Franchises are everywhere. McDonald's, one of the most visible franchises in the US, has over 34,000 stores worldwide. Take a look at this extremely interesting spreadsheet on the number of McDonald's franchises by country over a five year period. Needless to say, McDonald's is a strong brand that isn't going anywhere anytime soon.
But how do businesses become franchises? Franchises are governed by Federal and State law, and the mix of the two have created the following best practices:
Determine if franchising is best for your business
The two primary options for a business to expand out of its area are to franchise or open branches. A branch is wholly owned and controlled by the business itself, and all of its profits flow to the business. However, opening and operating a branch are entirely at the expense of the business. Due to the expenses involved, branches are more suited for slow, calculated growth.
On the other hand, franchising can allow a business to grow quickly, as the expenses to open and operate a franchise are paid by the franchisee, or the person buying the franchise. The business will condition the operation of the franchise upon numerous terms to maintain uniformity as much as possible, and will receive royalties for use of the brand (usually in the form of a percentage of the franchise's profits). However, franchising requires a strong brand identity that potential investors (the franchisees) want to buy into, liquidity (both for costs and regulatory requirements), and standardization of practices to be effective.
If your business has yet to do so, register your brand as a trademark. Brand identity is extremely important when franchising, whether you are building a brand or franchising an established one. Hence, it may be best to register your trademark(s) as soon as possible to begin building your brand identity. Strong brand identities can drive the price of franchises higher, so its in the business' best interest to strengthen the brand as early, and as much, as possible.
Additionally, registering a trademark gives the trademark holder a multitude of rights under Federal law.
Create a subsidiary for the business
A business should create a subsidiary entity to serve as the franchisor, or the company that sells franchises. This practice is used for several reasons. First, it helps limit the liability of the original company such that if any liabilities arise from franchising, like lawsuits, the parent company is likely protected. Secondly, the subsidiary is created for ease of accounting. The primary disclosure document, which must be created and disclosed prior to engaging potential franchisees and will be discussed shortly, requires a financial audit for several years prior. However, by establishing a subsidiary, the financial history can only reach back as far as the creation of the subsidiary and would not include the finances of the parent company.
Drafting the necessary documents
Prior to engaging in any talks with potential franchisees, several documents must be drafted. Firstly, Federal and State Law require the creation of a document compiling specified information regarding the company including its financial history, its company officers, any litigation, trademarks, and more. Depending on which accepted format of this document your business uses, this is either called the Federal Disclosure Document or the Uniform Franchise Offering Circular ("UFOC").
Additionally, all contracts that the franchisee would have to sign must be drafted. Primarily, this includes the franchise agreement. This contract sets out the many rules that franchisee's must abide by, including royalties, training, required sellers, signage, marketing, duration etc. This contract is comprehensive, but can be amended.
Importantly, these documents must continually be updated as material changes to the information it contains is available. This means that if any information changes which could impact a potential franchisee's decision to purchase a franchise, then the document must also be changed.
Such documents are highly technical as they incorporate Federal and State law, and require a financial audit. For this reason, attorneys and accountants are generally retained to prepare these documents.
Compliance with State regulations
Although Federal law regulates franchises, State laws impart additional requirements that must be met in order for businesses to offer, or continue to offer, a franchise in that State. Some of these additional requirements include:
Of course, the above are only a small sampling of the variances in State laws pertaining to franchises. Due to the complexity of the regulations pertaining to franchises, compliance should be managed by the business' attorneys so they may update and alter any documents as necessary and inform business personnel of any changes they must make in communications.
It is especially important that all people who are involved in the selling of franchises at the business are aware of the applicable State regulations, and its changes, as some laws may take effect upon first contact with a potential franchisee. Communication between these individuals, and compliance counsel (or personnel) is extremely important.
Ready, set, go!
The legal aspects of franchising are a very technical process at the outset, but once established, compliance and any additional tweaking is all that is necessary. This is only a general overview of the process of franchising, and a business should have an attorney and an accountant guide them through the process of franchising their business.
Last week, I discussed why professional gaming teams should become businesses in order to secure sponsorships. With the staggering growth of eSports, online viewing of eSports competitions totaling 2.2 billion hours, and a dedicated gaming arena opening in Ohio, professional gaming is quickly becoming its own segment of the sports and entertainment industry. Although professional eSports teams may lack a traditional front office, there is room for a business adviser who secures sponsorships and other business opportunities for teams.
