TABLE OF CONTENTS PART V - ELEMENTS OF A GOOD FRANCHISE

TABLE OF CONTENTS PART I - PREFACE PART II - SOME DEFINITIONS - Franchising - Single-Unit Franchising - Multiple-Unit Franchising - Getting Started PART III - WHY FRANCHISING PART IV - ADVANTAGES AND DISADVANTAGES OF FRANCHISING PART V - ELEMENTS OF A GOOD FRANCHISE - Investigating The Franchise Opportunity PART VI - COSTING A FRANCHISE PART VII - LEGAL CONSIDERATIONS - Statute Law - Franchise Documentation PART VIII - THE FRANCHISE AGREEMENT F: \P\PK017359\925087\FRANCHIS. PAP

PART I - PREFACE This Saturday morning you decide to have breakfast out, as you will be doing errands for most of the day. You have breakfast at Smitty's and then drive to the Canadian Tire to pick up winter tires for the new car you bought last fall at the local Toyota dealer. Next weekend you will be leaving for Florida, for two weeks vacation, so you drive to the Uniqlobe travel agency to pick up your plane tickets. The flight will be 2~ hours, so you go to the shopping centre to pick up a book at Bestsellers. While at the shopping centre you also pick up some toiletries for the trip, at Pharmasave. It's lunchtime, and you decide to have chicken at Kenny Roqer's Roasters. It's time to go home but you first have to get gas at the QLCQ service station. After leaving the station, you decide that it would be nice to take some donuts home to the kids, so you stop at Tim Horton's. You leave Tim Horton's with a coffee for yourself, and drive home to your house, which you bought earlier that year through the local Prudential agency.

- 2 - PART II - SOME DEFINITIONS FRANCHISING From the lawyer's perspective, the following is a definition of franchising: "... Generally, 'franchising' is an ongoing contractual agreement between two parties, the franchisor and the franchisee, in which the franchisor grants the franchisee the right to market a product or service, including the use of a trademark, and in conjunction therewith provides a tested format or system as well as know-how in a variety of areas, for which the franchisee is required to conform to the format or system, maintain quality standards, and pay a set fee, usually by way of royalties, for the franchise. The scope of services provided by the franchisor will vary from system to system. At one extreme is the 'distributorship' type franchise in which the franchisor simply provides products for resale purpose to the franchisee, and receives income for such products based on product purchases and perhaps a royalty on sales. At the other extreme is the 'turn~ey' franchise in which the franchisor performs such services as assistance in obtaining financing, site selection, construction and equipping of premises, franchisee training, initial opening assistance, provision of inventory, furnishing of management and accounting sy~tems, administration of advertising qnd marketing programs, and continuing supervision of franchised business." Canadian Franohise Guide, Zaid, Frank, LL.B.; Carswell, Vol. 1, p. 1-402 From the accountant's perspective, the following is a similar definition:

- 3 - "Franchising is essentially a marketing technique used by many companies to distribute products or services. The franchisor supplies the product or service to the franchisee who in turn makes it available to the public. When you enter into a franchise agreement or 'buy a franchise', you are buying an ongoing relationship with the distributing company, the franchisor. This relationship is based on the premise that mutual contribution leads to mutual benefit. Numerous franchisors simply make exclusive licenses available to franchisees to market their products in specific locations or areas. This is known as 'product distribution' franchising. However, many franchising operations have extended this concept into a more rigid and all-encompassing arrangement known as 'business format' franchising. Under this set-up, the franchisor provides the franchisee with a total package including training, trademarks, logos, standard design for buildings, standard furnishings, color schemes and uniforms for employees, marketing plans, operating systems, formulas and continuous advice. The franchisor dictates how the business will be operated by the franchisee, including pricing policy, standards of cleanliness, hours of operation, sources of supply, hiring and training practices, quality of service, and so on. In return, the franchisee must usually pay an initial franchise fee and continuing fees on a royalty basis to the franchisor, as well as adhere strictly to the rules/ guidelines set out by the franchisor." Franchising in Canada, Gilbert, Thomson, David, C.A., Dabbikeh, Canadian Ltd., 1986, p. 2 Taylor, F.C.A., Peter, C.A. i CCH Although retail sales from "distributorship" or "product distribution" franchises is substantial, the real

