Chapter 40
Franchises and Special Forms of
Business
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 1
39
Franchising is an important
method of distributing goods
and services to the public.
In the United States,
franchising accounts for over
25 percent of retail sales and
15 percent of gross domestic
product (GDP).
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 2
39
Franchise
• Established when franchisor
licenses franchisee to use the
franchisor’s trade name,
trademarks, commercial symbols,
patents, copyrights, and other
property in the distribution and
selling of goods and services.
• Franchisor and the franchisee are
usually established as separate
corporations.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 3
39
Advantages to Franchising
1.
2.
3.
4.
The franchisor can reach
lucrative new markets.
The franchisee has access to the
franchisor’s knowledge and
resources.
Franchisee runs an independent
business.
Consumers are assured of
uniform product quality.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 4
39
Parties to a Typical Franchise
Agreement
Franchisor
(Licensor)
Grant of franchise and
license to use trademarks,
service marks, and trade
secrets
Franchisee
(Licensee)
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 5
39
Distributorship Franchise
• Franchisor manufactures a
product and licenses a retail
franchisee to distribute the
product to the public.
– Ford Motor Company
manufactures automobiles and
franchises independently
owned dealers to sell them to
the public.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 6
39
Processing Plant Franchise
• Franchisor provides a secret
formula or process to the
franchisee.
• Franchisee manufactures the
product and distributes it to
retail dealers.
– Coca-Cola Corporation
licenses regional bottling
companies to manufacture
and distribute soft drinks under
the “Coca-Cola” brand name.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 7
39
Chain-style Franchise
• Franchisor licenses the
franchisee to make and sell
its products or distribute
services to the public from a
retail outlet serving an
exclusive territory.
– Pizza Hut Corporation
franchises independently
owned restaurant franchises to
make and sell pizzas to the
public under the “Pizza Hut”
name.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 8
39
Area Franchises
• Franchisee may be granted
the authority to negotiate
and sell franchises in the
designated area on behalf of
the franchisor.
– Franchisee is also called
the subfranchisor.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 9
39
Example of an Area Franchise
Area
Franchise
Franchisor
Subfranchisor
Franchise
Franchise
Franchisee
Franchisee
Franchisee
Franchise
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 10
39
State Disclosure Laws
• Many states have enacted
statutes that require franchisors to
make specific presale disclosures
to prospective franchisee.
• Most states use a uniform
disclosure statement called the
Uniform Franchise Offering Circular
(UFOC).
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 11
39
FTC Franchise Rule
• The FTC requires franchisors to
make presale disclosures to
prospective franchisees.
• The franchisor must disclose
assumptions underlying any
estimates and hypothetical data.
• If projections are based on actual
data, franchisor must disclose
specifics.
• The franchisor must provide a
mandated precautionary
statement.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 12
39
Trademarks
• A franchisor licenses the use of its
trademarks and service marks in
the franchise agreement.
• Anyone who uses a mark without
authorization from the franchisor
may be sued for trademark
infringement.
• The franchisor can recover
damages and obtain an
injunction prohibiting further
unauthorized use of the mark.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 13
39
Misappropriation of Trade Secrets
• Anyone who steals and uses a
franchisor’s trade secret is liable
for misappropriation of a trade
secret.
• The franchisor can recover
damages and obtain an
injunction prohibiting further
unauthorized use of the trade
secret.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 14
39
The Franchise Agreement
• An agreement that the franchisor
and the franchisee enter into that
sets forth the terms and conditions
of the franchise.
– Quality control standards
– Training requirements
– Covenant not to compete
– Arbitration clause
– Use of franchisor’s trade name,
logo, and trademark
– Conditions for the termination
of the franchise
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 15
39
Franchise Fees
• Franchise fees payable by the
franchise are usually stipulated in
the franchise agreement.
– Initial license fee
– Royalty fee
– Assessment fee
– Lease fee
– Cost of supplies
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 16
39
Termination of Franchises
Termination “For Cause”
Termination At Will
Wrongful Termination
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 17
39
Termination “For Cause”
• A franchisor can terminate a
franchise agreement for “just
cause.”
– Nonpayment of franchise fees
by the franchisee
– Continued failure to meet
quality control standards
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 18
39
Termination at Will
• Most state and federal laws
regarding franchising prohibit
franchisors from terminating the
franchises at will.
• Prevents a franchisor from taking
advantage of the good will
developed at the franchise
location by the franchisee.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 19
39
Wrongful Termination
• If a franchisor terminates a
franchise agreement without just
cause, the franchisee can sue the
franchisor for wrongful
termination.
• The franchisee can recover
damages caused by the wrongful
termination and recover the
franchise.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 20
39
Breach of the Franchise
Agreement
• Lawful franchise agreement
is an enforceable contract.
• Each party owes a duty to
adhere to and perform under
the terms of the franchise
agreement.
• Aggrieved party can sue the
breaching party for rescission
of the agreement, restitution,
and damages.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 21
39
Independent Contractor
Status
• If properly organized and
operated, the franchisor and
franchisee are separate legal
entities.
• The franchisor deals with the
franchisee as an independent
contractor.
– A franchisee is not the agent of
the franchisor.
– The franchisor is not liable for
the franchisee’s contracts and
torts.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 22
39
Contract and Tort Liability
• Franchisors and franchisees
are liable for their own
contracts.
• Franchisors and franchisees
are liable for their own tort
liability.
– If a person is injured by a
franchisee’s negligence, the
franchisee is liable.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 23
39
Apparent Agency
• Agency that arises when a
franchisor creates the
appearance that a franchisee is
its agent when in fact an actual
agency does not exist.
• The franchisor is liable for the
contracts entered into and torts
committed by the franchisee
acting as an apparent agent.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 24
39
Licensing
• A business arrangement that
occurs when the owner of
intellectual property (the licensor)
contracts to permit another party
(the licensee) to use the
intellectual property.
– Trademarks, service marks, trade
names, copyrights
• Licenses issued for distribution of
goods, services, software, and
digital information.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 25
39
Joint Venture
• A joint venture is an arrangement
where two or more business
entities combine their resources to
pursue a single project or
transaction.
– Joint venturers have equal rights to
manage the joint venture
– Joint ventures owe each other the
fiduciary duties of loyalty and care.
– Joint venturer liable for the damages
a breach causes.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 26
39
Joint Venture Partnership
• Joint venture operated as a
partnership.
– Each joint venturer is considered a
partner of the joint venture.
• Each joint venturer is liable for the
debts and obligations of the joint
venture partnership.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 27
39
Joint Venture (continued)
Joint
Venturer
Joint
Venturer
Investment of
capital
Investment of
capital
Joint
Venture
Partnership
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 28
39
Joint Venture Corporation
• Two or more joint venturers
create a third corporation to
operate a joint venture.
• The joint venturers are
shareholders of the joint
venture corporation.
• The joint venture corporation
is liable for its own debts and
obligations.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 29
39
Strategic Alliance
• An arrangement between
two or more companies in
the same industry.
• Companies agree to ally
themselves to accomplish a
designated objective.
– Strategic alliances do not have
the same protection as
mergers, joint ventures, or
franchising.
© 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman
19 - 30
39