FRANCHISING vs. LICENSING
(If you are serious about expanding your business at a much lower cost, don’t be a fool! Learn about licensing. You don’t have to do it, but you are a fool if you do not learn about it.)
5 Quick Introductory Points
· Avoid Franchising and Achieve the Same Result. This
article in PLAIN LANGUAGE shows how to avoid franchising through Licensing of a
Business Opportunity, Trademark, Logo, or Patent, etc. and complying with the franchise laws without
registration or use of a disclosure document.
· Unfortunately, Franchising is a dying industry. Despite the propaganda of the franchising
lobby, it has become more difficult each year to sell new franchise offerings
and the economic squeeze of the last five years has nearly killed the industry. It is my opinion that often more and more
fraudulent misrepresentations have to be made by the franchise sales people in
order sell a franchise and use up that huge franchisee-paid front-in fee as a sales
commission. One has to understand that
this has evolved to be an industry that (i) first the franchisors are worked
over by the consultants and (ii) the franchisees are worked over by the
franchise sales people. The franchisors
AND the franchisees are the victims of the system. On the other hand, low cost and unregulated
licensing is booming.
· Save Over $55,000 by Licensing over Franchising. Franchising is on average eight (8) times more
expensive than licensing. For a
Comparison Chart of the difference in fees and costs between franchising and
licensing email firstname.lastname@example.org,
· Licensing is all within the Franchise Laws. This
article explains how a proper license agreement legally follows the
franchise laws, but without the need to register or offer disclosure
documents to potential license buyers..
· Get a free Second Opinion! This
article deals with the necessity of ALWAYS getting a SECOND OPINION before
starting a franchising program to see if “licensing” is available at a much
· Inexpensive License Selling. This article shows an Inexpensive Way to Sell Licenses called “Short-Cut License Marketing”.
NOTE: The White Paper is a synopsis of a book available next year written for franchise lawyers to teach them about “licensing”:
LAWYERS’ GUIDE: Advising Clients on Licensing Versus Franchising.
Robert Townsend, Attorney At Law.
Telephone: Office: Direct: (310) 592 6294
California Bar #034843
Biographical Note: Robert Townsend is a lawyer. He is a graduate of the University of California at Berkeley and the University of California law school in San Francisco (Hastings). Bob’s legal experience includes 25+ years involving transactions in nearly all the States and 33 foreign countries (where he had cases that required travel to each country). His areas of experience are international transactions, which include domestic and cross-border licensing and franchising. He has sixteen plus years of experience primarily devoted to the study and practice of business opportunity licensing and has prepared over 400 license agreements.
Updated: November 7, 2013
Why Did I Start Practicing Licensing Law?
Many years ago I was attending a two day seminar for attorneys at the New York Hilton. The subject was, “Franchising and Licensing”. I had attended several seminars of this kind, all with a similar title ”Franchising and Licensing”. We would spend 99% of two days on discussing “franchising” and in the last ten minutes of the final day someone would say a few words about “licensing”. I wondered why licensing was advertised for the seminar but not really discussed. So at that seminar I asked, “Why does every seminar on “franchising and licensing” not discuss licensing other than in a cursory manner?” Before the moderator could answer a hand went up in the audience and the moderator recognized the lawyer to speak. “It’s pretty simple. There is no money in licensing; that’s the reason we don’t deal with it. It’s a waste of time.” And, unfortunately, that is the same attitude day.
On the plane back to Los Angeles I thought about this, and I decided to look into licensing. I studied it in great detail, I mean in great detail. What I found is that I could help a lot of people, particularly people who didn’t have the $60,000 for franchising, by using a licensing format. And I have been doing it ever since …often to the displeasure of the franchising community that wants to protect their “cash cow” from the threats of people opting for low cost licensing instead of paying them out of this world franchising costs.
MOST IMPORTANT POINT OF WHITE PAPER: Before you start your client along the franchising path, it is important to explain that approximately 70% of the hundreds of “types of businesses” can often expand their operations using low cost licensing rather than high cost franchising and achieve basically the same business vision.
FIVE FACTS TO CONSIDER BEFORE FRANCHISING
FACT NUMBER ONE:
Both franchising and licensing are governed by the franchising laws and cases. By using licensing the Client can save $55,000 or more in legal and franchising fees and costs.
FACT NUMBER TWO:
The Client can get started selling licenses and receiving income in two weeks…not six months to a year as is usually the case in franchising.
FACT NUMBER THREE:
Unlike franchises, Licensees are subject to no significant special State or Federal filings, offerings or disclosure regulations (often including past financial statements).
FACT NUMBER FOUR:
Some franchise lawyers scare clients away from considering licensing because often (i) the lawyers do not fully understand “licensing” or (ii) because the lawyers make a great deal more money from franchising.
FACT NUMBER FIVE:
Like franchising, “Licensing” is a first class form of expanding a business; for example, Starbucks uses licenses in their non-corporate owned stores. The fact is, one cannot tell by physical appearance what is a franchise and what is a license.
Note to Reader: After reading to this point, if you are not interested in (a) achieving the same business vision as in franchising, (b) doing it in two weeks instead of six months, and (c) saving $55,000 or more you can stop reading this White Paper and read something else; e.g. a newspaper, a comic book, a novel, the Bible, etc. Your choice. I just don’t want to waste your time.
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PERSONAL NOTES ON ADDING “LICENSING” TO A LAW PRACTICE
TO CLIENTS: Licensing as the first step. Low cost Licensing should ALWAYS be the First Step that every competent counsel considers before launching the Client into the extraordinary time and expense of franchising. Just begin by determining if the client’s business vision can securely and lawfully be accomplished through “licensing”. Before a client embarks on the road to franchising, he or she should ALWAYS get a SECOND OPINION on the availability of licensing. The SECOND OPINIONS are usually free. [I give free legal SECOND OPINIONS several times a week.]