- 4 - growth in franchising for the foreseeable future will be in "business format" franchises. Therefore a word about the different types or arrangements within "business format" franchising is warranted. The 2 most common types of business format franchising are as follows: SINGLE-UNIT FRANCHISING The usual purchase of a franchise involves the purchase of a single-unit franchise. The purchaser acquires a defined market area for one franchise outlet with the purchaser investing his or her own capital, time and accepting the risks of being in business. The franchisee usually pays an initial franchise fee and an ongoing royalty fee (usually calculated as a percentage of gross revenue). MULTIPLE-UNIT FRANCHISING There are basically two types of "multiple-unit franchising", being: (a) Area Development Franchising This is a situation where the franchisee acquires exclusive right to a defined market area to establish more than one franchise outlet. Usually the franchisee is given a specific time limit and a minimum number of franchise outlets to be established wi thin the market area. The market area could be a city, province or region. The franchisee in this situation is sometimes called an "area developer".

- 5 - Under the "area development" franchising arrangement, the area developer is required to own and operate each of the franchise outlets within the market area. However, it is not unusual for the franchisor to permit the area developer to have an equity partner for each outlet, being the manager of the individual outlet (with up to 20-30% of the ownership for the individual outlet being sold to the manager). This is done to encourage and promote ownership qualities within the management of the individual outlets. (b) Master Franchising With this type of arrangement, the franchisee also receives a defined market area, for a minimum number of franchise outlets within a specified period of time, but is not required to own or operate any outlets. Under this arrangement, the defined market area is usually larger (the franchisee is sometimes called either a "sub-franchisor" or a "master franchisee") Wi thin the defined market area the franchisee is given the right to sub-franchise outlets to other people, and the freedom to own one or more of the franchise outlets. GETTING STARTED There are various methods for a franchisee to get started with a business format franchise. The usual methods are: 1. Turn-key franchising;

- 6-2. 3. 4. Going concern franchising; Franchisee involvement franchising; and, Conversion franchising. Where the franchisor chooses the location, buys or leases the premises, completes the renovations or leaseholds, trains the franchisee and the initial staff prior to the opening and, at the opening essentially passes the "key" to the franchisee, the franchisee has obtained a "turn-key" franchise outlet. In return, the franchisor will receive the initial franchise fee, reimbursement for development and inventory costs, and possibly a "start-up" fee. As an alternative, the franchisor may initially move into a market area, open the franchise outlet, and operate it as a going concern, as a "show" outlet for attracting publicity and attracting future franchisees within the market area. Usually the "company" outlet is also used as a training outlet for training future franchisees and future franchise staff. At some point during the development of the market area the company outlet may be sold to a franchisee, as a "going concern". The franchisor would receive the usual initial franchise fee, reimbursement for the development and construction costs and, some form of "goodwill" fee (which would equate to a "start-up" fee plus a fee for an operating franchise outlet).

- 7 - "Franchisee involvement franchising" encompasses the arrangement where a location (either without premises or with premises that have to be renovated) is located and approved by the franchisor, with the franchisee then becoming involved in the planning and development of the franchise premises, training of staff and eventually the grand opening. Usually most, if not all, of these activities are supervised or subject to approval of the franchisor. Here, the franchisor normally only receives the initial franchise fee and may receive reimbursement for any direct or out-of-pocket expenses incurred in respect of assisting the franchisee develop and open the outlet. Lastly, "conversion franchising" involves a franchisee's existing business being converted into a franchise outlet. This type of franchising usually occurs where you have an independent business entrenched in the marketplace but to remain competitive, it requires regional or national advertising and purchasing power to compete with regional or national chains.

- 8 - PART III - WHY FRANCHISING Why franchising: in 1990 there were over 1,000 franchise systems or packages in Canada, representing in excess of 50,000 separate franchise outletsj during 1992 retail sales from Canadian franchise outlets were in excess of 70 billion dollarsj during 1992 franchises accounted for over 25% of retail sales in Canada ($0.25 out of every retail dollar) j during 1992 franchises accounted for over 33% of retail sales in the United States (with total retail sales in excess of 700 billion dollars)j 25% to 30% of new businesses fail in their first 2 years of operation, while on the other hand, only 4% to 6% of franchisees fail in any given yearj it is estimated that 80% of all new businesses fail within the first 5 years of operation while only 20% of all franchised businesses fail within the first 5 years of operation. Franchising may have obtained a bad name in some circles, on account of unscrupulous promoters or, because of people promoting a franchise business or system with little or no personal record of success or, because the business idea or concept has only slim chances of success. There is no

- 9 - guarantee that a franchise system will be successful.

