By Gregory Sy and Currie Lee

7. Information on the investment budget of the franchise:
a. The expenditure for the investment budget may include the following: initial fee; training fee; real estate and decoration fee, procurement fee fpr equipment, office supplies, furniture, etc; initial inventory; water, electricity and gas fees; fees needed to obtain licenses and other governmental approvals; and working capital; and,
b. The statistical source and estimation basis for the above-mentioned fees.

8. Information on franchisees within China:
a. Information on the present and estimated number of franchisees, geographical distribution, scope of license, and as to whether or not they are subject to an exclusive regional license (if so, details of the scope thereof must also be explained)
b. Information on the evaluation of the performance of the franchisee, the actual or estimated average sales volume, costs, gross and net profits of the franchisee, the source of the above-mentioned informationduration of and franchise networks involved (if the information is speculative, then the franchisor shall explain the basis for its speculation, and specify that the actual performance of the franchisee may differ from its speculation.
 
9. Abstracts of the franchisor’s financial and accounting reports and of the audit reports in the last two years audited by the accounting or auditing firms.

10. Information on any major litigation or arbitration involving any franchises of the franchisor in the last five years.
a. Major litigation or arbitration refers to litigation and arbitration involving litigation fees of more than RMB 500, 000; and,
b. Basic information as to the location of the litigation or arbitration and the judgment or award must also be disclosed. 

11. Information on any record of major illegal operations of the franchisor and its legal representative.
a. Where either the franchisor or its legal representative has been imposed with a fine, by the competent administrative law enforcement authorities, exceeding not less than 300, 000 but more than 500, 000; and,
b. Where the franchisor and its legal representative have been subject to criminal penalization.
 
12. Franchise Contract
a. Sample franchise contract; and
b. If the franchisor requires its franchisee to sign with the franchisor (or its associated company), other franchise contracts (sample contract shall be provided at the time of contracting).
 
Note that where the franchisor is found to have concealed or provided false information, the franchisee may rescind the Franchise Agreement.

5. Franchise Agreement
Although franchise contracts are in practice comprehensive and lengthy, the Franchise Regulations require certain clauses be provided in the relevant franchise agreement:

1. basic information on the franchisor and franchisee;
2. content and term of the franchise;
3. types, amounts and payments of franchise fees;
4. specific content and manner of provision of operational guidance, business training, technical and other services to franchisee;
5. quality standards, quality control measures for the provision of products and services by franchise operations;
6. promotions and advertisements of products and services of franchise operations;
7. arrangements for consumer rights, and assignment of liability in franchise operations;
8. amendment, rescission and termination of the franchise agreement;
9. liability for breach;
10. dispute resolution; and
11. other matters as agreed upon between the franchisor and franchisee.
 
The Franchise Regulations also require the contract contain a clause setting out the time period during which the franchisee may rescind the agreement (post- execution of the contract).  Unless otherwise specified, the initial term of the contract must not be less than two years.

Further, where deposits or other fees are required prior to execution of the franchising agreement, provisions for the use and refund of the same must be expressly stated therein.

Advertising and promotional fees collected by the franchisor must be used specifically for such stated purposes and accounting thereof should be provided to the franchisee within a timely basis.

The franchisor is required to report annually, by March 31, the status of each franchise agreement.

6. International/Cross-Border Franchising
International or cross-border franchisors must file, in accordance with the Archival Filing Measures.
 
7. Penalties
Penalties for the violation of the Regulations are as follows:

1. Failure to meet Qualifications (see Item 2): confiscation of illegal income, and fine of RMB 100,000 to RMB 500,000;
2. Franchising by individuals (natural person): confiscation of illegal income, and fine of RMB 100,000 to RMB 500,000;
3. Failure to complete Filing Requirements: order time limit for rectification and fine of RMB 10,000 to RMB 50,000, and where franchisor fails to file within the time limit a fine of RMB 50,000 to RMB 100,000 and public announcement; and,
4. Failure to provide Franchise Agreement thirty days prior to the signing or failure to disclose or concealing information relevant to the franchisee: fine of RMB 10,000 to RMB 50,000, or where serious RMB 50,000 to RMB 100,000 and public announcement thereof.

8. ‘Grandfathering’ Provisions
Companies already conducting franchising activities have one year to file according to the Franchise Regulation.

III Conclusion

China represents a tremendous opportunity for international franchise operations. Although there are numerous challenges and complexities in establishment and operations, the recent legal changes have largely liberalized the franchising market for foreign investors. In combination with the current rates of economic growth, the timing is ideal for foreign franchisors to explore opportunities in the Chinese market.

Gregory M. Sy is a partner / foreign counsel with Grandall Legal Group. His practice includes general business advisory for SME’s in China, particularly in the areas of international corporate structuring and transactions. Representative clients include the Consulate of the United States of America in China (Shenyang), Embassy of Brazil, various publicly listed companies (NYSE, LSE, DAX, and BSE), along with numerous other SME’s operating in a wide range of industries. Mr. Sy obtained an LL.B. from the University of Victoria, and is admitted to the New York bar. Gregory publishes extensively on a variety of China legal issues for international and local publications, and has recently acted as chief editor for Martindale’s China Law Digest. You can contact Gregory at gregsy@grandall.com.cn or learn more about the firm at www.grandall-profile.com.

This is the third and final part of “Guide to franchising in China” Here you can read part 1 and part 2.