This business adviser would serve in a similar capacity to a sports agent for the team. Traditionally, sports agents represent individual professional athletes in negotiating their on-field contracts and securing endorsement agreements. However, as professional gaming is a tournament based league without individualized salaries, salary negotiation services and individual representation would be irrelevant.
Instead, a professional gaming sports agent would focus on sponsorships and other business opportunities for the team. An effective agent could leverage a team's substantial online presence (Twitter followers, YouTube subscribers, Twitch followers, etc.) to sponsors in return for sponsorships to provide products and financial support for the team. Such a tactic is not new for agents, as they have leveraged online followings for professional athletes and then-amateur athletes (see here) into sponsorships. Utilizing an agent would be in the best interest of eSports teams, as it leaves the players to focus on their sport while the agent secures much needed sponsorships to help get the team to additional tournaments.
The question then arises as to how agents would be paid. Normally, sports agents take a percentage of their players' salaries that they negotiated (generally 3-5%) and a higher percentage of any endorsements they secure (15-20%). However, that preexisting model does not fit professional gaming because players, or even teams, are not paid a salary. Additionally, many professional gaming sponsorships supply products, and not cash, which would be impossible to take a percentage of. Instead, agents would likely seek a percentage of tournament winnings in exchange for their services, as well as a percentage of any sponsorship money secured for the team.
Due to an agent's necessary reliance on tournament winnings and substantial online followings to be paid, teams that have yet to make a name for themselves in professional gaming may find it difficult to find an agent to represent them. It is important to remember, in both professional sports and e-sports, that agents do not establish a brand, but leverage an existing brand and shape it. An agent needs a foundation to leverage, and only the team itself can create that foundation.
Given the increase in popularity of eSports, and the money that is starting to flow through the industry, there is rising potential for a budding agent role for teams.
In the past few years, e-sports (playing video games competitively for profit) has seen staggering growth in the United States. This growth has largely been fueled by the development of a professional tournament association, the inclusion of e-sports in the X Games competitions, and at its core, technology which allows players to connect and compete in ways never previously possible.
Viewership of the e-sports tournaments is also extremely high. Last year, online viewers watched a total of 2.4 billion hours of competition footage. Live events have also sold well, prompting Major League Gaming (the preeminent e-sports tournament body) to establish an arena in Columbus, Ohio. As with the rapid rise of any industry segment, e-sports tournaments have received sponsorships from well-known brands such Coca Cola and American Express. Although the tournaments and their governing bodies have received substantial sponsorship income, teams have not had the same financial success.
Many teams are able to secure small sponsorships which supply products such as controllers and apparel. However, there is a lack of sponsorship dollars supplied to the teams, which may be what is needed most as the expenses of professional gaming can be high. One of the reasons that teams have difficulty securing sponsorships is due to their business organization, or rather the lack thereof.
For e-sports to develop into a true professional league, and for teams to see the sponsorship dollars they desire, teams will have to learn from the businesses of their MLB, NFL and NBA counterparts. Firstly, professional sports teams are business entities, not just a group of people who are acting together. This is extremely important because State law differs as to whether unincorporated associations can enter into contracts, and as to the rights of these associations as a whole. Further, choosing a business entity for the team simplifies the sponsorship process for the brand as it eliminates any question regarding whether the contract is enforceable.
The choice of what business entity to select is a trickier subject, and would have to be determined on a team by team basis. At this early stage of professional gaming, there is no "one size fits all" approach. Professional sports teams have Owners and front offices that handle the business end of the team while the players play. However, that wouldn't be the case at this stage of e-sports. Simply put, the players will also have to handle their team's business. That can become problematic in several situations, especially when team members are minors. Minors' business activities are restricted by State and Federal law, but State law may allow for some creative business-formation possibilities if there are team members over 18 who can start the business. For instance, some states allow minors to be shareholders in a business. Any team considering turning their team into a business should consult an attorney before doing so.
There are a myriad of reasons teams don't receive the sponsorships they desire, including the lack of a formalized business structure. If your team wants to be treated as a legitimate business, make sure your team is actually a business first.
Quiles Law is an esports-focused law firm based in New York City.
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