The Differences between Licensing and Franchising A Malaysian perspective

You have been in the restaurant business for the past five years. You have perfected the
system of running it. You know where to get the best ingredients for your secret recipes. You
have a recognized brand name. The business is rather successful and you are keen to expand to
other areas. You dont have the financial and human resources to open or manage new
restaurants effectively but want to ensure these new restaurants look and feel the same as the
original. You are advised the best way to expand your business is through licensing, not
franchising as the franchise model is heavily regulated. Just call your agreement restaurant
management license and you will be just fine. You can exert all the control you want, get
them to follow how your restaurant fit-out to a tee, buy all supplies only from you and charge
fees but dont call them royalty or franchise fees. You are all set to recruit potential licensees.
Whats wrong with this picture?
There seems to be a lot of misconception on the differences between licensing and franchising
and these terms are sometimes used interchangeably or rather loosely by many without
realizing its impact or ramification. Unlike the term franchise, there is no specific definition
of a license under any specific laws in Malaysia, except where it relates to the specific
intellectual property rights. The word license simply means permission to do something.
Examples of some common licensing agreements include distributorship/dealership, agency,
trademark/copyright/patent licensing, technology transfer and character merchandising.
That being the case, it is not wrong to say that a franchise is also a form of license as the
franchisor would license the franchisees in the franchise agreement to use the intellectual
property rights such as the brands of the franchised outlets, the copyright in the operational
and training manuals and other form of proprietary rights as well as the franchised system. But
unlike licensing, franchising is heavily regulated.
In view of the registration requirements and the presence of certain not-so-favourable
provisions in the FA for franchisors, many businesses have resorted to adopting a licensing
model to expand their business operations instead of going the franchise route. They view this
business option as a more viable and practical alternative purely for the reason of getting
around the need to comply with the FA given that the laws impose rather onerous obligations
on the parties, particularly on the franchisor, not realizing that such decisions may expose
them to serious risks, liabilities and even criminal penalties.
The implications of calling a business arrangement a license as opposed to a franchise when it
has all the characteristics of a franchise would have serious legal implications and risks to the
parties involved. It does not matter how one would label the relationship. It is not the form
that matters but the substance. As the saying goes, if it walks like a duck, quacks like a duck,
looks like a duck, it must be a duck. The business may be challenged for what it really is. It is
a total misconception that by calling a business arrangement a license one would avoid having
to comply with the franchise laws.
The starting point for a business owner is to determine whether certain elements as specified
in the FA are present or not. If all of these elements are, the business arrangement will be
governed by the FA, regardless of how the agreement is to be labeled, whether as a license,
distributorship, dealership or consultancy. The point is, such semantics are entirely irrelevant
as far as the FA is concerned.
For a business arrangement to be considered a franchise under the FA, all of the following
elements must be present:
(a)

a right to operate the business according to the franchise system;

(b)
(c)
(d)
(e)
(f)

a grant of license to use the intellectual property rights such as the brand names,
confidential information and copyright;
a continuous control over the business operations in accordance with the franchise
system;
assistance rendered to operate the business including the provision or supply of
materials and services, training, marketing, and business or technical assistance;
in return, there will be payment of fees or other form of consideration; and
the business is operated separately.

In a franchising model, the franchisor would have developed a distinctive business format that
clearly identifies its business from that of its competitors, a strong brand identity and
standardized operating system and training guide that have been properly documented. The
franchisees are expected to operate the business strictly in accordance with the standardized
operating systems and prescribed procedures in exchange for monetary considerations such as
initial franchise fee or royalty payments. It is normal to find a grant of license in a franchise
agreement for the franchisees to use the franchisors intellectual property rights including the
trade marks, trade secrets and the franchised system. At the very core of the franchise
arrangement is the close working relationship between the parties, the strict control imposed
by the franchisor on the use of the business format and their interdependence to achieve
successful and profitable businesses. Unlike a license arrangement, a franchisor has significant
control over the licensees methods of operation, sometimes even choosing the specific
location and negotiating a loan for the start-up costs and ongoing costs for the franchisees and
there is a closer continuing relationship with the franchisor providing continuing support and
assistance to the franchisees as far as methods, training materials and advertising and
promoting the business.
While both franchise and license agreements may contain similar terms such as grant of IP
rights, obligations of the respective parties and payment obligations, the distinct difference
between the two different business models is that the licensees (whether distributors or
dealers) are generally not bound to operate the business in accordance to a specific business
format in the same stringent way as that imposed on franchisees. They are much more
independent in terms of their look and feel as well as in spirit and in conduct. Unlike a
franchise, a licensing model has less control over how the licensees operate the business. By
that same token, a license agreement is expectedly simpler than a franchise agreement. The
license fee payable may be a one-off or ongoing but the agreement is usually limited to the
control on the use of the IP rights licensed, not the entire business operation of the licensees.
Needless to say, the advantages of going the licensing route are multi-faceted. A licensor need
not seek registration from the Registrar of Franchises and hence has the flexibility in the way
in which it structures its agreement and business operation. What seems to be the most
attractive aspect for many business owners is that it would be able to appoint licensees and
consequently expand its business operations without having to wait for the usual 3 year
moratorium. There is no minimum duration for the agreement, unlike a franchise where it has
to be at least for a 5 year period. A licensor may be able to terminate the agreement without
cause or chooses not to extend or renew the term in the way that a franchisor must. A licensor
essentially is at liberty to dictate the terms without having to worry about the authorities
telling them which are acceptable or otherwise. A licensor may not like the idea that that it
cannot impose the 2 year restraint of trade after the arrangement has ended but I guess this is
a small price to pay for the freedom to operate.
In order to operate legitimately outside the realm of a franchising model, the business owners
must be willing to ensure that the business operations do not contain all of the franchise
elements specified in the FA. There are ways to operate the business legitimately by way of a
licensing model but care must be taken in structuring such arrangements to avoid liability and
criminal sanctions.