Franchising: how to set a contractual minimum takings threshold

Turning an existing business into a franchise network also means deciding what results to expect from franchisees. Setting a contractual minimum takings threshold requires care: it can clarify expectations, but a poorly designed threshold can lead to disputes and financial strain. Before including one in the agreement, establish what it measures, what evidence supports it and what happens if it is not met.

1. Distinguish the obligation from business forecasts

In Italy, Law No. 129 of 6 May 2004 governs franchising. Article 3, paragraph 4(b), requires the agreement to specify how royalties are calculated and paid, along with any minimum takings the franchisee must achieve. The crucial word is any: the law does not require every franchisor to set a threshold.

Before drafting the clause, distinguish between three concepts:

• Financial forecast: an estimate based on assumptions, not a guarantee of results.
• Management target: a goal used to plan activities and monitor the performance of the franchised outlet.
• Contractual minimum takings: an agreed threshold to which the agreement may attach specific consequences.

There is another essential distinction: minimum takings are not the same as a minimum royalty. The former concerns the performance of the franchisee’s business; the latter concerns the payment due to the franchisor. If you intend to include both, describe them separately, avoiding wording that makes the two obligations appear interchangeable.

The first practical question is therefore: do you really need a contractual obligation, or would a performance indicator that triggers support and discussion be enough?

2. Base the threshold on data from the existing business

Article 3, paragraph 2, of Law No. 129/2004 requires the franchisor to have tested its business format on the market. This does not automatically make every threshold derived from the original outlet reasonable.

An established business may benefit from the founder’s daily presence, a loyal customer base or property arrangements that are difficult to replicate. Applying its takings figure to a new franchisee without adjustments means ignoring these differences.

Prepare an internal record documenting:

• the periods analysed and their seasonal patterns;
• actual opening days and hours;
• the start-up phase compared with established trading;
• the characteristics of the customer base and catchment area;
• any exceptional events that affected takings.

Then assess less favourable scenarios, not just the central forecast. A threshold achievable only under the best conditions is a reason to reconsider, not evidence of commercial ambition.

Do not base the minimum solely on the franchisor’s financial needs. The fact that the franchisor needs a certain level of royalties to cover its costs does not prove that every franchisee can generate the corresponding takings. Keep a record of the reasons for your choice and check that they are understandable to someone who was not involved in the calculations.

3. Specify what is measured and over what period

The term “takings” can create uncertainty unless it is clearly defined in practical terms. With your legal adviser and accountant, clarify which amounts count towards the threshold and how they will be verified.

At a minimum, address the treatment of VAT, returns, refunds, discounts and gift vouchers. For businesses that also sell online, specify how orders are allocated to individual franchisees. For services paid for in advance or by instalments, distinguish between when payment is received and when the service is provided.

Also define the assessment period. Monthly checks may give an unrepresentative picture of a highly seasonal business, while annual checks may reveal difficulties too late. You can provide for interim reviews without making every shortfall a breach of contract.

Set out how to handle openings part-way through the financial year, the start-up period and exceptional closures. Do not leave these situations to subsequent verbal agreements. Specify which documents can be used for verification, along with a procedure for correcting errors or disputing the calculation.

4. Attach proportionate consequences to the threshold

The consequences of failing to meet the minimum should not be left open to interpretation by the parties. Decide in advance whether a shortfall triggers a discussion, a recovery plan or further contractual remedies, which should be assessed with a professional adviser.

A practical process might begin with checking the data, move on to analysing the causes and lead to agreed measures with clear deadlines and responsibilities. Consider any shortcomings in the franchisor’s own performance too: interrupted supplies or promised support that has not been delivered cannot be ignored when examining the problem.

The threshold must be disclosed before signing. Article 4 of Law No. 129/2004 requires a complete copy of the agreement and the required annexes to be provided at least thirty days before signature. Such a significant financial term should not be left to informal explanations.

In practice: before proposing a minimum takings threshold, prepare a summary setting out the rationale, calculation basis, assessment period and consequences. If any of these elements remains unclear, the clause is not yet ready.