Planning Mandatory Purchases Before Franchising: Justifying Restrictions and Setting Pricing Rules

When turning an existing business into a franchise, start by reviewing its purchasing practices. A supplier chosen for the owner's convenience is not necessarily essential to maintaining brand quality. If you require franchisees to buy particular products or use designated suppliers, you should be able to explain what needs to be standardised and how much franchisees will pay. Purchasing standards in a healthy franchise network begin with a demonstrable need, not the franchisor's convenience.

1. Separate essential purchases from recommendations

First, list the ingredients, packaging, consumables, equipment and services purchased by your company-owned outlets. Do not simply copy product names from invoices: record each item's purpose, specification, supplier and potential alternatives. Relying on the purchasing manager's memory can leave out seasonal items or services paid for separately. Ideally, both outlet managers and accounting staff should check the same list.

Next, classify each item as ‘consider for mandatory purchasing’, ‘specification only’ or ‘free choice of supplier’. These are practical categories for internal review, not statutory terms. For items that directly affect consistency of taste, such as a signature sauce, it may be appropriate to assess whether mandatory purchasing is necessary. For general cleaning tools, by contrast, where products from several suppliers can perform the same function, consider setting specifications first.

Ask the following questions for every item:

• What quality problems could arise if a franchisee used another supplier's product?
• Could those problems be prevented through specifications or inspection standards?
• Can you explain to franchisees why they must use a particular supplier?
• Would the restriction still be necessary without the financial benefit received by the franchisor?

If the only answer is ‘we have always used this product’, do not treat that as sufficient grounds for making it mandatory. Trust in an existing supplier is relevant, but it does not, by itself, establish a need to restrict franchisees' choices. Keep items that are difficult to assess under review for testing rather than immediately making them compulsory.

2. Check the statutory requirements for contracts and disclosure

In South Korea, the Fair Transactions in Franchise Business Act governs dealings between franchisors and franchisees. Mandatory purchases are not merely purchasing guidance: they determine franchisees' costs and operating conditions. Preparation therefore involves more than having the purchasing department draw up a list and add it to the operations manual.

Under Article 11 of the Act, where a franchisor requires franchisees to trade with a designated party, the franchise agreement must specify the types of real estate, services, facilities, goods, raw materials, ancillary materials and other relevant items covered, along with the method for calculating their supply prices. In practice, the wording should go beyond a blanket statement such as ‘the franchisee shall purchase items designated by the franchisor’. It should make the actual scope of the requirement and the pricing mechanism clear.

The franchise disclosure document must also reflect franchisees' financial obligations and operating conditions, including mandatory purchases. Articles 6-2 and 7 of the Act govern registration of the disclosure document and its provision to prospective franchisees. If the agreement, disclosure document and purchasing list differ, prospective franchisees may struggle to understand their obligations. Check that the registered documents match the actual purchasing terms.

However, including a requirement in the agreement does not automatically make every purchasing restriction lawful. You must also consider the rules on unfair trade practices, including restrictions on trading partners. First establish the need for each item and review the terms of supply. Where the legality of a restriction is unclear, seek advice from a qualified Korean franchise transaction specialist or lawyer. Contractual disclosure and substantive justification are separate issues that both need checking.

3. Test alternatives to substantiate purchasing restrictions

Compare proposed mandatory items with alternatives in company-owned outlets. The aim is not simply to find cheaper products, but to establish whether the quality that matters to the brand can be maintained without relying on a particular supplier. Set the pass criteria before testing. Changing them afterwards to favour the existing product defeats the purpose of the exercise.

For example, when testing takeaway containers, you might assess not only size but also leakage, heat retention, stacking stability and suitability for the food. For consumables used in a laundry service, you might examine cleaning results, processing time and equipment compatibility. Use criteria suited to each item and check applicable safety and hygiene requirements separately. There is no need to use the same test sheet for every product.

Record the test date, product specifications, conditions of use, assessors and observations. Keep conditions for the existing product and its alternatives as similar as possible. If staff skill levels or quantities used differ, it becomes difficult to distinguish product differences from operational ones. Keeping photographs and measurement records can also help explain the reasons for a restriction later.

If an alternative meets the criteria, there may be scope to use specifications or a prior-approval process instead. If it fails, record the precise reasons, but do not rule out every alternative supplier on the strength of a single test. Also assess backup products that could be approved in the event of a supply interruption. The key is to consider both quality assurance and purchasing choice.

4. Distinguish supply prices from franchisees' actual costs

Once you have decided which purchases will be required, document how supply prices will be calculated. Quoting the current unit price is not the same as explaining how that price is determined. Check how purchase costs, processing, packaging, transport and the franchisor's margin are reflected in the actual supply arrangements, and ensure the agreement describes that structure accurately.

Avoid excessively broad wording such as ‘subject to market prices’ or ‘determined by head office policy’. Specify the cost components or indices used, the reference dates for the data and which costs are included in the price. Separately check the legal procedures required for price changes, and do not use a guidance notice to change contractual terms unilaterally.

A franchisee's costs extend beyond the supply price per unit. Minimum order quantities, delivery charges, storage space, shelf life and unused stock all have an impact. Do not assume that franchisees will use the same quantities as company-owned outlets. Calculate whether an outlet with lower sales could use a whole pack before it expires. Larger packs can increase the actual cost burden even when the unit price is lower.

When explaining costs to prospective franchisees, distinguish agreed terms from assumptions. If purchasing costs have been calculated on the basis of a particular sales volume, state that assumption. Where the franchisor earns a supply margin and also charges a separate royalty, explain each charge distinctly. Do not claim that there are ‘no additional costs’ without explaining the charges built into product prices.

5. Review the item list and contract documents together before recruitment

For the final review, create a master register with one row per item. Each row should show the item's name and specification, designated supplier, reason for the restriction, supply-price calculation method, order unit, relevant documents and responsible person. Keep test results and supplier quotations linked to the register, while distinguishing internal review material from the explanations to be provided to prospective franchisees.

Operations staff should check that the list reflects the items actually used. Purchasing staff should confirm that the supply terms are workable, and those responsible for contracts should check for inconsistencies between documents. Give recruitment staff the same guidance. If the agreement makes a purchase mandatory but a salesperson says franchisees can buy freely, misleading expectations can arise even if the documents themselves are accurate.

Before recruiting your first franchisee, ask questions from a prospective franchisee's perspective. You should be able to give consistent answers to ‘Why must I buy this item?’, ‘How is the price set?’ and ‘What is the process if I want to use a similar product?’ If answers vary between departments, clarify the purchasing terms rather than rushing into recruitment.

Action summary: Start by identifying items on your company-owned outlets' purchasing list for which you cannot explain the need for a restriction. Test alternatives, establish pricing rules and reflect them consistently in the franchise agreement and disclosure document. This will help create predictable purchasing arrangements from your very first franchise outlet.