Clive Neifeld, partner in Stewart Germann Law Office , offers a franchisor's perspective.
Dictionary Definitions
Acquisition: "The act of acquiring" something. Divestment: "The act of stripping or depriving of". Investment: The act of using something, usually money, in order to gain a profit".
- In a commercial context "Acquisition" invariably implies an acquisition for the purpose of investment, i.e. to make a profit Likewise "Divestment" implies a sale for the purpose of making a profit (or to limit or prevent continuing loss).
- In the short term each of the words could apply to every sale and purchase including "stock in trade" of an existing business. However, in the longer term the words connote less frequent transactions of major financial impact on the business and in this article we concentrate on this.
Research
Prior to the purchase of a business ("target") and before getting lawyers to look at any purchase documentation the acquirer should have assessed the market in which the target is operating and the present and potential future profitability of the target within that market taking advice from appropriate speci;ilists e.g. accountants and marketing consultants.
Confidentiality Agreement
Detailed financial figures and confidential information relating to the target will usually only be provided if the proposed purchaser signs a confidentiality agreement which the proposed purchaser should offer to do early in the negotiations and before signature of a sale and purchase agreement.
Objectives and Methods of Investment
In a franchising context a franchisor may purchase existing businesses to achieve the following objectives:
(a) increase market penetration; and/or
(b) introduce new or supplementary products or services; and/or
(c) reduce competition; and/or
(d) achieve increased "financial muscle" to enable bigger discounts from suppliers on bulk purchases and preferential terms from landlords, bankers and the like.
An example of (a) and (c) is the Domino's purchase and re-branding of the Pizza Haven system.
The above objectives can be achieved:
(a) by acquiring ongoing businesses and converting them to the franchised brand; and/or
(b) by opening and running businesses as owner-controlled outlets and thereafter selling the businesses under franchise agreements; and or
(c) by negotiating with a competitive outlet or system to join the franchisor's system if there are mutual benefits or in consideration of an "inducement" payment.
Master Franchise
To lessen the increase in administration costs arising from additional franchise outlets consideration is sometimes given to the appointment of one or more master franchisees whose obligations would include approval of new franchisees, promotion of the franchised business within the master franchisee's territory, protection of the franchisor's intellectual property, grant and renewal of franchise agreements, maintenance of performance standards, liaising with the franchisor in the updating and modification of the manuals and in improvements to the system, an( market research.
Divestment
When setting up a franchise system a franchisor should consider a strategy for retiring from the business which is usually achieved by an outright sale of the franchisor's interests to a third party.
However, there may be a desire to sell the system to the franchisees. There are pitfalls to this because while there may be some mutual interest between franchisor and the franchisees in the operation of the system, there is the need for the franchisor to act as a "benevolent dictator" and to make decisions for the benefit of the system and the franchisees as a whole. Having all franchisees (albeit by majority decision) involved in the making of future business decisions in relation to the new franchisor company risks breeding disunity amongst franchisees. This problem can be lessened by arranging in the constitution of the franchisor company and/or through shareholders agreement that control of the franchisor on a sale of the system to franchisees will be vested in an independent director(s) experienced in the market in which the system operates.
We have seen an arrangement where franchisees are obliged to contribute to insurance covering the life and/or incapacity of the "guiding light" of the franchise system ("owner") where on the occurrence of such a risk the insurance proceeds would be made available to a trustee of the franchisees to purchase the owner's interest in the franchisor and subject to provisions for the appointment of independent directors and interim management provisions. Regrettably however, there is no ready-made structure for such arrangements which need to be dealt with on a case by case basis.
This article was Written by Clive Neifeld, partner in Stewart Germann Law Office legal advisory franchise. Stewart German and Clive Neifeld, as partners of SGL, have years of experience in franchise relationships and the law, and will assist you professionally to a very high standard with franchisee advice.