of trade marks (www.practicallaw.com/4-107-

3668).

For a draft trade mark licence, see PLC IPIT & Communications, Standard document, Trade mark licence

agreement (www.practicallaw.com/6-500-6579). This licence is not drafted specifically for franchisee use, but could be

adapted.

Lease

In relation to the lease, see comments on clause 14 below.

Clause 2.3

Under this clause, the franchisor itself undertakes not to operate, or license anyone else to operate, the Business in the

Territory.

When drafting a franchise or trade mark licence agreement, you must consider the likely effect of the arrangements on

competition in the market for the relevant goods or services. A franchise agreement is a typical vertical agreement -

that is, an agreement between parties at different levels in the economic supply chain. For information on competition

law implications, see Legal issues and Negotiating and drafting issues. For further detail, see Practice note, Franchise:

overview: EU competition law (www.practicallaw.com/2-107-3749) and Distributorships: overview: EU competition law

and regulation (www.practicallaw.com/6-107-3648). If in doubt, seek specialist competition law advice before finalising

the agreement.

Term: clause 3

This clause sets out the duration of the franchise.

Clause 3.1

Most franchises are for an initial term of five years. The European Code of Ethics for Franchising requires that the

duration of the agreement should be long enough to allow individual franchisees to amortise their initial investments

specific to the franchise (a copy of the European Code of Ethics is available on the website of the British Franchise

Association (www.practicallaw.com/2-335-0952)).

If the Premises are being leased from a third party landlord, consider whether the term should commence after the

Lease has been executed and whether to include a requirement for the franchisor to approve the terms of a third party

lease.

See also the rules on trading schemes (and the cooling off period for new franchisees joining trading schemes) - see

Practice note, Franchising: overview: Trading schemes (www.practicallaw.com/2-107-3749).

Clause 3.2

The European Code of Ethics for Franchising (see above) requires the agreement to include the basis for any renewal

of the agreement. The British Franchise Association Code of Ethical Conduct: Extension and Interpretation states that

the basis for contract renewal should take into account:

The length of the original term.

The extent to which the contract empowers the franchisor to require investments from the franchises for

relinquishment or renovation.

The extent to which the franchisor may vary the terms of a contract on renewal.

The overriding objective is to ensure that the franchisee has the opportunity to recover his franchise specific initial and

subsequent investments and to exploit the franchised business for as long as the contract persists. When drafting this

clause, consider whether the franchisee should have the right to renew an indefinite number of times or only once.

This clause includes a timetable for the service of notices and the right to renew is made conditional on:

Payment of a renewal fee.

There being no material breaches of the agreement by the franchisee or the individual.

There being no grounds on which the franchisor can terminate the agreement under clause 19.

The franchisee and individual having performed their obligations to the reasonable satisfaction of the franchisor.

This condition allows the franchisor some discretion as to whether to renew or not.

Note that, provided that the conditions set out in clause 3.2(a) are fulfilled, the franchisor is effectively under an

obligation to renew the agreement.

From the franchisee's perspective, he will want the right to renew the franchise at the end of the initial term and (if the

franchisor will agree) that the renewal can be exercised without further payment. The right to renew should not be lost

merely for minor breaches of the franchise agreement.

Clause 3.3

Renewal is effected either by the parties entering into the then current form of franchise agreement, or (more rarely) a

simple confirmation in writing. Using the former method allows the franchisor to bring all franchisees into line if there

have been changes to the franchise agreements which it uses during the lifetime of the franchise business. This clause

is drafted, however, to ensure that the franchisee does not have to pay an initial fee, or fulfil its initial obligations, for a

second time. This clause should be considered carefully to see whether it is likely that these obligations should be

included or excluded.

Consider also whether the renewal provisions should be included in the renewed term. If they are, then the franchise

agreement could be renewed perpetually (assuming all other conditions are met). If this is not the intention, amend

clause 3.3(c) by deleting the word "not" which is in square brackets.

Consider adding provisions so that:

Refresher training must be completed by the franchisee and its employees.

The franchisee must pay the legal costs of the franchisor.

The franchisee must refurbish the Premises (although, if this is to be included, note that, under the Lease, the

landlord's consent (if it is a third party) is likely to be required).

The franchisee must give up any claims which it may have against the franchisor.

Clause 3.5

This clause states that the agreement will terminate at the end of the Term. At this point, the provisions of clause 21

(consequences of termination) will take effect.

Clause 3.6

This clause addresses what will happen if the parties allow the agreement to run on after the end of the Term, without

having gone through the formal process of renewal. Consider whether the subsequent right to terminate the agreement

should be exercisable by all of the parties or just the franchisee and the franchisor, and whether the notice periods

should be different for each of them.

Fees: clause 4

Clause 4.1

There are two guiding principles concerning the initial fee, which will vary depending on the type of franchise:

It should not contain a profit element for the franchisor. It is aimed only at reimbursing the franchisor's costs in

setting up and expanding the franchise. If franchisors were to make a profit (or a significant profit) on the initial fee,

the emphasis of their business would be selling franchises rather than ensuring that franchises are profitable.

The "thin air" element, being that part of the Initial Fee which does not relate to the supply of equipment, stock,

training or promotional assistance, should not exceed 10% of the total investment which the franchisee will have to

make. Ultimately, the amount which can be charged by way of an initial fee will depend on the reputation of the

franchisor, the profitability of his franchise, the term granted, whether it contains an exclusive area, and so on. The

average amount is 5% to 10% for a successful franchise.

Consider whether the franchisee should also pay the franchisor's legal fees as a part of, or in addition to, the initial fee.

This may help discourage the franchisee from attempting to renegotiate the franchise agreement.

It may be preferable to stagger payment of the initial fee if it is a large amount.

Clause 4.2

This clause sets out the mechanics of the payment of fees under the agreement.

The Management Fee and the Advertising Levy are calculated as a percentage of the franchisee's takings or, more

usually, receivables. As both of these are based on a percentage of the Gross Monthly Receipts, it will be important to

ensure that they are payable from an appropriate date.

The Management Fee is usually set at around 8%. It reimburses the franchisor for the cost of providing the continuing

backup to the franchisee and provides the franchisor with its profit. If, however, a franchisor is supplying products to a

franchisee at a profit, the franchisor will not usually charge a full management fee. In such a case, the franchisor's mark

-up on products supplied may already contain the franchisor's profit element. If the franchisee is required to purchase

products from the franchisor, this may have competition law consequences. See Practice notes, Franchising:

overview (www.practicallaw.com/2-107-3749) and PLC Competition, Practice note, Transactions and practices: EU

vertical agreements (www.practicallaw.com/9-107-3703) for further information.

The Advertising Levy is usually set at around 2.5% of gross monthly receipts.

Ideally, from the franchisor's point of view, the Management Fee should be paid weekly or monthly, since this will

improve the franchisor's cash flow and enable the franchisor to establish a franchisee's ability to pay the fees at an

early stage.

Note that time is not of the essence for payment of sums, but that non-payment, after being notified in writing to make

such payment, is a ground for termination under clause 20.

Clause 4.5

Include this clause if determination of the Gross Monthly Receipts is likely to lead to dispute. Check the time periods

inserted into this clause to ensure that the timing of payments works.

Franchisor's initial obligations: clause 5

The purpose of the franchisor's initial obligations is to put the franchisee (who probably has no knowledge of the

business to be franchised) in a position to operate the franchised business. Note that additional obligations relating to

training are set out in clause 9, to advertising are set out in clause 11, and to the premises are set out in clause 14.

Clause 5(a) and (b) - Premises

Clause 5(a) should only be included if the parties are not entering into a lease of premises between them. Where this is

the case, check:

Whether the start date is appropriate, or whether the term should only start once a lease for the Premises has been

executed.

The input needed by the franchisee (which may vary), from the selection and refurbishment of existing premises to

the construction and fitting out of new premises.

Check the timing of this clause to ensure that it will work where the Premises have not been identified by the time the

franchise agreement is entered into.

Clause 5(d) − supply of equipment and products

The equipment supplied could include vehicles, machinery, furniture, signage, stationery, IT equipment and

software. Each type of equipment should be considered separately to ensure that any specific provisions relating to

it are included.

On what basis will the equipment be supplied by the franchisor? Who owns it? If the franchisor is to retain title to it,

then the reference to the equipment should be put into a separate clause which should state the terms on which is

it loaned and require the franchisor's interest to be noted on any insurance policy.

Where title to the equipment and other products is to pass, incorporate the franchisor's standard terms of sale,

either by reference or by setting them out in a schedule, and consider whether payment for them should be

included in the Initial Fee.

Clause 5(e) - public relations launch of the franchisee's business

Details of the PR launch should be set out in the Manual or, preferably, in a schedule to the agreement. Consider

whether the cost of this will be covered by the Initial Fee, or whether the franchisor will want to allow for any additional

costs to be reimbursed by the franchisee.