TO ATTORNEYS: Do not advertise “licensing” legal services unless you truly intend to provide such services. Unfortunately, many lawyers and consultants advertise that they provide “licensing” services and in a “bait and switch” move they advise the client that licensing will not work and that the client must franchise (for a MUCH higher fee). On the other hand, some lawyers or consultants tell their clients that licensing will not work because they genuinely do not understand “licensing” They, for instance, do not know that most proper licenses are created under the franchise laws themselves…but without the need for registration and offering of disclosure documents which take all the time and expense. [As a side note, beware of internet advertising franchise lawyers who offer “packages” or “specials” as these often are “bait and switch” deals that lead the client into much higher fees than represented.]
TO ATTORNEYS AND
CLIENTS: A note on franchise sales commissions: Often most of the large “initial franchise fees” cover salespersons’
commissions. The problem is that these salespersons sometimes have a history of
misrepresenting the franchisor in a manner that results in the failure of the
franchise expansion. For instance, about a year ago I talked to a franchise
salesman who bragged that he had sold 300 franchises during the previous three
years. I asked, “How many are still operating?” His answer, “Three”. This may
be an extreme situation (or it may not), but it illustrates a point on large
“up-front franchise fees”, particularly in Franchisors that do not have a
national reputation. With the exception of the national brands, be careful as
the larger the upfront fee, the greater is the chance of fraud and the client
will bear the legal responsibility, both civil and criminal.
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THE FRANCHISE LAWYER’S SCARE TACTIC
LET’S CLEAR UP A BIG MYTH!
BECAUSE MANY FRANCHISE LAWYERS WILL TRY AND SCARE CLIENTS ABOUT LICENSING.
To scare potential clients into franchising because lawyers usually make many times higher fees for preparing franchise documents than preparing licensing documents, the more unscrupulous attorneys and consultants intentionally make “out of context” fear statements warning of the dangers of licensing. Some of these lawyers represent or imply that every license is an illegal franchise. They cite cases where someone that has used licensing was sued because a licensing situation has created a hidden franchise. Make no mistake about it, this has happened…BUT a proper license agreement follows that franchise laws, but without the lawful need to register or offer disclosure documents.
FACT: Here is the fact that the lawyers who are trying to
scare clients into paying THEM higher legal fees do not mention: Lawsuits
happen, but they only happen on this issue when a client should not have
been in a licensing model in the first place. Solution? Only use the
licensing format if clients qualify for licensing under the franchise
laws! It’s that simple!
FACT: The license agreements I prepare and that are discussed in this
White Paper are based ONLY on statutory exemptions in State and Federal
Franchise laws and case opinions. “Statutory exemptions” are LAWS that
exempt the requirement of compliance with the registration and disclosure
provisions of State and Federal Franchise laws.
For instance, the “Faux Franchise” license is based upon the “fractional
franchise” statutory exemption that is available in all but five States.
FACT: It is true that you cannot just label or call an agreement a “License
Agreement” as the primary basis of avoiding the need to comply with the
franchise laws. (This is often done by
“general business lawyers” rather than experienced “licensing lawyers”.] In order to be a legitimate license agreement
and avoid the need to register and offer franchise disclosure documents, the
document must follow the statutory and case supported exemptions of the
FACT: Be warned about writings (e.g. websites) of any kind that intentionally withhold important facts and do not tell the whole story about licensing being a lawful part of the franchise laws. These are usually unscrupulous franchise lawyers who use “used car dealer type names” such as “Franchise Producer", “Senor Franchise” or “The Franchise Queen”, (Note: these are not real names, but fictional examples of the kind of absurd names to look for.) etc. You do business with these types at your peril! [As a franchise lawyer shopper, If you want an opinion on a franchise lawyer or developer, send a request to email@example.com and I will give you my free analysis of their website and what a client may expect. There are more good ones than bad, but the bad are really bad!]
If clients and their lawyers are careful (like they should be in any legal matter) in analyzing each client’s particular factual situation to determine if they qualify for the licensing model, then there should be no problem using the licensing model. Many businesses do not qualify for licensing. But it doesn’t cost clients anything to find out. If a franchise lawyer tells clients licensing is a dangerous path to follow, it is probably a good idea to get a second opinion unless the client totally respects the integrity of their lawyer…which often is the case. However, usually, the cost of the second opinion is zero and the savings in legal fees and time can be astounding.
PRE-SCREENING BY TELEPHONE
A procedure that is handy to both the lawyer and the client is the pre-screening phone call. The purpose of this call is to pre-screen to determine if the client’s business expansion qualifies for the licensing model. I take three or four of these calls each day. There should be no charge for these calls, because it is of equal importance to both the lawyer and the client to get the determination of the availability of licensing “right”. There are certain items of discussion that the conversation should include:
1. Describe the business that the Client wishes to involve in a licensing program.
2. Is the licensee going to (i) use the Client’s trademark as the business name of the licensee or (ii) sell trademarked products or services of the Licensor?
3. Other than the use of the trademark, what is the Client going to provide to the licensee?
4. Does the Client wish to charge an upfront licensing fee in excess of $500?
5. Describe how the Licensor makes money.
6. Describe how the Licensee makes money.
A Personal Observation. I see many people that qualify for licensing not go forward, and many of them have products or services that if licensed would be grabbed up in a “New York minute”. I see a great deal of money left on the table! This happens because of the fear to try something new…even though there is no big secret in doing it. All one needs is just common sense and a call “here and there” to someone who has an answer that one needs. Remember, that most of rich people didn’t get rich because they were smarter than the rest of us. They simply either bought things for a lesser price than for which they sold them; or they provided services for a price that cost them less to provide than the the amount they charged their customers. You don’t have to be smart to do this. Just persevere and ask questions when the occasion arises.
