The structure of a franchise partnership is unique in the way that it is encouraging cooperation and knowledge exchange between the parties, thus making it ideal for proactive contract clauses. For the franchisor, the opportunity to test a market that may be difficult to enter himself, and still create a revenue stream through royalties seems desirable. For the franchisee, the opportunity to take a concept that is proven successful in another market and get the required training to operate it, along with the bargaining power behind the trademark can be very attractive as well.
The risk in the contract is found mainly on the franchisee’s side, as he must undertake relationsspecifik investments that will have little or no value outside the franchise. This poses a risk both in situations where the market is not receptive of the concept as well as in situations where the market is more profitable than expected and the franchisor thus wishes to terminate the contract. In both scenarios, the franchisee will lose the value invested in the franchise as the assets are only valuable in this relation. In the latter scenario, the franchisee will also lose the goodwill created in the market. Most European national law does not deal with the concept of franchising explicitly, and the parties will thus have to rely on conventional contract law to solve disputes. Focusing on Danish national law, this does generally not provide any protection for the franchisee, nor does it deal with what is perceived by the parties as the actual risk.
Instead of using the conventional safeguards such as long interminability, the franchisor should institute proactive clauses to accommodate this risk. However, the standard hardship and gain clauses that will normally be used in proactive contracting will only have limited effect in franchise partnerships. Instead, real put options and a financial call options will give the optimal incentives and flexibility. In case the market is not profitable, the put option can remove part of the risk of investing in relationsspecifik assets from the franchisee, by giving him the option to sell the assets to the franchisor at a small discount. On the other hand, when there is a gain in the market, the franchisor must distinguish between the material gain and the immaterial gain. The franchisor can get a higher price for the franchisee’s operations than the franchisee can himself. This allows the franchisor to attain most of the immaterial gain and thus leaving the material gain to the franchisee. Hereby the hold-up risk is removed, the parties have goal congruence and thereby optimal incentives to cooperate and exchange knowledge, and the franchisor will have the flexibility to take over the market at will.
|Educations||MSc in Commercial Law, (Graduate Programme) Final Thesis|
|Number of pages||84|
|Supervisors||Kim Østergaard & Bent Petersen|