Clause 5(f) - the provision of the franchisor's operations manual

Note that the provision of the Manual is expressed to be on loan, in order to emphasise that the franchisee does not

own the Manual or the intellectual property in it.

Clause 5(g) - local advertising

The parties can agree and insert into this clause the minimum requirements for local advertising, which may specify, for

example, a sum to be spent or the number and type of advertisements to be placed.

Clause 5(h) - provision of the financial package

If a Financial Package is being supplied, check the licensing terms applicable to this and whether the training should

cover its use.

Franchisor's continuing obligations: clause 6

It is advisable to set out in detail the obligations accepted by the franchisor. Franchisees will find it unacceptable to

enter into an agreement where the obligations which they will have to accept are extensive, but are limited in respect of

the franchisor. If the obligations are too vague, the agreement may fall foul of the European Code of Ethics.

Note that additional obligations relating to training are set out in clause 9, to advertising are set out in clause 11, and to

the premises are set out in clause 14.

Clause 6(b)

This clause requires the franchisor to update the Manual and the System from time to time. The aim is to ensure that it

tracks changes in the relevant market and in the legislation affecting it. In exercising its rights and obligations under this

clause, the franchisor should be cautious and should not act to the detriment of the franchisee.

Clause 6(c)

This clause requires the franchisor to supply the Products on its standard terms and conditions in effect at the time of

the placing of the order for those products.

Ensure that these terms and conditions actually exist and, if not, include (preferably in a schedule) the relevant

terms of supply (including terms as to the limitation of liability and exclusion of statutory warranties). (See Standard

document, Terms and conditions for the supply of goods (pro-supplier) (www.practicallaw.com/9-100-9608).)

If the franchisor does have standard terms of supply, ensure that these are available to the franchisee (perhaps in

the Manual) and that all updated versions are made available to the franchisee in a timely manner.

Consider whether the franchisee is to be restricted in the products it can use in the Franchisee's Business. If it is to

be restricted to products supplied by the franchisor or specific suppliers, this may have competition law

implications.

Note that the vertical agreements block exemption only permits such ties as are necessary if, owing to the nature

of the goods, it is not practical to apply objective quality specifications and to protect the franchisor's intellectual

property.

If the vertical agreements block exemption is not available, then this sort of provision will need to be assessed in

the light of Article 101(1) of the Treaty on the Functioning of the European Union (TFEU) (formerly Article 81(1) of

the EC Treaty). It will usually fall outside Article 101(1) if the obligations imposed are necessary to maintain the

common identity and reputation of the franchised network, or there is a transfer of substantial know-how.

Practitioners should note that the definition of "substantial" in relation to know-how in the vertical agreements block

exemption now refers to know-how that is "significant and useful" (Article 1(1)(g), Regulation 330/2010), which

represents a lower threshold than that of the previous vertical agreements block exemption (in which "substantial"

know-how referred to "information that is indispensable"). This is a useful change for franchisors.

For further information, see Practice notes, Franchising: overview: EU competition law (www.practicallaw.com/2-

107-3749) and Distributorships: overview: EU competition law and regulation (www.practicallaw.com/6-107-3648).

Depending on the type of franchise, the franchisor may have to allow the franchisee credit on buying Products, up

to an agreed credit limit. If so, include a definition of "credit limit" (which should cover both financial and time limits).

However, franchisors should use these limits with caution as indiscriminate use could give rise to a claim for

equitable relief if it is shown that the franchisor is withholding supplies from the franchisee, particularly if the

franchisee could not source the supplies from elsewhere (see Sky Petroleum Ltd v VIP Petroleum Ltd [1974] 1 All

ER 954).

Clause 6(d)

This clause requires the franchisor to assist the franchisee in procuring such goods and services (other than the

Products) as are necessary for the purposes of the Franchisee's Business. If this clause is included, take care that the

definition of Products is drafted so that it only includes products supplied by the franchisor. Adapt the wording of the

clause to reflect the agreement between the parties as to the type and extent of help offered.

Consider also whether to include additional obligations on the franchisor relating to:

Consultation.

Creation and promotion of credit card schemes (and, if so, allow for appropriate deductions to be made in the

turnover calculations).

Staff selection assistance.

Provision of standard contracts.

Continuation of research and development.

Equal treatment of franchisees.

Franchisee's obligations: clause 7

In order to maintain the uniform quality of the franchise network and to protect the franchisor's brands, detailed

operating restrictions and obligations are imposed on franchisees in franchise agreements and, in relation to day-to-day

trading, in the franchisor's operations manual. Obligations and restrictions are imposed on all franchisees for the

protection and benefit of franchisees generally, because a franchisee who does not comply with the franchisor's system

may have a detrimental effect on the entire franchise network.

This clause sets out the franchisee's obligations in relation to operating the Franchise's Business. Its obligations in

relation to employees, training, the Premises and so on are set out in separate clauses.

Legal issues

When drafting these provisions, you must consider carefully the provisions of the vertical agreements block exemption.

As drafted, the clause does not comply with the vertical agreements block exemption (see Negotiating and

drafting issues). Therefore, where a large organisation (or an organisation conducting its business in a very narrow

product market) wishes to franchise, it should consider amending this clause by altering or omitting some sub-clauses,

including clauses 7(g), (h), (i), (k), and (n). Practitioners should seek specialist competition advice. For information, see

Practice note, Franchise: overview: EU competition law (www.practicallaw.com/2-107-3749) and Distributorships:

overview: EU competition law and regulation (www.practicallaw.com/6-107-3648).

The requirement for the franchisee to be registered for VAT must take effect before the start date because nearly all

franchise agreements now fall within the scope of the Trading Schemes Act 1996 (which deals with pyramid selling)

and must comply with the trading scheme legislation, unless they fall within one of two exclusions:

Single-tier trading schemes under which all UK participants or franchisees operate at a single level except for the

franchisor.

Where all the franchisees in the network are registered for VAT (regulation 3(a) and (b), Trading Schemes

(Exclusion) Regulations 1997 (SI 1997/31)).

If a franchise agreement falls within the scope of the Trading Schemes Act 1996, a franchisor's freedom of action will

be substantially restricted. For further information, see Practice note, Franchising: overview (www.practicallaw.com/2-

107-3749).

Negotiating and drafting issues

Clause 7(a) should be considered in the light of MMP GmbH v Antal International Network Ltd [2011] EWHC

1120 (www.practicallaw.com/3-506-0855), where the High Court held that, on a true construction of the clause in

question, the franchisor was required to produce evidence of actual damage to its brand caused by the conduct

attributable to the franchisee, which it could not. The franchisor's fear or concern of damage to the brand was

insufficient. The wording of Clause 7(a) protects the franchisor in this situation, as it includes sufficient flexibility,

referring to acts that "could or might" affect the brand, and there is also optional wording which is more in favour of the

franchisor. However, a franchisee might request that the words "sole opinion of the franchisor" be replaced by

"reasonable opinion of the franchisor".

Clause 7(b) is intended to ensure that the franchisee does not slacken its efforts in relation to the Franchisee's

Business. This will be particularly important where the franchisee has an exclusive territory. The clause could be

expanded to refer to specifics - for example, requiring the franchisee to offer a minimum range of goods or services.

Clause 7(c) contains a broad obligation on the franchisee to comply with relevant legislation relating to the Premises.

This could cover, for example, legislation in relation to planning. The Lease itself is likely to have a detailed clause

specifying legislation, where appropriate, as well has containing the general obligation.

Clause 7(g) may take the agreement outside the vertical agreements block exemption where the agreement is not one

of minor importance. For further information, see Practice note, Franchising: overview: EU competition

law (www.practicallaw.com/2-107-3749) and comments on clause 6(c).

Clause 7(h) is included so that the franchisor can protect the integrity of the franchise network, but may take the

agreement outside the vertical agreements block exemption. See Practice note, Franchising: overview: EU competition

law: Hardcore restrictions (www.practicallaw.com/2-107-3749).

Clause 7(i) is included so that all franchisees are supplying the products and services to third parties on the same

terms.

Clause 7(q) could be used by the franchisor to obtain records of sales as well as other business information, such as

customer (and potential customer) lists. Consider specifying the information that is required in the agreement, if it is not

included in the Manual.

Clauses 7(t) to (v) allow the franchisor to ensure that anyone dealing with the franchisee knows that the franchisee is a

separate entity from the franchisor and to protect its intellectual property.

Clause 7(v) is included to ensure that customers of the franchisee are made aware that they are dealing with a

franchisee under licence from the franchisor.

Consider also whether to include additional provisions relating to trading - for example:

Compliance with any credit card scheme that the parties agree should be set up.

Undertaking not to pledge the credit of the franchisor.

