Michael Ford (post until Oct. 31/19)
Corporate, Franchise

Franchising, licensing arrangements not interchangeable

Businesses looking to grow their operations may see franchising or licensing as viable opportunities, but it’s crucial to understand the differences between the two models, says Calgary franchise lawyer Sam Khajeei.

He tells AdvocateDaily.com that franchising and licensing are both attractive options for businesses looking to expand. With either, a franchisor or licensor can broaden the reach of their business without having to rely solely on their own capital.

“In provinces that have franchise disclosure legislation, the franchisor has to follow a certain set of requirements including delivering a disclosure document that needs to be given to the franchisee,” says Khajeei, an associate with Nerland Lindsey LLP.

This disclosure document, he notes, is very comprehensive and sets out all of the particulars of the franchise and contains a laundry list of mandatory information.

“What sometimes happens, however, is a business owner may find the disclosure requirements onerous and instead opt to license their brand, thinking it’s an alternative to franchising,” Khajeei says. “But this would be a mistake. While every franchise includes a license, not every license creates a franchise.”

Failing to know the difference between the two can have some serious consequences for the unwary, which is why legal advice is key when considering expansion options.

“The law doesn’t focus on the specific way that you refer to an agreement or the headings you use,” he says. “If you call it a licensing agreement, but the substance of it is a franchise agreement then you have to follow the franchise laws.”

In Alberta, s. 1(1)(d) of the Franchises Act defines a “franchise” as a right to engage in a business:

  • in which goods or services are sold or offered for sale or are distributed under a marketing or business plan prescribed in substantial part by the franchisor or its associate,

  • that is substantially associated with a trademark, service mark, trade name, logotype or advertising of the franchisor or its associate or designating the franchisor or its associate, and

  • that involves
    • a continuing financial obligation to the franchisor or its associate by the franchisee and significant continuing operational controls by the franchisor or its associate on the operations of the franchised business, or
    • the payment of a franchise fee.  

“To boil it down, there are a few elements that licensing and franchising arrangements share in common,” Khajeei says. “For example, both will have a license, and both would have a continuing commercial relationship.”

What typically sets a franchise agreement apart is the payment of a continuing fee or royalty in connection with the granting of that license and the significant continuing operational controls.

“In a franchise arrangement, there will be a guide or manual that the franchisee would have to follow, with strict rules around how to operate the business,” he says. “Take a fast-food franchise for example. No matter what store you visit, the decor, food, uniforms, virtually everything is the same. This is because the franchise agreement is very clear that the franchisee must follow the requirements set out by headquarters.”

If a business owner fails to provide a disclosure document in what amounts to a franchise arrangement, the franchisee has the right to rescind the agreement by giving a notice of cancellation.

“If no disclosure document was provided, a franchisee can give that cancellation within two years of the date that they were granted that franchise. In Alberta, the franchisor then has 30 days to compensate the franchisee for all net losses incurred in acquiring, setting up, and operating that business for the last two years.”

Khajeei says franchisees may operate at a loss in the initial years because they're trying to build clientele and goodwill during that time.

“These expenses can be significant in some cases. It’s critical that those looking to expand their brand truly understand the difference between a license and franchise,” he says.

“The reality is if you meet the test for a franchise, you’re subject to the legislation regardless of what you call it,” Khajeei adds.

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