- 10 - PART IV - ADVANTAGES AND DISADVANTAGES OF FRANCHISING For your client, there are many advantages and some disadvantages to franchising. Some of your clients may become very successful and retire early, while others may simply be purchasing a job for life (which itself has some advantages, such as job security). You should therefore encourage your client to review the advantages and disadvantages of the franchise opportunity very carefully. The many advantages would include the following: quite often the easiest form of starting a business (from planning, financing, etc.) is to purchase a franchise with a known track record (particularly so for the conservative business person); a franchise offers the opportunity of buying into an established or existing successful concept, while in and of itself is no guarantee of success, it certainly reduces the risk of business failure; there is the ongoing assistance and problem-solving ability of the franchisor, who can afford to hire specialists on a regional or national basis; there is regional or national advertising in several types of media that might not otherwise be affordable; there is somewhat easier access to credit with financial institutions (Banks know that the chances

- 11 - of success are greater with a customer starting a franchise/ and for example/ the Bank of Montreal has its franchise lending manual/ for nationally known franchises/ which determines the banking arrangements that can be entered into); an opportunity to purchase supplies or products at a reduced cost/ as the franchisor is purchasing in bulk and passing the savings (or some of the savings) onto the franchisees; as a franchisee / there is more job security than just being an employee; if the franchise is an existing franchise system/ the product or service will have its own track record and will already be known to the public (the customers)/ and therefore the franchisee can expect retail sales from the first day the franchise opensi the initial capital investment to start a franchise is quite often lower than that required to start a new business (this may not be so with the "highend II well established franchises / as the initial franchise fee may be very high). There are some disadvantages for your client/ when purchasing a franchise. Some of these are: there may be conflicting long and short-term profit objectives between the franchisor and franchisee;

- 12 - there is loss of business freedom since the franchisee must maintain certain standards and conform to certain policies in the operation of the franchise; the franchisor may simply not live up to the franchisee's expectations; if the defined market area is not restricted, with exclusivity to the franchisee, then the market area could become over saturated by the franchisor; al though not frequent, sometimes the services or supplies (or equipment and trade fixtures within the outlet) may be obtainable at lower prices from other than the franchisor (if the franchise agreement is non-restrictive and equitable in its nature, it will permit the franchisee to price the supplies or services elsewhere, and then permit the franchisee the opportunity of purchasing the supplies or services, provided they are either identical or substantially comparable to those sold by the franchisor).

- 13 - PART Y - ELEMENTS OF A GOOD FRANCHISE Besides the business concept itself, there are several fundamental or basic elements that make up a good franchise, including the following: (a) Trademark/Logo/lmaqe Wi th an established franchise these are the most important elements to consider. They represent the goodwill of the franchise. The more recognizable by the public (the customers) the higher degree of chance of success with the franchise. (b) Training Franchisee training is essential with some franchises. A franchisee training manual provides a standardization for training programs for staff, but there is nothing like a "hands on" program at a company or training outlet of the franchisor, at least for the franchisee and one or two key personnel. Training can also include on-site training at the new franchise outlet. In addition to initial training by the franchisor, continued support and training programs throughout the life of the franchise also indicate a good franchise. (e) Equipment And Fixtures Regardless of whether the franchise outlet will be in a new building, in an existing building or, in a shopping centre, the franchisor will have developed standard equipment

