Hello, I’m Dong Ho Song, and I’m here to help. These days, if you walk around Korean Town in New Jersey, where we have our headquarters, it’s easy to spot the names of Korean franchise restaurants. Not long ago, Pericana Chicken opened, and right across the street, Baekjeong in Ganghodong opened. The day after Baekjeong opened, I visited the restaurant with an acquaintance and it was literally packed. As we waited for over an hour, my acquaintance lamented, “No matter how hard I’ve worked, sometimes I think it’s better to franchise a restaurant because it’s so good, and then I can just sit back and take the franchise fee.” Of course, I said this without knowing the hardships and efforts of those in the restaurant business, but franchising, which translates to franchisee goodwill, seems to be popular in Korea and the United States these days.
Franchising is a form of business in which one business owner allows another business owner to use the business name, trademark, unique services or products, and marketing know-how. Franchise businesses are very much a part of our lives, from restaurants like McDonald’s, Subway, and Burger King to auto repair services like Midas.
In general, to be recognized as a franchise business, a business must meet the following conditions 1) the franchisor grants the franchisee the right to operate a business providing goods and services associated with the franchisor’s trademark; 2) the franchisor must actively assist and be involved in the operation or management of the franchisee’s business; and 3) the franchisee must pay the franchisor a franchise fee in return. Under federal regulations, the franchise fee must be at least $500 to qualify as a franchise fee, and the cost of the product is not considered.
However, some states have a stricter or looser view of what constitutes a franchise. For example, New York considers a business to be a franchise if it pays a franchise fee, even if it only provides trademark rights and doesn’t help with marketing. On the other hand, in New Jersey, even if a New Jersey business meets all of the above criteria, the state’s franchise laws only apply if the business’s gross sales of goods or services in the last 12 months exceed $35,000 and at least 20% of the franchisee’s gross sales are from the franchised business.
Franchising is governed by a combination of federal-level regulations set by the Federal Trade Commission and state laws adopted by each state. Federal regulations govern franchise businesses very strictly. Franchisors are required to provide detailed information to prospective franchisees on a total of 23 areas, including profitability, at least 14 days before a contract is signed, and this information must follow a form set by the Federal Trade Commission called the FTC FDD format. This is one of many regulations, and if you break any of them, you can be fined $16,000 per violation, so even sole proprietors looking to start a franchise business use experienced attorneys to make sure there are no violations.
So how do you start a franchise business? First of all, a business owner who wants to franchise must register their franchise business with the state government. It’s important to note that different states require different kinds of paperwork: some states only require a notice of intent to franchise (e.g., Michigan), while others require a full registration, including an FTC FDD, which is the material you provide to prospective franchisees. So, you’ll want to take a close look at the state laws in the state where you plan to start a franchise business.
In New Jersey, a state law called the “Franchise Practices Act” (N.J.S.A. 56:10-1~) details the rules for franchise businesses. New Jersey law is focused on protecting franchisees from being harmed by power differentials between the franchisor and franchisee. For example, New Jersey law requires that if a franchise company wants to revoke or suspend a franchisee’s franchise rights, it must give the franchisee 60 days’ written notice before doing so. Even if the franchisee wants to quit voluntarily, the franchise company must send the franchisee official paperwork 15 days before the end of the franchise relationship. Given all of this, you might think that New Jersey is a bad state to start a franchise business, but as mentioned above, even if you are covered by franchise laws in other states, you may not be in New Jersey, so there are pros and cons.
Some people ask if they need to register a trademark to start a franchise business. Not all states require franchise businesses to register their trademarks, but as an attorney, I would recommend that you do so regardless of state law because it is an essential step in protecting your business interests. If you have a franchise business plan, working with an attorney who is knowledgeable about franchise law and following state and federal regulations from the start will be one of the most important factors in your success.
If you have any questions about franchising or other questions about the law, please contact me at mail@songlawfirm.com. I will reflect on this in my next column.
** Song Law Firm, LLC is hosting the inaugural Song Law Firm Global Advertising Competition, a project to find the next generation of advertising designers. The winning design will be used as an image for future advertisements and will receive a cash prize of $3,000. We invite designers with creative ideas to enter the global market with Song Dong Ho Law Firm, LLC. For more information, visit www.songlawfirm.com.