duell law Archives - Page 4 of 7 - Duell

Jan 03

Franchise Associations: The Good, The Bad and The Ugly

By Richard Duell lll Newsletter

In determining whether franchise associations will benefit or undermine a franchise system one must first determine the manner in which the association is to be organized and secondly, the purpose behind the proposed formation. Generally, franchisee associations are either formed by franchisees themselves, primarily for their own interest, or they are formed by the franchisor, primarily for the franchisor’s interest first and secondarily that of the franchisees.

The Good

If a franchise association is being formed by the franchisor rather than franchisees, the association is customarily denoted a Franchise Advisory Council (“FAC”). As the name connotes, FAC’s are purely advisory. Organizational, communication, travel and other expenses are normally paid by the franchisor. Franchisors considering whether to form a FAC usually look for the best and most loyal franchisees to be on one or more committees to advise the franchisor on topics such as marketing, new product development, reporting and operations. FAC’s are a good mechanism for franchisors to obtain valuable input from prime franchisees. Because franchisees feel that they are a team member and their contribution is meaningful (which it should be), the FAC members normally give the franchisor their endorsement which in turn draws the support of the entire franchise system.

The Bad

When an association is formed by franchisees rather than the franchisor, the franchisee association usually involves a conflicting economic interest with that of the franchisor. Franchisees sometimes find that by pooling together their resources they jointly have a much louder and stronger voice. As a result, a franchisor is much more apt to listen and address complaints of franchisees. Unfortunately, for many franchise systems, franchisee associations formed to address a single issue common to the system expands to include a wide range of issues, including issues that might have otherwise been addressed by a FAC. An example of this change of direction occurs in the franchise system discussed in an article appearing in the magazine, Franchise Times. The story is about a franchisee association initially formed for the sole purpose of helping franchisees survive a number of lean financial years. After the franchisees were again profitable, the franchisee association changed its purpose and became primarily concerned with decoupling the franchise brand from that of the franchisor’s parent company. Neither franchisor nor franchisee could ever have foreseen the total change of direction.

The Ugly

The ugly referenced in our title occurs when politicians and academia get involved. Today there is growing sentiment that franchisee associations should be treated like labor unions and be granted an antitrust exemption. With this type of protection franchisee associations could engage in collective bargaining and be free to negotiate royalties, advertising fees, operational issues, termination rights and many other facets of the franchise system.

Like so many aspects of franchising, the decision of whether associations should be allowed in your system depends upon the intent of formation. Before agreeing to an association contact our firm. Together we can look at the legal ramifications pertaining to an association. Perhaps it may be more important to be proactive and form a franchisee advisory council yourself, or address the specific issues without even having to address the formation of an association. The choices you make can mean a win-win for all parties or the ultimate demise of your entire franchise system.

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Dec 04

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Promotional Contests: Winners or Losers?

By Richard Duell lll Newsletter

Traditionally, consumer promotions featuring games of chance, lotteries and sweepstakes have generated new sales and given Franchisors increased brand name recognition. In fact, an article in The Wall Street Journal noted sweepstake sites were a growing segment of the Internet. Sounds like a winner doesn’t it? It can be a winner if your company follows the rules.

Almost every state has codified a set of rules to regulate promotional contests. At the federal level, various agencies are empowered to initiate enforcement actions where prize, chance and consideration are inherent in the contest. Internationally, our neighbors to the north in Canada prohibit any pure game of chance. In Latin America countries like Mexico, Brazil, Argentina, Venezuela and Columbia, promotional contests require prior governmental approval. This is also true of many European and Asian countries.

In a world filled with complex governmental regulations and judicial decisions, which vary from one area to the next, is there a “bright-line rule” to guide us? Fortunately, the answer is yes. As a general rule, to fall within a regulated activity the promotion must encompass each of the following: 1) a prize; or 2) chance, with mandatory consideration. A prize usually connotes anything of value awarded to the contestant. The value only has to be minimal. Thus, even discount coupons awarded may be sufficient to fulfill the definition. Chance refers to some random means of determination. Perhaps the most striking example of this random determination is the Reader’s Digest and Publisher’s Clearing Sweepstakes. Consideration may be the most unsettled area of the “bright-line rule” because one would normally believe it had to be in a monetary form, for example, the purchase of a product. This approach is actually followed in the majority of states. But there are several states that have taken the approach that the consideration may also be non-monetary. In these states the mere completion of an informational questionnaire may trigger the state’s definition of consideration.

