Franchising in China - paradise or hell?

1.The door is totally open

Today, as many in the global market are aware, China is becoming the land of opportunity. China's strong and steady growth, proven by many years of continual GDP increases, seemed unstoppable. Economic growth led to an increase in personal incomes, especially in larger cities. The emergence of a large middle class, often consisting of well-educated professionals, added to the consumer demand for globally recognized, quality products.

While the fast developing market is driving the demand for franchising, China's entry into the WTO has made the door totally open to foreign franchisors. On January 31, 2007, the State Council of the People's Republic of China adopted the 'Regulations on the Administration of Commercial Franchise,' which has taken effect on May 1, 2007 ('2007 Franchise Regulations'). With promulgation of this most updated regulations, China entered the last phase of a long and difficult process that started in 1997 to create a legal structure for the franchise business model in China.

'2007 Franchise Regulations' has not only provided legal guarantee to standardize development of Chinese franchise but also been more explicit and open in prescribing operational conditions of the foreign franchisors. After the '2007 Franchise Regulations' being approved, there shall be no special restrictions for foreign franchisors in China. Foreign franchisors shall enjoy the national treatment as Chinese people. And Foreign franchisors may engage in any industries that are not prohibited in The Catalogue for the Guidance of Foreign Investment Industries (Amended in 2007) approved by the State Council.

2. Who's already in?
The franchise concept first entered the China market in the early years of the 1990s with the emergence of reputable international franchising companies such as KFC and McDonald's. They originally entered China in the early 1990s, building corporate stores first. After having achieved steady sales and sufficient revenue, they cautiously but aggressively expanded.

These pioneer global franchisors included dominant players in the fast-food industry and various master franchisors in other industries such as 7-Eleven convenience stores, 21st Century Real Estate, EF education, Kodak film, etc. These firms contributed to China's franchising market development and at the meanwhile enjoyed

the rich repayment that China franchising market brings to them.

3. Paradise or hell

Though foreign companies are finding commercial opportunities in China, not everyone find it as paradise. There are many potential risks companies should be aware of. Improper management or a trademark infringement might quickly bring a franchisor to the hell. The big success of KFC is widely know by the world, however, by sharing the below case, we would like to remind investors risks are always exist.

Management & Operation Risk: the franchisor should have a mature business model, and should be able to provide franchisees with continuous operational guidance, technical support, training and other valuable services.

Case study 1:  Milkyway Training - from paradise to hell

Back to 2002, Milkyway Education, created by a Canadian Chinese, was the first one to develop franchising in China training industry. By offering training curriculum developed by world leading vendors and providing train-the-trainer session to franchisees, Milkway soon developed 72 franchising centers in mainland China. But steadily, franchisees developed their own courses, recruited their own instructors and developed their own customers. They soon find no added value could be achieved from Milkyway. Today, when you google 'Milkyway Education' in Chinese, you get 557,000 results. But none of them are franchisees. Milkyway Education closed its own training center in Beijing at unbelievable low price.

Intellectual Property

The best protection is prevention. Though China is a party to international agreements to protect intellectual property (including WIPO, Bern Convention, Paris Convention, among others), and an obligation is imposed on franchisees to keep their franchisors' trade secrets confidential, both during the period of the franchise agreement, and following its expiration or termination, a foreign company must register its patents and trademarks with the appropriate Chinese agencies and authorities for those rights to be enforceable in China.

Trademarks and Trade Names. China has a 'first-to-register' trademark system that requires no evidence of prior use or ownership, leaving registration of popular foreign trademarks open to anyone. It is imperative that any foreign franchisor considering establishing a franchise in the PRC take immediate steps to register its trademarks and trade names with the relevant PRC authorities. Failure to do so can have devastating consequences. Franchisors should also register their trademarks and trade names as domain names. If the franchise business will utilize patents, the franchisor similarly must enter into and register a patent license in China

Without a proactive trademark registration plan in China, problems may also emerge after a franchisor terminates a relationship with its franchisee. The franchisee sometimes continues using the franchisor's proprietary trademarks by registering the trademark for its own business and offering similar services or products, either directly or indirectly. This can occur because China has two separate systems for the registration of trademarks and trade names. Trademark registration with the PRC Trademark Office is valid across the whole country. Trade name registration, however, is made with different levels of business registry offices and applies only to the jurisdiction of the local registry office.

There are many foreign trademark infringement suit in China, the ones that have legally registered their trademark in China successfully won the suit (e.g. Starbucks won the trademark infringement against a Shanghai coffee chain in 2004).

4. Suggestions to Foreign Enterprises

Despite the great economic potential, doing business in China can be difficult for many foreign companies, evident by the many failures of multinational companies. The following suggestions might be helpful to those new-to-China franchisors:

• Register the brand when entering the China market at inception. Without the official registration, even a well-known company can find itself in a difficult position when someone else has registered their brand name.
• Carefully seek local partners who can help you navigate the local business environment. Needless to say how important it is to choose a partner in the same industry with channels of distribution, industrial connections and good relationship with government organizations.
• Understand the cultural difference and adjust market access strategy accordingly. For those franchisors that can navigate the China way, the repayment can be big.
• For SMEs that might be lack of manpower and resources to investigate the market, the strategy, the legal and financial requirements, finding a professional business and legal consultants would be a better choice.

5. Our Services:
Sino-Link Consulting provides following services to franchisors:

• Legal support 
• Trademark and trade name registration
• Legal documents preparing or revising
• Legal support for business negotiation
• Legal advice on investment
• Litigation or arbitration
• Business support
• China business formation service
• China franchise development
• China financial and tax consulting
• China management consulting