Compliance with the franchisor's complaints procedures.

Whether the franchisor be permitted to sell via a website (if it is to have a website, ensure that this is in accordance

with the franchisor's requirements). Note that a prohibition on passive sales (www.practicallaw.com/4-107-6978)

will take the agreement outside the vertical agreements block exemption. Passive sales generally include internet

sales, however the new vertical restraints guidelines now contain guidance on the extent to which restrictions on

the sale of products or services over the internet may fall within the scope of the vertical agreements block

exemption. See Practice note, Franchising: overview: EU competition law: Hardcore

restrictions (www.practicallaw.com/2-107-3749).

Whether any requirements as to the use and updating of software should be included. This will depend on whether

the franchisor requires the franchisee to enter into a separate software licence for the Financial Package and any

other software.

Whether the franchisee will be required to update old equipment as the franchisor thinks fit?

An obligation to consult with the franchisor as to pricing and not to charge more than a maximum amount. A

franchisor may impose maximum resale prices or recommend resale prices, provided neither of these equate to a

fixed or minimum sale price. Any form of price fixing or resale price maintenance will take the agreement outside

the vertical agreements block exemption and will constitute an infringement of Article 101(1) of the TFEU (See

Practice note, Franchising: overview: EU competition law: Hardcore restrictions (www.practicallaw.com/2-107-

3749).)

The extent to which the franchisee should be free to sell the products and services which it produces as part of the

franchisee's business to third parties − will there be any restrictions on selling to third parties, for example, by

limiting sales to end users or other franchisees of the franchisor? If it is intended to include this sort of provision,

consider the competition law implications. See Practice note, Franchising: overview: EU competition

law (www.practicallaw.com/2-107-3749).

Will the franchisee be obliged to pay the franchisor a commission on any sales that it makes as a result of a lead

given to it by the franchisor?

Vehicles: if the franchise business is such that vehicles are required, consider including obligations relating to

vehicle maintenance, licensing and tax and as to the driving standards of the relevant employees.

Employees: clause 8

These obligations are stated to relate to the franchisee's employees, but this should be expanded to cover agents,

consultants and sub-contractors if appropriate.

Training: clause 9

Clause 9.1

It is desirable to set out the franchisor's training obligations in some detail. The initial training is usually provided free of

charge, but further training during the term of the franchise is usually provided subject to the reimbursement of the

franchisor's standard charge. Details of the initial training programme, including the number of people to be trained, the

length and location of the training, the cost to the franchisee and payment terms (if any) should be set out, either in this

clause, in a schedule to the agreement or in the manual.

If a franchisee "fails" the initial training, the franchisor usually reserves the right to terminate the agreement and return

to the franchisee payments which have been made, less all expenses incurred by the franchisor, although sometimes

the individuals are given the right to appoint a manager to undergo training in these circumstances (see clause 20.1(c)).

Clause 9.2

This clause sets out the franchisee's obligations with regard to training.

Consider including specific requirements as to assessment of individuals and reporting to the franchisor any

problems that arise after, or in connection with, training.

Should the franchisor be entitled to call staff in for training on new developments or changes to the System?

Consider whether the franchisor should be obliged to give training in any improvements to the System which it

requires the franchisee to introduce.

Anti-bribery compliance: clause 10

Under section 7 of the BA 2010, a commercial organisation (which includes a company or partnership) commits an

offence if a person associated with it bribes another person, intending to obtain or retain business or a business

advantage for the organisation. A person (A) is associated with a relevant commercial organisation (C) if A is a person

who performs services for or on behalf of C (section 8, BA 2010).

Section 7 is a strict liability offence. The only defence available to the commercial organisation is if it can show it had in

place "adequate procedures" to prevent associated persons bribing others. The BA 2010 does not set out prescriptive

adequate procedures, but the Ministry of Justice has published guidance to assist a commercial organisation putting in

place procedures to prevent persons associated with it from bribery (Guidance).

In the context of a franchise arrangement, in most cases it is unlikely that the risk of a section 7 offence arises because:

A franchisee is unlikely to fall within the definition of "associated person", since the franchisee does not (as such)

supply services back to the franchisor under the franchise agreement. It simply carries on its own business and

pays various fees to the franchisor. In other words, a franchisee performs services for itself, not for the franchisor.

If a franchisee bribes someone (for example, a municipal official in order to obtain planning permission for the

franchise premises), the franchisee could not be considered to have the intent necessary for a section 7 offence

because its intention would be to obtain or retain business or a business advantage for itself, not for the franchisor.

However, there are two situations where there is a risk of the section 7 offence:

If the franchisor operates a national account work system, so that the franchisee obtains work from the franchisor.

If contracts are entered into directly between a franchisor and its franchisees’ customers in respect of which the

franchisee performs services as the franchisor’s agent.

Despite what appears to be a low risk of exposure, it is prudent to include an anti-bribery clause in a franchise

agreement. This is partly because the wording of sections 7 and 8 is far from clear, and the inclusion of an anti-bribery

clause will reduce the risk of exposure arising out of an unexpected future interpretation. In addition, as noted above,

some types of franchise agreement may incorporate other legal structures which might provide the context for section 7

exposure, and it is difficult to predict all the situations in which a franchisee might be considered to be acting as agent

for or supplying services to the franchisor.

In any event, many franchisors will wish to include an anti-bribery clause for ethical reasons even though the

circumstances in which the clause might be legally relevant appear to be limited.

For information on the BA 2010, see Bribery Act 2010: Toolkit. (www.practicallaw.com/9-503-9451)

Clause 10.1(b): outside the UK

If the franchisee (or any of its associated persons) has no "close connection" with the UK and commits bribery outside

the UK, then its activities are not caught by the BA 2010, although any such bribery on behalf of the franchisor might

result in liability for the franchisor under section 7 of the BA 2010. See Practice note, Bribery Act 2010: Territorial

application (www.practicallaw.com/5-500-8692) (section 12) for further information on the territorial scope of the BA

2010 and the meaning of "close connection".

This clause ensures that a non-UK distributor is contractually bound to avoid bribery as defined in the BA 2010, even

though the BA 2010 may not be applicable to it. Clause 10.1(a) combined with this clause obliges the distributor to

ensure that its non-UK associated persons similarly avoid bribery as per the BA 2010.

If the franchisee is UK based and will not delegate, appoint sub-franchisees or subcontract outside the UK then this

clause and the cross reference to it in clause 10.1(d) may be omitted.

Clause 10.1(c): relevant policies

This clause refers to the franchisor's policies, which should be annexed at schedule 9. For advice on creating an anti-

corruption policy, see Practice note, Anti-corruption policies (www.practicallaw.com/9-502-3153). In addition, there may

also be industry codes that the franchisee should comply with.

The franchisee may have its own anti-corruption policies which conflict with or differ from those of the franchisor. In this

case, the franchisor may need to review the franchisee's policies to assess whether they are adequate.

If acting for the franchisee, consider whether the franchisor should bear some of the costs incurred by the franchisee in

complying with changes to the franchisor's policies and whether the franchisee should have the right not to comply with

changes to the franchisor's policies which it has not approved. If acting for the franchisor, note that this is an issue that

is likely to be raised by a well-advised franchisee.

Clause 10.1(d): adequate procedures

The term "adequate procedures" is defined in clause 10.4 by reference to the BA 2010.

Clause 10.1(e): reporting bribes

This clause could be omitted if such an obligation is already contained within either the franchisor's Ethics and Anti-

Bribery Policy which the franchisee has committed to in clause 10.1(c) or the franchisee's own such policies, as

referred to in clause 10.1(d).

Clause 10.1(f): foreign public officials

Section 6(1) of the BA 2010 creates the offence of bribing a foreign public official. A person is guilty of the offence if his

intention is to influence the official in the official's capacity as a foreign public official. A foreign public official is defined

in sections 6(5) and 6(6) of the BA 2010 (and for the purpose of this clause is defined in clause 10.4 by reference to

such sections). Foreign public officials include, among others, government officials and those working for international

organisations. The offence does not cover accepting bribes, only offering, promising or giving bribes. For further

information on the offence see Practice note, Bribery Act 2010: Bribery of foreign public

officials (www.practicallaw.com/5-500-8692) (section 6).

There is no express restriction in the BA 2010 on employing a public official, or on the ownership of a direct or indirect

interest in a company by a public official. The purpose of the notification requirement and the warranty is to flag the

issue and elicit information about any relevant foreign public officials. If the franchisee notifies the franchisor of a

relevant foreign public official then the franchisor should ascertain the identity of the relevant person and their role

within the franchisee, in order to assess the risk of an offence being committed.

However, ideally, enquiries about any relevant public officials should form part of the due diligence conducted by the

franchisor on the franchisee, and should also be included as part of any due diligence questionnaire. Contractual

warranties are no substitute for proper investigation into a prospective partner.

