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richard duell iii Archives - Page 2 of 7 - Duell | Law

Advertising Without Crossing The Line

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Advertising is no doubt one of the most important components, if not the most important component, of a Franchise company’s success. It is also, however, one of the largest areas of litigation in franchising.

In today’s litigious environment, a plaintiff’s attorney representing a disgruntled franchisee searches for every mistake made by a franchisor. The ad your company places soliciting prospective franchisees can be the “crack in the door” that the litigator waits to slide through. So how can your company protect itself from the clutches of a plaintiff’s attorney waiting to attack? First and foremost, make sure you have reviewed the law of each state affected by the ad. Did your company properly register the ad before it was published? Surprisingly, a number of states require registration of ads before they appear to the public. These states maintain a listing of all ads properly registered by franchisors. An example of what can go wrong when you fail to register occurred in New York when a Franchisor advertised for franchisees using the New York Times. The Franchisor was not located in New York nor registered to sell franchises in New York. Normally the ad being placed in the New York Times would not have caused a registration problem because the majority of circulation was outside the State of New York. But the Franchisor made the mistake of also placing the ad in the New York Times Metro edition which has a majority of its circulation inside New York. As a result, the Franchisor was exposed to both civil and criminal liability under the New York Franchise Sales Act. Unfortunately, this is just one example of not having a proper compliance program for the advertising/marketing department.

A second important area that a franchisor should include in its advertising compliance program is the review of all ads to see if each ad is factually consistent with the franchisor’s Franchise Disclosure Document (“FDD”). It is only natural that a franchisor wants each prospective franchisee to think that their franchise is the “opportunity of a lifetime” and that it will provide “financial security” or that the franchise is one that a prospect has always “dreamed of owning.” The issue is not whether a franchisor “feels” the information is consistent, BUT whether the ad provides an opportunity for the litigator to show any inconsistency with FDD information provided his/her client. If there is a possible inconsistency, the franchisor has a legal problem.

CONCLUSION

If you want to be safe, include a legal review of your advertisements before they are published to ensure they have not “crossed the line” and exposed your company to civil and criminal liability.

Exit Strategies for Franchisees Part Two

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Economically it is good business to have a program in place to help franchisees exit the system without having to resort to litigation or arbitration. An exit plan allows you the Franchisor to control the process and bring in a new energetic franchisee who can follow your franchise system, pay royalties, become successful and be a shining example for future prospects.

As a Franchisor, you are already set up to take in new leads, so why not use some of those leads for obtaining that super star replacement franchisee. Wouldn’t it be a great turnaround to go from having a non-performing or non-compliant franchisee to have a new franchisee who is much more motivated and desirous of pleasing you, the Franchisor? Some Franchisors even have programs in place which provide credits toward future royalties or a credit toward the purchase price to employees of franchisor interested in owning a franchise. It’s a great incentive to attract good corporate employees to work for your Franchise company when they can later become successful franchisees.

From the Franchisee’s point of view, it makes sense to present their franchise in the best possible light to facilitate the sale of their business to a third party. Because the Franchisor has controlled the process, the Franchisor has created a win-win for both the Franchisor and the franchisee.

Another form of exit strategy which ultimately reaches the sale of the franchise is the Cure Agreement. This agreement can be as simple as:

  1. An acknowledgement by the franchisee that there is a breach of the Franchise Agreement; and
  2. A plan describing how the breach will be cured; and
  3. The consequences of failing to follow the plan and cure the breach.

The use of a Cure Agreement if structured correctly can be a powerful tool for the Franchisor. The details of what the defaulting franchisee must do should be fully set out. Further, if done correctly the Franchisor in many states can incorporate release language, eliminating a franchisee’s claims (if any) against the Franchisor. Also there is no lag time. If the franchisee fails to cure the breach (particularly a monetary breach) the exit plan to remove the franchisee is in place and implemented immediately. The Cure Agreement is definitely a weapon that should be in a Franchisor’s arsenal.

As a Franchisor, it is imperative that you develop strategies to deal with franchisees that don’t perform or worse, refuse to abide by your agreement. With the proper plan in place you can avoid the cost of arbitration or litigation and move quickly to prevent any collateral damage with other franchisees.

Exit Strategies for Franchisees Before You Terminate

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There are times when it is more prudent to have an exit strategy in place than to employ the financial and manpower resources of your franchise company necessary for a franchisee termination. This is true from an economical standpoint as well as a legal one. Not only do many states have specific statutes dealing with termination spelling out what can and cannot be done but, believe it or not, some states require a franchisor to compensate the franchisee upon termination.

