Franchising a Hong Kong Business: Setting Out Arrears Notices, Cure Periods and Debt Recovery Procedures

Once an established business begins franchising, the franchisor must provide ongoing support and receive management fees and other contractual payments on time. Yet late payment may stem from billing errors or temporary cash-flow difficulties, or it may indicate persistent default. A process that allows arrears to be verified and defaults to be remedied is more likely to protect relationships across the franchise network than blanket penalties or immediate suspension of supply.

1. Make payment obligations clear and verifiable

Business start-up guidance from Hong Kong’s Trade and Industry Department notes that franchisees are independent businesses whose relationship with the franchisor is based on a contract. Franchise arrangements may also involve initial fees and recurring management fees. It is therefore not enough for an agreement simply to require ‘monthly payment’, leaving finance staff to decide the due dates and recovery methods.

For each charge, specify at least:

• Basis of payment: The fixed amount or calculation formula, and the service or licence period it covers.
• Invoice and due dates: How public holidays are treated and whether reissuing an invoice changes the payment deadline.
• When payment is deemed complete: Whether this is when a transfer instruction is issued or when the funds actually arrive.
• Reconciliation details: The invoice number, payment reference, amounts received and outstanding balance.

The franchisor should provide an itemised breakdown rather than combining charges for different months, goods and management fees into a single unverifiable debt figure. How partial payments are allocated between debts should also be agreed in advance and confirmed after payment is received.

2. Distinguish billing disputes from genuine arrears

A franchisee raising an objection does not automatically suspend all payment obligations. Equally, an invoice issued by the franchisor is not necessarily correct. The agreement should specify how queries are raised, what supporting evidence is required, how responses are handled and what happens to payments while a dispute is being resolved.

One option is to agree that undisputed amounts remain payable on time, while disputed amounts are checked through an established procedure. This is a contractual arrangement the parties can negotiate, not a universal statutory right enjoyed by franchisees in Hong Kong. Franchisors should also avoid using an unduly short deadline for objections as a substitute for a mechanism to correct billing errors.

In practice, the following sequence may be useful:

1. Finance staff check bank records, refunds and credit notes to rule out delays in recording payments.
2. A payment reminder is sent to the franchisee, stating the amount, due date and contact person for queries.
3. If the matter remains unresolved, a formal notice of default is served in accordance with the contract.
4. Once the agreed period for remedying the default has expired, instalments, debt recovery or other contractual measures are considered.

A formal notice must clearly identify the default, how it can be remedied and the deadline for doing so. Do not assume that an everyday messaging-app exchange satisfies the agreement’s notice provisions. A lawyer should review the designated email addresses, postal addresses and rules for service.

3. Late-payment charges and suspension of supply require more than a tough stance

Hong Kong currently has no legislation specifically regulating franchising, nor any generally applicable statutory disclosure requirements, franchise registration system or mandatory franchise code. The filing and disclosure requirements under mainland China’s Regulations on the Administration of Commercial Franchises cannot simply be applied to arrangements confined to Hong Kong.

However, the absence of franchise-specific legislation does not mean parties have unlimited freedom to set contractual terms. Arrears disputes primarily engage common-law principles of contract. Misleading statements made when recruiting franchisees may engage the Misrepresentation Ordinance, while restrictions on competition and the use of trade marks require consideration of the Competition Ordinance and Trade Marks Ordinance respectively.

If late-payment interest, fixed administration charges or recovery fees are proposed, explain clearly how they are calculated, when they begin to accrue and whether they accumulate alongside one another. Additional burdens imposed for a breach may be restricted by the common-law rule against penalties: including a term in an agreement does not necessarily make it enforceable. A lawyer should assess the substance of the provision, the legitimate interests it protects and whether the burden is disproportionate.

Suspending supplies, system access or brand licences should not be treated as a routine payment-collection tool either. Such measures must have a contractual basis, and their potential impact on customers who have already paid, access to essential records and the outlet’s ability to meet existing obligations should be assessed. If the franchisor suspends supply without the right to do so, it may itself be in breach of contract.

4. Put instalment plans and recovery escalation in writing

Where a franchisee has a viable cash-flow plan, payment by instalments may be more appropriate than immediate termination. But a verbal agreement to ‘pay later’ can easily leave the parties with different understandings of the deadline and the consequences of missing it.

A written instalment arrangement should state the agreed outstanding debt, each payment date, how existing interest will be treated and whether new charges arising during the arrangement must still be paid on time. It should also clearly set out what steps the franchisor may take if an instalment is missed. Obtain legal advice where rights are being reserved or the original agreement is being amended; simply stating ‘all rights reserved’ is not enough.

Internally, designate an approver and ensure that finance, operations and management work from the same record. Before escalating recovery, collate the agreement, invoices, evidence of contractual performance, payment records, notices and correspondence. Then choose mediation or legal proceedings according to the nature of the debt and the dispute. Insolvency proceedings should not be used as a routine collection tactic for genuinely disputed debts.

Practical takeaway: Before recruiting the first franchisees, prepare templates for invoices, arrears notices and instalment arrangements, then ask a Hong Kong lawyer to check that they are consistent with the franchise agreement. Verify first, give notice, allow the agreed opportunity to remedy the default, and only then escalate.