This clause will not be appropriate if the franchisee is an individual.

Clause 10.1(g): monitoring and review

According to the Ministry of Justice Guidance, organisations should have appropriate monitoring and review

mechanisms in place (Principle 6: Monitoring and Review, Guidance). Effective monitoring will, in turn, depend on

effective record keeping; for suggesting record keeping clauses, see Standard clause: Anti-bribery clause (long

form) (www.practicallaw.com/5-504-3582).

This clause 10 does not include audit rights for the principal; it only requires the franchisee to certify its compliance and

provide supporting evidence of compliance on request. For appropriate drafting for a principal to reserve audit rights,

seeStandard clause: Anti-bribery clause (long form (www.practicallaw.com/5-504-3582).

Clause 10.2: supply chain

On a strict construction of the definition of associated person, the franchisee's own associated persons (essentially its

own franchisees, subcontractors and franchisors) may also be associated persons of the franchisor, with the result that

bribery by such persons might result in liability for the principal, unless the principal can demonstrate that it has put

adequate procedures in place to prevent such bribery.

As such, where the arrangement includes a supply chain, a franchisor will need to consider how best to mitigate itself

from this risk. This clause requires the franchisee to extend the anti-bribery compliance obligations to its own agents

and subcontractors, where such persons are performing services in connection with this agreement. This reflects the

approach suggested in the Guidance. According to the Guidance:

Where a supply chain involves several entities, or a project is to be performed by a prime contractor with a series

of subcontractors, a commercial organisation is only likely to exercise control over its relationship with its

contractual counterparty. Indeed, the organisation may only know the identity of its contractual counterparty, and

not of those further down the supply chain.

In this situation, it is likely that persons who contract with that counterparty will be performing services for the

counterparty and not for other persons in the contractual chain (that is, the ultimate customer), suggesting that a

franchisor will not be liable for bribery committed by its franchisee's subcontactors.

The Guidance recommends that the principal way in which commercial organisations may approach bribery risks which

arise as a result of a supply chain is by employing the anti-bribery procedures proposed in the Guidance, for example,

risk-based due diligence and the use of anti-bribery terms and conditions, in its relationship with its contractual

counterparty and requesting that the counterparty adopt a similar approach with the next person in the chain.

In certain circumstances, it may be appropriate to include additional safeguards, for example in high profile transactions

in high risk jurisdictions or sectors, or where the principal has itself selected the subcontractors and the franchisee is

merely acting as the prime contractor for logistical reasons. In such cases, the principal may wish to implement

additional safeguards, see Standard clause: Anti-bribery clause (long form) (www.practicallaw.com/5-504-3582) for

more prescriptive supply chain clauses.

Clause 10.4: definitions

For more information on the significance of adequate procedures and associated persons see Legal Background in Anti

-Bribery Clause (short form) drafting note. (www.practicallaw.com/9-505-7906).

Accounting records: clause 11

This clause details the accounting records the franchisee must keep in respect of the franchise.

The franchisor will usually impose strict provisions concerning accounting and financial information to be maintained

and provided by the franchisee where the franchise fee is calculated on the franchisee's turnover.

VAT returns are usually required to be provided because they enable the franchisor to check the financial information

provided by the franchisee.

Check that the Manual sets out the form that reports are to take. Consider:

Specifying additional financial information that the franchisee should send, as it can be helpful to have a number of

types of report and information so that the franchisor can cross-check the figures that the franchisee sends, for

example:

weekly sales figures;

in retail outlets, the provision of till rolls;

profit and loss accounts on a four-weekly basis.

Including requirements for stocktakes.

Including requirements to accept unsupervised accounting and stock control systems as and when introduced by

the franchisor.

Requiring the franchisee's financial year end to be the same as the franchisor's. (This may cause difficulties for the

franchisor, who may need to vet all his franchisees' accounts in a short space of time.)

Requiring the franchisee to allow the franchisor's accountants to carry out audits and checks on reasonable notice.

Some agreements provide for the cost of the audit to be reimbursed by the franchisee if a discrepancy between the

audited information and that supplied to the franchisor is discovered.

Requiring the franchisee to appoint a firm nominated by the franchisor as auditors (bearing in mind any potential

conflict of interest that firm may have, if appointed on that basis).

Advertising: clause 12

Clause 12.1

Clause 12 sets out the franchisor's obligations relating to advertising the Trade Name and Business nationally and how

the Advertising Levy is to be handled. The clause leaves a significant amount of discretion to the franchisor and does

not set a minimum amount that must be spent on advertising. This will allow the franchisor to concentrate advertising in

one area at a time or to mount a national campaign, as appropriate. Consider specifying that the advertising should

take place in newspapers, television or radio and whether the franchisee should be consulted before an advertising

campaign is started. The franchisor is not allowed to use the Advertising Levy for any other purpose.

Clause 12.2

A franchisee will be required to undertake advertising strictly in accordance with the franchisor's instructions. A

franchisor will wish to ensure that franchisees do not use unauthorised advertisements that could bring the franchisor's

brand into disrepute, or be inconsistent with other advertising undertaken by the franchisor.

Consider adding provisions to cover an obligation on the franchisee to withdraw any advertising, product or packaging

to which the franchisor has objected.

If there are any specific actions, such as mounting displays, distributing promotional material, mail shots and so on, that

are likely to be required, they could be included here.

Telephone numbers: clause 13

For many franchisors, controlling the franchisee's telephone numbers will be very important. This clause gives the

franchisor control of the numbers, but requires the franchisee to reimburse the franchisor for all costs involved.

Consider whether to require the franchisee to enter into a direct debit or standing order to meet these costs.

If the use of telephones is an important part of the franchised business because, for instance, the business is

advertised through the Yellow Pages or similar directory service, consideration should be given to the franchisor

subscribing to the telephone number and being reimbursed telephone charges by the franchisee; alternatively, the

franchisor could obtain from the franchisee an undated but signed instruction to transfer the franchisee's telephone

numbers to the franchisor, who would only use the instruction on termination of the franchise agreement.

Insurance: clause 14

The franchisee will be expected to take out insurance as specified by the franchisor, covering, in particular, liability for

employees and to third parties, damage to property and loss of profits. The franchisor should ensure that its

franchisees are adequately insured because, as they will be trading under the franchisor's name and it may not always

be clear to the franchisee's customers that the franchisee and the franchisor are independent legal entities. The

franchisee's customers may seek to argue that they were, in fact, dealing with the franchisor (who is likely to be more

substantial than the franchisee) and not the franchisee, but if the franchisee is insured and can meet all claims from

customers, they will not find it necessary to pursue the franchisor. In order to ensure that the franchisee has adequate

cover, the franchisor should consider having its interest noted on the policies and requiring the franchisee to supply

copies of all policies to the franchisor.

Ensure that the insurance provisions in the franchise agreement tie in with the insurance provisions in the Lease.

Premises: clause 15

This clause sets out the arrangements for the Premises.

Note that as the Lease is currently defined, the franchisor is the landlord and that the Lease will be entered into on the

same date that the franchise agreement is signed.

If this is not the case, then it may be necessary to include provisions relating to:

The search and selection of premises or a site for the construction of premises.

The fitting out of premises.

Legal issues

Property

Under Part II of the Landlord and Tenant Act 1954 (LTA 1954), a tenant occupying premises for the purpose of its

business generally has a right to renew its tenancy at the end of the term. The landlord can only oppose renewal on

certain, limited grounds. The Regulatory Reform (Business Tenancies) (England and Wales) Order 2003 (SI

2003/3096) enables a landlord and tenant who are intending to enter into a tenancy for a certain term to agree that

sections 24-28 of the LTA 1954 (which relate to continuation) will be excluded from the tenancy by following one of two

procedures:

Advance notice procedure.

Statutory declaration procedure.

If one of these procedures is followed, the agreement will be valid and effective.

Where the franchisor and franchisee are to enter into a lease, one of these procedures should be adopted and the

appropriate clause inserted. Note that both procedures require a notice period. In the case of the advance notice

procedure, the tenant should have sufficient time to ensure that it appreciates that it will be abandoning its renewal

rights by entering into an agreement to surrender. The prescribed form of warning notice encourages the tenant to take

at least 14 days to consider. Under the statutory declaration procedure, if the tenant gets less than 14 days notice

before it enters into the agreement to surrender, it cannot make a simple declaration, but has to make a statutory

declaration instead.

For this reason, the standard document states that the lease must be entered into 15 days after the date of the

franchise agreement (see clause 2.2). If the Lease is not executed by then, this will be a material breach allowing the

franchisor to terminate (see clause 21.2).

For further information, see PLC Property, Practice note, Business tenancies − new procedures for excluding security

of tenure (www.practicallaw.com/8-107-4901).