- 14 - and fixtures for the premises, which the franchisor should be able to acquire and sell to the franchisee at reasonable prices. If the franchisor offers such a service to the franchisee, it is just another element of a good franchise. (d) Operations Manual The operations manual is normally confidential as it is the blueprint for the successful operation of the franchise. It can cover things such as the policies, rules and procedures for the operation of the outlet from anything from purchasing local advertisements, cleaning washrooms, ordering supplies, cleaning equipment, etc. If the franchise being investigated by your client does not have any operations manual, your client should ask the franchisor "why not". (e) Accounting/Record Keeping Once the franchisor has sold the franchise, and obtained the initial franchise fee, future revenue for the franchisor may corne from either future royalty/renewal fees and the sale of products or services to the franchisee. If the franchisor is to receive a royalty throughout the term of the franchise, then quite often the franchisee will be supplied with some form of accounting or bookkeeping standard policies or procedures. Some franchises today even provide software programs to their franchisees (for a proportionate share of the development cost for the program). The

- 15 - standardized accounting and bookkeeping will only benefit both the franchisee and franchisor, as it simplifies the record keeping for the franchisee and reporting of gross revenue to the franchisor. (f) Company Outlet Although not always an element of a good franchise, quite often with well established franchises the franchisor will own, maintain and operate at least 1 or 2 company outlets, as show places for prospective franchisees and, as training centres for new franchisees. As an alternative to a company outlet, some franchisors have one or two designated franchise outlets, owned by franchisees, that are used specifically for training new franchisees. Regardless of which method is employed, it is usually an element of a good franchise that there is some outlet available to the new franchisee, for that initial training. (g) Advertising/Promotion Does the franchise system that your client is looking at include or make reference to who will be responsible for advertisements, in what areas and in what media, who will pay for the advertisements and, how frequent will the advertisements take place? Depending upon the type of franchise that your client is considering, the answer to these questions will vary. Regardless, an element of a good franchise is that any advertisements by local franchisees must

- 16 - be subject to the prior supervision and control of the franchisor. The total franchise system, from one franchise outlet to the other, has to have standardized advertising, themes and concepts to promote the over all image and good will of the franchise system. (h) Supplies/Services Some franchisees purchase product, supplies and services from the franchisor. If this is the case, an element of a good franchise of this nature is one where the franchisor agrees to pass on to the franchisees the volume savings, subj ect to an administration fee to the franchisor. The success of the franchisor is dependent upon the success of the individual franchisees, and therefore all will benefit from volume discounts. The continued success to any franchise system is the standardization of the product or service from one franchise outlet to another, which only comes from quality control exercised by the franchisor. There should be reference to this type of control and supervision by the franchisor within the franchise documentation, in particular the franchise agreement. It is only another element of a good franchise. (i) Franchise Documents From a legal perspective the quality of a particular franchise is sometimes seen simply by the franchise documentation presented to your client by the franchisor. For

- 17 - example, is there a franchise application, a confidentiality agreement, a site/location agreement (lease, sub-lease, notice of lease, first right of refusal, etc.), franchise agreement, non-competition agreement, etc. Does the franchise agreement cover all possible eventualities or is it a simple agreement dealing with the grant of the franchise and nothing more? INVESTIGATING THE FRANCHISE OPPORTUNITY Specifically, how does your client investigate or check-out a franchise opportunity. The following is an example checklist that could be provided to your client: 1. Write to each franchisor who interests you and ask for a franchise kit (don't expect a complete kit, as usually the complete kit will only be released by the franchisor upon the payment of some sort of refundable deposit)j 2. Ask for the franchisor's most recent financial statements, showing profit and loss (also get the names of the principals of the company and why the franchisor got into franchising)i 3. Check to see if the franchisor is operating in Alberta or in the United States (in Alberta and in most States there are franchise laws requiring the franchisor to file financial statements and information on the principals, which is available to a prospective franchisee)i

- 18-4. Ask for a copy of the franchisor's trademark application or registration (if it is not forthcoming, it may not be registered or there may be difficulty in having it registered, which may mean that the franchise is almost without value)i 5. Request a list of other franchisees in the system (do not accept an abbreviated list, but rather a complete list with phone numbers, and contact those in a similar geographical/demographical area - see below for an example of questions to ask these other franchisees)j 6. Complete the application process and be prepared to disclose your financial backgroundj 7. 8. Obtain a full set of legal documentsj If you are required to give a deposit, insure that it is refundablej 9. Analyze the proposed site very carefully (ask the franchisor for the studies and factors that have determined the particular site as a good chance of success for a franchise)j 10. Visit the actual building and note the surrounding types of businessesj 11. Talk over the prospect of buying a franchise with your family (there is a personal time commitment for

