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Wednesday, October 31st, 2018
In its simplest form, “Franchising” is the license of the franchisor’s business or operating system and its trademark to a franchisee for some period of time, in exchange for a fee. The fee usually takes two forms: an initial franchise fee paid up front and an ongoing monthly royalties paid during the life of the franchise.
A common mistake of businesses wishing to expand in the U.S. is their attempts to avoid U.S. state and federal franchise laws that may apply. In other words, these would-be franchisors attempt to avoid the disclosure requirements applicable to all franchisors in order to save on legal fees in the short-term. However, this mindset may lead to substantial problems down the road. These businesses oftentimes try to hold themselves out as “licensors” instead, and in doing so fail to provide to their “licensees” the franchise disclosure document (“FDD”) required of franchisors.
Although the preparation and annual maintenance of an FDD may not be cheap, the short-term legal costs are money well spent compared to the financial and other costs associated with lawsuits from disgruntled licensees, or even worse, investigations by state franchise administrators.
For example, a company’s failure to abide by state and federal franchise laws that require franchisors to disclose to the prospect in an FDD all material facts relating to the franchise system to prospective franchisees, and to register that FDD in certain states, can be catastrophic. In addition to potentially giving a licensee/franchisee the right to rescind its agreement, other penalties include repaying back to the licensee/franchisee of all amounts paid to the company. In addition, fines and/or penalties payable to the state may also be required. Not to mention the legal fees that accrue with dealing with all of these potential issues.
The message is simple – don’t trade long-term security for short-term savings. Have an experienced franchise lawyer advise you on the requirements of franchising at the outset.
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Tags: Buy a Franchise, buying a franchise, buying a franchised business, FDD, federal franchise law, franchise agreement, franchise arbitration, franchise attorney, franchise concept, Franchise Disclosure Document, franchise dispute, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise purchase, franchise your business, FTC Franchise Rule, maryland business, maryland business law, Maryland franchise registration, sell your franchised business, selling a franchise, small business attorney, small business lawyer
Monday, October 29th, 2018
When a franchisee client asks me to review a franchise agreement prior to signing, I review it with the mindset that if the franchisee’s business performs well, the franchisee will be happy with the franchise relationship and the agreement he or she signed, BUT if the franchised business ultimately fails, it is my job to protect the franchisee at the outset in the strongest way possible. Therefore I review a franchise agreement focusing on how best to protect my franchisee client’s personal assets in the event the franchised business fails. Here are some of the things I look for in the franchise agreement:
1. does the franchisee have an exclusive territory?
2. may the franchisor alter the franchisee’s territory during the term of the agreement?
3. may the franchisee advertise or market for clients outside the designated territory in areas that are not owned by other existing franchisees?
4. what are the franchisee’s renewal rights? Attempt to limit what terms of the agreement the franchisor may change on renewal.
5. what social media presence is the franchisee permitted to maintain?
6. while there is most likely a personal guaranty, who is required to sign it? ie. spouses and/or passive investors?
7. is there a cap on the personal guaranty of a reasonable amount that the franchisee and franchisor are comfortable with, or is it an unlimited guaranty? When negotiating on behalf of a franchisee, I attempt to limit the cap with the mindset that this amount is the franchisee’s buyout amount in the event the worst occurs and the franchisee has to stop operating.
8. is there a right of first refusal of the franchisor in the event the franchisee wishes to sell the business, and what are its terms?
9. is there a unilateral right of the franchisee to terminate the agreement? There are rare, but franchisee counsel should try to push for such a provision anyhow.
10. are any of the franchisor’s rights to terminate the agreement out of the ordinary or particularly onerous?
11. is there a liquidated damages clause in the event the franchise agreement is terminated?
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Tags: business law, business lawsuit, Buy a Franchise, buying a franchise, FDD, federal franchise law, franchise agreement, franchise agreement review, franchise arbitration, franchise attorney, franchise concept, Franchise Disclosure Document, franchise dispute, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise your business, FTC Franchise Rule, maryland business, maryland business law, Maryland franchise registration, sell your franchised business, small business attorney, small business lawyer
Friday, October 26th, 2018
Below is a sample franchisee questionnaire that I recommend be included as an exhibit in each FDD I prepare. In the event of a problem with the franchisee in the future, it is a powerful document for a franchisor to have, where the franchisee essentially stated at the time of sale that everything told by the franchisor to the franchisee during the sales process was included in the FDD. In other words, no oral promises, representations or statements were made by the franchisor that did not mirror the FDD.
