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What Constitutes a Franchise?

May 27, 2022

There are different business models, and a franchise is one of them. It is estimated that, across the world, one in seven businesses is a franchise. If this is accurate, it means that, across the globe, there are around two million franchised companies. According to the US Department of Commerce, franchising contributes approximately $2.3 trillion to the global economy yearly. Franchising is a major force within the business world, with more than 120 different industries utilizing franchise structures. This business model is known for being recession-proof and, as it turns out, also pandemic proof. When the COVID-19 pandemic hit, many businesses were affected by the restrictions. However, most franchise businesses were able to stand strong.

The following is a look at what constitutes a franchise.

Defining a Franchise

A franchise is a business model that involves one business owner granting another business owner a license. In return for being granted a license, a franchisee is required to pay the franchisor fees. And often, paying franchisor fees entails paying a one-time fee for the license and ongoing licensing fees.

When a business owner receives a license from another business owner, that business becomes a franchise. The business owner that grants the license is called the franchisor, and the business owner that receives the license is called the franchisee. Often, a franchise is referred to as a contractual relationship between a franchisor and a franchisee.

When a business owner grants another business owner a license, the new business can use the other business's operating system, trade name, and rights for logo use. As a result of being granted a license, a franchisee is able to sell a product or service using the franchisor's branding, business name, and established business system. Additionally, apart from being allowed to use the IP and materials of the franchisor, a franchisee also receives basic support from the franchisor.

However, a franchisee runs the business as their own. For example, a franchisee is responsible for making decisions about opening hours, hiring, compensation, and dealing with employee discipline. Still, because the franchisor is ultimately in control of the brand, they determine some aspects of the business.

The Legal Definition of a Franchise in California

To be considered a valid franchise in the state of California, the following three requirements must be met;

  • The franchisee must be substantially associated with the franchisor’s trademark.
  • The franchisee must directly or indirectly pay the franchisor a fee for the right to engage in the business and use the franchisor’s trademark.
  • The franchisee must operate the business under a system recommended in substantial part by the franchisor.
Why Companies Franchise Their Businesses

There are many reasons why companies franchise their businesses. However, most companies franchise their business because franchising allows a business to use other people’s money to grow. Franchising also gives founders a chance to reduce their financial risks as they look to expand to new locations.

Why Business Owners Become Franchisees

Business owners become franchisees for, among other reasons, the following;

  • A franchise comes with a ready-made business formula.
  • A franchise comes with products and services that have already been market-tested.
  • Franchising offers an opportunity to receive business assistance.
  • A franchise comes with established brand recognition
Contact a Business Attorney Serving Santa Clara County and Silicon Valley

If you want to know more about what constitutes a franchise or are considering franchising your business or becoming a franchisee, contact our business attorneys at SAC Attorneys LLP.

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