franchise law Archives - Page 3 of 5 - Duell

Oct 13

Modifying The Franchise System

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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Aug 13

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Multi-Unit Franchising – Is It for You?

By Richard Duell lll Newsletter

Every Franchisor dreams of expanding its franchise system. But what is the most effective way to expand and how quickly do you expand? These are the two questions which plague most Franchisors. Picking the right format can make a franchise company the top player or the next casualty.

One method of expansion which has a consistently winning track record is that of multi-unit franchising. In fact, IFA studies have found that although multi-unit Franchisors make up a fraction of the total franchisee population, they account for more than 50% of all franchise units.But not all concepts are suited for multi-unit franchising. The following are pluses and minuses you should consider when deciding whether your company is a candidate for multi-unit franchising:

Pros:

Accelerated Growth – The ability to expand at a much faster rate than through the sale of single units. This also enables a Franchisor to obtain a quick injection of cash into the system.
Attract Potential Franchisees – Usually the multi-unit purchaser is more sophisticated with more liquidity and has an infrastructure already in place. This is especially true of existing multi-unit franchisees looking to expand via other franchises within an area they are already operating in.
Operating Market Efficiencies – A multi-unit franchisee usually has a well-organized professional management team. It may take a single-unit franchisee years to obtain similar efficiencies.
Market Penetration – Location! Locations! Location! A multi-unit operator often has a distinct advantage of obtaining prime retail locations with the liquidity to open multiple locations at the same time.
Reduction of Training Assistance – Even if the first store opening requires the Franchisor to fully train the multi-unit operator, additional training and assistance for subsequent locations is normally minimal.
Reward to Productive Franchisees – Perhaps no bigger win-win scenario can be found than to reward successful franchisees with the ability to open multiple locations. A productive franchisee can replicate success at other locations, thus enhancing a Franchisor’s chance of having more successful stores and greater royalty income.

Cons:

Loss of Capital – There is no bigger detriment to a franchise system than a franchisee which is too big for a Franchisor to control. Litigation with a large multi-unit franchisee could destroy the franchise system.
Loss of Prime Territory – Although the development of prime territories can be advantageous, the elimination of prime territory can be a distinct disadvantage. A Franchisor normally requires a multi-unit franchisee to develop a territory with a pre-determined minimum number of locations over a set period of time. The period for opening new locations is generally a number of years and thus the territory is taken off the market for years in the future. If a Franchisor has a number of long-term development contracts, large territories are not available and other potential franchisees will go to other competing Franchisors or other unrelated franchise concepts.
Impact on System Franchisees, Vendors, and Suppliers – The franchising grapevine has no equal. When a dominant franchisee in the system creates ill-will, it permeates the entire franchise system.
Problems Addressing Defaults and Terminations Quite often the multi-unit franchisee consists of multiple entities and without proper cross-default provisions, a Franchisor may find itself in a quagmire trying to address defaults and terminations. This becomes even more complicated when a multi-unit franchisee is conducting business in more than one state.

Conclusion:

So many Franchisors jump into multi-unit franchising without knowing the pros and cons of this method of expansion. The uniformed decision to implement multi-unit franchising can and sometimes does speak trouble. In our next post we will address “When is a Franchisor Ready for Multi-Unit Franchising?”; Qualifying Multi-Unit Franchisees; and More!

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Jun 08

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How Compliance Programs Equals Preventative Maintenance

By Richard Duell lll Newsletter

When you are in the courtroom, it’s too late to say – “If only I had started a good Compliance Program, I would not be in this mess now!” Why not be proactive and start your Compliance Program before it’s too late?

The goal of a good Compliance Program is to further the business objectives of the franchise system while avoiding disputes and franchise litigation, whenever possible. But, if a franchise company finds itself in litigation, a well-developed and properly implemented Compliance Program can serve as a shield to protect the business interest of your company, and serve as a sword to enforce the franchise system requirements of your Franchise Agreement. For example, consistently applied procedures leading up to termination of a franchise can act as strong evidence in an injunction lawsuit where the franchisee contests the franchisor’s action or refuses to acknowledge the termination. Evidence that a franchisor not only followed the provisions of the franchise agreement but also its policies and procedures should defeat a franchisee’s claim for wrongful termination. The ultimate goal of a good Compliance Program is being able to show that the franchise company acted fairly, reasonably and consistently with the provisions of the franchise agreement.

Your development and implementation of a Compliance Program can create a solid foundation for your franchise company by incorporating four fundamental steps: 1) Determine what issues are the most important when analyzing your particular franchise system. 2) Establish the policies and procedures to facilitate the franchise system’s particular business objectives. 3.) Make sure your company communicates it policies and procedures, and standards clearly and regularly to franchise personnel, as well as all franchisees. There should never be a dispute over what your policies are or whether the franchisees are aware of your policies and procedures. 4) Actively monitor and apply policies and procedures diligently and consistently throughout the entire franchise system.

Once a compliance officer is chosen, it is essential that he or she maintain a good line of communication with franchise counsel, particularly in the early stages of implementing your program. Because our firm philosophy emphasizes a team approach, we already know how important it is to work closely with the compliance officer to review federal and state laws affecting your franchise business, your FDD documents for compliance with disclosure issues that are likely to arise, required amendments to your FDD, legal aspects of advertising and registering proposed ads in certain states prior to running the ad, initiating procedures to track contacts with prospective franchisees, renewal dates, and monitoring changes in new case law which may have an effect on your company. By working with our firm, we will assist the compliance officer in tracking compliance by establishing a checklist at the pre-sale, sale, pre-opening, and performance stages of the franchise process. With a compliance officer overseeing the checklist, he or she can insure that each checklist has been completed before moving to the next stage of the process.

