When a ‘Licensing Agreement’ Turns Illegal: The Franchise Law Disaster You Must Learn From

How a Franchise Dispute Cost Business Owners and What You Can Learn From It

In a recent Malaysian court case, several franchisees (business owners who paid to run a franchise) sued the franchisor (the company offering the franchise) and their lawyer over a failed business deal. The court ruled that the agreements were illegal and void from the start, leaving both the franchisor and the franchisees with heavy losses. Here’s a simple breakdown of what happened, why it matters, and how to avoid similar pitfalls.

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What Went Wrong?

The franchisor sold “licensing agreements” to operate a popular F&B business. However, the court found these agreements were actually franchise agreements in disguise. Under Malaysia’s Franchise Act, franchises must be registered with the government before they can operate. Since the Company never registered the franchise, the agreements were declared invalid .

The franchisees paid large sums (RM50,000–RM200,000 each) for these agreements, believing they were buying a legitimate business opportunity. But because the agreements were illegal, the court ordered the franchisor to refund the licensing fees.

Even worse, the lawyer who drafted the agreements was found negligent for failing to:

• Explain the difference between a “license” and a “franchise.”
• Advise the franchisees that unregistered franchises are illegal.
• Ensure the agreements were legally valid.

The franchisor’s counterclaim (for penalties and royalties) was dismissed, but the franchisees still suffered losses from their failed businesses.

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Lessons for Business Owners

This case highlights critical mistakes that cost everyone involved time, money, and reputation. Here’s what you can learn:

1. Know the Difference Between a License and a Franchise

• Franchise : A system where a franchisor grants the right to operate a business under their brand, systems, and control.
• License : A simpler agreement, like allowing someone to use your trademark or product without full business control.
• Key takeaway : If your agreement includes strict rules (like SOPs, mandatory purchases, or royalty fees), it’s likely a franchise. Franchises MUST be registered under the Franchise Act.

2. Always Check for Franchise Registration

• Ask the franchisor for proof of registration with the Registrar of Franchises.
• Never sign an agreement without verifying compliance. Unregistered franchises are illegal, and their contracts are void.

3. Don’t Skip Legal Advice

The franchisees in this case relied on the franchisor’s lawyer, who failed to explain risks or ensure legality.

• Hire your own lawyer to review agreements.
• Ask questions like:
  • Is this a franchise or license?
  • Are they registered?
  • What happens if the agreement is declared invalid?

4. Avoid “Cut-and-Paste” Agreements

The court criticized the franchisor’s lawyer for drafting agreements that looked like franchises but were labeled licenses.

• Customize agreements to fit your business structure.
• Ensure clauses (e.g., royalty fees, penalties) align with the law.

5. Document Everything

The franchisees struggled to prove losses (e.g., equipment costs) because they lacked proper records.

• Keep receipts, communications, and financial records.
• Use clear, written terms for every transaction.

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How a Lawyer Can Help You Avoid This Disaster

A good lawyer isn’t just for “when things go wrong”—they’re your first line of defense. Here’s how they can protect you:

For Franchisors

• Register your franchise with the Registrar of Franchises before offering it to others.
• Draft legally compliant agreements that meet Franchise Act requirements.
• If your business is not ready for franchise, what can your business do to prepare for franchise.
• Advise on disclosure documents (e.g., business history, fees) required by law.

For Franchisees

• Review agreements to confirm they’re legal and fair.
• Explain your rights (e.g., termination clauses, penalties).
• Negotiate terms to avoid unfair restrictions or costs.

For Both Parties

• Conduct regular legal audits to stay compliant as laws change.
• Mediate disputes early to avoid costly court battles.

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Final Takeaway

This case is a wake-up call for business owners in Malaysia. Whether you’re franchising or buying a franchise:

1. Follow the Franchise Act —registration is mandatory.
2. Never assume an agreement is legal based on its label (“license” vs. “franchise”).
   • Under the Franchise Act, a “franchise” is defined by specific elements:
     • Granting rights to operate a business under a system (e.g., SOPs, branding).
     • Use of intellectual property (e.g., trademarks, trade secrets).
     • Ongoing control over operations (e.g., mandatory compliance with manuals).
     • Payment of fees (e.g., licensing fees, royalties).
   • If these elements exist, the agreement is a franchise regardless of its name . The court iis not bound by the parties’ choice of label (e.g., “license”) but instead examines the true nature of the agreement.
3. Always consult a lawyer who understands franchise law.

A small investment in legal advice today can save you from losing money tomorrow.

Need help navigating franchise law? Contact a qualified lawyer to protect your business.