[SAMPLE]
FRANCHISEE DISCLOSURE QUESTIONNAIRE
As you know, _____________ “Franchisor” and you are preparing to enter into a Franchise Agreement for the operation of a Franchised Business. In this Franchisee Disclosure Questionnaire, Franchisor will be referred to as “we” or “us.” The purpose of this Questionnaire is to determine whether any statements or promises were made to you that we did not authorize and that may be untrue, inaccurate or misleading. Please review each of the following questions carefully and provide honest and complete responses to each question.
1. Have you received and personally reviewed the Franchisor’s Franchise Agreement and each exhibit, addendum and schedule attached to it?
Yes No
2. Do you understand all of the information contained in the Franchise Agreement and each exhibit and schedule attached to it?
Yes No
If “No”, what parts of the Franchise Agreement do you not understand? (Attach additional pages, if necessary.)
3. Have you received and personally reviewed our Franchise Disclosure Document we provided to you?
Yes No
4. Do you understand all of the information contained in the Franchise Disclosure Document?
Yes No
If “No”, what parts of the Franchise Disclosure Document do you not understand? (Attach additional pages, if necessary.)
5. Have you discussed the benefits and risks of operating a Franchised Business with an attorney, accountant or other professional advisor and do you understand those risks?
Yes No
6. Do you understand that the success or failure of your business will depend in large part upon your skills and abilities, competition from other businesses, interest rates, inflation, labor and supply costs, lease terms and other economic and business factors?
Yes No
7. Has any employee or other person speaking on our behalf made any statement or promise concerning the revenues, profits or operating costs of a Franchised Business that we or our franchisees operate?
Yes No
8. Has any employee or other person speaking on our behalf made any statement or promise concerning a Franchised Business that is contrary to, or different from, the information contained in the Franchise Disclosure Document?
Yes No
9. Has any employee or other person speaking on our behalf made any statement or promise concerning the likelihood of success that you should or might expect to achieve from operating a Franchised Business?
Yes No
10. Has any employee or other person speaking on our behalf made any statement, promise or agreement concerning the advertising, marketing, training, support service or assistance that we will furnish to you that is contrary to, or different from, the information contained in the Franchise Disclosure Document?
Yes No
11. If you have answered “Yes” to any of questions seven (7) through ten (10), please provide a full explanation of your answer in the following blank lines. (Attach additional pages, if necessary, and refer to them below.) If you have answered “No” to each of such questions, please leave the following lines blank.
12. Do you understand that in all dealings with you, our officers, directors, employees and agents act only in a representative capacity and not in an individual capacity and such dealings are solely between you and us?
Yes No
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Tags: Buy a Franchise, buying a franchise, buying a franchised business, FDD, federal franchise law, franchise agreement, franchise arbitration, franchise attorney, Franchise Disclosure Document, franchise dispute, franchise fraud, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise your business, franchisor, franchisor dispute, FTC Franchise Rule, Maryland Franchise and Registration Law, Maryland franchise law, Maryland franchise registration, sell your franchised business, selling a franchise
Friday, October 26th, 2018
This is the mandatory addendum that must be included in any Franchise Disclosure Document that a franchisor is attempting to register in the state of Washington. No edits/changes may be made:
Washington Franchise Agreement Addendum
The state of Washington has a statute, RCW 19.100.180 which may supersede the franchise agreement in your relationship with the franchisor including the areas of termination and renewal of your franchise. There may also be court decisions which may supersede the franchise agreement in your relationship with the franchisor including the areas of termination and renewal of your franchise.
In any arbitration involving a franchise purchased in Washington, the arbitration site shall be either in the state of Washington, or in a place mutually agreed upon at the time of the arbitration, or as determined by the arbitrator.
In the event of a conflict of laws, the provisions of the Washington Franchise Investment Protection Act, Chapter 19.100 RCW shall prevail.
A release or waiver of rights executed by a franchisee shall not include rights under the Washington Franchise Investment Protection Act except when executed pursuant to a negotiated settlement after the agreement is in effect and where the parties are represented by independent counsel. Provisions such as those which unreasonably restrict or limit the statute of limitations period for claims under the Act, rights or remedies under the Act such as a right to a jury trial may not be enforceable.
Transfer fees are collectable to the extent that they reflect the franchisor’s reasonable estimated or actual costs in effecting a transfer.
The undersigned does hereby acknowledge receipt of this addendum.
