The enormous cost of research and development needed to develop new products and services are a huge burden on start-up businesses. The resultant effect is that small businesses overlook this vital aspect of product development which would usually increase the product’s chances of survival. The product or service is therefore thrown into the market without the requisite research and development which is now left to be tested in the real market, thereby leaving the success or failure of the product to trial and error. In practice many of these new products and services do not survive this test in the real market and the resultant effect is the failure of the product or service. In the light of the slim chances of survival for such start-up, franchising is a practical business structure for reasons that it provides increased chances of business success.
Some statistics have it that ninety percent of start-ups fail after ten years. Another report has it that a quarter of start-ups do not make it to the twelfth month. Whilst statistics vary on the failure rate of start-ups, they all are in unison in confirming that majority of start-ups fail. Just as franchising increases the chances of survival of new businesses, conversely for entrepreneurs that have perfected the art of their trade and among the few that have succeeded, franchising can be a veritable tool in expanding the enterprise for increased profitability. An appreciation and use of franchising is imperative for the growth of commerce in Nigeria. In contrast to the practice in more developed climes, franchising is still very much unexplored. In the United States of America for instance, it has been reported that one out of every three dollars spent by Americans for goods and services is spent in a franchise business.
The word “Franchise” is of French origin which means privilege, freedom, granting of right to an individual or group. In its simplest description, franchising is a business structure that allows a person (the franchisee) to run his business by legally using someone else’s (the franchisor) already established business name, model and/or brand. In essence the structure grants a party license to have access to another’s business proprietary knowledge, processes and trademarks for the purpose of selling a product or providing a service under the latter’s business name.
It has elsewhere been defined as an agreement between two legally independent parties which gives: (a) person or group (franchisee) the right to market a product or service using the trademark or trade-name of another business (franchisor); (b) the franchisee the right to market a product or service using the operating methods of the franchisor; (c) the franchisee the obligation to pay the franchisor fees for these rights; (d) the franchisor the obligation to provide rights and support to the franchisee.
The International Franchise Association (IFA) describes franchising simply as a method for expanding a business and distributing goods and services through a licensing relationship where the franchisors (a person or company that grants the license to a third party for the conducting of a business under their marks) not only specify the products and services that will be offered by the franchisees (a person or company who is granted the license to do business under the trademark and trade name by the franchisor), but also provide them with an operating system, brand and support.
Various franchising types are available to parties. There is the Product Distribution Franchise. Here the relationship between the franchisor and the franchisee is majorly that of a supplier-dealer. The franchisor licenses its trademark and logo to the franchisee but does not provide the franchisee with an entire system for running their business. There is the Business Format Franchise. This is presumably the most popular type of franchise, where the franchisee not only uses the franchisor’s product, service and trademark, but also uses the complete method to conduct the business itself, such as the marketing plan and operations manuals.
Also various franchising arrangements are available to parties. There is the Single-Unit Franchise Agreement. This is an agreement where the franchisor grants the franchisee the right to open and operate only one franchise unit. The franchisor sells a single franchise to the franchisee for one specific location. The Area Development Franchise covers more than one location within a specified area. It grants the franchisee the right to open more than one unit in a specific time within a specified area. The Master Franchise Agreement is mostly adopted when expanding to other countries after the original franchisor has successfully expanded its business through franchising in smaller areas. Here the franchisor grants more rights than those granted in an area development agreement. Asides having the right to open and operate a certain number of units in a defined area, the franchisee in a master franchise also have the right to sell franchises to other people within the territory. This right is also referred to as sub-franchises. In essence, the franchisee assumes many of the responsibilities and benefits of the franchisor which includes providing support and training, receiving fees and royalties.
A major benefit of franchising is that the start-up, new product or service has an increased chance of success due to its association with a business that is already working. The franchisee has an opportunity to run a proven business concept with a successful operational track record. The risk of setting up from the scratch is reduced because the new business is part of a recognized brand. There would therefore be no need to develop a product, invest in expensive market research or worry if the product will appeal to the consumer.
Another benefit of franchising to the start-up entrepreneur is independence. It provides a franchisee with a certain level of independence where he can operate his business. This feeling of independence and freedom gives the franchisee the fulfilment of being a business owner (his own boss). The franchisee is also more likely to devote time, attention and capital to growing the business, following the approved system and not walking away from occasional business challenges.
On the part of the franchisor, franchising expands the business faster than growing same through company owned units. The increased finances and human capital involved in franchising operations allows for business expansion.
