Planning a Franchise Network in China: Agreeing Store Upgrades and Cost Sharing

Turning an existing business into a franchise network means more than proving that today’s stores can be replicated. You also need to answer tomorrow’s questions: when equipment needs replacing, premises need altering or systems need updating, who decides, who pays and how will the work be carried out? Upgrades often affect cash flow, closure periods and the time remaining on the franchise agreement. Before recruiting your first franchisees, set out rules that both parties can understand and follow, rather than leaving these issues to be negotiated after an upgrade notice has been issued.

1. Understand the legal limits of consistent operating standards

Mainland China has a dedicated regulatory framework for commercial franchising. Article 11 of the Regulations on the Administration of Commercial Franchising requires a written agreement. Its principal terms must include product or service quality requirements, standards and measures to ensure compliance, as well as provisions on changes to the agreement and liability for breach. Article 14 requires the franchisor to provide an operating manual and ongoing operational guidance, technical support and business training as agreed. Article 15 requires product or service quality and standards to comply with relevant legal requirements.

These provisions make clear that a brand should maintain consistent standards. They do not, however, give the franchisor an unrestricted right to require additional investment. The need to update standards and an obligation on franchisees to bear all the costs unconditionally are two separate issues.

When drafting the agreement, also take account of the Civil Code of the People’s Republic of China, particularly its provisions on contract amendments and standard terms. Clauses involving substantial investment, losses arising from closure or liability for breach should be prominently highlighted and explained as required. A statement that “the franchisor reserves the right of final interpretation” is no substitute for clear provisions setting out each party’s rights and obligations.

Article 21 of the franchising regulations requires prescribed information and a copy of the agreement to be provided in writing at least 30 days before the agreement is signed. Prospective franchisees should see any proposed upgrade obligations at this stage, rather than having them added through the operating manual after signing.

2. Categorise upgrades rather than applying a blanket approach

Consider including a schedule to the agreement that lists upgrade categories and explains the basis for classification. The following are suggested management categories, not statutory ones:

• Compliance or safety upgrades: Remedial work genuinely required because of changes to applicable rules, equipment safety defects or similar issues. Confirm which stores are affected, the completion deadline and any interim risk controls.
• Upgrades needed to maintain agreed standards: Examples include an existing system no longer being supported or essential equipment no longer meeting agreed service standards. The franchisor should explain why the upgrade is necessary and compare options such as repairs, replacement or a phased rollout.
• Brand image or operational improvements: Examples include a new store design, display fittings or additional functionality. Explain their intended purpose, rather than using unproven sales growth as grounds for mandatory investment.

For each upgrade, specify whether it applies to new stores, stores renewing their agreements or stores operating under an existing agreement. Adopting new standards for new openings does not mean that every existing store must be refurbished at the same time.

Where equipment remains safe and meets the originally agreed standards, consider compatibility arrangements or deferred replacement. If deferral is not permitted, the franchisor should be able to give specific reasons, rather than simply citing “brand consistency”.

3. Set out costs, decision-making authority and transition periods

Equipment prices alone do not capture the full cost. An upgrade budget should also cover removal, transport, installation, commissioning, staff retraining, closure arrangements and disposal of old equipment. Trials in company-owned stores can help identify these items, but cannot guarantee that every franchise outlet will incur the same costs.

Prepare an implementation brief for each upgrade, answering at least five questions:

1. Why is the upgrade needed? Which legal requirement, contractual standard or validated operational need does it address?
2. What is the scope? Which elements are compulsory and which are optional?
3. Who pays? Which items will be funded by the franchisor, the franchisee or a third party, and how will any financial support be paid?
4. How are cost overruns approved? Who must give written approval for work outside the budget, and can it proceed without that approval?
5. When must it be completed? Will the store need to close, how will completion be signed off and how will delays be handled?

Do not confuse financial support from the franchisor with a commitment to renew the agreement. For stores nearing the end of their term, assess separately whether the investment is reasonable and discuss deferring the work, reducing its scope or entering into a separate written arrangement. Do not require substantial investment while allowing a franchisee to believe that completing the upgrade automatically guarantees renewal.

Routine upgrades should allow time for procurement, construction work and staffing arrangements. Urgent safety issues should be addressed by controlling the risk first, then clarifying the follow-up work and the basis for allocating costs. Set deadlines according to the work involved, rather than imposing the same short deadline on every store.

4. Test the implementation plan before rolling it out across the network

Before formally issuing upgrade requirements, use company-owned stores to test installation difficulties, compatibility, training needs and the impact of closures. The purpose is not to reassess the profitability of the entire store, but to check whether this particular upgrade can be delivered in practice.

Keep records of the original condition, budgeted and actual spending, unexpected problems and corrective measures. Where store conditions differ significantly, offer alternative implementation routes, such as replacing equipment in batches rather than requiring everything to be removed and replaced at once.

Next, invite a representative group of franchisees to review the implementation brief. Focus discussions on suitable windows for the work, cash flow planning and technical compatibility. Do not present consultation as though consent to amend the agreement has already been obtained. Changes that fall outside the authority granted by the existing agreement and introduce substantial new obligations should be negotiated in accordance with the law and documented in writing. Issuing an updated operating manual does not automatically replace a necessary contract amendment.

Once the work is complete, check it against the acceptance criteria agreed in advance. Record outstanding issues, warranty contact details and the final cost settlement. If disagreements arise, distinguish genuine safety risks from routine image updates. Do not treat every delay as a serious breach without first checking the facts.

Practical takeaway: Before recruiting franchisees, run through the full process using a real equipment replacement or store refurbishment project. Upgrade clauses can support a lasting franchise relationship only when the need, budget, decision-making authority, transition period and sign-off criteria are all clear.