A Practical Look at Arbitration vs. Litigation in Franchising

Ask Franchisors whether they prefer arbitration or litigation and you will get quite an array of viewpoints. Occasionally, opinions are based upon experience, but more often than not, mere perception.

Because each franchisor’s business is unique, what works for one company may not work for another. In order to make an informed decision on whether to use litigation or arbitration, a franchisor must understand the advantages and disadvantages of each forum. To do this, a franchisor needs the benefit of legal counsel with a knowledge about franchising.  Additionally, legal counsel must know how your business actually functions. All too often when I review a new client’s franchising program, the client never had any meaningful input about the decision on whether to use arbitration or litigation. There was never a discussion on the advantages or disadvantages of each format, particularly when considering how each format relates to that client’s unique business.

The choice of litigation may be beneficial for one client and detrimental to another.  There aren’t any “cookie cutter” molds to facilitate your decision. There are however, some relevant questions to answer in guiding your decision.

Paramount to any decision should be the cost of each approach. Litigation often involves expensive discovery consisting of motions ad infinitum and depositions that rob a growing franchisor of its most precious resource – key people.

On the other hand, arbitration may be extremely expensive. When looking at arbitration filing fees and the cost per day of each arbitrator hearing a dispute, the price can quickly rise to thousands of dollars.

This disadvantage may, however, work as an advantage for some franchisors.

Cost for a franchisee to initiate arbitration can be a deterrent to a franchisee’s aggressiveness. It is amazing, but many litigious franchisees will think twice about initiating arbitration when they are advised about its costs and are unable to find an attorney to represent them on a contingency fee basis.

An important area to consider in a franchisor’s decision on whether to use litigation or arbitration is whether a franchisor has any avenue of appeal if it does not believe the decision follows legal precedent. Litigation is structured and a judge must follow the law and, if not, there are appellate courts to ensure compliance with the law. Unfortunately in arbitration, appellate review is very limited. We sometimes find arbitrators who believe their function is to provide equity, and in doing so, they tend to compromise. With limited appellate review, there may be no viable avenue for a franchisor to appeal the arbitration decision. This would appear to be a definite strike against arbitration, but it must also be weighed in conjunction with a survey finding that the average and median jury verdicts against franchisors were dramatically higher (almost seven times) than the awards judges and arbitrators rendered against franchisors.

Whether to utilize arbitration or litigation requires a thorough knowledge of the advantages and disadvantages of both concepts. As a franchisor, be diligent in learning all the pluses and minuses of each process. Don’t fall into the trap of one size fits all.

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