CRC Efficiency Scheme

See discussion at clause 16.

Negotiating and drafting issues

In some franchises (for example, retail outlets and restaurants), the premises will be extremely important. If this is the

case, the franchisor will want to have a right to require them to be maintained and even decorated in a specific manner

and to a specific standard. It may also reserve the right to inspect the premises to ensure that these standards are

being maintained.

The practicality of the provisions set out in clause 15.(a), (b), (e), (f) and (g), and whether the franchisee can give these

undertakings, should be carefully considered where the franchisee is to enter into an arm's length lease with a third

party landlord, as they may conflict with the terms of a standard, open market commercial lease.

Consider whether a requirement to insure the Premises should be specifically included here (bearing in mind the terms

of the Lease, particularly where it is with a third party).

Clause 15.(e) requires the franchisee to display a sign at the Premises and may need to be made subject to relevant by

-laws or planning consents (as well as the lease).

CRC Energy Efficiency Scheme: clause 16

This clause deals with the franchisee's obligations under the franchising rules of the CRC, where it applies. Broadly, in

certain circumstances, a franchisor may be responsible for the energy supplies of its franchisees, and required to

participate in the CRC together with its relevant franchisees. The CRC treats franchisors and franchises in a similar

way to a corporate group, with the franchisor as the "parent undertaking" being required to comply and take

responsibility for the energy supplies to its franchisees.

The CRC rules are complex and must be considered for any franchise arrangement. Broadly, a franchise agreement

subject to the CRC exists where four elements are met:

There is an agreement (whether or not in writing) between two separate undertakings for the sale or distribution of

goods, or the provision of services.

The franchisee carries out business using the name provided by the franchisor.

The premises where the franchisee carries out the franchise business are used exclusively for that business.

The presentation of those premises must have an internal or external appearance agreed by the franchisor and it

must be similar to that of other premises operating a franchise business under an agreement with the franchisor.

Franchises which meet all four of these rules are required to participate in the CRC. There are however certain

exemptions and exclusions, which are not discussed in this drafting note. For detailed discussion, see Practice note,

Franchising: overview, CRC Energy Efficiency Scheme (www.practicallaw.com/2-107-3749).

As currently drafted, the definition of Lease assumes the franchisor is the landlord. However, this standard is silent

about which party is responsible for energy supplies with energy providers. This is a matter to be clarified during

negotiations.

Where the franchisee is a tenant, and its landlord (who is not the franchisor) is responsible for procuring the

franchisee's energy supplies on the franchisee's behalf, the landlord will be responsible for the franchisee’s energy

supplies under the CRC (and its rules regarding landlords and tenants), not the franchisor. The same will apply if

the franchisee is a licensee and its licensor procures its energy supplies.

This clause 16 should be included if the franchisee is responsible for its own energy supplies (see clause 16.6).

Note that the term CRC Franchising Rules is defined to mean the specific rules applying to franchises under the

CRC Order.

See further information about the interaction of the franchising rules and the landlord and tenant rules, see CRC

Energy Efficiency Scheme: impact on corporate structures: Interaction of the Franchise rule with other rules of the

CRC (www.practicallaw.com/7-500-5975).

Clause 16 is adopted from Standard clause, Franchise agreement: CRC Energy Efficiency

Scheme (www.practicallaw.com/4-502-8092), which includes detailed drafting notes and discussion on the CRC as it

applies to franchises.

Clause 16.1

Clause 16.1(a) should only be used if the franchise agreement (under the CRC) is a renewal of an existing franchise

agreement with a party who was already a franchisee on the qualification day of the introductory phase (that is, 31

December 2008). If the franchise agreement did not exist on that date, do not include this clause.

For more information about the phases and the qualification years for each phase referred to in clause 16.1(b), see the

CRC Energy Efficiency Scheme: PLC timeline (www.practicallaw.com/5-500-7843).

Clause 16.2

Clause 16.2(a) requires energy supply information to be provided by the franchisee, irrespective of whether the

franchisor has made a request. A franchisor should avoid having to request the information, as the disadvantage of this

approach is that if the franchisor neglects to ask for the information, for any reason, the franchisee will not be in breach

of the clause. Note that the franchisor must inform the franchisee if it is required to participate in the CRC.

You should ensure that the date in brackets in the first option allows sufficient time for the franchisor to comply with its

own obligation to produce its footprint reports and annual report by the end of July of the relevant year.

In relation to clause 16.2(b), under article 66 of the CRC Order, the franchisee must provide the franchisor with

information and assistance for it to comply with its own obligations under the CRC, but does not set a time frame by

when such information or assistance should be provided by the franchisee. Franchisors may wish to specify a time for

franchisees to respond to their requests.

Clause 16.3(b)

Where a franchise agreement (under the CRC) exists on the qualification day of a phase (that is the last day of the

qualification year) the franchisor will need to include information about the electricity supplies to the relevant franchisee

when assessing if it is required to participate in that phase of the CRC so it will need to have information about the

electricity supplies to the franchisee for the entire year (paragraph 11 of Schedule 1 to the CRC Order).

Clause 16.5

As the party responsible for the franchisee's energy supplies under the CRC, the franchisor will be subject to any

enforcement action taken by the administrator of the CRC (that is, the relevant regulator) if the information provided by

the franchisee is inaccurate (or not provided at all), so it will want to ensure that the franchisee is contractually required

to ensure that the information provided is accurate.

From the franchisee's perspective, it does not want this obligation to be too onerous as it may be relying on information

that it has received from its energy suppliers. A franchisee may prefer to amend this clause to make it a warranty "to

the best of its knowledge" or a lesser standard, such as "all reasonable endeavours".

Clause 16.6

As discussed above, the specific franchising rules in the CRC do not apply where the franchisee is a tenant and his

landlord procures all of the franchisee's energy supplies. In such cases, the CRC rules regarding landlords and tenants

will apply. If the franchise premises change and the new premises are leased where the landlord (who is not the

franchisor) procures the energy supplies to those premises on the franchisee's behalf, those supplies will be the

responsibility of the franchisee's landlord under the CRC so the franchisor would cease to be responsible for those

supplies under the CRC and would want to be informed of that so it could reflect this change in its next annual report.

Clause 16.7

As the participant in the CRC, the franchisor may be subject to audits from the administrator, and is required to keep:

All the records required to be kept by Part 7 of the CRC Order for seven years after the end of the phase to which

they relate; and

Its records regarding its first footprint report and annual report and its position in the first league table for the first

year of the CRC that the franchisor is a participant for as long as it participates in the CRC.

A franchisee may want to conduct meter readings to verify the information provided by the franchisee, and will need

access to meters in order to do so.

Clause 16.8

The franchisor will want to recoup any penalties or fines imposed upon it due to a franchisee's failure to provide

information, or as a result of it providing inaccurate information to the franchisor.

The administrator can take enforcement action against a franchisee itself (although it is not a participant in the CRC),

where the franchisee has failed to provide information to the franchisor:

If a franchisor has tried to obtain the information it needs to comply with the CRC from its franchisee, but the

franchisee has not co-operated, the administrator has the power to serve an enforcement notice on the franchisee

and require it to provide the data to the franchisor.

If the franchisee does not comply with the enforcement notice, the administrator can provide the franchisor with the

assistance or information that was required and recover the costs from the franchisee.

The administrator may waive the penalty that the franchisor faces for its non-compliance if it is satisfied that the

franchisor has taken all reasonable steps to comply with the CRC Order.

Clause 16.9

Franchisors and franchisees are free to enter into whatever commercial arrangements they think are most appropriate

for them in relation to the CRC. The franchisor can pass on the costs of the CRC to their franchisees. A franchisor may

decide to require that its franchisee pay a fair and reasonable proportion of the charges incurred by the franchisor in

registering for and participating in the CRC.

This clause 16.9 provides a simple clause to deal with these costs. Note that as an amount has not been included in

the clause, a franchisee may ask for independently audited reports confirming the accuracy of the amount it has to pay.

Intellectual Property: clause 17

This clause sets out provisions relating to the intellectual property of the franchisor and any trade marks which the

franchisor may license to the franchisee.

Clause 17.1

The franchisee will want the franchisor to warrant that it is entitled to license any trade marks to the franchisee without

infringing any third party rights, that all application and renewal fees have been paid and the Trade Marks maintained

and protected, and that no similar trade marks have been registered. Care should be taken in giving any such

warranties, unless the franchisor's trade marks are registered and have been established for a considerable period of

time. The franchisee may also want the warranty to be coupled with an indemnity against loss arising out of any claim

that the franchisee's use of the Intellectual Property in accordance with the agreement infringes the rights of any third

party.

This clause sets out a qualified warranty that the franchisor does not know of any reason why the licence to use the

Intellectual Property and Trade Marks should not be given and that it is not aware that use of them would infringe any

third party rights.