“TYPES OF BUSINESSES” THAT OPERATE UNDER A LICENSING FORMAT
(A Few Examples; there are many others)
Health Services (e.g. home physical therapy); Inventions (e.g. distribution of new products or services); Fundraising (e.g. selling products or services); Consulting (e.g. internet marketing services); Educational (e.g. teaching art, music, language); Product Upgrade (e.g. add better product to existing product line);
Real Estate (e.g. join relators under trademark); Food (add food products to existing or new stores); Services (e.g. promote services under trademark); Professional (e.g. add techniques/services to existing practices); Consolidate an industry or stores under one name; Marketing unique products (e.g. majic art); Beauty Products (e.g. add products or services); Coaching (e.g. licensing coaching techniques under one name)
Franchise testing (e.g. test franchise idea for less); Environment (e.g. license products or services); Coffee Houses (e.g. Starbucks); Kiosks (e.g. services and products)
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NOTE: The below paragraph discusses “The Two Paths” to create a license. It is important to note that there are more than two paths based upon several other statutory exemptions of the franchise laws. However, we only discuss these two primary paths in this White Paper.
IN LICENSING THERE ARE TWO PATHS TO FOLLOW, AND THE PATH YOU CHOOSE IS BASED UPON WHO YOU ARE GOING TO SELL LICENSES TO.
PATH ONE: In Path One you
want to sell licenses to individuals or companies that want to start a new
business using your product or service.
PATH TWO: In Path Two you want to sell licenses to existing businesses that wish to add your product or service to their business.
Please Note: “Franchisor” and “Licensor” are used interchangeably. “Franchisee” and “Licensee” are also used interchangeably in the below discussions of both Path One and Path Two.
PATH ONE: SELLING LICENSES TO START A NEW BUSINESS.
THIS APPLIES TO BOTH PRODUCT AND SERVICE BUSINESSES.
Note: If you want to sell licenses which are involved in the start of a new business, stay here and learn this section on Path One. If you want to sell licenses to existing businesses that add your product or service, then skip this section and go down to the section on (Click) PATH TWO.
1. PATH ONE and The Three-Legged Franchise Stool License. In Path One where we want to sell licenses to start a new business we use an aid called the “Franchise Three Legged Stool”. Each leg stands for one essential element of the definition of a franchise. In general, those three legs are (1) the Branding Leg where we cause the Licensee to use the name or trademark of the Licensor, (2) the Significant Assistance/Control Leg where the Licensor gives assistance and exerts certain controls over the Licensee, and (3) the Required Fee Leg where the Licensor requires the Licensee to pay an initial license fee in a sum over $500. If we can eliminate one of these legs, then the definition of a franchise is not met, and we do not have to comply with the franchise registration and disclosure laws. [DO NOT MOVE AHEAD UNTIL YOU UNDERSTAND THIS PARAGRAPH!]
THE “THREE-LEGGED FRANCHISE STOOL” IS AN IMPORTANT VISUAL AID IN UNDERSTANDING THIS PATH TO LICENSING. USING THIS AID, WE NOW DISCUSS THE VARIOUS DEFINITIONS, ALL SIMILAR EXCEPT NEW YORK, FOR ALL THE STATES IN THE UNION AND TO WHICH THE THREE LEGGED FRANCHISE STOOL APPLIES.
Application of the Three-Legged Franchise Stool under the Federal Rule: In defining a “franchise under the Federal Rule, you need all
three legs of the three-legged franchise stool to have a franchise.
If the client has all three legs, he/she has to comply with the franchise laws
and create the disclosure documents, etc. before they can sell franchises.
However, if they eliminate one of the legs, they can have a license and do not
have to comply with the franchise disclosure laws. It is as simple as that! [There is actually a fourth element that must
be present and that is not a “leg”; that element is that is there must be a
“(i) continuing (ii) commercial relationship between the
parties”; i.e. eliminate -commercial and/or non-continuing arrangements and
there is no “franchise”.]
Under the Federal Rule Here are the three legs of the “three legged franchise stool”; one leg has to be eliminated:
uses the trademark or trade name of the Licensor in its business name, or the
product or service it sells as a Licensee.
Assistance/Control Leg. The Licensor
provides the Licensee with (i) significant assistance or control (e.g. a
prescribed marketing plan) in the operation of Licensee’s business, and (ii)
the inexperience of the Licensee is such as to cause the Licensee to rely on
Required Fee Leg. The Licensee within the first six (6) months from the
beginning of operations is required to (i) pay a license fee of $540 or more,
or (ii) required to purchase any items from the Licensor (or his
affiliate) worth $540 or more.
Application of the Federal Rule. The
above Federal Rule applies to all thirty-five (35) States that do NOT have their
own franchise registration and disclosure laws and therefore must follow the
Federal law. The fifteen (15) States that HAVE their own franchise
registration and disclosure laws are called the “Registration States” and therefore do NOT apply the Federal
Rule; they are the following: California, Hawaii, Illinois, Indiana, Maryland,
Michigan, Minnesota, North Dakota, New York, Oregon, Rhode Island, South
Dakota, Virginia, Washington and Wisconsin.
Application of State Laws. Except
for New York, the Registration States follow their own registration and
disclosure laws. However, each of these States has a definitions of a
“franchise” that is very similar to the Federal Rule definition and
therefore the “Three Legged Franchise Stool” is applicable in
determining if a franchise exists and one has to comply with the disclosure
laws. There are three (3) categories of State definitions of “franchise”. Those
categories are as follows:
Category I. The California Plan. This is the most common franchise law other than the above mentioned Federal Rule. In California,
Illinois, Indiana, Maryland, Michigan, North Dakota, Oregon, Rhode Island, and
Wisconsin, a franchise is defined as having three (3) essential elements:
Branding Leg with Common Name. The operation of the franchisee's business is
substantially associated with the franchisor's trademark or other commercial
symbol designating the franchisor or its affiliate; and
Significant Assistance/Control Leg with a Prescribed Marketing
Plan. A franchisee is granted the right to engage
in the business of offering, selling, or distributing goods or services under a
marketing plan or system prescribed in substantial part by a franchisor and
(c) Required Fee Leg The franchisee is required to pay a fee in an amount over $500.
