Feature Articles: International Franchising
Franchising in the United States – Where to Start
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For non-U.S. companies, the United States market presents an attractive opportunity with the world’s largest consumer market.
The list of non-U.S. franchise companies which have successfully penetrated the U.S. market includes Canada’s H&R Block and Yogen Fruz, Australia’s Bark Busters, UK’s LCF language clubs, Denmark’s BoConcept furniture stores, Japan’s Kumon learning centers, and many others.
This article is intended to provide practical advice for non-U.S. companies which are considering franchising in the United States.
Although each company’s particular situation will be different, the following are some general considerations with regard to establishing a franchise system in the United States.
Market Research
Before entering the United States market, the first step is to determine the United States consumer market for the products or services. Is there demand for the products or services? What is the competition? What is the pricing? What are the costs of production and distribution considerations?
In addition, a company should conduct research on the market for franchises to sell the same products or services. Are there already systems which offer similar franchises? What are the initial fees and royalties? What type of training or support do they provide?
U.S. law requires that franchisors must provide detailed disclosure documents to prospective franchisees. These documents contain a wealth of information about a system. These documents are usually publicly available, because they have to filed with a governmental agency in certain states and therefore they are considered public records. Copies of the Franchise disclosure documents for many franchisors can be obtained for free on the internet at the California Department of Corporations website, or for a fee at the websites of companies such as Frandata or Franchisehelp which gather the documents from state agencies.
How to Get Started
A non-U.S. company should open at least 1-2 “company-owned” locations (owned by the franchising entity) in the United States, before it even starts thinking about franchising in the United States.
It needs to have this experience, so that it will know what is involved in opening a store in the United States, in terms of start-up costs, fees, build-out, government permits, supplies, and other aspects of the operations.
This will also give it experience in determining the demand for the products and services in the United States, as well as the right form of marketing and pricing.
The experience of opening and operating a store in the United States will also give the foreign company the opportunity to “Americanize” the services and products, by trying different business methods, branding, and pricing for the United States market.
Only after it has this first-hand experience in the United States, then the company will be ready to start offering franchises in the United States.
Corporate Structure
Normally, we advise foreign companies to form a United States affiliate company, which will issue the franchises in the United States.
This accomplishes a number of things: 1) limits potential liability of the “mother” company if franchising in the United States does not fare well; 2) avoids the possibility that a United States taxing authority may declare that the ”mother” company must report all of its income to the United States taxing authority; and 3) makes it less expensive to prepare audited financial statements for the franchising entity.
We also generally advise such companies to form the corporation in the state where the U.S. affiliate franchising company will have its main office in the United States.
Disclosure and Registration Requirements
In the 13 states which have registration laws (California, Hawaii, Illinois, Indiana, Maryland, Minnesota, New York, North Dakota, Rhode Island, South Dakota, Virginia, Washington and Wisconsin), a foreign company generally must prepare and file a detailed franchise disclosure document with the state agency before it can even start offering franchises in that state.
For the sale of franchises in the non-registration states, only the federal rules will apply. These rules require that the company must deliver the franchise disclosure document to a prospective franchisee at least 14 days before the franchisee signs anything or gives the company any money.
The amended federal rules, which took affect July 1, 2008, got rid of the former “first personal meeting” requirement, which previously required franchisors to provide a copy of the franchise disclosure document to prospective franchisees at the first personal meeting. This requirement was a stumbling block to non-U.S. franchisors because they could not even have preliminary face-to-face discussions in their own country with a prospective U.S. franchisee, unless it first provided the prospect with a franchise disclosure document.
Another important issue for franchisors in the United States is the requirement that the franchisor must attach audited financial statements to the franchise disclosure document. Such audited financial statements must be audited in accordance with United States accounting standards, which are generally stricter than the standards in other countries.
Trademark Registration
Trademark rights are generally determined in the United States by priority of use, and not priority of registration. Nevertheless, a company that is considering franchising in the United States should register its trademark as soon as possible.
Registration serves a number of useful purposes, including putting the world on notice that the owner considers it a protected trademark, and providing additional remedies if someone uses the trademark.
United States trademark law allows an applicant to file an application for trademark registration even before the applicant has started using the trademark in the United States (an “intent-to-use” application), provided that the applicant files a certification within three years after the application is approved confirming that it has in fact started using the trademark in the United States.
Training, Communication and Support
To succeed in any country, a franchisor must provide good training, support and communication.
Because it is normally unrealistic for franchisees to travel to a foreign county for training, the company must have staff in the United States to provide the training and support, either through the U.S. affiliate or master franchisees.
And most importantly for the long-term, the franchisor must have a good communication system, such as a private intranet system, to allow the franchisor to communicate frequently with the franchisees, including providing rapid updates of the operations manual and approved supplier lists, as well as sharing solutions to common problems faced by franchisees throughout the system. Good communication is key to avoiding disputes and misunderstandings.
As stated above, franchising in the United States presents a tremendous opportunity. The best way to get started will be different for each company, because each company’s situation is unique. Doing it right can provide tremendous rewards.
By David T. Azrin, Esq.
Partner, Gallet Dreyer & Berkey LLP
David T. Azrin, a franchise attorney with more than 20 years experience, is an equity partner in the New York City-based law firm Gallet Dreyer & Berkey LLP.
www.gdblaw.com