- 19 - the first few years of the operation, which is normally well in excess of 40 hours a week); and, 12. Take a day or two to review the pros and cons. Franchising - A Complete Guide For Canadian Buyers and Sellers, Cline, Bev. i Key Porter Books Ltd., 1989, p. 36 (Adapted by the authors from the Ontario Ministry of Industry, Trade and Technology and the management consulting firm of Woods Gordon) Lastly, as an example of some of the questions that your client could ask other franchisees, with a similar franchise, are as follows: 1. What was the total investment (not just the down payment) required by the franchisee, and were there any unexpected or hidden costs? 2. Were the financial projections of revenue, expenses, and profit by the franchisor accurate? 3. Did the franchisor live up to his or her promises in such matters as assistance in opening the business, advertising and promotional support? 4. What was the extent and nature of training provided, and was it adequate? 5. Is the product supplied by the franchisor of good quality and are deliveries promptly made? 6. How long did it take for the business to reach its break-even point, and how much longer before it could support you?

- 20-7. Have you had any disagreements with the franchisor? If so, how were they settled, and were you satisfied? 8. What periodic reports do you have to send to the franchisor, and is there useful feedback? 9. Would you advise anyone to start a franchise with this particular franchisor? 10. If you could change anything in the contract (franchise agreement) what would it be? Franchising Michel M.; 1987, p. 39 In Canada Pros and Cons, Col tman, International Self-Counsel Press Ltd.,

- 21 - PART VI - COSTING A FRANCHISE When your client approaches you for advice, when he or she is considering a franchise, one of the best pieces of advice that you can give, is to advise your client to retain the services of an accountant. Various financial projections either have to be reviewed or prepared, which would normally include the opening balance sheet, income statement and cash flow statement for the franchise. In addition, your client may need a business plan necessary to arrange financing and to establish a line of credit with a bank, which the accountant can assist in preparing. Within the various franchise documentation and materials, and in particular the franchise application and franchise agreement, there may be reference to certain fees, royalties or costs that are payable or have to be incurred by the franchisee prior to the commencement of business. If you are asked to review the franchise documentation and materials to determine what these costs or potential costs are, the following is a brief checklist of what to look for: 1. Initial franchise fee; 2. Leasehold improvements (alterations to leased premises); 3. 4. Development/design fees; Furniture, fixtures and equipment - freight and installation charges; including taxes,

- 22-5. Signage -including production and installation; 6. Automobiles licensesj including alterations, signage and 7. 8. 9. Deposits, permits, last month's rent, cash funds; Insurance premiums; Telephone installation, yellow pages; 10. Initial inventory - including supplies; 11. Training costs including travel accommodations; and 12. Pre-opening costs - rent, staff salaries, utilities, supplies, and wastage; 13. 14. 15. Site start-up, special staffj Opening promotional campaignj Initial bookkeeping supplies/ services, stationary, invoices and business cardsj 16. 17. 18. 19. Incorporation costsj Financing costs; Working capitalj Franchise investigation costs (legal fees for review of contracts and agreements, accounting fees for preparation of financial projections and assistance with bank loan application, and market/site selection study or analysis)j

- 23-20. Other costs (depending on the franchise system). Franchising - A Complete Guide for Canadian Buyers and Sellers, supra, p. 59 (this particular list was copyright in 1988 by Price Waterhouse)

- 24 - PART YII - LEGAL CONSIPERATIONS STATUTE LAW The only province in Canada with separate franchise legislation is Alberta, being the Franchises Act, R.S.A., 1980, c. F-17, as amended by the Franchise Amendment Act, 1983, S.A. 1983, c. 46, which became effective on June 6, 1983. The Alberta Act is modelled after California law, and is a disclosure registration statute rather than a regulatory statute. It is administered by the Alberta Securities Commission and is designed to provide protection to the public through requiring full, plain and true disclosure of all material facts relating to the franchise being offered. A prospectus must be filed by a franchisor, outlining the franchisor's financial capabilities and the history of the franchise company and of its principals. Under the Act the franchisor must deliver to the purchaser of a franchise, its statement of material facts or its prospectus either before entering into the franchise agreement or not later than midnight on the fourth business day after entering into the franchise agreement. Once the purchaser receives the statement of material facts or the prospectus, the purchaser has a cooling-off period of four business days in which to elect not to be bound by the franchise agreement, if it has already been signed.

