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Franchise Tutorial 3: Intro to Deposits

Deposits are often collected by franchisors prior to entering into a full franchise agreement. They are typically a percentage of the initial franchise fee or the full initial franchise fee amount. When entering into a franchise agreement, the deposit is credited towards the amounts owing. Should the potential franchisee choose not to move forward with the agreement, the deposit may or may not be refunded. There is usually a Deposit Agreement that is entered into at the same time the deposit is made. This agreement defines how and if the deposit will be returned, provides timelines and typically addresses the issue of confidentiality. Deposits are paid prior to entering into a franchise agreement.

The main purpose of the deposit, from the franchisor perspective, is to differentiate the serious candidates from casual enquiries to the franchise opportunity. Franchisors often deal with hundreds of enquiries every month and simply cannot begin to work at finding locations or assist with bank financing with everyone. A deposit allows franchisors to properly allocate its resources and ensure that there is some compensation in the event that the prospective franchisee does not move forward. The franchisor is also concerned with confidentiality. The deposit agreement will often have clauses stating that the provided proprietary information will be kept confidential and that appropriate materials will be returned.

From a potential franchisee perspective, deposits will often permit one to put a territory on hold so that the potential franchisee can do their due diligence, arrange financing, have documents reviewed by a lawyer or find an approved location. By paying a deposit, potential franchisees demonstrate their seriousness in the franchise opportunity and are ensuring that resources are being prudently spent. The franchisor will normally work with potential franchisees to remove conditions on the deposit agreement while reserving the desired territory for a limited period of time.

Deposit can be refundable, partially refundable or non- refundable, depending upon the circumstances and primarily how much time the franchisor spends working with the potential franchisee. The franchisor wants to be compensated for its efforts in, for example, reviewing locations or assisting potential franchisees with their business plan. Franchisors should provide deposit agreements that clarify how and if the deposit is refunded. If the franchisor does not provide a deposit agreement, potential franchisees should have one created to avoid dependency on verbal discussions. It is important that deposit agreements are read carefully and are reviewed by a lawyer so that there is clarity as to the terms and conditions.

Provincial legislation has put in place certain laws to protect the public regarding franchise deposits. In Ontario, franchisors cannot require potential franchisees to pay a deposit or sign a deposit agreement until the potential franchisee has had 14 days to review the Disclosure Document. In Alberta, the franchisor can collect a deposit prior to the review of the disclosure and entering a franchise agreement but such deposit must be refundable and can only be for a maximum of 20 percent of the initial franchise fee. The deposit agreement must also be limited to the issues of confidentiality, location and non-use of the franchisors information.

Deposits are a great way for potential franchisees to show that they are serious about the franchise opportunity, provides some initial compensation to the franchisor for preliminary work and to reserve a territory for potential franchisees. The deposit agreement protects the interests of both the potential franchisee and the franchisor.

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Posted Date: January 2011