Clause 17.2

This clause relates to the execution and registration of the Trade Mark licence. If other forms of intellectual property are

important to the business, then this clause should be expanded to cover other relevant licences.

The clause allows, in the alternative, for a licence to be entered into immediately or if and when the franchisor requires.

Although licences are registrable transactions under the Trade Marks Act 1994 (TMA), there is no statutory requirement

that they must be registered. However, it is desirable for a licensee to ensure that the transaction is recorded, since it

will otherwise be ineffective against a third party acquiring a conflicting interest in the mark. Note that, if a licence is not

registered within six months of the date of the transaction, the licensee has no right to its costs relating to any

infringements occurring in the period from the date of the transaction to the date of registration of the licence.

Registration would usually provide a statutory right (in the absence of any contrary agreement) to bring infringement

proceedings in default of an action by the registered proprietor (section 30(2) and (3), TMA), but clause 17.6 excludes

any rights that the franchisee has under that section.

Consider whether the licence should be registered in other jurisdictions.

For more information on registration of licences, see PLC IPIT & Communications, Practice note, Registration of

interests in UK trade mark applications and registrations (www.practicallaw.com/6-201-3390).

For information on the international protection of trade marks, see Practice note, Trade marks: Registration and

portfolio management: Options for protecting trade marks internationally (www.practicallaw.com/0-505-3578).

Clause 17.4

The franchisor keeps the goodwill in order to preserve its ability to bring a passing off action, if necessary. The claimant

in a passing off action must show that he is the owner of the goodwill of the business. For further information, see

Practice note, Franchising: overview: Passing off (www.practicallaw.com/2-107-3749).

Clause 17.5

This clause is useful to the franchisor because the franchisee is more likely to notice infringements than the franchisor.

Clause 17.6

See comments on clause 17.2. As the franchisor has a vested interest in preserving the value of its trade marks, it will

want to have the power to decide when to bring infringement claims and how any proceedings should be conducted.

Sale of business: clause 18

This clause sets out what is to happen if the franchisee wishes to sell the Franchisee's Business or if the individual

wants to sell his shares in the franchisee. In order to protect the goodwill in the Trade Marks and the Business

generally, the franchisees should not be able to transfer their businesses freely. However, as part of the attraction of a

franchise is the ability to create and grow a business which has intrinsic sale value, the agreement must be sufficiently

flexible to allow the franchisee to sell its business to a suitable buyer.

Check the franchisee's articles of association and consider getting a warranty that there are no arrangements or

agreements under which the shareholders of the franchisee are obliged to transfer their shares in any manner other

than as permitted by the franchise agreement.

If the Lease is with a third party landlord, check its provisions relating to obtaining the landlord's consent to assign.

If the franchisee or individual are to be allowed to sell, should this right be restricted to a sale of the whole of their

interest in the Franchisee's Business or shares, or should they be allowed to sell part of their interest?

Clauses 18.1 and 18.4

Under this clause, the franchisee is obliged to inform the franchisor of any bona fide offers that it receives and to make

the franchisor an offer to sell the Franchisee's Business on the same terms. Consider what will happen if the franchisee

receives more than one bona fide offer. Will the franchisor be obliged to match the best of the offers or be entitled to

choose which offer it will match?

The offer period should be fair to both parties, allowing sufficient time for the franchisor to consider whether it wants to

buy the Franchisee's Business itself or to find an alternative buyer. It should not be so long, however, as to result in the

buyer losing interest.

Consider adapting clause 18.1 so that the franchisee is entitled to sell all (but not part) of the Franchisee's Business

and clause 18.4, so that the individual can sell all (but not some only) of its shares, in order to avoid a fragmentation of

the ownership of the business or shares (as may be).

Consider the best method of valuing the business; this may vary from business to business. For example, the valuation

of net assets is of little use in valuing businesses where much of the value is tied up in goodwill or other intangible

assets, such as brands, or where assets are hidden "off balance sheet". In these cases, a discounted cash flow method

or market multiple method will be more appropriate. For further information on valuing a business, see Practice note,

Valuing a business: acquisitions (www.practicallaw.com/8-107-3751).

Clause 18.2

The obligation on the franchisee to give information to the franchisor should be included whether or not the offer to sell

to the franchisor is on the same terms and conditions as the third party offer, as the franchisor will need this information

to judge whether the market value is acceptable.

Clause 18.4

Note that the basis of valuation of shares should relate to the proportion of shares sold.

Consider whether this clause should require the franchisee to sell the business rather than the shares, at the

franchisor's option.

Clause 18.6

This clause sets out the conditions that must be fulfilled before the sale to a third party can take place. The franchisor is

only obliged to give consent to the sale if the franchisee has not breached the terms of the agreement. If complete

(rather than substantial) performance is required, this may be hard on franchisees who are prohibited from selling due

to minor breaches.

Note that, in entering into a new agreement, the buyer will then be subject to all the terms of a franchisee, including

initial training requirements of its staff. The franchisor should ensure that any conditions which it would expect a new

franchisee to comply with are covered in its standard form franchise agreement.

In relation to paragraph (d), beware that this might give rise to financial assistance implications if the individual is selling

his shares and the franchisee is a public company (which is unlikely). Consider changing this so that the individual pays

the franchisor's costs where shares are sold.

On 1 October 2008, sections 151 to 153 (financial assistance prohibition) and 155 to 158 (whitewash procedure) of the

Companies Act 1985 were repealed in so far as they applied to the giving of financial assistance by a private company

for the purposes of the acquisition of shares in itself or another private company (section 1295, and Schedule 16,

Companies Act 2006 and Article 5(2), The Companies Act 2006 (Commencement No. 5, Transitional Provisions and

Savings) Order 2007).

From 01 October 2009, section 677 to 683 of the Companies Act 2006 will apply. These set out the financial assistance

prohibition on public companies and their subsidiaries and replace the similar (repealed) provisions in sections 151 to

154 of the Companies Act 1985, so the financial assistance prohibition on public companies will continue to apply

under the Companies Act 2006 (see Practice notes, Financial assistance: Companies Act

2006 (www.practicallaw.com/2-202-4475) and Financial assistance: 1 October 2008 (www.practicallaw.com/8-382-

5504)).

Consider additional conditions, such as the buyer being properly registered for VAT.

Clause 18.7

This clause requires the purchase price to be paid by the purchaser to the franchisor as agent, and permits the

franchisor to deduct monies owing to it. The British Franchise Association discourages such provisions. As an

alternative, the franchisee could pay a "finder's fee" to the franchisor if the franchisor introduces the purchaser, as the

franchisor will be forgoing its Initial Fee.

Death or incapacity of individual: clause 19

This clause sets out what happens if the individual, or if the franchisee (if the franchisee is an individual), dies or is

incapacitated.

The individual will usually be a majority shareholder and a director of the franchisee, and is therefore key to the

success of the franchisee's business. On his or her death, the franchisor will want to be able to protect the goodwill in

the Trade Marks and the franchisor's business generally, which means that on such death or incapacity, the individual's

shares should not automatically transfer to its beneficiaries or nominated third parties because they may not be suitable

franchisees. It is therefore essential to check the transmission provisions in the franchisee's articles of association and

any shareholders' agreement.

A franchisee's family or personal representatives may wish the Franchisee's Business to continue to operate because

this increases the value of the business if it has to be sold. Further, a franchisor may not wish a franchise outlet to

cease trading because of the adverse public relations consequences.

The standard document assumes that there is only one individual. However, if there is more than one individual, it may

be permissible, on the death of one of them, for his shares to be transferred to the other individual(s). However,

consider adapting this clause so that it takes effect on the death of the last surviving individual, or any individual that is

considered key to the success of the franchise.

Clause 19.1

This clause works by applying to the transfer by the personal representatives the same provisions as if the individual

were transferring his shares. Note that, by applying the provisions of clauses 18.4 onwards, it applies not only to the

shares held by the individual, but also those held by his family members. Check that the individual has arrangements

(for example, in trust deeds or shareholders agreements) in place to enable him and his personal representatives to

fulfill their obligations under this clause. Consider whether the time scales allowed for in clause 18 will be sufficient in

the case of a death of the individual. It may be prudent to allow for a longer period during which decisions are to be

taken.

The clause will need to be adapted if the franchisee is an individual, so that it refers to a transfer of the Franchisee's

Business rather than his shares in the franchisee.

This standard document assumes that there is one individual. If there are several, this clause will require adaptation.

Consider, as an alternative to this clause, a provision whereby the death of the individual results in the termination of

the agreement, with repayment of the Initial Fee, and the franchisor being obliged to take reasonable steps to find a

buyer for the Franchisee's Business and/or buy the franchisee's business (or individual's shares) at market value (with

a discount) if no transfer has been arranged within a specified period.