- 25 - A purchaser of a franchise has the right to rescind the franchise agreement if the statement of material facts or the prospectus contains an untrue statement of material facts. Section 37 of the Act contains a limitation period of two years from the later of, the date when the statement of material facts or the prospectus was received by the purchaser, or the date of the franchise agreement. Apart from Alberta, the only other province that has any legislation dealing directly with franchising is Quebec. Instead of a separate statute, Quebec amended its Securities ~, R.S.Q. 1970, c. V-1, as amended, to apply to franchising. A prospectus is now required to be filed in the Province of Quebec. In the other provinces franchise relationships are governed by provincial statutes of general nature, relating to business, trade practices and consumer protection. They vary from province to province and usually deal more with the franchisee-consumer relationship than the franchiseefranchisor relationship. The Federal statutes that relate to franchising are the Competition Act, R.S.C. 1985, c. C-34, as amended R.S.C. 1985, c. 19 (2nd Supp.) and the Trade-marks Act, R.S.C. 1985, c. T-13. The Competition Act is an anti-trust or competition statute. The Trade-marks Act is a registration statute for the registration of distinctive marks, products or services.

- 26 - Previously under the Trade-marks Act a franchisor had to have the franchisee execute a registered user agreement, and file the registered user agreement under the Act. However, with the enactment of Bill S-17 on June 9, 1993, the registered user provisions of the Trade-marks Act were abolished. Before leaving the topic of legislation effecting franchise relationships, in Nova Scotia, if your client intends to acquire a franchise with a liquor license, you should be familiar with 8(2) and 14(j) of Regulation 156/83 made pursuant to the Liquor Control Act, R.S.N.S. 1989, c. 260, which provides: "8(2) Every licensee shall file with the Board for approval, without delay, a copy of every agreement, written or verbal, instrument or document, including leasing agreements and management contracts, of any kind respecting the operation, management, ownership or use of the licensed premises that may in any way affect the operation of the premises or the conduct of the business therein. 14 (j ) A holder of a license shall not personally or through any employee, servant or agent, in or about his licensed premises, unless the Board otherwise directs, pay any person any sum of money as consideration under any agreement of sale, employment or management that varies or may vary directly or indirectly with the volume of liquor sales." Under 8 (2) provided the franchisor and franchisee have entered into a typical franchise agreement, and not merely an agreement between two parties transferring control

- 27 - of a liquor license establishment to another, the Board would normally, subject to 14(j) approve the franchise agreement. Section 14(j) relates to royalty payments under a franchise agreement based on gross sales, which would normally include liquor sales. If the royalty on gross sales is within reason and there is no specific or extra royalty based on liquor sales, the Board would normally approve the franchise agreement. FRANCHISE DOCUMENTATION In franchising the legal documentation is most important. The franchisee only has one opportunity, even if limited, to negotiate the agreements with the franchisor (being at the time the franchise is purchased). It is therefore important that the franchise documents represent or delineate the "business deal", especially if it varies somewhat from the standard or usual franchise documentation of the franchisor. The franchisor will normally be reluctant to have any changes in its legal documentation. However, there is some opportunity to negotiate, with any variances in the franchise documentation being often set out in side agreements (be careful that any side agreement is not just supplemental but also overrides the usual or boilerplate clause or clauses in the franchise agreement).

- 28 - Ignoring documents relating to location and premises, the usual legal documentation package includes the following: 1. The application form (usually this is the first document the lawyer sees and quite often it has already been signed by the client. It usually calls for personal and financial information about the client, to screen the client, and a "good faith" deposit, ranging from a couple of hundred dollars to a few thousand dollars, which is normally refundable if there is no purchase of the franchise - if it is a new franchise system then you may want to consider holding the deposit in your trust account or, having the lawyer for the franchisor holding it in his or her trust account); 2. The franchise agreement (assuming it is a singleunit franchise arrangement. However, if it is an area development or master franchise arrangement, then the package should also include the area development or the master franchise agreement); 3. Securi ty agreement (sometimes the franchisor will request security from the franchisee, for payment of the monies owing to the franchisor, and thereby take a charge on all or some of the assets of the

