In several recent blog articles, I explained the distinctive advantages of the franchise business model. Entrepreneurs who have developed a localized, replicable business model should understand the option to franchise their business—especially because franchising has moved well beyond its traditional footprint in fast food, car repair etc. into a broader range of service businesses.
Recent Developments Bring Focus on Risk and Oversight
Let’s say that you have created a successful concept for a business that provides home health care aides who specialize in serving patients whose doctors monitor their condition remotely, via “telemedicine.” You are operating the business in one location profitably and want to expand it.
Should you open new branches in your market or in other geographies, committing to raise capital and run operations yourself? Or should you consider going the franchise route—so that you can tap into grass roots entrepreneurs who want to invest capital in an established “turnkey” system that offers them “skin in the game” at lower risk than starting a company from scratch.
There are other features of franchising that contrast with the traditional corporate model. Basically, the law treats franchisor and franchisee as independent legal entities that contract with each other. As a “small business” each franchisee is effectively exempt from many regulations, collective bargaining and mandates such as the Affordable Care Act.
Also, because the franchisor does not directly control the franchisee’s daily operations, the franchisor tends not to be liable for negligence or misbehavior of the franchisee. The majority of franchise contracts require that the franchisee observe applicable law and regulations and meet certain brand standards. But the franchisee remains basically an independent contractor, not an agent or employee of the franchisor.
The upshot: a major advantage of the franchise model is that the franchisor’s oversight and control burden is much less than for a traditional corporation. Also, local franchisee personnel are more motivated and empowered to deliver a quality customer experience.
The Risks When Franchising your Business
However, a recent announcement by the National Labor Relations Board has caused alarm in the franchising industry by indicating that McDonald's (the franchisor) may be responsible as a "joint employer" for the alleged unfair labor practices of some of its franchisees. If this decision were confirmed, it would make it easier to treat franchisors and franchisees as part of the same business. Franchisors as co-employers might be deemed vicariously liable for what the franchisee does, such as accidents or mistreatment of employees.
Which brings us back to our hypothetical home health care business owner who is considering going the franchise route. He or she needs to consider the cost and risk of running the units of their company themselves versus doing so as a franchise business. They should bear in mind the possibility of a shift in the legal status of the contractual relationship between franchisor and franchisee. If courts and/or government hold franchisors responsible for employment and other practices of their franchisees, franchisors would be required to increase their level of control over franchisee operations significantly.
Also, franchisees might have grounds to sue their franchisor for specific decisions that the franchisor makes in the operation of their (the franchisee’s) business. Customers might be able to sue the franchisor, not just the franchisee, for accidents at the franchisee’s business location. Much of the underlying motivation for either party to enter into a franchise arrangement in the first place would be significantly lessened.
The only vestige of the franchise model of today might be something more akin to the many hotel franchises where the franchisee owns the assets but contracts with the franchisor to operate the business.
To be sure, such changes in the franchise model may never happen or might happen gradually or only over a long time. The franchise model remains robust. It offers many opportunities—not just for franchisors and franchisees but also for private equity and other investors. Still, those considering going the franchise route should consider carefully the risks and cost of oversight—today and in the future.
About the Author
Mark Street’s executive experience includes extensive background in an industry that offers great opportunity to entrepreneurs: franchising. Contact or learn more about Mark here.
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