The term ‘Franchise owner’ may be cuddly, but is it safe?

26th Sep 2016

The term ‘Franchise owner’ may be cuddly, but is it safe?

Q. As a relatively new franchisor, I have noticed that some of my more experienced colleagues are cuddling up to potential franchisees by calling them ‘franchise owners’. I’m tempted to follow this new fashion, but I have a nagging feeling that the term might come to infer to my so-called franchise owner that they have some proprietary rights to my franchise system.

Could I find myself having created a rod for my own back? Should problems arise down the line could I find myself in court trying to convince a franchisee-sympathetic judge that I hadn’t misled my ‘franchise owners’ into believing that their territories included some equity in my franchise system? I am justified in being a little nervous?

Mark Abell

Mark Abell

Dr Mark Abell, head of franchising, licensing and multi-channel strategies team at the City law firm, Bird & Bird, answers the question.

A. You are right in that there is a discernable trend for franchisors, including some who are among the longest established, to describe their franchisees as franchise owners.

Presumably the logic of this term is that a franchisee owns a franchise – ergo he is a franchise owner.

Presumably the phrase has been created, as you have suspected, by an over-creative franchisor who felt it would be warm and cuddly to give its franchisees a feeling that they owned a business, rather than just a franchised outlet. The franchisor would have seen it as a marketing ploy that would encourage potential franchisees to join and would differentiate its franchise from those of its competitors.

That seems reasonable and harmless enough. Or does it?

The short answer is a resounding, no. It is a dangerous perversion of established legal terminology that could seriously back fire on a franchisor if he ever has to litigate on an agreement in which the franchisee is referred to as a franchise owner.

That may sound a slight over reaction, even verging upon hysteria, but it isn’t. It’s a reality. Let’s go back to basics to understand why.

System leasing
Moshe Gerstenhaber, the celebrated founder of the franchised print and design firm, Kall Kwik proffered an incisive view of franchising. He suggested it was “a system leasing arrangement under which the franchisee acquires from the franchisor a licence to duplicate the franchisor’s existing and successful system of providing a product/service to the end user”.

It is not a perfect definition, but it does touch on the underlying commercial arrangement between the franchisor and its franchisees – the permissory and temporary nature of the franchisee’s rights to use the business format and other intellectual property of the franchisor.

This view is reflected in the 29 countries that so far have introduced franchise-specific legislation. All of them, ranging from France, Belgium, Spain, Italy and Sweden in Europe to China, the U.S., Brazil and Vietnam, take this view. In general terms, it manifests itself in one of two basic approaches to defining franchising.

The so-called marketing plan definition, and so-called common interest definition. The former originates from the Californian franchise law – the first in the world.

It describes franchising as existing when “a franchisee is granted a right to engage in the business of offering, selling or distributing goods or services under a marketing plan or system prescribed in substantial part by the franchisor …. in connection with a trade mark in return for  a fee”.

The community of interest definition, first found in the laws of U.S. states such Wisconsin and New Jersey, provides that there must be a common financial interest between the franchisor and the franchisee, and the franchisee is granted the right to use the relevant marks and carry on the business in return for a fee.

Both these long-standing approaches stress the temporary and permissory nature of the franchisee’s rights.

It is also not only legal definitions  that reflect this approach. The BFA’s own definition is based on that of the European Franchise Federation. This defines franchising as being a relationship whereby “the franchisor grants to its individual franchisee the right …. to conduct business in accordance with the franchisor’s concept.”

All these definitions are based on the fact that the franchisee does not own a franchise, but is granted the right to operate one and that it is temporary right. To use a conveyancing analogy, a leasehold is not a freehold. It follows from that that the franchisee is, therefore, not a franchise owner.

But so what, you may ask? What difference does it make? Well, quite a lot.

If a court was to hear a case based on an agreement that called the franchisee a franchise owner it would most likely encourage the judge, who generally starts from a pro-franchisee position (protecting the little man from the bullying approach of the large corporate), to take a still more entrenched pro-franchisee view.

That is not to say that the terms of a properly written franchise agreement would be set aside wholesale merely because of the use of the term franchise owner. It is far more subtle than that.

Consider, for example, the Natural Life case. Despite good evidence to the contrary, the court of first instance held in favour of the franchisee and that the managing director of the franchising company was personally liable. It was left to the Court of Appeal to sort things out and reverse the decision.

There are many other cases of a similar ilk. For example, the Chips Away case  in 2009 held for the franchisee at first instance, but it was emphatically overturned on appeal with a strong suggestion that the original judgment was totally wrong.

When a franchisor has to litigate against its franchisees it needs every advantage of which to avail itself. It certainly can’t afford to alienate the court through the use of soft and inaccurate terminology.

So, using the term franchise owner is both incorrect and dangerous. The questioner is right to have been concerned about its increased use. It is something that I would warn franchisors and their advisers to avoid at all costs.