Please note that the Category 1 definition is similar to the Federal definition. A license agreement that is prepared to avoid the need to comply with California and Category 1 States’ registration and disclosure laws may often be used in the thirty-five (35) non-registration States that follow the Federal Rule, usually with a few minor but important adaptive changes. However, sometimes one of the three legs has to be removed for State requirements and a different leg removed for the Federal definition; i.e. you would have two license agreements plus the changes you would need for the Category ll and lll States. However, this is simple to deal with, because all the Licensor has to do is have a list of States and a notation as to which version of the License Agreement to use for each State; e.g. “Version A.” or Version “B”.
Hawaii, Minnesota, South Dakota, and Washington have a broader definition of
franchise which include (again) three primary elements:
Branding Leg. Franchisee is granted the right to engage in
the business of offering or distributing goods or services using the
franchisor's trade name or other commercial symbol or related characteristic;
Significant Assistance/Control Leg with a Prescribed Marketing
Plan. Franchisor and franchisee have a common
interest in the marketing of goods or services; and
(c) Required Fee Leg. Franchisee pays a fee.
Particularly in “service” companies, a closer look at the definition of a “franchise fee” may be an important element to look at in determining if the licensing model will apply in these States.
Category III. This
category applies to New York (the “Two Legged Stool” State) and Virginia. Virginia requires the
combination of the following elements:
prescribed marketing plan [Significant
Assistance/Control Leg with a Prescribed Marketing Plan], and
substantial association with a trademark [Branding
(c) The payment of an initial license fee $500 or over [Required Fee Leg]
LEGAL NOTE: Virginia is very close to the Category 1 States and not such a big problem as is New York.
New York (the “Two-Legged Franchise Stool” State). In order to create a franchise in New York the following elements are required:
Required Fee Leg. The franchisor is paid a fee by the
(b) Optional Second Leg (which only New York has). The Franchisee is either essentially associated with the franchisor's trademark or the franchisee operates under a marketing plan or system prescribed in substantial part by the franchisor.
LEGAL NOTE ON NEW YORK: The New York Franchises Law’s definition of “franchise” does not require both a marketing plan and trademark association. If either element is present, along with a franchise fee payment, a franchise will exist for purposes of the New York law. In essence, there can be a “two legged stool” and create a franchise. This is unlike the California law and Federal law where there must be three legs of the franchise stool to create a franchise. The effect in New York is that to be a license one has to remove two of the legs of the “Three Legged Franchise Stool” (instead of one leg as in the other States), and most businesses cannot do this and have a viable operation. They have to franchise in New York unless they create a “Faux Franchise” (see below).
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PATH TWO: SELLING LICENSES TO EXISTING BUSINESSES THAT WISH TO ADD YOUR PRODUCT OR SERVICE TO THEIR OPERATIONS.
PATH TWO: The Faux Franchise (Don’t Over-Look This as a Licensing
Opportunity! Talk to me and I will tell you the reasons that this could be the
smartest business move you will ever make.)
The “Faux Franchise” path takes advantage of a
statutory exemption to the requirement of complying with the registration
and disclosure requirements of the franchise laws applied to forty-five (45)
States. The States that the Faux
Franchise will NOT operate in are: Maryland, Rhode Island, North Dakota,
Washington, and Hawaii. [LEGAL NOTE: This
exemption is called the “Fractional Franchise Exemption”; only I call it the
“Faux Franchise” path. So do not use it other than with me, as no one will
know of what you speak. I use it for easy identification purposes.]
IMPORTANT PRACTICAL NOTE: If
the Licensor takes the Faux Franchise path, he/she does NOT have to eliminate a
leg off of the three legged franchise stool. FORGET ABOUT THE THREE LEGGED
FRANCHISE STOOL WHEN USING THE FAUX FRANCHISE PATH!
Under the Faux Franchise the Licensor can
operate like a franchise without complying with all the horrendous steps of the
franchise registration and disclosure laws.
This path is based on the Licensor selling
licenses to existing related businesses to add on new services or products
which the Licensee would normally sell to customers in their ordinary course of
doing business. [For example, a hardware
store could add on selling lawnmowers but an ice cream store could not.]
There are two (2) elements
that have to be met to use this path to licensing:
Existing “Related Business” with Two Years’
Experience. The license must be sold to
an (i) existing business (ii) where the officers or owners have a minimum of
two years’ experience (iii) in the same type of “related business” as the
Licensor is offering; i.e. the Licensee has experience in providing the same
type of products or services offered by the Licensor. The products or
services offered by the Licensor do not have to be exactly like the products or
services used in the Licensee’s business; they have to be products or services
that the Licensee would and could ordinarily
resell or offer in its current business.
For example, a hardware store could take on selling lawnmowers as
lawnmowers could ordinarily be sold
in hardware stores. An ice cream store
could not take on selling lawnmowers, because ice cream stores do not ordinarily sell lawnmowers. [In a
few States the two years of experience has to be immediately prior to
entering into the Licensing Agreement. In most States it can be at any time
prior to the date of the Agreement.]
(2) Element Two. The 20% Rule. The Licensor and the Licensee both have a reasonable basis backed up by Licensee’s financial records to be able to project in good faith that the portion of sales arising from the introduction of the new products or services will not exceed 20% of the Licensee’s total dollar volume in sales during the first year of actual operations under the License Agreement. The idea here is that the Licensee by taking on the new products or services is not likely to go broke, because it will still have 80% of it income from its existing operations obtained without the losses that might be incurred from selling the new products or services. Thus, the Licensee is protected by (i) this income and (ii) its two year experience and knowledge of the business related to the type of new products or services.