- 29 - franchise (e.g. debenture, etc. ) and possibly personal assets of the franchisee); 4. Assignment and guarantee agreement (this is normally a two-part agreement whereby the individual assigns the franchise agreement to a corporation and, guarantees to the franchisor the performance by the corporation. In addition there is normally a postponement portion to the guarantee, whereby the franchisee and the franchisee corporation each postpone their claims to that of the franchisor). In the package of documentation, respecting the location and premises, there is often included the following: 1. 2. Equipment and sign lease; Lease or sub-lease (the franchisor sometimes wishes to control the location and therefore will enter into the lease with the landlord or, if the franchisee owns the premises, enter into a lease with the franchisee, and then sub-lease the premises to the franchisee. This permits the franchisor to remove the franchisee from the location if the franchisee is not performing under the franchise agreement and, at the same time to continue with the location and a new franchisee); 3. Renovation agreement (providing for the renovation of the premises, where the franchisor completes the

- 30 - renovations at the cost of the franchisee).

- 31 - PART VIII - THE FRANCHISE AGREEMENT Some franchise agreements merely license the franchisee to use certain trademarks in a defined area. Other types of franchise agreements can be very specific and detailed in every aspect of the business to be conducted by the franchisee at the franchise location (a "business format" franchise agreement). It is impossible to review all of the various types of agreements, so only the key provisions of a "business format" franchise agreement will be reviewed. If you need a detailed franchise agreement, to compare with the franchise agreement presented to you by your client, then reference may be made to any of the precedent books or, to volume 3 of the Canadian Franchise Guide, supra. The essential or key provisions of a "business format" franchise agreement are as follows: (a) Term Remembering that the initial franchise fee is the purchase price paid by the franchisee for the right to operate the franchise for a period of time, the franchisee normally would like the "term" to go as long as possible. Regardless, the length of the term must at least be sufficient to render the franchise economically feasible having regard to the total capital outlay initially required by the franchisee.

- 32 - (b) Initial Fee There is usually a whole section or portion of the agreement dealing with the fees and expenses payable to the franchisor. It commences with the initial franchise fee, representing the consideration for the right and license granted in the franchise agreement and, the opportunity to establish the franchise outlet. It is normally payable upon the execution of the agreement and is fully earned by the franchisor at that time. If the franchise agreement is being signed in advance of the franchise outlet being opened for business, a request should be made that the initial franchise fee be held in trust, either in your trust account or the trust account of the lawyer acting for the franchisor. (c) Renewal Fee Often the term of the franchise is from 10 to 20 years. However, the trend is to have shorter franchise terms, thereby necessitating more attention to the renewal provisions of the franchise agreement. There is normally certain criteria that has to be met before the franchisee may renew the agreement and these criteria should be obj ecti ve and realistic. Instead of paying another initial franchise fee at the time of renewal, the franchisee is quite often asked to pay a renewal fee which may be expressed as a percentage of

- 33 - the initial franchise fee. In franchise agreements where there is no renewal feel there is at least a clause requiring reimbursement to the franchisor for any and all costs and expenses incurred in connection with the renewal. (d) Royalty and Other Fees Without ongoing royalty fees a franchise system would eventually break-up and end. The royalty fees are used by the franchisor to provide continued support and service to its franchisees. Usually the royalty fees are based as a percentage of gross revenue and payable periodically (weekly, every four weeks, monthly or quarterly). In addition to the royalty fee there may also be a service fee and an advertising feel also based as a percentage of gross revenue. (e) Territory Your client should know at the start whether there are any territorial restrictions and whether the territory is exclusive or not (there is nothing wrong with a nonexclusive territory if the market will support more than one franchise outlet). There should be no ambiguities in the description of the territory and specific geographic boundaries should be used and preferably a map should be attached as a schedule. If the franchisee does not have an exclusive territory I then a request should be made of the franchisor for

- 34 - a first right of refusal for any new franchise outlets within the territory. (f) Training Not only is the initial training process important, but the franchise agreement should also provide for continued training throughout the term of the franchise (in particular where the franchisor may develop new products or services for sale by the franchisee). The agreement most often will require the franchisee to participate in certain minimum training programs and pay for travel and hotel costs (but no fee for the training). If a training manual exists, there should be provision in the agreement that the franchisee be given a copy of it, which should also be updated periodically by the franchisor. (g) Purchases of Supplies An adequate and reliable source of supplies for the franchise outlet, at reasonable prices, must be available to the franchisee. Sometimes the franchisor will sell the supplies to the franchisee or designate suppliers. Regardless of which method is chosen by the franchisor, the aim of the franchisor is to maintain and control quality. The franchisee, on the other hand, wants reasonable prices for the same or substantially similar supplies.

