Monday, December 24, 2012

Additional Franchisor Liability From Franchisee Employees

Over the past several years franchisees have been claiming that they have employee based claims against the franchisor. This has been especially prevalent in the janitorial and other service based franchises. Now we are getting cases where employees of franchisees are making claims that they are employees of the franchisor in certain cases.
Generally franchisors have been able to say that they are a separate entity from the franchisee and therefore cannot be liable to employees of the franchisee. But recently in New York, employees of Domino's Pizza franchisees were able to amend their complaint against the franchisee employers to also include Domino's, the franchisor, for violations of the Fair Labor Standards Act and the New York Labor Law. This case is Cano v. DPNY, Inc.
While this case is still pending and the franchisor may not be held liable in the end, it is concerning that the court did not dismiss the amended complaint, as expected. Some of the reasons the court gave for not dismissing the amended complaint are based on the following actions by Domino's:
1) Domino's promulgated compensation policies and implemented them through the Domino's PULSE system which included tracked hours, wages and payroll records. These were submitted to the franchisor for review.
2) Domino's created management and operation policies and practices that were implemented at the restaurants by providing materials for use in training store managers and employees, provided posters and directions for employee's tasks and monitored that performance through required computer hardware and software.
3) Domino's developed and implemented hiring policies.
This is just one more reason for a franchisor to have their franchise attorney review their policies, including their operations manuals, to ensure that they are limiting their exposure to liability.

Friday, December 21, 2012

Multi-Unit Development Arrangements

There are three types of agreements used when a franchisor desires to expand through multi-unit as opposed to single unit development: Master Franchise Agreement, Area Representative Agreement and Area Developer Agreement. Before exploring some of the basic elements of each arrangement, it is important to note that there may be franchise registration requirements associated with entering into any of these agreements and it is important to speak with a qualified attorney who can help you understand the impact of each type of arrangement.

Master Franchise
This type of multi-unit development is most often seen with international expansion. In this type of arrangement, the franchisor will delegate nearly all pre-sale and post-sale obligations to the master franchisee who essentially acts as a sub-franchisor. However, while most of the franchisor’s obligations are delegated, most franchisors will retain the right to ultimately approve or reject sub-franchisee candidates and specify the format for the FDD and the Franchise Agreement. The reason for this is that in the event the Master Franchise Agreement is terminated, a franchisor needs to agree with the obligations and requirements imposed on both the sub-franchisee and the franchisor.

If you are a franchisor seeking to expand through a Master Franchise Agreement, or a franchisee looking to purchase a Master Franchise Agreement, there are some key provisions that need to be addressed in the agreement. Among the provisions to be aware of:

·         Is the master franchisee required to sign the sub-franchise agreements;
·         Is there a strict development schedule;
·         Is the master franchisee allowed to develop his/her own franchise units;
·         How are the currency issues handled;
·         How are taxation matters handled;
·         Is there a translation requirement;
·         What is the term;
·         Are there country-specific franchise laws that must be followed;
·         At the expiration of the term of the Master Franchise Agreement, what happens to the then-current sub-franchisees, their territories and their agreements;
·         What is the royalty and other fee splitting arrangement (if any); and
·         What is the territory and is it exclusive.

Area Representative
In this type of arrangement, the franchisor typically delegates only certain pre-sale and post-sale obligations. The typical area representative relationship is one where the area rep helps to advertise and promote the franchise opportunity in a specific market, engages potential franchise candidates and helps provide operational support and guidance to the any franchisee resulting from the area rep’s efforts.

Key provisions to be aware of in this type of arrangement include:

·         What is the territory and is it exclusive;
·         What specific post-sale obligations and services are to be performed by the area rep on the franchisor’s behalf;
·         If there are current franchisees in the territory, will the area rep perform the services and obligations to them or only to new franchisees;
·         What is the term;
·         What is the compensation/fee arrangement; and
·         Does the franchisor have the right to open and operate company-owned units in the territory without compensation to the area rep.

Area Developer 
This type of multi unit development arrangement is most closely aligned with single unit franchising and is a common form of development. Here, the third-party developer agrees and commits to develop and operate a specified number of units in a designated territory. This arrangement is most commonly used in a domestic market where there is a low or non-existent franchisor presence.

Key provisions to be aware of in this type of arrangement include:

·         What is the term and time frame for developing the units;
·         What is the territory and is it exclusive;
·         Are additional franchise units outside the development schedule allowed;
·         What is the price per franchise unit developed; and
·         What happens to existing franchise units of the area developer if the Area Development Agreement is terminated.