An effective Compliance Program must be structured to fit each franchising company’s personnel and methodology. If your company has not initiated a legal Compliance Program, then you may find your company in the courtroom asking “Why didn’t I start a Compliance Program?” If your company already has a Compliance Program, make sure you have addressed the four fundamental steps for launching a solid Compliance Program. Being proactive and building a good solid Compliance Program may mean the difference between being successful or being out of business.

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Apr 03

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New Channels of Distribution – Is A Potential Lawsuit Waiting?

By Richard Duell lll Newsletter

Do you have a dynamite new idea for distribution that will allow you to become the next “Super Franchisor”? You may be the entrepreneur who started the company. Or perhaps your company is larger and has a marketing department that comes up with new ways of getting your goods and services to market. Whether small or large, a franchisor’s ability to open new channels of distribution will depend upon how well they negotiate the legal minefield that awaits.

Before implementing a new distribution channel, you must first consider whether your franchise agreement permits you to do so. Begin by looking at the express terms of your agreement in order to determine what rights are granted to franchisees. Provisions restricting your right to compete will usually be enforced against you. If your agreement preserves your right to distribute goods and services, courts will respect your contract but will look closely at your agreement to ensure you have not overstepped your contractual rights. Contracts which are silent leave the door open for courts and franchisees to contest implementation.

Some courts will look at your motive for opening a new distribution channel. The more business a new distribution channel takes away from your franchisees, the greater the likelihood courts will side with your franchisees. If you are concerned that there may be express or implied restrictions on your ability to implement a new distribution method, consider working with your franchisees. Usually before a franchise system can be successful, the franchisor and franchisees must be on the same team, working together.

Outside the franchise agreement, (including the FDD, your website and advertising materials, etc.) the minefield continues for franchisors. Check your FDD to see what is said about territorial rights. Misleading disclosures or non-disclosure of material facts in your FDD could expose you to liability via little “FTC Acts,” which allow private lawsuits and provide for attorney fees and treble damages (a statute that permits a court to triple the amount of the actual/compensatory damages to be awarded to a prevailing plaintiff).

And don’t forget the old Plaintiff Lawyer’s ally – “Fraud.” Even when no statute is applicable, if you make a representation or indication that you will not compete, a smart franchisee lawyer may use this against you and assert a fraud claim.

“State Relationship Laws” can be another bomb in your liability minefield. These laws are designed to prevent franchisors from engaging in certain competitive activities, to the detriment of their franchisees. In addition, franchisees may assert claims such as Section 1 and 2 of the Sherman Act Anti-Trust actions allowing your new plan to be construed as a conspiracy to restrain trade by eliminating competition, i.e., eliminating your franchisees. Alternatively, your plan might be considered an attempt to monopolize. If favorable terms are offered to alternate distributors, your company may also be subject to a Robinson-Patman action.

The list of obstacles goes on, and the minefield can become more dangerous. The journey is certainly not for the novice. But the minefields can be avoided by paying close attention to the wording in your agreements and even considering at the beginning of your journey how to make both you and your franchisees winners. By taking these steps, your company may truly become the next Super Franchisor!

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Mar 13

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Your Operations Manual – Is It A Legal Minefield?

By Richard Duell lll Newsletter

The judges in our courtrooms have become much better educated about the requirements of the Federal Trade Commission’s Amended Franchise Rule (“Disclosure Requirements and Prohibitions Concerning Franchising”) and are often very aware that a Franchise Disclosure Document (“FDD”) must be provided to a prospective franchisee prior to purchasing a franchise. The requirements for Item 11 of the Amended Franchise Rule supports the supposition that prospective franchisees are entitled to rely on the information within the Operations Manual, particularly those areas identified in the manual’s Table of Contents set out in Item 11 of a franchisor’s FDD. Yet the most important document that acts as a road map of a franchisor’s entire system, houses a franchisor’s trade secrets, and governs much of the working relationship with franchisees, receives very little, if any, review from a company’s franchise counsel.

To avoid being trapped, franchisors and counsel must conduct a legal review of the franchisor’s Operations Manual. It is suggested that a review encompass, at a minimum, the following areas:

Joint Employer Liability
- Avoid any employment related advice involving hiring, firing, wages, or discipline of franchisee’s employees.
Discrimination Clauses
- Title VII of the Civil Rights Act of 1964 prohibits discrimination in any aspect of employment. The power of a franchisor to control operations should be reviewed as a potential liability issue.
Good Faith Standard
- Any Operations Manual may fuel claims that a breach of the covenant of good faith and fair dealing occurs where the Franchise Agreement and Operations Manual conflict.
Safety and Security
- A franchisor may be held liable for any harm suffered by third parties based upon both policies set forth in the Operations Manuals, and for the lack of policies.
Environmental Laws
- Franchisors may be found liable for negligent advice contained in the Operations Manual covering environmental issues.
Anti-Trust Liability
- Pricing information in the Operations Manual can create legal issues and has been used by courts to find anti-trust liability.
Deficient Manuals
- Courts have found liability where manuals were not delivered at all or not delivered timely. I believe it is only a matter of time until an educated plaintiff’s attorney is able to take an Item 11 disclosure in the FDD and the section of a franchisor’s Franchise Agreement dealing with the Operations Manual and convince a court that the Operations Manual given its franchisee is deficient or that it is not properly updated, supplemented, or revised.
Copyright
- For the small Franchisor that outsources the Operations Manual, be careful. The company you hired may own the copyright. The owner of the copyright has exclusive authority to authorize reproduction and distribution of the manual, not the franchisor.

CONCLUSION

Operations Manuals are an integral part of a franchise system. Franchisors who fail to include their franchising counsel in the development of all manuals may be easy prey for the hungry plaintiff lawyers.