Franchise procurement: mandatory suppliers and stock shortages

In an independently run business, the founder often handles procurement through personal contacts: making calls, finding substitute products or rescheduling deliveries. Once the first franchisee joins, that is no longer enough. Consistent quality across a franchise network requires procurement rules that protect the brand while providing a workable solution to supply disruptions. These are best established before signing up a franchisee.

1. Distinguish between specifying the product and specifying the supplier

Specifying the quality of an ingredient is not the same as stipulating who the franchisee must buy it from. Start by drawing up an itemised list of the products, raw materials and packaging needed to operate the business. For each item, describe the specific risk that sourcing it elsewhere would create.

Three categories provide a useful starting point:

• Items that must be purchased centrally or from a designated supplier: for example, an ingredient made to a proprietary recipe that sets the product range apart.
• Items that can be ordered from approved suppliers: several sources may be suitable, provided they meet the specified requirements.
• Items that can be sourced freely: the franchisee can choose the supplier, as long as the specified technical or quality requirements are met.

Always give a reason for any restriction. A consistent customer experience, traceability or compatibility with equipment are tangible considerations; ‘we have always ordered from them’ is not, on its own, an adequate business justification.

For example, a café’s signature coffee blend may require a designated supplier, whereas cleaning products may simply need to meet the machine manufacturer’s requirements. Always base the decision on how the business actually operates.

2. Procurement restrictions also have legal limits

Hungary has no separate, comprehensive franchise act or generally mandatory franchise registration requirement. However, franchising is not unregulated: Act V of 2013, the Hungarian Civil Code, regulates franchise agreements as a distinct type of contract. General contract rules and competition law also apply.

The Civil Code also addresses procurement. Where a franchisee is required to obtain the products it sells, or the raw materials needed to make them, from the franchisor or a person designated by the franchisor, and the franchisor fails to fulfil the order, the law entitles the franchisee to source them elsewhere. The relationship between centralised procurement and alternative supply therefore needs particular attention when drafting the agreement.

The competition law implications of mandatory purchasing cannot be determined simply by labelling an agreement a franchise agreement. Hungary’s Competition Act, Act LVII of 1996, is relevant, as are EU competition rules depending on the circumstances of the arrangement. Have a lawyer with competition law expertise review the scope and duration of any exclusive purchasing obligation.

An industry code of ethics is not legislation and does not replace this review. The agreement should contain precisely defined obligations, rather than a blanket, unrestricted ban on purchasing elsewhere.

3. Make ordering and costs predictable

Naming a designated supplier is not, in itself, an operating procedure. Franchisees need to know in advance how to place orders, when they will receive confirmation and on what terms the goods will arrive. Head office, in turn, should only make delivery commitments that its supplier agreements genuinely support.

Agree and record at least the following:

• who contracts with and pays the supplier;
• how orders are placed and accepted;
• what delivery schedule and minimum order quantities apply;
• who pays for transport and urgent replacement orders;
• how incomplete, faulty or damaged deliveries should be reported;
• how prices may change and how much advance notice must be given.

If head office resells goods, or receives supplier rebates or commission on franchisees’ purchases, it is worth explaining this transparently. This helps franchisees understand the economics of the procurement model, rather than trying to estimate all their costs relating to head office from franchise fees alone.

Allow for the cost of financing stock, too. A large minimum order may tie up too much cash despite an attractive unit price, particularly for perishable or slow-moving products.

4. Put a workable stock shortage procedure in place

Handling a supply disruption should not depend on whether the franchisee can reach the founder by phone. Define the events that trigger the alternative sourcing process: for example, failure to deliver a confirmed order, a reported stock shortage or an unusable consignment.

Appoint a responsible person and a deputy at head office. Set out a response procedure in advance and maintain a list of acceptable alternatives. Substitute products may still require composition details, compliance documents and traceability. For food products, changes in allergens may also affect the information that must be provided to customers.

The procedure must not make lawful alternative sourcing practically impossible. Equally, a stock shortage must not automatically waive safety and quality requirements. If no suitable alternative is available, the arrangements for temporarily suspending sales of the affected product should be clear in advance.

5. Test the rules before your first franchisee joins

Run a trial order as though your own outlet were already an independent franchisee. Use only the information and contact details you would provide to them. Then work through a delayed delivery and a request to use a substitute product.

Check whether responsibility for decisions is clear, whether additional costs can be documented and whether the promised quality can be maintained. Use what you learn to refine the agreement’s procurement provisions and the day-to-day ordering guide.

Practical takeaway: restrict sourcing only where there is a clear justification. For every mandatory source, set out supply commitments and a workable fallback: a franchise network depends not only on consistency, but also on continuity of supply.