Dated this _____ day of __________________ 20______.
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Tags: buying a franchise, buying a franchised business, FDD, federal franchise law, franchise agreement, franchise attorney, franchise concept, Franchise Disclosure Document, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise renewal, franchise your business, franchisee, FTC Franchise Rule, selling a franchise, what is a franchise
Wednesday, August 24th, 2011
The New York Franchise Law defines a franchise fee as any fee or charge that a franchisee or subfranchisor is required to pay or agrees to pay directly or indirectly for the right to enter into a business under a franchise agreement, or otherwise sell, resell or distribute goods, services, or franchises under such an agreement, including, but not limited to, any such payment for goods or services. The NY Franchise Law also contains several exclusions to the franchise fee definition, but no exemptions pertain to the purchase/sale of equipment. Rather, the exemptions to the NY law are nearly identical to the Maryland law.
The dollar threshold for a franchise fee under NY law is $500.
Like Maryland, the scope of the New York Franchise Law franchise fee definition is construed broadly. For example, a one-time fee or a monthly payment during a four-year period, which was characterized as a lease, was ruled a franchise fee.
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Tags: Buy a Franchise, buying a franchise, buying a franchised business, federal franchise law, franchise, franchise agreement, franchise arbitration, franchise attorney, franchise concept, Franchise Disclosure Document, franchise dispute, franchise fraud, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise purchase, franchise renewal, franchise transfer, franchise your business, franchisor dispute, FTC Franchise Rule, maryland franchise disclosure, Maryland franchise registration, New York Franchise Act, new york franchise disclosure, new york franchise law, new york franchise registration, selling a franchise
Wednesday, August 24th, 2011
The Maryland Franchise Registration and Disclosure Law (“MD Franchise Law”), Section 14-201, defines a franchise as “an oral or written agreement in which: 1) a purchaser is granted the right to engage in the business of offering, selling or distributing goods or services under a marketing plan or system prescribed in substantial part by the franchisor; ii) the operation of the business under the marketing plan or system is associated substantially with the trademark, service mark, trade name, logotype, advertising or other commercial symbol that designates the franchisor or its affiliate; and iii) the purchaser must pay, directly or indirectly, a franchise fee.”
Section 14-201 of the MD Franchise Law goes on to define a franchise fee as a charge or payment that a franchisee or subfranchisor is required or agrees to pay for the right to enter into a business under a franchise agreement. The purchase of equipment is included in the definition of a franchise fee. Section 14-201 contains several exclusions from the definition of a franchise fee, but no exclusions for the purchase of equipment by a franchisee/licensee.
Many of the Maryland exclusions are limited to products-oriented licensors, as for the sale of goods at wholesale prices. Other exemptions are for the sale or lease of real property for use in the business, and any amounts paid for sales materials used in making sales, sold at no profit by the licensor. An additional exemption exists for the sale, at fair market value, of supplies or fixtures that are necessary in order to operate the business.
Section 14-203 of the MD Franchise Law sets the threshold amount for the franchise fee at any amount exceeding $100.
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Tags: Buy a Franchise, buying a franchise, buying a franchised business, federal franchise law, franchise, franchise agreement, franchise arbitration, franchise attorney, Franchise Disclosure Document, franchise dispute, franchise fraud, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise purchase, franchise renewal, franchise transfer, franchise your business, franchising or licensing, FTC Franchise Rule, licensing v. franchising, maryland franchise disclosure, Maryland franchise law, Maryland franchise registration, maryland fraud law, New York Franchise Act, selling a franchise
Wednesday, August 24th, 2011
A licensing or other relationship where the trademark and system/significant control prongs of the FTC Franchise Rule are met is excluded from the scope of the franchise regulation if the total required payments by the franchisee before and during the 6-month period after the business opens do not exceed $500.
The required fee element captures all sources of revenue paid by a licensee to a licensor for the license. The element is deliberately expansive, encompassing lump sum, installment, fixed, fluctuating, up-front, and periodic payments for goods or services, however denominated, whether direct, indirect, hidden, or refundable.
To avoid the FTC Rule franchise fee requirement, it is possible for a licensor to defer required payments exceeding $500 for at least six months, and as a result, not be deemed a franchise under the FTC Rule and federal law. This remains true even if the licensee signs a nonnegotiable, secured promissory note (with no acceleration clause) promising to pay the money after six months.