LEGAL NOTE: Reason Government Allows Faux Franchises. The licensees who buy the faux franchises (licenses) are experienced and knowledgeable in the subject area of the license (e.g. buying and selling widgets), and therefore with their experience are able to protect themselves from misrepresentations of the “franchisor” (Licensor) and thus do not require the protection of the franchise laws. Use Experienced Counsel! The “Faux Franchise” is more complex in application than presented here; so do not try and do it without counsel experienced in this particular area of the law.
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LEARNING TO BE A “LICENSOR”
If the Client has not done it before, just like learning to be a franchisor, the Client needs to learn how to be a “Licensor”. Counsel should include in the fee for creating a license agreement provisions to work with the Client in the early learning stages of his/her experience as a Licensor. I always include provisions to work with the new “licensor” by standing by and answering any questions that come up about being a “licensor”, reviewing all advertising for licensees, provide representation without additional cost on the first few new licensees, etc. Counsel cannot just prepare a license agreement, drop it in the lap of the licensor who has never done this before and say “Good Luck”! Caring counsel should continue to help to take any insecurity out of this new experience for the client, because it is not really that difficult and any angst can easily be removed.
THE CALIFORNIA CONNECTION
The “California Connections” is simply this: I prepare license agreements that work in the State of California. And if they work in California, they are easily adapted to work in all the States (both registration and Federal law States) except New York. That is why clients use California attorneys on these licensing matters. It saves legal fees, as one license agreement can cover the entire country except for New York (which has a "wigged out” franchise law, but we can cover NY under the “Faux Franchise” arrangement.). So what is good for California is good for the rest of the country…except sometimes for the Big Apple State.
to “Do-It-Yourself” People. I want to make this clear to anyone considering
Licensing without using an experienced attorney: Do not try to do this! There are NO forms on the internet that will
get the job done! I have reviewed many “do it yourself” documents, and they are
always on the road to trouble…civil and criminal. Further, it costs a huge
amount more to straighten out the problems created by the “do it your-selfers”
than to get it done right in the first place. [It is interesting to note, that creating a franchise may be done on a
“do it yourself” basis (though I do not
recommend it); where developing a license should be avoided at all costs as licensing is
much more sophisticated than franchising. For most franchise lawyers a
paralegal does 90% of the work in franchising.
A “paralegal” cannot do licensing.].
THE INDEPENDENT CONTRACTOR ISSUE
• Basis of Relationship. The independent contractor issue is the basis of the legal relationship between the Licensor and the Licensee. They are bound by a contract entered into between them as two independent contractors. The contract is called the “License Agreement”.
• In General. The Internal Revenue Service and the income taxing authorities of the various States have guidelines to ascertain if the relationship between the two parties is that of employer-employee, principle and agent, or two independent contractors that have entered into a contract for work or sale of goods or services. The essence of being an independent contract is that (in this case) the Licensor cannot tell or suggest to the Licensee how to do the work required but can only tell him what the job is that needs to be done under the contract. For instance, one may not tell a licensee the hours to do the work, equipment to use in doing the work, the sequencing of the work, the customers for the work, etc. There are approximately 20 points in the guidelines to which the two independent contractors should substantially comply to maintain that status.
• Consequences of Violating Independent Contractor Status. The consequences of violating the independent contractor status of the Licensee is (i) the IRS or a State will rule that the Licensee is an employee of the Licensor and will seek from the Licensor all back withholding taxes plus interest and penalties (this usually happens after about five years of operations, so the taxes, etc. are huge!), and (ii) that in the event that that Licensee incurs civil liability for a tort (e.g. an accident) the Licensor will be held responsible because the Licensee is deemed an agent-employee of the Licensor…and not an independent contractor.
• Creates Franchise. Also, the violation of the independent contractor status of the Licensee may throw the legal structure from a lawful license into an unregistered franchise situation. For instance, if there is in the agreement or in practice more control over the Licensee by the Licensor than is allowed by law, then Licensor may slip into the area of being involved in a franchise by adding a “significant control” leg of the three legged franchise stool which had been removed, and what Licensor thought was a license arrangement may well be a franchise situation. Licensor is now a franchisor that has not complied with the franchise laws.
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THE BUSINESS OPPORTUNITY STATUTE ISSUES
· Some twenty-six (26) States have what are called “Business Opportunity
Laws” or “Seller Assisted Marketing Plan” (SAMP) laws. These laws require the
registration of certain business opportunities prior to being offered in
the State. They are of fairly recent vintage, as laws go, and they were created
to protect the people against the plethora of fraudulent “business
opportunities” that flood the media. The registration usually is not
difficult to do, but it may be costly and time consuming (Sometimes as costly
as franchising). The States that have these laws are: Alaska, California,
Connecticut, Florida, Georgia, Illinois, Indiana, Iowa, Kentucky, Louisiana,
Maine, Maryland, Michigan, Minnesota, Nebraska, New Hampshire, North Carolina,
Ohio, Oklahoma, South Carolina, South Dakota, Texas, Utah, Virginia,
Washington, and Wisconsin.
· In some States which follow the Federal franchise law (Rule), there is
a new Federal Business Opportunity section which took effect in March of
· DEALING WITH THE BUSINESS OPPORTUNITY LAWS! One offering a business opportunity in these States (or under the new Federal law) must either (i) avoid the factual situation that brings one within these laws, (ii) obtain a waiver of these laws in the States where waivers are acceptable, (iii) comply with the requirements of registration, or (iv) use a combination of the above remedies. The terms of the License Agreement will often determine the path to take with regard to these statutes, so the knowledge and experience of the counsel preparing the license agreement is very important in dealing with these statutes. How the attorney for the client handles these statutes is very important, because if not handled correctly it will cost the client approximately $2,000 to $2,500 in legal fees and filing costs for each of the 26 States…a very significant sum; e.g. approximately $52,000 (almost seven times more than the entire legal fee for preparing a licensing agreement).
