Franchising an Existing Business: Who Pays for Refurbishments and Equipment Upgrades?

A refurbishment that an owner can approve directly at a company-owned outlet becomes a request for additional investment when it involves an independent franchisee. When turning an existing business into a franchise, it is important to plan not only the initial premises specifications but also future equipment replacements and upgrades. Before recruiting franchisees, establish why refurbishments may be needed, who will bear the costs and how agreement will be reached, balancing quality across the franchise network with franchisees’ commercial viability.

1. Classify refurbishments and equipment upgrades by purpose

Start by reviewing past building works and equipment purchases at company-owned outlets. Record not only the quoted costs but also the reasons for the work, how long the equipment had been in use, any closure period and why repairs were not sufficient. The starting point is to avoid turning a founder’s feeling that ‘it is time for a change’ directly into a franchisee obligation.

Decisions become easier when replacements and upgrades are divided into three categories:

• Safety and legal compliance: replacing failed equipment, taking necessary safety measures and carrying out work required to comply with applicable laws.
• Maintaining core quality standards: addressing serious deterioration in interiors or equipment faults that affect service quality.
• Investment for growth: introducing new store designs, labour-saving equipment or facilities for new services.

Urgent safety work and a makeover intended to boost sales require different explanations and deadlines. For each item, decide what conditions trigger replacement or upgrading, who will assess its condition and whether repairs or alternative products are acceptable.

For example, decisions about reupholstering chairs should not depend solely on how many years have passed since opening. They should also consider condition-based criteria such as damage, ease of cleaning and customer safety. Take care not to confuse an asset’s useful life for accounting purposes with the period for which it can actually remain in service. For rented premises, also check who owns the equipment and what repair obligations the landlord has.

2. Assess investment against the franchisee’s total costs

When testing new equipment at company-owned outlets, do not base the decision solely on the purchase price. Compare costs including delivery, installation, removal, electrical work, maintenance and staff training. Separately identify lost sales during closures and expenses, such as rent, that continue while the outlet is closed.

An assessment table should include at least the following:

Assessment item	Information to record
Purpose	Faults to resolve, quality standards to maintain and expected improvements
Upfront costs	Building work, equipment, removal and associated work
Ongoing costs	Maintenance charges, usage fees, consumables and changes in utility costs
Operational impact	Closures, reduced opening hours and the time and effort needed to learn new procedures
Alternatives	Repairs, partial replacement, different models and phased implementation
Test results	Performance before and after installation, measurement conditions and matters not yet verified

For labour-saving equipment, distinguish between reducing the time a task takes and actually reducing payroll expenditure. If the time saved is redirected to customer service, that is an operational improvement, but it does not necessarily generate cash to recoup the investment.

It is also important not to apply the same payback assumptions to franchisees with different sales volumes or floor areas. Present results from company-owned trials alongside the underlying assumptions, and avoid suggesting that outcomes are guaranteed. Where an outlet has little time remaining on its franchise agreement, check whether the cost is disproportionate to its remaining trading period.

3. Specify implementation conditions and cost responsibilities in the contract

A single clause stating that ‘the franchisee shall carry out, at its own expense, any refurbishment the franchisor considers necessary’ does not allow franchisees to anticipate future costs. A practical approach is to set out the scope of replacement and upgrade obligations and the relevant procedures in the agreement, with equipment categories and cost-sharing arrangements in a schedule.

Specify the work covered, decision criteria, notification methods, preparation periods, how quotations will be reviewed and the conditions for selecting contractors. Where landlord consent or administrative procedures are required, make clear who will check requirements, submit applications and pay the associated costs.

Rather than simply stating that costs are ‘normally borne by the franchisee’, consider the reason for the work. Ordinary wear and tear, improper use by a franchisee, franchisor-led design changes and faults in specified equipment each raise different questions about a reasonable allocation of costs. If the franchisor offers financial support, specify what qualifies, the application conditions and when payments will be made, rather than leaving decisions entirely to individual staff members.

If future refurbishment costs cannot be determined accurately, explain that uncertainty. Any estimate should identify the work covered, the date of the estimate and factors that could change the cost, such as price movements or building conditions. If a cap is set, clarify what it includes.

Also distinguish between operational changes that clarify existing obligations and contractual changes that impose new investment obligations. Do not assume that revising a manual automatically permits any additional financial burden to be imposed. Establish a procedure for checking the contractual basis and whether separate agreement is needed.

4. Check Japan’s disclosure rules and the Antimonopoly Act

Japan has no single comprehensive statute governing all franchises, but relevant regulations do apply. Article 11 of the Act on the Promotion of Small and Medium-sized Retail Business requires franchisors that qualify as operators of a ‘specified chain business’ under the Act to provide prospective franchisees with prescribed written information and explain it before a contract is signed.

Whether a business falls within this category is not determined by its name alone. The statutory criteria must be checked, including whether it primarily serves small and medium-sized retailers, uses standardised contracts, provides ongoing supplies of goods or arranges their sale, offers management guidance, permits the use of trade marks and collects money on joining. It is not accurate to assume that every retail or food-service franchise is covered.

Disclosure requirements under the Act include details of any special obligations imposed on franchisees concerning the structure, interior or exterior of their premises. Franchisors planning refurbishments should ensure that the necessary information appears in both the agreement and the disclosure documents, and that the explanations are consistent. Even where the Act does not apply, explaining significant future investment obligations in writing before signing can help prevent disputes.

Franchisors and franchisees are also independent businesses, and their dealings are subject to Japan’s Antimonopoly Act. The Japan Fair Trade Commission’s guidelines on franchise systems under the Antimonopoly Act provide guidance on how it applies. A refurbishment requirement is not automatically unlawful. However, if a franchisor holds a superior bargaining position and imposes an unfairly disadvantageous burden in light of normal business practices, this may raise concerns about abuse of that position.

Including a requirement in the contract does not, by itself, resolve problems with how a request is made or the burden imposed. It is advisable to have a specialist review both the clauses and their implementation, taking account of contractual interpretation and the principle of good faith under Japan’s Civil Code.

5. Establish a consultation process before issuing network-wide notices

Avoid deciding on a refurbishment and then simply notifying every outlet of the construction schedule. First, the franchisor should review the purpose, alternatives, test results and cost-sharing arrangements internally. It should then check each franchisee’s equipment condition, funding plans and lease terms.

For routine replacements and upgrades, the following process can serve as a starting point:

1. The franchisor presents the need for the work and supporting evidence.
2. The franchisee explains current conditions and practical constraints.
3. Both parties compare options such as repairs, partial replacement or postponement.
4. They confirm costs, the work schedule and the impact on trading.
5. They record the agreement and the arrangements for post-completion checks in writing.

Where there is a safety risk, separate immediate measures, such as taking equipment out of service, from discussions about permanent refurbishment. Emergency action should not be used as a reason to require unrelated interior upgrades at the same time.

Provide a contact point for objections and requests for postponement. Recording the conditions and reasons for exceptions makes it easier to maintain fair treatment while taking individual outlets’ circumstances into account.

Practical takeaway: Before recruiting franchisees, prepare a one-page summary for one representative item of equipment, covering the replacement criteria, total costs, who pays and the consultation procedure. Checking whether this can be reflected in the contract and explanatory materials is the first step towards workable replacement and upgrade rules.