The resale of franchise businesses can provide both an exit route for existing franchisees as well as an attractive entry route for new franchisees that start with an already established business. Below is short summary of a typical resale process from conception to completion.
1. Going to Market
Invariably a franchise agreement will contain a restriction on a franchisee selling their business or undergoing a change of ownership, without first obtaining the consent of the franchisor. Therefore, at an early stage of the process, a franchisee who is looking to sell will need to involve the franchisor.
The extent to which a franchisor is involved in the resale process varies and can include:
- Assisting the franchisee with preparing their business for market and the creation of an information memorandum for prospective purchasers;
- Advising the franchisee on an appropriate sale price for their business;
- Helping to identify potential purchasers for the business; and
- Referring the franchisee to a corporate finance broker specialising in franchise resales.
With the franchisor’s blessing, the franchisee can then look to find a purchaser for their business, be it through the franchisor, a specialist broker or otherwise.
2. Identifying a Purchaser
Once a prospective purchaser has expressed an interest in acquiring the franchise business, they should enter into a confidentiality agreement before any information is provided in relation to the business for sale.
A franchisor will also want to investigate whether a proposed purchaser is a suitable franchisee, interviewing them and looking into matters such as their finances and business experience, and carrying out credit and criminal record checks. A fee may be charged to the selling franchisee for the franchisor’s costs of this process.
It should also be established at an early stage how a purchaser intends to finance any proposed transaction.
3. Agreeing Heads of Terms
Once prospective purchaser has been found the next step is usually to agree a set of heads of terms (also often termed as a letter of intent) outlining the basic terms of the transaction
Whilst heads of terms are not a legal requirement nor generally legally binding, they provide a useful framework for the transaction. A well-prepared set of heads which outline the key commercial terms can help save much time, cost and negotiation down the line.
It will also be necessary to establish at this stage whether the transaction is to proceed by way of a share sale (i.e. a sale of the shares in the franchisee company) or an asset sale (i.e. the purchase of the assets of the franchisee’s business).
In a franchise resale, heads of terms are often prepared by either:
- The franchisor, who will want to control the time frames of the deal and set out the main conditions that they will require for the matter to proceed to completion; or
- The broker.
Depending on the value or complexity of the transaction, the parties’ solicitors might also be involved in the preparation and negotiation of the heads of terms.
4. Due Diligence
This is the process where the prospective purchaser investigates the target business.
It is usual for the purchaser’s investigations into the business for sale to begin prior to the issue of a sale and purchase agreement.
Franchisors who hold performance data in relation to the franchise business being sold can assist with the provision of information to the purchaser.
Due diligence is an ongoing process, and the negotiation of the business sale agreement will often take place at the same time.
5. Sale and Purchase Agreement/Franchise Documents
In a franchise resale it is usual for the franchisor’s solicitors to prepare the sale and purchase agreement (“SPA”) which outlines the terms upon which the franchisee’s business/shares are to transfer to the purchaser.
The costs of the franchisor’s solicitors are generally borne equally by the vendor and purchaser, and the solicitors will usually require monies on account of these, or an undertaking to pay such costs, prior to commencing work.
Franchisors often prefer to prepare the SPA for a number of reasons:
- There will be conditions imposed by the franchisor which need to be satisfied before the sale can take place, such as the completion of training by the purchaser, the entry of the purchaser into a new franchise agreement, and the payment of monies due to the franchisor from the vendor/purchaser.
- The SPA should include certain provisions for the benefit/protection of the franchisor, such as a requirement for the completion monies to be paid through their solicitors in order that outstanding sums can be settled, as well as disclaimers of liability on the part of the franchisor in relation to the transaction.
- Often the vendor and purchaser, depending on the value of the transaction, do not have legal representation, so the franchisor will want to ensure that the transaction is properly documented and effected.
Around the same time as the SPA is prepared, the franchisor will issue a new franchise agreement to be put in place with the purchaser together with possible side letters depending on the nature of the transaction. For example, if the purchaser is acquiring the shares in a franchisee company through a newly incorporated company it will be necessary for the new holding company to sign a parent company guarantee to tie it into the franchise agreement.
6. Negotiation of the SPA and Disclosure
Whilst the franchise agreement is not open to negotiation, the vendor and purchaser are generally free to agree amendments to the SPA between themselves provided that such amendments do not impact the franchisor.
Most SPAs will contain warranties from the vendor about the business/company being acquired. Vendors may seek to protect themselves against warranty claims by preparing a disclosure letter, which sets out those matters which are inconsistent with the warranties. A purchaser cannot subsequently bring a warranty claim in relation matter disclosed in such a letter.
The process of negotiating the SPA and disclosure letter can vary in the length, however, generally it will take around 4 to 6 weeks from the issue of the SPA before the parties are in a position to exchange/complete. In the background the purchaser will also be looking to secure the necessary finance required for the transaction.
7. Agreed Form SPA
Once the SPA has been agreed between the vendor and purchaser, the agreed document will be returned to the franchisor’s solicitors for final review and sign off.
If the changes are approved by the franchisor, a final copy of the SPA will be prepared and issued to the parties to signature, together with any franchise documents which need to be signed.
8. Exchange and Completion
Following signature of the necessary documents, the transaction will then proceed to exchange at which point the SPA is dated and takes legal effect.
If there is to be a split exchange and completion, there will be a short period to allow for the completion conditions to be satisfied (for example, the completion by the purchaser of training with the franchisee). Otherwise, completion of the transaction (i.e. the point of transfer of the assets/shares to the purchaser) is often simultaneous with exchange.
At completion, the purchaser will pay the completion payment to the franchisor’s solicitors and the new franchise documents will also take effect and be dated, and the old franchise agreement will terminate (save for any obligations which survive termination).
The purchaser is then the owner of the franchise business.
9. Post Completion
Following completion, the franchisor’s solicitors will deduct any monies due to the franchisor from the completion payment received before transferring the balance to the vendor. Often if the franchisor has helped identify a purchaser for the business, a commission payment will be charged to the vendor based on a percentage of the transaction value.
The franchisor’s solicitors will then issue the final signed and dated documents to the other parties to the transaction. If the matter is a share sale, the purchaser will need to ensure that any stamp duty is paid within 30 days of completion.
Conclusion
The above is just a snapshot of how a franchise resale works. As you will see, there are a number of steps to navigate and it is important to ensure that resales are properly carried out, whether you are franchisor, franchisee or prospective purchaser.
