In China, franchising involves a company (franchisor) granting the use of certain intellectual property rights and business resources to another company (franchisee), by contract. The franchisee conducts its business activities using the intellectual property rights and business resources licensed by the franchisor. The franchisee pays a fee to the franchisor as consideration for the use of the intellectual property rights and, in general, the use of a business model for selling goods or providing services.
The intellectual property rights may include: trademarks (registered in China), signs, patents, know-how, etc. In practice, the franchisee uses the intellectual property rights and the business model to benefit from the goodwill and reputation that goes with this model.
In China, franchising activities are subject to restrictions and controls, in particular:
- the franchisor must be a company or a business organization (non-economic entities or individuals are not allowed to carry out franchising activities as franchisors);
- a company can start franchising operations as franchisor only after it has directly managed at least two shops for longer than one year;
- the franchising contract must be registered with the local department of the Ministry of Commerce (or with the Ministry of Commerce itself, if the franchising activities are carried out on a cross-province or cross-municipality scale). The registration deadline is 15 days from the signing of the contract. The registration involves the submission of certain documents (eg contract, franchising operation manuals, etc.) to the relevant authority;
- the franchising contract must have a validity of at least three years, unless the franchisee agrees to a shorter term.
These regulatory restrictions on franchising prompted the search for other contractual models that can achieve similar economic results without falling within the definition of franchising.
The new China Foreign Investment Catalogue, which came into force on 30 January 2012, removed franchising activities from the “restricted” investment category. Now franchising is a “permitted” investment. In order for this change to have practical implications for foreign investors, a revision of the franchising regulations (mainly issued by the Ministry of Commerce) and a removal of the relevant restrictions will need to take place.