The deferment option is not all-encompassing however. While the FTC Rule permits this deferment of payment option, this is applicable only in those states that do not have individual, state specific franchise laws, since in those states such license transactions are governed by the FTC Rule. There are upwards of 15 states across the country, including Maryland, Virginia, New York, California, and Illinois, which do have specific franchise laws, and which do not grant this deferment option. As a result, deferment is not an option in these states. Have your franchise attorney check the franchise law of each individual state before proceeding.
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Tags: Buy a Franchise, buying a franchise, federal franchise law, franchise, franchise agreement, franchise arbitration, franchise attorney, Franchise Disclosure Document, franchise fee, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise renewal, franchise royalties, franchise transfer, franchise your business, franchisee, franchising or licensing, franchisor dispute, FTC Franchise Rule, licensing v. franchising, maryland franchise disclosure, Maryland franchise registration, maryland franchise registration and disclosure, maryland fraud law, new york franchise law, purchase a franchise, selling a franchise
Wednesday, August 24th, 2011
In addition to the trademark and system/significant control prongs of the FTC Franchise Rule, the FTC Rule requires as a third prong that the franchisee make a required payment or commit to make a required payment to the franchisor or the franchisor’s affiliate in order for a relationship to be deemed a franchise.
The term “required payment” is defined broadly by the FTC to mean: “all consideration that the franchisee must pay to the franchisor or an affiliate, either by contract or by practical necessity, as a condition of obtaining or commencing operation of the franchise.” 16 C.F.R. §436.1(s).
The definition of a required payment captures all sources of revenue that a franchisee must pay to a franchisor or its affiliate for the right to associate with the franchisor, market its goods or services, or begin operation of the business.
The FTC Franchise Rule Compliance Guide states that “required payments go beyond payment of a traditional initial franchise fee. Thus, even though a franchisee does not pay the franchisor or its affiliates an initial franchise fee, the fee element may still be satisfied. Specifically, payments of practical necessity also count toward the required payment element. A common example of a payment made by practical necessity is a charge for equipment or inventory that can only be obtained from the franchisor or its affiliate and no other source. Other required payments that will satisfy the third definitional element of a franchise include: (i) rent, (ii) advertising assistance, (iii) training, (iv) security deposits, (v) escrow deposits, (vi) non-refundable bookkeeping charges, (vii) promotional literature, (viii) equipment rental, and (ix) continuing royalties on sales.”
Courts throughout the country, both in interpreting the FTC Franchise Rule as well as various state franchise laws, have held that almost any payment made by a franchisee to the franchisor will satisfy the franchise fee element.
For example, a boat dealer’s extensive advertising and its required purchases of promotional materials from the franchisor satisfied the franchise fee requirement under the California Franchise Investment Act. Boat & Motor Mart v. Sea Ray Boats, Inc., Bus. Franchise Guide (CCH) ¶8846 (9th Cir. 1987).
Similarly, a forklift dealer’s payments to a manufacturer for additional copies of a Parts and Repair Manual constituted a franchise fee under the Illinois Franchise Disclosure Act. To-Am Equip. Co., Inc. v. Mitsubishi Caterpillar Forklift Am., Inc., 953 F. Supp. 987 (N.D. Ill. 1997).
Finally, required payments for training or services made to the franchisor or its affiliate may satisfy the payment of a fee element. Metro All Snax v. All Snax, Inc. Bus. Franchise Guide (CCH) ¶ 10,885 (D. Minn. 1996).
For further investigation of this issue, see also two separate FTC Opinions, FTC Informal Staff Advisory Opinion #00-2 dated January, 2000, as well as FTC Informal Staff Advisory Opinion #03-2 dated April, 2003, found on the FTC website. In both instances, the FTC did not focus on whether payments made by the licensee were up front initial fees or royalty payments, but whether any payment whatsoever was made by the licensee to the licensor.
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Tags: Buy a Franchise, buying a franchise, federal franchise law, franchise agreement, franchise arbitration, franchise attorney, franchise concept, Franchise Disclosure Document, franchise dispute, franchise fee, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise purchase, franchise renewal, franchise royalties, franchise your business, franchising or licensing, franchisor, franchisor financial statements, FTC Franchise Rule, licensing v. franchising, maryland franchise disclosure, Maryland franchise law, Maryland franchise registration, maryland fraud law, new york franchise law, what is a franchise
Thursday, April 28th, 2011
The Payment Requirement.
