Why your lease is important to the success of your franchise

When starting up a franchise, there are many elements of the business that a franchisee must turn their mind to and, to say the least, it can be a very hectic and confusing process.  By far the most important, and perhaps the most overlooked, element of the business is the leasing arrangements for the business premises (if premises are needed). 

In almost all situations, the goodwill of the franchise business is (or will be) attached to the business premises of the business.  A franchisee will find it extremely difficult to sell the franchise business if the current premises are no longer available or there is only a short lease term remaining. 

For this reason, and in order to protect your position whilst you are operating the business, it is extremely important to carefully consider the leasing arrangements for the proposed business premises before you finalise negotiations about the franchise agreement and/or business purchase agreement. 

A recent case in the Supreme Court of Queensland is an example of the sort of situation that franchisees can find themselves in if proper lease enquiries are not made before entering into a franchise agreement or business purchase agreement.  In this case, a franchisee with over 25 years business experience who purchased an existing franchise business failed to make proper enquiries about the lease.  The incoming franchisee did not ensure that the business purchase agreement with the outgoing franchisee contained terms which would protect their right to use the existing premises.  Instead, the franchisee relied on oral representations made by the lessor of the premises. 

As a result, more than two years after purchasing the business, entering into the franchise agreement and spending a considerable amount of money on fitting out the premises, the franchisee discovered that they did not have a valid lease agreement with the lessor.  In fact, the lessor did not even have title to the premises and was therefore not legally entitled to lease it to the franchisee.  As such, when the franchisee went to sell the business (in accordance with their business plan) the franchisee could not secure a purchaser because the lease was not secure.  The franchisee was held to have no recourse against the lessor (who the franchisee believed made misleading representations to them prior to their entering into the franchise agreement and business purchase agreement). 

To best protect your interests, you ought to consider the following points before you negotiate a franchise agreement or business purchase agreement: 

• The nature of the tenancy - are the premises subject to a lease or licence? Are you going to be the lessee or is the franchisor the lessee and you the sub-lessee? 
• The length of the proposed franchise agreement - it is important that the length of the lease matches the length of the proposed franchise agreement. Otherwise, you may find yourself in a situation where your lease expires and you cannot operate your franchise business from the premises (and therefore cannot earn an income) but your franchise agreement is still operational, along with your obligation to pay fees to the franchisor.  
• Your business plan - how long do you intend to operate the franchise business for and how does this interplay with the current length of the lease? You must bear in mind that very few people will be willing to purchase a business which is operated from premises which will only be available for a further year. 
• The business purchase agreement - there is no point purchasing a business if the lessor of the premises will not consent to the assignment of the lease in your favour. Ensure that your business purchase agreement has the appropriate conditions precedent. 
• Is the premises fit for your business? You should make enquiries with the relevant authorities and the lessor.  
• Do not rely on the say-so or handshake of the lessor or franchisor. Make your own enquiries and get everything in writing. Remember that the franchisor and any outgoing franchisee are often not responsible for or involved in the leasing arrangements.  
• Understand the lease - the terms and conditions of your lease may have considerable implications for the profitability of your business. 
• Seek legal advice. A franchise is a significant long term personal and financial commitment. You don't want to jeopardize your position by not obtaining specialised advice.

For further information on franchising, please contact Carolyn Meighan, Senior Associate, at cmeighan@talbotolivier.com.au or Alana Salsano, Lawyer at asalsano@talbotolivier.com.au.