How Businesses in China Should Plan Franchise Resales and Contract Transfers Before Franchising

When developing an existing business into a franchise network, businesses often focus on opening outlets and overlook arrangements for their subsequent sale. If the original franchisee finds a buyer and collects payment before asking the franchisor simply to ‘change the name’, disputes over authorisation, outstanding debts and operational responsibility can easily arise. Establishing a transfer process before recruiting the first franchisees helps everyone in the network understand what is negotiable and which conditions must be met first.

1. Establish exactly what is being transferred

A ‘franchise outlet transfer’ is not a single legal transaction. On receiving an application, the franchisor should first check the party named in the franchise agreement, the entity named on the business licence and the actual operator, then identify the type of transaction.

• Asset sale: The buyer acquires equipment, stock or fit-out assets, but does not automatically acquire trade mark rights or franchisee status.
• Transfer of contractual rights and obligations: The original franchisee wants a new party to take over the franchise agreement. This requires arrangements covering the franchisor’s consent, the allocation of debts and when the transfer takes effect.
• Change in share ownership: The shareholders of the franchisee company change, but the company remains the original contracting party. This should not automatically be treated as replacing the franchisee.

Article 555 of the Civil Code of the People’s Republic of China provides that, with the other party’s consent, a party may transfer its contractual rights and obligations together to a third party. An outlet sale agreement signed by the buyer and seller therefore cannot replace the franchisor’s consent to the transfer of the franchise agreement as a whole.

For changes in share ownership or actual control, the franchisor can include notification, review and material-change procedures in the franchise agreement. However, the triggers must be clear: restrictions should not be added at the last minute solely on the basis of internal policies.

2. Turn approval criteria into a verifiable checklist

Transfer approval should neither become a fresh franchise recruitment exercise nor amount to simply collecting a fee and rubber-stamping the application. The review should focus on whether the incoming operator can keep the outlet running properly and whether responsibility for existing risks has been allocated.

It is advisable to request a transfer proposal, documents identifying the incoming entity, funding arrangements, details of the person who will actually manage the business, and a list of the original franchisee’s debts and outstanding obligations. Within the franchisor’s organisation, operations, finance and legal teams should each provide their assessment. One person should coordinate the response to prevent different departments from making conflicting commitments.

The review should answer at least three questions:

1. Does the incoming operator have the legal status, licences and staffing needed to run the business?
2. Does the outlet have outstanding debts, unfulfilled orders, unused customer prepayments or unresolved disputes?
3. Does the incoming operator understand the remaining term of the existing agreement, its operating requirements and the investment obligations?

The agreement can specify requirements for additional documents, processing times and how written responses will be provided. If approval is refused, the reasons should be linked to the agreed criteria. Any transfer review fees, training fees or adjustments to the security deposit should be explained in advance, including their basis, amount or calculation method, rather than introducing unexpected charges just before completion.

3. Choose the contractual route, then arrange disclosure

Mainland China has specific rules governing franchising. Article 11 of the Regulations on the Administration of Commercial Franchising requires franchise agreements to be made in writing. Depending on the transaction structure, the franchisor should either use a tripartite transfer agreement or terminate the original agreement and enter into a new one with the incoming operator. Merely changing the contact details in the system is not enough.

A tripartite transfer agreement should clearly state what is being transferred, the conditions for it to take effect, the treatment of historic debts and the security deposit, and whether the original franchisee retains any specified liabilities. If a new agreement is used, it should explain how the original agreement will be brought to an end and its outstanding obligations settled, avoiding two valid franchise authorisations for the same outlet at the same time.

Article 21 of the Regulations on the Administration of Commercial Franchising and the Measures for the Administration of Information Disclosure in Commercial Franchising require franchisors to provide the prescribed information and the contract text in writing at least 30 days before entering into a franchise agreement. This requirement must be met when signing a new franchise agreement with the incoming operator; it cannot be skipped on the grounds that the outlet is already trading.

For a tripartite transfer, do not assume that giving the agreement a different name removes disclosure obligations. The substance of the arrangement should undergo legal review, with sufficient time allowed for disclosure. If a new agreement is signed, Article 13 of the Regulations also needs attention: the franchise term should generally be at least three years, unless the franchisee agrees otherwise. The remaining term of the original agreement should therefore not simply be copied across without considering this rule.

4. Use a completion checklist to define when responsibility changes hands

Approval of the transfer and permission for the incoming operator to start trading should be treated as separate milestones. The franchisor can first issue conditional consent, making clear that the transfer of authorisation takes effect only once the agreements have been signed, the necessary licences verified and agreed training or other requirements completed.

The completion checklist should identify who is responsible for each task and what evidence of completion is required. It should focus on:

• Financial matters: Stocktaking, amounts owed to the franchisor, and settlement of the security deposit and fees;
• Customer matters: Arrangements for fulfilling outstanding orders, honouring unused prepayments and meeting after-sales commitments;
• Operating access and permissions: Changes to brand authorisation, ordering accounts, outlet systems and platform accounts;
• On-site matters: Handover of equipment, keys and documents, and the transition between the outgoing and incoming managers.

The allocation of responsibility between the franchisor, seller and buyer does not automatically release any of them from their statutory liabilities to consumers or other third parties. If customer membership data is being handed over, the parties should also verify the lawful basis for processing and any notification or consent requirements under the Personal Information Protection Law of the People’s Republic of China. A complete customer database cannot simply be handed over like an ordinary asset.

On completion day, all three parties should confirm a written record stating when responsibility changes hands, any outstanding tasks and the deadlines for resolving them. System access no longer needed by the outgoing operator should be revoked promptly, but transaction records that must be retained by law must not be deleted indiscriminately.

Practical takeaway: Before recruiting the first franchisees, prepare a transfer application form, an approval checklist and a completion confirmation document, and ensure they are consistent with the franchise agreement. Identify the transaction first, assess the incoming operator next, and only then complete the transfer of authorisation. Do not let ‘the buyer has already paid’ pressure the franchisor into accepting an operator who has not been assessed.