With each type of multi-unit arrangement there are several additional factors to consider. It is important to have a clear idea of why you are seeking either to expand through multi-unit development or to purchase a multi-unit development agreement, and to discuss these ideas and plans with qualified professionals. 

Thursday, December 13, 2012

The Accidental Franchisor

Recently I heard a conversation between attorneys regarding a business transaction they were in the middle of setting up for a client. The client wanted to do a series of LLCs or joint ventures with various partners. The client would contribute the business concept and name and the other “partners” would contribute money and time to operate the businesses. What these attorneys did not understand is that they were setting up a franchise system for their client.
Very often a business will be structured without realizing that the structure is a franchise. A franchise exists if the definition of a franchise is met, not if the franchisor knew they were selling a franchise. In this case, the client’s business transaction has all three definitional elements of a franchise: 1) Use of a trademark (the use of the client’s business name); 2) A marketing plan, substantial support, or community of interest between the franchisor and franchisee (the contribution of the business concept by the client); and 3) Payment of a fee (the financial contribution by the partners).
Because the client’s business transaction is a franchise, the client is required to comply with federal and state laws regarding the sale of a franchise, prior to entering into the business. This means that before entering into these partnerships, the client would be required to provide the financial “partner” with a disclosure document discussing information about the business and trademark, background information on the client and its business and affiliates, and other “partners” or franchisees of the client.
There are serious consequences for selling a franchise without complying with the franchise laws and regulations. These consequences include rescission of the business transaction, damages and attorney’s fees, plus the potential of fines or other penalties from state or federal agencies. In some cases, the transaction can be seen as criminal.
Next time you are setting up a business concept that has any of these elements (trademark, marketing plan, and/or fee), it is worth the time and cost to consult a franchise attorney to make sure that you are not an accidental franchisor.

Wednesday, December 5, 2012

Financing your Franchise

If you are considering purchasing a franchise, one major hurdle to overcome is how to fund the new business. If you have tried to obtain a loan or refinance a business, you know the lending environment today is very different from what it was even 5-6 years ago. In essence, it is harder to obtain financing, even for those with great credit ratings. There is money out there, but it harder to access that it was previously.

When looking at funding the new business, you first need to evaluate all the financing options available and determine which will be the best route for you to take. Because lack of sufficient capital in the initial stages of starting a business (whether your own concept or a franchise) is one of the leading reasons businesses fail, you want to make sure to have adequate financing in place before you purchase. The International Franchise Association (IFA) has a dedicated website to help you look at all available funding options to help you choose which option(s) is right for you:

Below is a brief overview of some of the financing options available to franchisees:

1. Cash. Obviously, if you have enough cash, you have greater options both with conventional financing options, and in quickly getting your business started. As they say, cash is king. But you don’t want to make the mistake of using all your cash up front and not having the ability to access additional capital or to obtain financing down the road.

If you don’t have the cash available, you may want to consider taking on a partner who does have sufficient capital. This is a risk that you will have to carefully weigh when determining if a person is the right partner for you and the business.

2. Veteran Programs. If you in the military and close to retirement, or are the spouse of an active member of the military, you may qualify for the Patriot Express Pilot Loan Initiative. This program is an SBA-guaranteed loan program in which the SBA guarantees up to 85% of the loan, up to $500,000 at the SBA’s then-current lowest rates. The SBA website contains eligibility criteria and requirements.

In addition, the IFA has started the VetFran program to help honorably discharged military personnel finance their purchased franchise. Franchisors who participate in the VetFran program will typically offer reduced initial fees and/or reduced ongoing and other initial expenses.

3. SBA Loans. This option is especially viable if you are looking at a franchise system that has registered on the SBA Registry. The process to obtain financing is faster and easier with a registered franchise system.

4. 401(k) and IRA. This is a risky option, but has its advantages if properly done. Before moving forward with this option you should speak with a qualified tax attorney or accountant who can discuss the tax implications in using retirement funds.

5. Equipment Leasing. Remember, you don’t always need to purchase everything up front. If the franchisor allows you to lease, this can be a great alternative.

6. Conventional Loans/Commercial Lending. This type of funding is often difficult to obtain because your credit score is the most important factor in determining to grant or deny a loan. Even then, a great credit rating will not often overcome a high debt to income ratio. You will often need to put 20-30% down in order to qualify.

7. Franchisor Financing. This option is rarely made available. However, if it is, the financing and terms will be set out in Item 10 of the FDD.

8. Other Options. In addition to the above there are home equity loans, signature credit lines and online loan portals.