(For License Agreements, etc.)
Fees in General. (Discussed
above) Some attorneys charge on an
hourly basis while others charge on a flat fee basis. I charge on a flat fee
basis, so that the client knows the full extent of the legal bill in advance.
In a major city like Los Angeles, for knowledgeable senior attorneys the client
should expect to pay between $15,000 and $20,000 in legal fees for the legal
work to set up a licensing program.
Situation Fees. Because of my unique method of internet
practice, my fees are substantially lower than the fees I have
charged as a senior attorney for the same work in a law firm in Los Angeles.
Differences. Fees vary among geographical areas and as to
the quality of services provided. Whatever
the charge, it is far less than franchising fees; e.g. when I did
franchising work my retainer was $35,000 and sometimes went over $100,000.
Initial Advice. Most lawyers have free initial telephone conversations. This is my practice. The
client and I find out right away (i) if the client QUALIFIES for “Licensing” or
some other legal format and (ii) the client learns how much it is going to
cost. These are the two things a client wants to know.
provide for installment payments after a down payment of fifty percent.
The fee may
be paid in full by credit card or by installments by credit card. This provides a form of interim financing pending
the sale of licenses.
· Other Formats. If the client does not qualify for licensing or some other format other than franchising, I send them to a franchise counsel.
With regard to attorney fees, I have seen many situations where clients to reduce the fees have used regular business attorneys to prepare these business opportunity license agreements. And when I review them, in almost every case I find that the business lawyer has created a hidden franchise which creates civil and/or criminal liability for the client. In my experience, business lawyers without substantial franchising experience are ordinarily not qualified to prepare these agreements. One needs counsel experienced in the disadvantages / advantages of franchising and advantages of licensing. This is my experience only.
Call or Text: 310.592.6294
Throughout the United States there are thousands of “small business incubator” organizations which are available to help new businesses start up and old businesses to expand. Just Google “business incubator” followed by the name of your city or the nearest big city. Most of these incubators have arrangements with attorneys who provide reduced fees for their legal services. I have and continue to work with small businesses who are “short on funding” through these incubators; further, any incubator who wants to affiliate with me I will probably join them, as I am greatly in favor of their goals of promoting American small business and jobs. The reduced fee formula that I use for these businesses that need a little help is the following: I charge 50% of the fee as an initial retainer and the balance based upon a payment of an agreed amount when subsequent licenses are sold.
The Townsend Small Business Incubator Discount. At certain times of the year and for those who qualify for an incubator program but do not wish to go through their procedures, I will often provide this discounted fee if I believe that the business is one that truly qualifies after a discussion with the owner. The owner has to truthfully represent that (i) it is a small business, (ii) that either it is in a start-up mode or seeking to expand its operations, (iii) it does not have the resources to pay the customary fee, and (iv) and that the business has a reasonable chance of being a success in its licensing expansion endeavor. So if a prospective client wants the Small Business Incubator Discount from me, they should be prepared to respond to the four criteria points above or they will not qualify. I hope they do qualify, because I really enjoy helping small businesses. Small business success is good for creating great leadership skills, more successful families, a greater middle-class, and a better USA. Why would anyone not want to do that?
HOW TO SELL LICENSES
(This is important stuff!!!!
There is no reason to license if the Licensor can’t sell them.)
Introduction to Selling Licenses.
Of course the first step is to have a license agreement available for licensees to see and sign. The license agreement defines the Licensor’s relationship with the licensee, and the Licensor cannot even begin to lawfully sell licenses and/or have a formal relationship without clearly knowing the boundaries agreed to (or to be agreed to) in that written agreement. After establishing the Licensor’s business vision, the first thing to do is to get the license arrangement in writing. But this brings up the following issue: “So I have a license agreement, how do I obtain the licensees that will sign it?” Well, here is how the Licensor does it.
The Three Secrets of Short-Cut License Marketing
#1. (Likeable and Competent Licensor)
Secret Number One to selling business opportunity licenses is
for the Licensor to be (i) genuine, (ii) likable, (iii) truthful and (iv)
competent, because potential licensees that are looking at a business
opportunity want two things: (1) a Licensor they like and trust, and (2) an
excellent chance to make a profit as a licensee. To be liked and trusted is essential,
because no one is going to choose “up front” to spend their time, sweat, and
money working with someone they don’t like and don’t trust (Though it may
happen, no one will intentionally
start out that way.) And the key to being a Licensor that is liked and trusted
is to have the genuine attitude and feeling that the licensees are human beings
that deserve the Licensor’s general kindness as well as that the Licensor
truthfully manifests that the he wants the Licensee to make a profit as a
licensee. Showing “being competent” simply knows the business which the client
is licensing. Licensors that use “hard selling” to get the up-front initial
license fees and who “down deep” really don’t care how well the licensees do
once that initial fee is paid may receive the initial fees on “selling
technique” alone, but they don’t build a sustaining licensing business with
long term relationships of business kinship and profit (and the Licensor and
the salespersons usually get sued or worse).
#2. (The “Reference Licensee”)
The Second Secret to selling business opportunity licenses is that Licensors don’t sell licenses, licensees do. It is the successful licensee acting as an endorser and reference and giving testimony of success that convinces new potential licensees to become “signed licensees”. The candidate for a license wants to be convinced that (i) someone else has done this before and (ii) they are successful or (iii) if they are new licensees that they are confident because of their experience to date that they are on the road to success. In the mind of the licensee-candidate, the Licensor has a built in bias (which he does; i.e. he wants to sell a license); on the other hand, another Licensee appears to have no such bias (He is not in the business of selling licenses.) All the reference-licensee has to do is to tell the truth. He has no motivation to do otherwise. The licensee-candidate knows this, and he is seeking “the truth” and therefore the “reference licensee” testimony has great value. As they say, “He has no dog in this fight”.