The last of the three definitional elements of a franchise covered by the FTC Franchise Rule is that purchasers of the business arrangement must be required to pay to the franchisor as a condition of obtaining a franchise or starting operations, a sum of at least $500 at any time prior to or within the first six months of the commencement of operations of the franchised business.
Here is what the FTC Franchise Rule states on the “Required Payment” element, directly from the FTC website at http://www.ftc.gov/bcp/edu/pubs/business/franchise/bus70.pdf.
As to what constitutes a payment, the term “payment” is intended to be read broadly, “capturing all sources of revenue that a franchisee must pay to a franchisor or its affiliate for the right to associate with the franchisor, market its goods or services, and begin operation of the business. Often, required payments go beyond a simple franchisee fee, entailing other payments that the franchisee must pay to the franchisor or an affiliate by contract – including the franchise agreement or any companion contract. Required payments may include: initial franchise fee, rent, advertising assistance, equipment and supplies (including such purchases from third parties if the franchisor or its affiliate receives payment as a result of the purchase), training, security deposits, escrow deposits, non-refundable bookkeeping charges, promotional literature, equipment rental and continuing royalties on sales. Payments which, by practical necessity, a franchisee must make to the franchisor or affiliate also count toward the required payment. A common example of a payment made by practical necessity is a charge for equipment that can only be obtained from the franchisor or its affiliate and no other source.”
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Tags: buying a franchise, buying a franchised business, franchise agreement, franchise arbitration, franchise attorney, franchise concept, franchise fraud, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise your business, franchisee, franchisor dispute, franchisor financial statements, FTC Franchise Rule, ftc rule, Maryland franchise law, maryland franchise registration and disclosure, purchase a franchise, sell your franchised business, selling a franchise
Thursday, April 28th, 2011
Here is what the FTC Franchise Rule states on the “Significant Control or Assistance” element, directly from the FTC website at http://www.ftc.gov/bcp/edu/pubs/business/franchise/bus70.pdf.
“The FTC Franchise Rule covers business arrangements where the franchisor will exert or has the authority to exert a significant degree of control over the franchisee’s method of operation, or provide significant assistance in the franchisee’s method of operation.”
The relevant question is when does such control become significant. “The more franchisees reasonably rely upon the franchisor’s control or assistance, the more likely the control or assistance will be considered “significant.” Franchisees’ reliance is likely to be great when they are relatively inexperienced in the business being offered for sale or when they undertake a large financial risk. Similarly, franchisees are likely to reasonably rely on the franchisor’s control or assistance if the control or assistance is unique to that specific franchisor, as opposed to a typical practice employed by all businesses in the same industry.
Further, to be deemed “significant,” the control or assistance must relate to the franchisee’s overall method of operation – not a small part of the franchisee’s business. Control or assistance involving the sale of a specific product that has, at most, a marginal effect on a franchisee’s method of operating the overall business will not be considered in determining whether control or assistance is “significant.”
For the sake of the Rule, significant types of control include: site approval for unestablished businesses, site design or appearance requirements, hours of operation, production techniques, accounting practices, personnel policies, promotional campaigns requiring franchisee participation or financial contribution, restrictions on customers, and locale or area of operation.
Significant types of assistance include: formal sales, repair, or business training programs, establishing accounting systems, furnishing management, marketing, or personnel advice, selecting site locations, furnishing systemwide networks and website, and furnishing a detailed operating manual.
The following activities will not constitute significant control or assistance: promotional activities, in the absence of additional forms of assistance, (this includes furnishing a distributor with point-of sale advertising displays, sales kits, product samples, and other promotional materials intended to help the distributor in making sales. It also includes providing advertising in such media as radio and television, whether provided solely by the franchisor or on a cooperative basis with franchisees;), trademark controls designed solely to protect the trademark owner’s legal ownership rights in the mark under state or federal trademark laws (such as display of the mark or right of inspection), health or safety restrictions required by federal or state law or regulations, agreements between a bank credit interchange organization and retailers or member banks for the provision of credit cards or credit services, and assisting distributors in obtaining financing to be able to transact business.”
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Tags: Buy a Franchise, buying a franchised business, federal franchise law, franchise agreement, franchise arbitration, franchise attorney, Franchise Disclosure Document, franchise future royalties, franchise law, franchise law firm, franchise lawyer, franchise litigation, franchise your business, franchisee, FTC Franchise Rule, Maryland franchise law, Maryland franchise registration, sell your franchised business, selling a franchise
Raymond McKenzie is a corporate and franchise attorney in the Washington, D.C. metropolitan area.
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