Also franchising is a viable means of raising capital and increasing the stream of income in favour of the franchisor. This is achieved through the payment of franchise fees, royalty and levies by the franchisee to the franchisor. This capital injection provides an improved cash flow, a higher return on investment and higher profits. It is then a win-win situation for both the franchisor and the franchisee.
Franchising is not without a downside in that it costs quite a lot to be able to buy a profitable franchise. The franchisee will have to pay start-up franchise fees, ongoing royalties and advertising fees; but this would usually not be a deal breaker as these costs would be built into the pricing of the products or services being sold.
Franchising may also present a potential for loss of freedom which most entrepreneurs desperately crave. The franchisee is usually required to operate its business according to the procedures and restrictions laid down by the franchisor in the franchise agreement. These restrictions would usually include the products or services which can be offered, the pricing and geographic territory. When juxtaposed with the benefits to be derived from the arrangement, this is not to be loathed as it can safely be assumed that these were the reasons for the success of the brand.
Another downside is that many franchises are for a fixed term with an option to renew on terms set out by the franchisor in the agreement.
A typical franchise arrangement will commence with the franchisor sending a disclosure document, known as the Uniform Franchise Offering Circular (UFOC) or the Franchise Disclosure Document (FDD) in other jurisdictions, to the investor (prospective franchisee). The disclosure document outlines the franchisor’s offering with the financial investment required as well as the responsibilities of parties. Countries with developed franchising laws usually stipulate for delivery of the disclosure document. The franchise regulator in the US, the Federal Trade Commission, for instance, requires the franchisor to give the disclosure document to prospective franchisees at least ten working days before the franchise agreement is concluded with stringent penalties levied on defaulters. Further, the franchise is required to be registered with the regulator before it can be sold in some states in the US.
The above is followed by the signing of the Franchise Agreement. This is the contract between a franchisor and franchisee establishing the terms and conditions of the franchise relationship. A typical franchise agreement would provide for the use of the franchise system, such as use of trademarks and products. It would state the Territory, the rights and obligations of the parties which will include the standards, procedures, training, assistance, advertising, requirements amongst other things. It would provide for the Term (duration) of the franchise, Payments made by the franchisee to the franchisor, Termination and/or the right to transfer the franchise.
Upon payment of fees and conclusion of documentations, the franchisor gives the franchisee a comprehensive plan for starting and operating the business. The plan would contain information on setting up the shop, hiring employees, using the franchisor’s system, following procedures amongst others.
The franchisee agrees to uphold the franchisor’s way of doing business and gains the right to run an individual (or multiple) business unit(s) built on proven methods with a higher probability of success. Depending on the type of franchising and franchising arrangements, the franchisor could assist the franchisee in getting suitable location, offering training, marketing and advising the franchisee on management techniques.
There is no legislation specifically regulating franchising in Nigeria as you would find in countries like Malaysia, Romania, Sweden, China, South Korea, Japan, Mexico, United States of America, France, Indonesia, Brazil, Australia and Spain. As a result there is no mandatory obligations for pre-sale disclosures, no statutory requirements preceding the offer of franchise by a franchisor, no law regulates the offer and sale of franchises in Nigeria, no law stipulates what information the franchisor must disclose before the franchise agreement is signed and/or consideration is received, neither is any government agency specially designated to regulate the offer and sale of franchises; although there are requirement for the registration of certain technology transfer agreements with the National Office of Technology and Promotion (NOTAP).
Several laws however affect franchising in Nigeria one way or the other; they include The Companies and Allied Matters Act, The Patent and Designs Act, The Trademark Act, The Copyright Act, The National Office of Technology Acquisition and Promotion (NOTAP) Act, Investment and Securities Act, The Immigration Act, The Nigerian Investment Promotion Commission Act, The Foreign Exchange (Monitoring and Miscellaneous Provisions) Act, The Industrial Inspectorate Act, The Consumer Protection Council Act.
Similarly countries having franchise laws also have agencies that regulate franchising laws of those jurisdictions. In the US for instance, the Federal Trade Commission (FTC) regulates franchising arrangements and in Australia it is the responsibility of the Australian Competition and Consumer Commission (ACCC). In Nigeria, it would appear that there is no special agency regulating franchise. However, the activities of a number of agencies affect franchising. These agencies include The Registrar of Trademark, Patents and Industrial Designs, The Nigerian Copyright Commission, The National Office for Technology Acquisition and Promotion (NOTAP), Nigerian Investment Promotion Commission (NIPC), Corporate Affairs Commission (CAC), and Securities and Exchange Commission.