Franchising a Hong Kong Business: Aligning Shop Leases with Franchise Agreements

Turning an existing Hong Kong business into a franchise network requires more than checking that its brand and operating model can be replicated. Even if company-owned shops run smoothly, a new franchised outlet may fail to get off the ground because of restrictions on use, subletting arrangements or an insufficient lease term. Franchisors should verify separately whether the brand authorises the outlet and whether the premises can accommodate the business, then link the two through coordinated documentation.

1. Decide who will take the lease and bear the tenancy risks

Before recruiting franchisees, the franchisor should choose a basic tenancy model and explain it clearly to prospective franchisees. The differences go beyond how rent is collected: they affect who the landlord can pursue for rent, who funds the deposit and how secure the right to occupy the shop will be.

• The franchisee leases directly: The franchisee signs the lease with the landlord and pays the rent and deposit. The franchisor may assess whether the premises meet brand requirements, but that assessment does not guarantee that the lease is suitable and should not be presented as a guarantee of profitability.
• The franchisor leases and then sublets: The franchisor must first check that the head lease permits the arrangement and obtain any consent required under it. Payments made by the franchisee to the franchisor do not release the franchisor from its rent obligations or other contractual liabilities to the landlord.
• The franchisor provides an occupancy arrangement: Do not assume that calling a document a ‘licence to occupy’ avoids restrictions on subletting. The legal nature of the arrangement depends on its substance and should be reviewed by a solicitor.

Where a franchisor already leases a company-owned shop and plans to hand its operation over to a franchisee, it is particularly important to check for restrictions on assignment, subletting, parting with possession or sharing occupation. An agreement between the franchisor and franchisee cannot replace any required landlord consent.

Start with a one-page responsibility matrix setting out who pays the rent, tenancy deposit, rates (Hong Kong’s property-based charge) and management fees, and who is responsible for repairs and reinstatement. If the franchisor requires a guarantee from the franchisee, it should also clearly identify the beneficiary, the scope of the guarantee and the conditions for release.

2. Separate site approval from lease due diligence

A franchisor’s approval of footfall, frontage and the surrounding trading area does not mean that the premises are suitable for the proposed use. A site approval letter should clearly distinguish between acceptance of the location for brand purposes and completion of checks on tenancy and regulatory requirements. These are not the same thing.

Before the lease is signed, the person responsible can be required to complete the following checks:

• Permitted use: Does the use specified in the lease cover the actual products, services and operating methods? Do not rely simply on the premises being described as a ‘shop’.
• Restrictions affecting the premises: Could the deed of mutual covenant, building management rules or other applicable restrictions affect opening hours, signage, ventilation, loading and unloading, or equipment installation?
• Licensing feasibility: Identify the licences or approvals required for the actual business and have appropriately qualified professionals assess the premises. A business registration certificate is not a blanket authorisation to conduct every type of business.
• Written consent: Where fitting-out works, signage or alterations are involved, establish whose approval is needed, which documents must be submitted and whether any consent is subject to conditions.

Mark each item as ‘verified’, ‘documents outstanding’ or ‘unable to comply’, and retain the supporting evidence. If important issues remain unresolved, avoid irreversible commitments based solely on verbal assurances from an estate agent, franchise recruitment representative or landlord’s representative.

For example, if an outlet needs additional ventilation equipment, the franchisor can first confirm the operational requirement, then have relevant professionals assess whether installation is feasible and obtain the consent required under the lease. It should not approve the premises first and then shift the entire risk of being unable to install the equipment onto the franchisee.

3. Align the terms and conditions of both agreements

The franchise agreement grants rights to use the brand; the lease grants rights to use the premises. If the former has several years left to run but the latter is about to expire, the franchisee may still have franchise obligations to fulfil without being able to use the original site.

The franchisor should prepare a schedule of key dates showing, at a minimum, the lease signing date, handover date, rent-free period, rent commencement date, lease expiry date, and the start and end dates of the franchise rights. A rent-free period is not necessarily a period during which the business may lawfully open, nor does it mean that the necessary licences have been obtained.

For renewals, distinguish between a genuinely exercisable renewal option and a mere right to negotiate first. Check notice deadlines, conditions for exercising the option and the method for setting rent. ‘The landlord usually renews’ should not be treated as an established premise of the franchise plan.

The two documents should also deal consistently with the following situations:

• If the lease has not yet been finalised, is the franchise agreement subject to conditions precedent, and who confirms that they have been satisfied?
• If the landlord declines to renew or lawfully repossesses the premises, can the franchisee apply to relocate, and what criteria will the franchisor use to assess the application?
• If the outlet cannot trade during relocation, how will ongoing fees, minimum operating requirements and any suspension arrangements be handled?
• If a suitable replacement site cannot be found, what remedial steps must the parties take, rather than assuming that either party is necessarily in breach?

If the franchisor wants to take over the premises in specified circumstances, simply adding ‘step-in rights’ to the franchise agreement is not enough. Whether it can do so will still depend on the lease, landlord consent and related documents. Where feasible, this should be negotiated with the landlord in advance, rather than seeking cooperation only after a problem arises.

4. Obtain a Hong Kong legal review rather than copying overseas templates

Hong Kong currently has no legislation specifically regulating franchising, no dedicated franchise registration system and no statutory franchise disclosure period. The regime under mainland China’s Regulations on the Administration of Commercial Franchises should not be treated as setting the requirements for franchising a local business in Hong Kong.

This does not mean that relationships within a franchise network are unregulated. Franchise and tenancy arrangements are subject to common law contract principles and applicable legislation. Misrepresentations about the lease term, landlord consent or permitted use of the premises during franchise recruitment may engage the Misrepresentation Ordinance. Depending on the circumstances, tenancy arrangements also require consideration of the Landlord and Tenant (Consolidation) Ordinance, while leases chargeable to stamp duty must be dealt with under the Stamp Duty Ordinance. The business itself must also comply with relevant licensing and safety requirements.

In practice, a solicitor should review the franchise agreement, head lease, sublease or occupancy documents, and landlord’s consent together. This helps avoid a situation in which each document appears complete on its own but conflicts with the others. After signing, appoint a specific person to manage tenancy notice deadlines rather than leaving the matter at ‘the franchisee must keep track’.

Practical takeaway: Before offering franchises, complete a tenancy responsibility matrix, a premises due diligence checklist and a schedule of key dates. A franchised outlet has a sound foundation for opening only when brand rights, rights to occupy the premises and practical operating requirements all fit together.