Clause 19.2

Clause 19.2 allows the franchisor to appoint a manager of the Franchisee's Business in the event that the individual is

unable to run the business himself. Consider whether this clause should include:

A provision allowing the franchisor to run the Franchisee's Business as the franchisee's agent, rather than appoint

a manager.

A cap on, or formula for, the amount that the manager should be paid.

A limit on the time during which the manager will be in place.

Provision for indemnifying the franchisor for all actions taken by it or the manager under this clause.

A provision whereby the franchisor can withdraw the services of the manager.

Confidentiality: clause 20

For information on this clause, see Confidentiality: drafting note (www.practicallaw.com/8-107-3831).

Termination: clause 21

Because a franchisee will be trading under the franchisor's name, this provision should allow the franchisor to terminate

speedily if a franchisee is failing to perform adequately. This enables the franchisor to terminate a franchise before

serious damage to the network is done.

Clause 21.1

This clause sets out the matters which will entitle the franchisor to terminate the agreement.

Clause 21.1(u) permits the franchisor to serve notice to terminate on the franchisee and the individual if the court has

made an order or appointed a deputy under section 16 of the Mental Capacity Act 2005 (MCA) in respect of the

individual.

Section 16 of the MCA applies if a person lacks capacity (as defined in section 2, of the MCA) in relation to a

matter concerning his personal welfare or his property and affairs.

Under section 2 a person lacks capacity in relation to a matter if at the material time he is unable to make a

decision for himself in relation to the matter because of an impairment of, or a disturbance in the functioning of, the

mind or brain. Assessment of a person’s capacity must be based on their ability to make a specific decision at the

time it needs to be made, and not their ability to make decisions in general.

If section 16 applies, the court may, by making an order, make decisions on his behalf, or appoint a person (a

deputy) to make decisions on his behalf, in relation to the matter.

Clause 21.1(u) is drafted so that the franchisor can give notice only when the Court of Protection actually makes an

order or appoints a deputy. It does not allow for notice to be given when the franchisor takes the view that the court

could make an order if an application were made to it. It does not require that the order or appointment is made in

relation to lack of capacity in relation to the franchise and its business.

The franchisor should exercise this right with care, to ensure that it does not fall foul of disability discrimination

legislation. For further information on discrimination issues, see PLC Employment, Practice note, Disability

discrimination. (www.practicallaw.com/1-200-4246)

In clause 21.1(v), consider including a definition of change of control.

Note that termination of the trade mark licence is a ground for terminating the franchise agreement − consider whether

the reverse should also be true.

For an alternative termination clause, see Standard clause, Termination (www.practicallaw.com/3-107-4673) and its

accompanying drafting note (www.practicallaw.com/8-102-4280).

Clause 21.2

This clause sets out the clauses, a breach of which is agreed to be material and so gives rise to a right of termination

under clause 21.1(b). Consider carefully whether any additional clauses should be added to this list.

Consider adding:

A power for the franchisor to operate the franchise as agent for the franchisee until the date of termination, if the

franchisee ceases to do it itself.

Automatic termination of the agreement if the franchisee ceases to be registered for VAT.

A liquidated damages clause for breach.

A power of suspension if the franchisor has reason to believe that the franchisee and individual are in breach of the

agreement.

Conditions following termination: clause 22

This clause sets out what is to happen following termination of the agreement. This clause does not differentiate

between a termination through expiry of the term or termination under clause 21. If the franchisor wants to make such

differentiation, this clause will need amending.

If there is to be a separate trade mark licence, ensure that this is drafted so that it automatically terminates on

termination of the franchise agreement.

Also consider provisions allowing the franchisor to operate the Franchisee's Business after termination or expiry of the

franchise. This provision could either state that the benefit of the business should vest in the franchisor, or that the

franchisor will run it as the agent for the franchisee until, for instance, a buyer has been found for it. Such a provision

will usually state that the franchisee is indemnified against liability for any expense of the business from the date of

transfer. The franchisee should be required to take steps to transfer the ownership of the property and assets to the

franchisor (or as it may direct), together with any lease or other agreements relating to the business.

It is also advisable to insert a provision whereby the franchisee indemnifies the franchisor against any claims under the

Transfer of Undertakings (Protection of Employment) Regulations 2006 (SI 2006/246).

Clause 22.1

This clause lists the clauses in the agreement that will survive termination. The clauses referred to here are

suggestions only, and you must check that their inclusion is appropriate and include any others.

Clause 22.3

In relation to clause 22.3(b), consider whether the franchisee should have a right to continue to sell the Products for

which it has paid for an agreed period (which should reflect the usual lead times in the relevant business).

Clause 22.4

This clause allows the franchisor to repurchase the Equipment that it supplied under clause 5. Check whether this

Equipment is to be sold or loaned under that clause and whether it will be appropriate to allow the franchisor to

repurchase it.

Restrictions: clause 23

This clause contains restrictive covenants on the franchisee during the life of the franchise and for an agreed period

after the end of the term.

A franchisor will have provided a considerable amount of confidential information, which would enable a franchisee to

be an effective competitor; accordingly, restrictive covenants are imposed on franchisees. The vertical agreements

block exemption, if applicable, limits a franchisor's ability to impose restrictive covenants, but, subject to this, English

courts are likely, in applying the test of reasonableness, to view restrictive covenants in franchise agreements in the

same way as covenants in business sale agreements and not like covenants in service agreements. This means that

franchisors may well obtain protection from competition.

Legal issues

It is not possible to set out firm rules for ensuring that a restrictive covenant will be enforceable, but the following

matters should be taken into consideration:

The duration of the covenant should be influenced by the amount of confidential information provided to a

franchisee. The greater the extent of the confidential information, the longer the covenant can be.

The duration of restraint should be limited to the minimum period which would be sufficient, effectively to disrupt

the franchisee's ability to carry on a similar business with his existing customers - a one or, at the most, two year

limitation is suggested.

The geographical area of the non-compete covenant should be limited to the "catchment area" of the Franchisee's

Business (usually the Territory). If 80% of the franchisee's customers live within ten miles of the franchise

premises, it would be unwise to extend the covenant further.

Is a covenant prohibiting competition against the franchisor's other franchisees really required? If an ex-franchisee

does compete with other franchisees (and such instances are rare), the ex-franchisee is entering a new market and

is unlikely to provide real competition to an existing franchisee.

Where Article 101 applies to the agreement, these restrictions will take the agreement outside the scope of the

vertical agreements block exemption. See Practice note, Franchise: overview: EU competition

law (www.practicallaw.com/2-107-3749) and Distributorships: overview: EU competition law and

regulation (www.practicallaw.com/6-107-3648).

Consider whether the manufacture and sale of spare parts or accessories for the Products sold by the business

should be specifically excluded in order to ensure that this clause does not offend competition law.

A restrictive covenant in a franchise agreement was considered by the Court of Appeal in Chipsaway International

Ltd v Errol Kerr [2009] EWCA Civ 320 which, although poorly drafted, was held to protect goodwill and allow the

franchisor sufficent time to find a new franchisee (that it did not seek to find a replacement franchisee was

irrelevant) (see Legal update, Court of Appeal reverses decision on meaning of restrictive convenant in franchise

agreement (www.practicallaw.com/9-385-8396)).

In Pirtek (UK) Ltd v Joinplace Ltd (t/a Pirktek Darlington) & Ors [2010] EWHC 1641, the High Court dismissed a

competition defence against an alleged breach of a restrictive covenant in a franchise agreement. The restrictive

covenant imposed a one year post-termination restriction on participation in a similar or competing businesses, and

the court held that the restriction was necessary to prevent the risk that know-how and assistance provided by the

franchisor to the franchisee would, after termination, be used to aid the franchisor's competitors. As such, it did not

constitute a restriction of competition under Chapter I of the Competition Act 1998, nor a restraint of trade at

common law. See Legal update, High Court rules that restrictive covenant in franchise agreement did not breach

competition law or restrain trade (www.practicallaw.com/8-502-7378).

Negotiating and drafting issues

Consider:

To what extent the restrictions should apply in the event that termination is the fault of the franchisor.

Expanding the meaning of Restricted Customer to include customers of the franchisor and its other franchisees.

Adding a provision to the effect that the franchisee and individual will not, during the term, without the previous

consent of the franchisor (not to be unreasonably withheld) engage, or be involved, in any other business than the

Franchisee's Business. If this is included, clause 23.2(b) may need adapting.

Indemnity: clause 24

This clause provides for the franchisee to indemnify the franchisor for any losses, costs and expenses incurred by the

franchisor due to the default of the franchisee. Note that the indemnity is not subject to any financial cap, and is very

widely drafted.

