In an increasingly interconnected global economy, franchising has emerged as a powerful tool for market expansion and brand proliferation. Yet beneath this growth lies a web of commercial and legal complexities—particularly regarding customs valuation when franchisees must import key materials from their parent companies.
Case Study: The Franchise Agreement Dilemma
Consider Company A, based in Country I, which enters a franchise agreement with internationally renowned Brand B headquartered in Country E. The contract grants Company A rights to operate branded stores while mandating the purchase of production inputs exclusively from Brand B or its approved suppliers—ordinary materials like specific fabrics, spices, or plastic pellets without patent protection.
The agreement includes a critical provision: Company A may source from third-party suppliers if Brand B approves equivalent quality materials at lower costs. Simultaneously, Company A pays ongoing royalty fees calculated as a percentage of sales from products made with these imported inputs—compensation for using Brand B's trademarks, store designs, and operational systems.
This raises a pivotal customs question: Should these royalty payments be included in the dutiable value of imported materials under Article 8.1(c) of the Customs Valuation Agreement?
Technical Committee's Verdict
The World Customs Organization's Technical Committee on Customs Valuation clarifies that royalties should only be added to import values if:
1. The fees directly relate to the imported goods themselves
2. Payment is required as a condition of sale
3. The amount isn't already included in the goods' price
In this scenario, while the imported inputs are essential for production, they contain no protected intellectual property. The committee concluded that royalties compensate for brand/system usage rather than the materials' value, thus shouldn't affect customs valuation.
Analytical Framework: Disentangling Costs
From a data perspective, customs valuation requires distinguishing between:
Tangible Goods Costs: The physical materials' purchase price, shipping, and insurance—directly tied to import value.
Intangible Services Costs: Brand licensing and operational support—separate from material worth.
The ability to source approved materials from alternative suppliers further weakens any direct royalty-import cost linkage. This operational flexibility suggests royalties primarily compensate for brand equity and system access rather than material procurement.
Strategic Implications for Businesses
Companies operating franchise models should:
• Clearly delineate royalty purposes in contracts
• Maintain detailed import/royalty records
• Conduct scenario analyses comparing approved supplier options
• Consult customs experts on jurisdiction-specific applications
As global franchising continues growing, understanding these valuation nuances becomes increasingly vital for compliant, cost-effective international operations.