Secret #3: Focus on the Goal
The Third Secret is to focus on the goal. The goal in marketing licenses is to drive the licensee candidate to the unbiased testimony of an existing licensee to confirm all that the candidates need confirmed in order to purchase a license; i.e. someone is already doing business under the license arrangement and that someone is successful (or they are confident that they are on the road to success). I call this the “reference-licensee”. This use of the “reference-licensee” process is what closes the deal. But please note that it is better not to advertise that there is a reference-licensee that will give great supporting information to support the sale of a license (e.g. do not advertise “References Available”), as this advertising by the licensor tends to dramatically diminish the value of such a third party reference. The Licensor does not want to advertise a cooperative effort between it and the reference-licensee. It is also important to do the following: The Licensee has to wait for the licensee candidate to ask for a reference. The need to have a reference licensee should be the licensee-candidate’s idea, and not offered or “suggested”, directly or indirectly, by the Licensor or its representative. Fortunately, that “idea of wanting a reference” always comes up in the conversation with the Licensee-candidate…everybody wants to know that someone else has done it and that they are successful, etc.
Establishing the Reference-Licensee. Knowing that the odds of quickly expanding the Licensor’s business through licensing dramatically increases with the availability of a “reference-licensee” or two, the matter arises as to how to establish the “reference-licensee”. Since the Licensor has much riding on the success of the Licensor’s first licensee, it is smart for the Licensor to put a lot of time and help in getting that first Licensee started. This involvement is important (a) in helping the licensee toward profitability and a potential reference, and equally important (b) the Licensor learns much about the licensor-licensee relationship which will be very helpful as the Licensor’s business expands through added licenses. Sometimes it is easier to seek out an initial licensee that is geographically close to the Licensor, so in the initial stages the Licensor can more easily spend time at the licensee’s place of business. Friends and relatives are often good candidates to be the Licensor’s initial licensees. Remember that the cost of each license may be different, so in order to get started the Licensor may lessen the burden of the start-up license fee and the related costs. The Licensor does not have to charge every licensee the same license fee. On the other hand if the Licensor has to begin with a first reference-licensee that is not geographically close, with modern day communications (e.g. video SKYPE), the Licensor can still give the needed assistance for establishing the first reference-licensee. It is important to note that the Licensor should not advertise this added assistance in seeking licensee-candidates, as this may take the Licensor into the area of a “hidden franchise” if it adds a “Significant Assistance” leg to the three legged franchise stool.
Finding Potential Licensee-Candidates. In order to have an initial licensee that will work as a reference-licensee, the Licensor must in the first place have an initial licensee. This is the familiar “chicken and egg” issue. The first licensee is often the most difficult to obtain, though in over half of my client licensing situations the client has decided to expand its business through licensing because someone has approached them about being a licensee or franchisee. So sometimes it is very easy to get the first licensee. To get the first licensee or all the other licensees, the Licensor has to start with marketing, or as I have always called it, “Ringing the bell to get the people inside the temple.” (Mixed religion metaphor of a Catholic ringing bell on a Jewish “temple”). In my opinion, the best way to do this is through inexpensive or free advertising. I suggest that the Licensor start in Craigslist or inexpensive internet classified ads in a territory that the Licensor wishes to develop. Do some test advertising; make it work in that particular territory before the Licensor expands elsewhere. Don’t take an unsuccessful ad on the road! That is certain failure. Also, note that the Licensor can advertise the Licensor’s business opportunity wherever franchisors advertise the advantages of franchising opportunities. Look at magazines, trade journals, and newspaper classifieds. The costs of these ads vary, and again test the ad in a low cost media local before the Licensor expands to spending more money. Money should not be the issue. Smart marketing is more important; i.e. finding out where the people are in that market, and then giving them the right message. Without a referral licensee and in the effort to obtain the first one, the message is to drive the targeted people to a website that explains the licensing opportunity in such a manner that the licensing-candidate wants more information from the Licensor. Trade shows are also very good avenues to find potential licensees. If the Licensor does not have the money to get a booth, do hand-outs placed under hotel room doors with invitations to call and meet. Or seek to share a booth. Offer to “man” a booth in exchange for some space. The Licensor does not have to pay a lot of money to market, and ironically, this fact helps the Licensor establish a better business for the long haul.
Call or Text: 310.592.6294
ASKED QUESTIONS ON SELLING LICENSES
How about using marketing companies to sell licenses? This is one way of doing it. This is how franchises are sold, and
licenses can be sold the same way. In this situation a marketing company has
commissioned salespeople selling the licenses. In my opinion this is not a very
good way of expanding a business. First, the prices of the license have to be
raised, because large commissions have to be paid to the sales personnel. The
Licensor cannot raise money for the Licensor’s own purposes by the payment of the
initial license fees, because almost this entire fee goes to the salesperson as
a commission (including the company he works for). The other negative of using
these companies is that they have little motivation to tell the truth, and they
frequently misrepresent the facts when selling the licenses or franchises. The
licensee may be lead to believe that the salesman is a good guy whom he will be
working with when the fact is that the salesman will collect his commission and
move on to the next deal. Just the implication of this relationship is
misleading without going into what is represented. This results in many
lawsuits for misrepresentations. Another drawback is that they usually want a
separate fee from the Licensor (sometimes a large fee) to set up the sales
effort. I prefer the low cost and more long-term effective approached discussed
How does the Licensor determine the amount to charge for
an initial license fee? As a
Licensor the Licensor should know solely for the purposes of this calculation
how much profit (income less expenses) to project for a licensee operating a
business that the Licensor desires to license. After all, that business IS the
Licensor’s business. [LEGAL NOTE: The
profit calculation is not a projection for use in selling licenses.]