For alternative clauses and a consideration of indemnity provisions, see Standard clause,

Indemnity (www.practicallaw.com/1-107-3797) and its accompanying drafting note (www.practicallaw.com/9-107-3798).

Individual's guarantee and covenants: clause 25

Consider expanding clause 25.4 to state that the guarantee shall:

Continue notwithstanding any intermediate performance, payment, or settlement of account from time to time.

Extend to cover the ultimate balance due from the franchisee to the franchisor under the agreement.

Not merge with, or be affected by, any other right or remedy, collateral instrument or other security available to the

franchisor.

Clause 25.5 is commonly referred to as a non-competition clause or a deferral of rights clause. It is intended to ensure

that the franchisor does not have to compete with the Individual (the guarantor) for the franchisee's assets in the event

of the franchisee's insolvency. Clause 25.6 is logically associated with clause 25.5.

The leading case in connection with the issues which arise out of this kind of clause is the Supreme Court decision in

Re Kaupthing Singer and Friedlander Ltd [2011] UKSC 48. For a report on the case see Legal update, Lenders rejoice

as the rule against double proof prohibits operation of the rule in Cherry v Boultbee (www.practicallaw.com/8-509-

6055). PLC has published a report on the practical implications of the judgment (see Legal update, Practical

consequences of the Supreme Court ruling on double proof and Cherry v Boultbee (www.practicallaw.com/3-510-

7570)). The main conclusion in terms of non-competition clauses is that the Supreme Court decision reduces the

significance of non-competition clauses in guarantees, but does not provide a reason for dispensing with or modifying

such clauses. For a more detailed treatment of this topic and guarantees in general see Practice Note: Overview,

Guarantees and indemnities (www.practicallaw.com/9-200-1437).

Entire agreement: clause 26

This clause seeks to prevent parties from being liable for statements or representations that have not been made part

of the written agreement. See Entire agreement: drafting note (www.practicallaw.com/9-107-3835) for consideration of

entire agreement provisions.

Great care needs to be taken when drafting a clause which provides that a franchisee has not relied on any

representations made by a franchisor, or that the franchise agreement contains the "entire agreement" between the

parties. An "entire agreement" and "no representation" clause should be drafted in such terms as to ensure that its

meaning is clear, and that it would not fall foul of the reasonableness test in UCTA (see Practice note, Supply

contracts: overview (www.practicallaw.com/0-107-3646)).

Further assurance: clause 27

See also Standard clause, Further assurance (www.practicallaw.com/9-107-3816) and its accompanying drafting

note (www.practicallaw.com/7-107-3817) for consideration of further assurance provisions.

Data protection: clause 28

This clause sets out the franchisee's obligations in relation to personal data processed in connection with the

agreement.

Assignment: clause 29

See Standard clause, Assignment (prohibited with exceptions) (www.practicallaw.com/5-107-3823) and its

accompanying drafting note (www.practicallaw.com/0-107-3825) for consideration of such provisions.

Rights of third parties: clause 30

For consideration of such clauses, see Third party rights: drafting note (www.practicallaw.com/2-107-3848).

No partnership or agency: clause 31

See Standard clause, No partnership or agency (www.practicallaw.com/4-107-3814) and its accompanying drafting

note (www.practicallaw.com/1-107-3815) for a consideration of such provisions.

Force majeure: clause 32

See Standard clause, Force majeure (www.practicallaw.com/6-107-3808) and its accompanying drafting

note (www.practicallaw.com/4-107-3809) for a consideration of such provisions.

Set-off: clause 33

See Standard clauses, Set-off (excluded) (www.practicallaw.com/7-107-3803) and Set-off

(permitted) (www.practicallaw.com/9-107-3802) and their accompanying drafting note (www.practicallaw.com/1-107-

3801) for a consideration of such provisions.

Default interest: clause 34

See Standard clause, Interest (www.practicallaw.com/3-107-3800) and its accompanying drafting

note (www.practicallaw.com/7-107-3799) for a consideration of such provisions.

Severance: clause 35

See Standard clause, Severance (www.practicallaw.com/9-107-3840) and its accompanying drafting

note (www.practicallaw.com/7-107-3841) for a consideration of such provisions.

Variation: clause 36

See Standard clause, Variation (www.practicallaw.com/3-107-3838) and its accompanying drafting

note (www.practicallaw.com/1-107-3839) for a consideration of such provisions.

Waiver: clause 37

See Standard clause, Waiver (www.practicallaw.com/0-107-3806) and its accompanying drafting

note (www.practicallaw.com/8-107-3807) for a consideration of such provisions.

Expert: clause 38

Consider whether this clause should set out matters that the expert should and should not take into account in making

his valuations, for example, in valuing the franchisee's business for the purpose of clause 17, that it should be valued

as a going concern.

See Standard clause, Expert determination (www.practicallaw.com/2-101-6424) and its accompanying drafting

note (www.practicallaw.com/3-107-4692) for a consideration of such provisions.

Counterparts: clause 39

See Standard clause, Counterparts (www.practicallaw.com/1-107-3844) and its accompanying drafting

note (www.practicallaw.com/8-107-3845) for a consideration of such provisions.

Notices: clause 40

This clause sets out the procedure for the service of notices by one party or the other.

Note that the standard document assumes that all parties have addresses for service of notices in the UK. If this is not

the case, then provision for delivery by airmail should be added.

See Standard clause, Notices (www.practicallaw.com/5-107-3842) and its accompanying drafting

note (www.practicallaw.com/3-107-3843) for a consideration of such provisions.

Alternative dispute resolution: clause 41

Consider including this alternative dispute resolution clause so that the parties have a constructive way of resolving

disputes without immediate recourse to the courts. This can help preserve working relationships.

See Standard clause, Alternative dispute resolution (www.practicallaw.com/9-107-3859) and its accompanying drafting

note (www.practicallaw.com/3-107-3862) for a consideration of such provisions.

Governing law and jurisdiction: clause 42

See Standard clause, Governing law and jurisdiction (www.practicallaw.com/8-107-3850) and its accompanying

drafting note (www.practicallaw.com/4-107-3852) for a consideration of such provisions.

If you are drafting a standard form (non-negotiated) agreement or terms and conditions, the choice of governing law for

non-contractual obligations may be ineffective. This is because this right of choice (provided by Article 14(1)(b) of

Regulation (EC) No. 864/2007 on the Law Applicable to Non-Contractual Obligations (Rome II)) applies to agreements

that are “freely negotiated”. Although the term “freely negotiated” has not been defined in Rome II, its requirement

creates uncertainty over whether a non-contractual obligation governing law clause in standard form agreements will be

effective. For further information about Rome II, see Practice Note, Rome II: an outline of the key

provisions (www.practicallaw.com/6-382-5703).

Trade marks: Schedule 2

To the extent that any of the trade marks consist of more than just words (for example, because they are logos or three

-dimensional shapes), they should either be represented graphically in Schedule 2, or described by reference to trade

mark applications or registrations, including serial numbers and the territories to which they relate.

Resource information

Resource ID: 3-221-0981

Products: PLC Commercial, PLC Competition Law - UK, PLC Corporate Law, PLC IPIT & Communications, PLC Law

Department, PLC Public Sector

This resource is maintained, meaning that we monitor developments on a regular basis and update it as soon as possible.

Resource history

Bribery Act 2010

We have included commentary for clause 10 to deal with the implications of the Bribery Act 2010 (in force 1 July 2011).

New vertical agreements block exemption

The new revised vertical agreements block exemption (Regulation 330/2010) and vertical restraints guidelines came into force on 1

June 2010. Accordingly, this note has been revised to reflect the new rules.

Changes in terminology made by the Lisbon Treaty

Following the entry into force of the Lisbon Treaty on 1 December 2009, Article 81 and Article 82 of the EC Treaty have been renamed

Article 101 and Article 102 of the Treaty on the Functioning of the European Union (TFEU). This new terminology has been reflected

throughout this note. For further information on the Lisbon Treaty, see .

Companies Act 2006

We have amended the comments in to reflect the coming into force of the Companies Act 2006 on 01 October 2009.

Rome II Regulation

We have amended the governing law and jurisdiction section to reflect the coming into force of the Rome II Regulation, which applies

from 11 January 2009.

Implementation of the Mental Capacity Act 2005

Following implementation of the Mental Health Act 2005, in October 2007, this note has been updated to replace references to the

Mental Health Act 1983 with references to the Mental Capacity Act 2005.

Related content

Topics

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Vertical Agreements (http://corporate.practicallaw.com/topic9-103-1181)

Practice note: overview

Franchising: overview (http://uk.practicallaw.com/topic2-107-3749)

Standard document

Franchise agreement (http://uk.practicallaw.com/topic9-223-1966)

Standard clause

Franchise agreement: CRC Energy Efficiency Scheme (http://uk.practicallaw.com/topic4-502-8092)

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