To ensue compliance with our “bright-line rule,” creative marketers have skillfully crafted contests which focus on eliminating either chance or mandatory consideration. By making the contest a game of skill, the contestant is judged on their ability to perform an act. For instance, a contest involving “trivia” judges a contestant on their ability to correctly answer questions, thus the element of chance is eliminated. The second method commonly used is the elimination of mandatory consideration. By offering consumers a choice, the criteria of “mandatory” is eliminated. We all have seen this approach in the Pepsi and Coca-Cola games of chance or in any number of franchised fast food restaurant games. The customer is provided a game card when they make a purchase, but the contest also allows anyone to send off for a free card without any purchase. Thus, there is an alternative means of entering the promotional contest without any required purchase – no mandatory consideration.

CONCLUSION

Promotional contests can be a big winner for your franchise company and your franchisees if you have properly planned in advance. Begin your plan by making sure franchise legal counsel is a part of your planning team. A well-laid plan will make your company a winner rather than the next defendant in a lawsuit.

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Nov 02

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2016 Annual Legal Checkup

By Richard Duell lll Newsletter

We all acknowledge the importance of seeing our doctor annually for a physical checkup. Unfortunately, when it comes to the well-being of your franchise business, many companies never consider the importance of an annual legal checkup. If you are not reviewing documents or systems yearly, then new technology, new legislation or changing case law among other factors, may put your franchise business at risk.

Statistics show that most franchise systems which fail, do so within the first five years, principally for one or more of the following: undercapitalization; poor operations; lack of training and support; selling franchises for survival; lack of the skills required to be a successful Franchisor; or, looking only at the short term rather than building for the long-term. All of these failure precepts are likely to result in litigation against the franchise entity and against the principals and franchise sellers of the Franchisor, who are likely to be sued individually by the disgruntled franchisees. Without question, such litigation can be avoided by the company regularly consulting with its franchise attorney to provide advice and guidance in advance of any legal entanglements.

The need for a legal checkup is not just for the new Franchisor. For the mature Franchisor to be successful, there must be constant innovation and change. Change facilitates resistance from franchisees and requires close legal support from the planning stage through the implementation of the change.

A clear example of change occurred when McDonald’s added breakfast to its franchise system. Suddenly franchisees were faced with increased cost, not just for additional equipment, but new labor cost and having to manage a whole new process.

Without legal input prior to implementing the modification, McDonalds would have been in court for years from suits by their own franchisees.

In a field so seemingly narrow as franchising, it is always interesting to me that few law students and law professors have ever heard of and many, perhaps the majority of practicing lawyers, likewise have no awareness of and do not recognize the field of franchise law and the fact that there are so many subcategories of the law to consider. Franchising is filled with numerous subfields starting with the law of contracts and includes the core of franchising, trademarks, trade secrets and copyrights. Always present in franchising are antitrust issues, changing laws, litigation and the rapidly developing areas of joint liability and ostensible agency. From the initial prospect package through the termination of a dissident franchisee, a Franchisor’s records, information and processes should be reviewed no less than annually and, when necessary, updated, modified or changed to meet legal requirements.

CONCLUSION

Does your company conduct an annual legal checkup? Will you be one of the casualties when the list of former franchise companies is posted? How successful do you want to be?

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Oct 13

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Modifying The Franchise System

By Richard Duell lll Newsletter

If there is one thing you can be sure of, it is the fact that change is imminent. In Franchising, if you don’t stay in touch with the market or consumer demands, you are setting a course for extinction. I am sure everyone can think of multiple examples of companies that remained static and are no longer with us today.

As a Franchisor, you are constantly evaluating and modifying the Franchise System to determine how new products, advancing technologies and changing consumer demands might affect your bottom line. Modifying the Franchise Systems occur in many forms. At one point, McDonalds did not serve breakfast. The modification of their Franchise System required a major investment by both Franchisees and McDonalds, with new equipment, advertising, additional labor cost and additional training. Almost all of the pizza franchises added delivery service to their system. Today you see many concepts that co-brand with other Franchise concepts. When you walk into a convenience store there are usually several franchise concepts in place under one roof. Computer technology has required many companies to modify a Franchisor’s system to stay abreast of competition.

