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Finding Space for Your Franchised Business

Before you sign a lease for a commercial location, read these tips from a legal expert to protect yourself and your new business.
April 26, 2004
URL: http://www.entrepreneur.com/article/70514

"Last year, I bought a franchised business servicing people's computers. Up to now, I've been doing business out of my home, but I'm planning to hire a couple of employees and, frankly, my wife is starting to complain about the inventory of computer parts in our basement. I think it's time for me to start looking for retail space. I'll need about 1,000 square feet, according to the franchise people. I'm doing well, but I'm still not 100 percent sure the business will take off and I'm afraid of locking myself into a long-term lease I can't get out of. Do you have any advice for people in this situation?"

You bet. First of all, be sure to involve your franchise people. Look to see if your franchise agreement requires them to help you out with "site selection." Most franchises are fairly fussy about where their franchise units are located. Some will even fly a representative out to accompany you on your search, so you can get a better sense of the type of neighborhood and demographics the franchise will consider ideal for your location. Many franchises also want the right to review the proposed lease and give you their approval before you sign. Call your franchise headquarters, ask for the lease review department, and find out what they can do to help you.

Next, find out if your franchise will require you to sign a "collateral assignment" with the landlord. This is a short document that basically says "if the tenant [that's you] defaults under the lease, we will give your franchise notice of the default and give them an opportunity to correct the problem before we evict you." Many, if not most, franchises require such a document. The form of "collateral assignment" probably appears in your franchise package, but if it's been more than one year since you bought your franchise, they've probably changed the form, so be sure to ask for a current one.

When speaking to landlords, be sure to tell them you're part of a franchise operation and that the franchise will want certain provisions included in the lease. Most landlords won't object to this, as they would much rather have a large nationwide business "on the hook" for their rent and other obligations than a smaller, mom-and-pop operation like yours.

Next, you and your lawyer will need to review the lease, which will almost always be on the landlord's standard form. A little reality check is in order here. While 1,000 square feet may seem like a lot to you, to a commercial landlord, it's a drop in the bucket (most commercial landlords own several shopping centers or office buildings, with millions of square feet available for rent), and they probably won't want to spend a lot of time negotiating their lease document for such a small space. Keep your demands to as few as possible, and make sure they're all "deal points"-in other words, if the landlord doesn't show you some flexibility on each point, you'll walk away from the deal. If your lawyer has 35 changes he or she wants to make to the lease, sit down with them and get their sense of what's truly important.

So what's crucial when negotiating a lease for a franchised business? Here are some standard lease clauses that can cause some peculiar problems for franchises:

Use of Premises. Most leases, especially for shopping center and strip mall spaces, require you to describe your business. This description should be as broad as possible and should include the phrase "and such other lines of business as are permitted or required to be operated by franchisees of XYZ Franchise generally." As your franchise grows, you'll be asked to do different things, and you don't want to have to keep running back to your landlord for permission to do them.

Noncompete. The shopping center owner should agree that, as long as you're paying rent and otherwise behaving properly under the lease, they won't allow a competing business to open a store in the same shopping center. You don't want to wake up one morning and find out three new computer stores have opened in your mall. If the landlord objects to this, you can suggest limiting the noncompete to businesses that are "primarily engaged" in your business. So, for example, if you operate an ice cream parlor, the landlord cannot lease to another ice cream parlor but could lease to a Chinese buffet restaurant with a single soft ice-cream machine that can be used only by buffet customers. (Hopefully, your ice cream is so good, the Chinese restaurant patrons will visit your place for dessert anyway.)

Signage. Many franchises have a national sign package they want their franchisees to adopt, so that individual franchised stores look the same no matter where they're located. This franchise package may, however, conflict with the look that the shopping center owner wants all his stores to have. Send photos of your space to your franchise, have them prepare a mock-up of what your signage will look like, and get the landlord's approval of the mock-up before signing the lease.

Cross-Default. If you lose your right to operate as a franchised business, the franchise won't allow you to continue operating your store in the shopping center, yet you'll still be on the hook for rent under the lease. You should be allowed to terminate your lease without penalty in the event you lose your right to operate as a franchise for any reason, unless the franchise assumes your obligations under the lease within 30 days and finds someone else to operate your store.

Assignment/Sublease. Make sure you're permitted to assign and/or sublease your space to (a) your franchise and (b) your successor in the franchised business, in the event you can no longer continue operating the franchised business and have to hand the keys over to someone else.

Termination. Most commercial landlords won't let you out of your lease if the business isn't doing well. Because they don't know how long the property will be vacant if you leave, they'll want you to notify them if you find you can no longer keep on paying rent, and then continue paying rent while they look for another tenant. If they find another tenant, but the tenant wants a lower rent than what you were paying, you'll be required to pay the difference each month between what the new tenant is paying and what you previously paid. So if there's 30 months left on the lease term, the new tenant is paying $90 a month and you were paying $100 a month, you'll be on the hook for 30 times $10, or $300. Some landlords will want you to pay this amount in a lump sum.

The key to getting out of a lease (as well as the key to getting out of a bad franchise) is to find someone willing and able to take over your business and pick up where you left off. Regardless of what the lease says, a reasonable landlord will let you off the hook if they like the person you're handing off your business to and the rent is the same or greater as what you were paying under your lease.


Cliff Ennico is a syndicated columnist, author and host of the PBS TV series MoneyHunt. This column is no substitute for legal, tax or financial advice, which can be furnished only by a qualified professional licensed in your state. Copyright 2004 Clifford R. Ennico. Distributed by Creators Syndicate Inc.