Franchising to and Within the USA
By Aaron N. Wise, Attorney at Law © 2009
This section assumes that you, the foreign party, wish to establish a franchise system in the USA. On this subject, there are multivolume books written. We can only provide a few comments by way of overview on this complex subject.
• Franchising Heavily Regulated in the USA at the Federal and State Levels: First, there are federal regulations on franchising and “franchises” to comply with (the so-called “FTC Rule” and interpretative guidelines). There are also federal statutes applicable to certain specific, narrowly defined franchises business types. At the state level, many of them have a general statute regulating franchising and “franchises”. Some also have laws concerning specific types of franchise businesses.
The franchisor will have to prepare, file in the appropriate offices and obtain approval of, and give to prospective franchisees in advance (within the time period established by law) a complex, detailed offering statement (a franchise offering circular or offering document) roughly similar in its overall general nature to an offering statement that a company going public in the USA would prepare, file and disseminate. The offering document must be amended and updated each year, and more frequently if there are any material changes, as long as the franchisor is continuing to offer franchises for sale. For purposes of the FTC Rule and many if not most state franchise statutes, one offering statement can be used (the Uniform Franchise Offering Circular). Frequently, it will be necessary to amend and supplement it to comply with the requirements of applicable U.S. state statutes. Copies of the franchisor’s standard franchise agreement and any related agreements (e.g., leases, supply agreements, specifications, purchase orders) form part of the offering circular and must be given to prospective franchisees at the same time as the basic disclosure document. All of these must comply with the FTC Rule and the pertinent state statute(s), as well as other American federal and state laws. Several of the state franchise laws contain stringent rules (for the franchisor) regarding what a franchise agreement cannot and/or must contain, franchise termination, renewal and non-renewal, modification of franchises and franchise agreements, and many other points; and provide franchisee-friendly legal remedies for violations committed by the franchisor.
Many other laws, federal and state, apply to and may affect franchise agreements and relationships. One such type are federal and state antitrust laws, affecting, for example, certain competitive restrictions that a franchisor might seek to impose on a franchisee.
Another issue among the many is whether an arbitration clause placed in a franchise agreement to resolve disputes and claims will be legally enforceable, as a whole or as to particular issues that may arise.
• Ways of Structuring a U.S. Franchise Operation: Among the most common structures for a foreign party to approach the U.S. market by way of franchising are:
• Establish a wholly-owned U.S. subsidiary (e.g., a U.S. corporation) , grant it the necessary rights for the USA, and regarding the franchise trademark(s) for the U.S. market, either grant it a license (e.g., an exclusive one) or have it be the owner of the U.S. mark(s). The U.S. subsidiary would grant the franchises as franchisor and contracting party, and possibly own and operate one or more company-owned franchise operation units.
• Set up a U.S. joint venture with one or more JV partners; grant it the necessary rights and licenses (or allow it to own, e.g., the U.S. trademark(s) concerned), and have the US JV sell franchises----and possibly, own and operate one or more company-owned franchise units or outlets. While the FTC Rule does provide an exception to its application for certain kinds of “partnerships” functioning as franchisees, most foreign companies will be unable (and even unwilling, considering what may be required) to structure the JV to avoid the JV itself being treated as a “franchisee” and the arrangement being treated as an offer by it to the JV to sell or distribute “franchises”. Thus, that JV arrangement itself is likely to require the foreign party, as franchisor, to comply with the federal and pertinent state legislation.
• Grant one sole exclusive license of the U.S. trademark(s) for the entire USA applicable to the franchise operations to an independent U.S. company, to use them and other intellectual property and rights of the foreign party (e.g., trade secrets and know-how, copyrights) to sell franchises in the U.S. market, pursuant to the foreign company’s franchise plan, format etc. or pursuant to specifications and other obligations that it establishes. That would be, in essence, a “master franchise agreement”, although that term might be avoided in the license agreement. Such an agreement, in a given case and if structured properly, might fall within a certain exception under the FTC Rule and possibly certain state franchise statutes, i.e. the exclusive license itself might not be an offering or a grant of a “franchise” thus exempting the foreign party from compliance with that legislation. A key aspect will be the extent of control the foreign party has over the U.S. licensee’s entire method of operating the business in question, and how significant those controls are. In any case, the exclusive licensee would have to comply in order for it to offer franchises to others, and quite probably, the franchise offering circular it prepares will have to contain certain information about the foreign party. If the abovementioned “one exclusive license” were not for the entire USA but only a part thereof, the chances of successfully falling under that FTC Rule exception are less.
• Other Applicable Points: Many of the points contained in the first part of this Chapter regarding licensing and technology transfer will apply to franchising, albeit with some adaptations here and there. Likewise, points contained in several other Chapters of this Guide will also be generally pertinent to franchising