Unfortunately, no matter how hard you work to lay the groundwork for changes to your Franchise System, there will always be one or more hostile franchisees who, even though they bought the franchise for your expertise, think they know more than expire. Be prepared for the argument that your modifications have caused a constructive termination of their Franchise Agreement or that you have modified or amended the original contract without their required written consent or that you have violated the covenant of good faith and fair dealing.

Fortunately, the good news is that courts around the country generally uphold a Franchisor’s right for modifying the Franchise System – when the Franchisor has reserved the right to do so in its Franchise Agreement. The key is reserving your right to make modifications. It is important that your franchising counsel is part of your planning team so that counsel knows what your future expectations are and can help build your documents to avoid franchisee disputes. Before making modifications to your Franchise System, be sure you have the legal ability to implement the system change. If the subject of your future Franchise System Modifications is not already on your list, make sure to add it to our annual legal checkup review.

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Sep 03

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Part Two: Multi-Unit Franchising – Is It for You?

By Richard Duell lll Newsletter

Part One of this article analyzed many of the Pros and Cons of multi-unit franchising. In Part Two, we look at whether your franchise company is ready for multi-unit franchising and if so, how do you qualify multi-unit prospects?

Are You Ready?

Having weighed the pros and cons of multi-unit franchising, your company must now decide the best multi-unit strategy to grow. Depending upon the franchise concept, target market and available resources, Franchisors have traditionally looked at the following tried and tested multi-unit growth strategies:

Master Franchising – Used both domestically and internationally, this concept usually involves three parties: a franchisor/master franchisor, a master franchisee/subfranchisor and one or more single outlet franchisees. Master Franchise Agreements grant the master franchisee a prescribed territory and also establish a required development schedule. A master franchisee is usually responsible for single outlet franchise recruitment, site selection assistance, operational support and often training of new franchisees. Initial fees and royalty fees are generally split in an agreed upon formula that is set out in the Master Franchise Agreement. Generally, Master Franchising attracts a more sophisticated party with greater liquidity than the single unit operators and enables a franchisor to provide an infrastructure that it may not possess for the territory being developed. On the other hand, the wrong master franchisee can cause severe damage to a franchisor’s reputation if the master franchisee does not enforce the single unit franchise agreement or fails to carry out the Franchisor’s normal responsibilities. Master Franchising also poses a substantial financial risk to a franchisor if the Master Agreement is terminated.
Area Development – An area development franchise has attributes of both the single unit franchise and the master franchise. Unlike the master franchise, the relationship does not involve three parties but typically just two, the franchisor and area developer. The area developer usually must own and operate a prescribed number of franchises in a specific territory. An area developer also must have the financial and human resources to open and operate the required units in the territory granted. Generally, area development agreements provide the advantage of accelerated growth with less investment or capital demands placed upon a franchisor.
Area Representative – Typically, area representation involves: (i) three parties – the franchisor, the area representative and the unit franchisee; and (ii) two distinct agreements – an area representative agreement and the unit franchise agreement. Usually the area representative acts as a franchisor’s sales agent for individual franchise units and provides service and support to the franchisor’s franchisees. This arrangement is similar to Master Franchising, but unlike Master Franchising, the area representative does not contract with unit franchisees. Thus all fees are initially paid to the franchisor who in turn pays the negotiated split with an area representative. As with Master Franchising, both concepts now require specific FDD disclosures and virtually the same risks.
Other Forms of Expansion – Less popular multi-unit formats include Joint Venture Arrangements. This concept is not as popular as other growth strategies because the franchisor has direct liability for the actions of the joint venture entity. Another less favorable growth strategy is that of conversion franchising, by which an independently owned unit operates under the franchisor’s brand. Franchisor’s must always be wary of the motivating factor precipitating the operator’s desire to convert. Refranchising is another less embraced strategy but may afford a franchisor strapped for capital with a way of expanding its business and avoiding much or most of the cost and distraction associated with day-to-day operations of multiple stores. Put simply, refranchising is when a franchisor sells company stores to franchisees. Selection of the right franchisee to buy the company operation is, as one can imagine, critical to the success of this type of multi-unit expansion.
Conclusion – Before embarking on any multi-unit strategy, look at the cost associated with each growth strategy, the legal complexity involved with each concept, the target you are trying to reach and above all, make sure your infrastructure is in place to reach your goal. Our firm works with a number of successful multi-unit franchisors. When you’re ready, we’re ready to help you successfully work through the legal implications associated with each multi-unit growth strategy.