Once the Licensor has determined that profit, then ask the Licensor himself:
“How much would the Licensor pay as an upfront license fee to work 60 hours a
week, earn this projected amount of gross profit and then pay the Licensor a
continuing license fee of (for example) ten percent?” Test it on some friends.
Also remember that different territories have different profit potentials, and
thus the territories themselves have different values. In marketing licenses
one of the factors is the income
expectations of the potential licensees. If they expect to net $200,000 per
year and the Licensor’s private profit calculations indicate a net profit
before taxes of $70,000, then the Licensor knows who the Licensor’s targeted
market is. Not this guy. It is someone who will be satisfied with $70,000 per
year. So the Licensor markets accordingly. Do not inflate the expectations of
profit, as this can only lead to problems which the Licensor does not want. In
essence, if the Licensor does the math and determines the reasonable profit calculation, the math should dictate that the
Licensee’s profit margin after paying a continuing licensing fees. Sometimes
the math gives a profit calculation that may be so small that the Licensor may
have to sell a “part-time” licensing opportunity, which is a different market
altogether. And sometimes the math just doesn’t add up to allow the Licensor to
expand by using licensing. Look at the math!
3. I have been asked the question, “Just how do you get started to do a licensing program?” Here are the steps:
a. Formulate the business concept that you want to teach to others. This means just get a good idea of what you want to convey to other and how you want to convey it. This is in general terms. Training will take place later,
b. Have the license agreement drafted. This is the “constitution” of the business. It tells the Licensor and the Licensee the limits on the operation of the business. You cannot go anywhere without having this document done.
c. Take a video of the training of one person. That person can be any one including relatives. Here is how you take the video; i.e. you make a “shot list”:
(1) List the major items that you want to teach the licensee.
(2) Take each item on that list and break it down into sub-items. Now under each major item you have sub-items listed. Now you have a “shot list”.
(3) You further refine that shot list by making a “shot note” that you will take a medium shot of the major item, then make a note that you will take a medium shot of each sub-item followed by a close-up shot of each sub-item showing how the item is done.
(4) You repeat this with each major item and each of the sub-items under it. Do not be afraid to add more sub-shots to explain the major item.
(5) Now you have your training video which you want to upload to a password protected website.
d. Next you want to advertise for “Licensees”. I suggest that you create some short classified test ads that you try out on your friends and neighbors and see if they would call and talk to you after reading this ad. Once you have a small add that you think will work, try it by making a “buy” in a low cost classified medium. Try the internet “franchise” offering sites. If you want someone local, try the local newspapers and throw-away.
e. What you are trying to obtain is a “reference licensee” as discussed above.
4. (NOTE: I will add new questions and answers from time to time. So check back)
New Book Title:
LAWYERS’ GUIDE: Advising Clients on Licensing Versus Franchising
Coming Late Winter of 2014: Price $225
This is a book written primarily for franchise lawyers who often do not know how to prepare license agreements in a manner that thoroughly protects their clients, and who consequently steer the client to expensive franchising when lower cost licensing is often available.
Additional reading on Franchising vs. Licensing see:
“Franchising & Licensing: Two Powerful Ways to Grow Your Business in Any Economy” by Andrew J. Sherman Available on Amazon.
Herald Tribune Article: Licensing can be faster, cheaper than franchising
NextGen Article: Is the Franchise Model of Business Expansion Over-Used?
INFORMATION ABOUT THE AUTHOR
· Robert Townsend
· Law Offices of Robert Townsend
· Telephone Direct or Text: (310) 592 6294
· Fax: (310) 807 4380
· Email: firstname.lastname@example.org
· Skype Address: boblama
Bob Townsend is a graduate of the University of California at Berkeley
and the University of California,
Hastings College of the Law. He is
an active member in good standing of the State Bar of California. (Check at
www.calbar.org and use Member Number 034843)
· Legal Experience: Bob’s legal experience involves 25+ years in transactions in nearly all the States and 33 foreign countries where he had cases that required travel to each country. His areas of experience are international transactions, domestic and cross-border licensing and the separate field of international private securities trading and instrument leasing. He has sixteen plus years of experience primarily devoted to business opportunity licensing and has prepared over 400 license agreements.
Important Notice and Disclaimer
Robert Townsend is licensed to practice law in California. He does not handle litigation matters and does not appear in court in California or any other State except as an expert witness. This web site is designed to provide legal information and is not intended to be advertising. Robert Townsend does not seek to represent any party based solely on that party's visit to this website in a State or other jurisdiction in which this web site fails to comply with all laws and ethical rules of that State. This website and the articles contained on this web site are not legal advice and are not intended as legal advice. This website and the articles contained on this website are intended to provide only general, non-specific legal information. Most importantly, this website and the articles contained on this website are not intended to cover all the issues related to the topic discussed. The specific facts that apply to any persons’ or entities’ matter may make the outcome different than would be anticipated by any reader of the website. This website and the articles contained on this web site are primarily based on California law and United States law. The reader should consult with an attorney familiar with the issues and the laws of the reader’s State and/or Country, including any agreement for the hiring of any attorney outside reader’s State and/or Country. Further, in the event that any legal work is done by the Townsend offices for people outside the State of California, it is the responsibility of the client that such work must be reviewed and approved by local counsel in the State or jurisdiction where the work is to be used prior to such use. This website and the articles contained on this website do not create any attorney-client relationship between the reader and Robert Townsend. This web site and the articles contained on this web site are not solicitations in any manner whatsoever. Robert Townsend does not accept clients domiciled or residents of the State of Louisiana.
Copyright 2013 by Robert Townsend