- 35 - A clause that is useful is one that permits the franchisee to seek out other suppliers, for identical supplies or substantially similar supplies, provided they meet the same quali ty control criteria, which the franchisee is then at liberty to purchase. (h) Trademark/Logo/Image The franchisor must undertake and agree to protect and defend the trademark, logo and image for the franchise system. In addition, although it may not be possible to achieve, an indemnification clause in favour of the franchisee against claims by third parties in respect of the trademark, should be added to the agreement. (i) Operations The operating policies and procedures are set out in the franchise agreement and are normally extensive. There is also often reference to an operating manual, being incorporated by reference (if so, a copy of the manual should be reviewed before the agreement is signed). Usually the franchisor will require and maintain the ability to change or al ter the standards and policies if either a problem has occurred in the franchise system or, a new product or service has been developed. Regardless, the franchisee will not want the costs of any new operations to exceed a budget level or variance, in anyone particular year, and therefore some restriction may be negotiated, such that if the projected

- 36 - costs will exceed a budget limit they can be implemented over a 2 year period. (j) Assign or Sell The ability of the franchisee to assign or sell the franchise is a measure of the freedom or control the franchisee has over the value of the franchise outlet. If the right to assign or sell to a third party is subject to condi tions or demands by the franchisor, including a price less than that offered by the third party, this should be known and addressed prior to the signing of the franchise agreement. Usually the franchisee is permitted to sell the franchise to others, subject to the franchisor's prior approval of the new franchisee. The franchisor will usually charge a transfer fee to cover the costs and expenses of transferring the franchise documentation to a new owner. There are two important clauses that should be negotiated into the franchise agreement. The first is the right of the franchisee to assign the franchise to a corporation, if wholly owned by the franchisee and, provided the franchisee gives suitable security and guarantees to the franchisor of the due performance by the corporation. The second clause relates to the situation of a death of the franchisee. There should be provision to permit the transfer of the franchise to the deceased franchisee's family, subject

- 37 - to the franchisor's approval, which should not be unreasonably withheld. (k) Breach and Termination The provisions of default by the franchisee are normally exhaustive and in the favour of the franchisor. Given the severity of a franchisor terminating the franchise, the franchisee should be given some reasonable opportunity to rectify a default, if it is capable of being rectified. If the default cannot be rectified, or if it can be rectified but it is not, the franchisor may want to take back the franchise outlet. The agreement should provide for a repurchase of the assets by the franchisor, at least at their depreciated values. If there has been a breach and the franchisor terminates the franchise, there will usually be a noncompeti tion provision in the agreement that prevents the franchisee from starting or carrying on a similar business. Whether or not the non-competition provision is reasonable will depend upon the circumstances, the type of franchise or business, the geographical area and the number of years it is to operate. Regardless, there will also be a provision respecting confidentiality and trade secrets of the franchisor, for a minimum number of years after the termination of the franchise.

- 38 - (1) Arbitration With a business, especially a franchise, it is important to have a fast dispute resolution. The franchisor will therefore most likely include an arbitration clause in the agreement. It is to the advantage of the franchisee, in respect of the cost, if the laws of the province where the franchisee resides operate in respect of the arbitration. The law with respect to the interpretation of the contract may be the law of the province of the franchisor, but that does not prevent the arbitration from taking place in the province of the franchisee, pursuant to the local arbitration statute. The above review of key provisions to a typical business format franchise agreement is not meant to be exhaustive of all key provisions. Rather the circumstances of the particular case and the franchise being purchased will dictate what the key provisions are in the franchise agreement. F:\P\PK017359\925087\FRANCHIS. PAP