Two Bad Outcomes
On the Firm’s website, I urge franchisors to engage a skilled and experienced franchise law attorney to: (i) help develop the structure the franchise system; (ii) ensure that the franchisor complies with all applicable laws; (iii) draft the large, complex franchise documents for the system; and (iv) register the franchise offering, or obtain exemptions from registration, in states that require registration or exemption.
I urge franchisors to avoid attorneys who are not franchise law specialists, and to avoid franchise consultants. Here are two examples of why.
I was asked to review a set of franchise documents. They had been prepared by an attorney, but one who was not competent in the field of franchise law. The documents included a non-compete agreement. The non-compete agreement said that after the franchise terminated, the franchisee could not compete with the franchisor within a 100-mile radius of the franchisee’s restaurant.
Here was the problem: the non-compete agreement said that the laws of a particular state governed the agreement. That state’s laws said that the largest non-compete area could be the size of the franchisee’s territory. The territory happened to be a 2.5 mile radius around the restaurant. As a result, every one of the franchisor’s non-compete agreements was unenforceable.
Here’s the point: The franchisor found itself exposed to significant loss. A skilled, experienced franchise law specialist could have protected the franchisor by drafting a non-compete agreement that would have properly protected the franchisor.
As a second example, I received a call from a man who promoted himself as a “franchise consultant.” He wanted to meet for lunch. We met the following week.
I asked him how he prepared the documents that are the basis of every franchise system in the U.S.: the franchise agreement and the Franchise Disclosure Document. He said, very proudly, “I found some forms. I am the salesman. When I get a new franchisor, I have my wife type up the stuff in our basement.”
I asked if he and his wife were aware of laws governing franchising. He said that he was aware there were laws, but they had not read them.
I asked how they structured the companies that would have a role in the franchise process; e.g., whether he formed one company act as the franchisor, a second company to hold the system’s intellectual property, and one or more additional affiliates to own company-owned outlets. He said that he did not give it any thought: he just used whatever company name the franchisor gave him.
The way a franchisor structures its companies is crucial. Among other things, it will determine the franchisor’s exposure to liability if there is a lawsuit. It will determine the franchisor’s liability for taxes. It will determine, if the original owners bring in investors, what the original owners give up.
The franchise agreement and FDD are the constitution of the franchise system. Poorly-drafted documents are a ticking time bomb, ready to explode at the first dispute between the franchisor and a franchisee. They may contain provisions that violate applicable law. They may be ambiguous. They may be, in some places, contradictory. They may give away too many rights or, at the other extreme, may be so harsh that they render the franchise virtually unsalable. They may limit the franchisor’s ability to meet the changing demands of the marketplace. They may leave money on the table.
The clients of that franchise consultant are like a golfer who grabs a random club from the bag, stalks to the ball, and in a single motion swings madly. The golfer may indeed be successful: the ball may roll into the cup. However, the odds of success are miniscule – unnecessarily so.
Here’s the point: Use a skilled and experienced franchise law specialist. Do it right the first time. You will never regret doing it right. Doing it right is better for you and better for your franchisees.