Considering the legal and economical consequences which flow from termination, it seems only logical to develop exit strategies to wean out the dissident franchisees and make room for those franchisees that are helping you build a successful franchise system.

So what should franchisors look for when determining potentially dissident franchisees? Without question the first clue is whether a franchisee is communicating with you. If a franchisee is not communicating with you, it doesn’t matter what kind of wonderful programs you have in place. Your franchise system will not work unilaterally.

There are several ways to keep the lines of communication open with franchisees. One method is to make sure your field personnel are aware of potential problems and have them meet face-to-face with the franchisee to discuss the problem(s). Only when you know what the problem is can you attempt to effect a practical solution through your exit strategies for franchisees.

If your field personnel cannot open the lines of communication, it may be prudent to have an executive pick up the phone and make contact. If you perceive a serious problem you may want to invite the franchisee for a visit. You may have to buy a plane ticket but it’s certainly less expensive than spending valuable executive time and money defending a lawsuit.

Occasionally a franchisor and franchisee need a third party to open the line of communication. Mediation sometimes works to get a franchisor and franchisee together and vent whatever animosity there may be while at the same time causing each side to get back to the problem.

A sometimes better method of encouraging communication is by using your franchise counsel. Recently, a franchise client forwarded a rather threatening letter from a franchisee’s counsel. Based upon the attorney’s letter, I realized he could not have reviewed his client’s franchise agreement. After picking up the phone and going over several key provisions of the franchise agreement, franchisee’s counsel realized his client’s vulnerable position and the expense his client would incur. Based upon our phone conversation, the line of communication opened and we were able to work out an exit strategy for the franchisee. But before an exit strategy could even be discussed, we had to communicate.

There are many great exit strategies for franchisees that work extremely well once you have found the root of a franchisee’s problem. Next month we will continue to build our arsenal of additional exit strategies for franchisees before termination.

Should You Consider A Merger Or Acquisition?

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Your company’s founder has laid a solid foundation and the franchise business has grown to a point where economics dictate that the company must remain the same size or expand to establish a larger royalty base for profitability. If you choose the role of expansion, it could be accelerated through merger or acquisition of another franchise company. Your decision to expand may even be far removed from a financial one. It could be predicated on a product or service which is complimentary to your existing business or perhaps, another company has an excellent management team in place and you believe a merger or acquisition would help position your company as the dominant franchisor in a particular field.

Up to this point, the entire process of whether to engage in a merger or an acquisition of another company has been based upon various business decisions, all of which ultimately relate to profitability. And of course, profitability is extremely important, but you must not base a decision solely on profitability. This a good time in the decision process to call upon your franchise counsel to see if there are any legal implications before moving forward. If your decision process fails to include legal counsel as part of your merger or acquisition team, be forewarned your next step might be the defense of one or more lawsuits from franchisees in your own system.

If not handled properly, a good plaintiff’s attorney may craft a lawsuit against your company which includes breach of contract. He or she may contend that your merger or acquisition effectively created a complete modification of the Franchise Agreement, by revamping the franchise concept. They may even throw in a count for violation of the implied covenant of good faith and fair dealing based  upon such issues  as market expansion, encroachment, dual distribution and interference with contractual relations. Next comes one of their favorite counts, fraud. Plaintiff attorneys love to use the fraud count and if they can find a way to get the lawsuit tried in their own ballpark, “let the good times roll.” To add spice to the lawsuit, they might add a count for violation of state franchise relationship laws and franchise disclosure laws. For the icing on their lawsuit, they may even throw in an antitrust count by contending your company’s conduct and your co-conspirators’ conduct (that is, the conduct of the other company you are acquiring or with whom you are merging) is designed to eliminate their client and other similarly situated franchisees by saturation, or perhaps elimination of the market. If they are really feeling mean, they might go with a class action count or securities violation if one of the defendants is a public company. Their case for the franchisee looks pretty favorable, all because the franchisor didn’t establish a plan which included the legal aspects of merger and acquisition in the decision process. Fortunately legal consultation before making any decision on merging or acquiring another business can save you hundreds of thousands of dollars in legal fees alone.

Conclusion

A merger or acquisition may be very desirable, but it may also turn out to be a nightmare if you fail to make a proper legal plan.