Legal Issues In Franchising

William A. Pricewprice@growthlaw.com

QUESTIONS FOR FRANCHISORS

Franchising Or Other Capital?• Franchising• Loans for Expansion• Project Investors • Company Investors:

Friends, Angels, Private Eqity

• Public Investors

Franchising Laws: FederalFederal Trade Commission:

a. Franchise Disclosure Document Rules

b.Franchisee and Customer Complaints

c. Truth In Advertising Rules

Franchising Laws: StateIllinois:

1. Attorney General: Regulates Disclosures (FDD OK)Takes Customer/Franchisee Complaints

2. Secretary of State: Regulates Franchise Brokers

Franchise System Needs• System Name• Artwork for logo and ads

and all system elements• Franchisee recruitment• Franchise disclosure

documents and other legal reports, securities disclosures, taxes

• Supplier contracts, terms• Real estate program• Operator training and

systems documentation

ISSUES FOR FRANCHISEES

The Franchise Disclosure Document (FDD)

Big Items:

Item 1: Franchisor backgroundItem 3: Material Litigation (and check personal and organizational judgment and credit)Item 5, 6, and 7: Franchisee upfront, ongoing fees and costsItem 20: Locations and Expansion Plans

FDD May Not Have• Earnings Claims• Unsuccessful Franchisee

Sites• Supplier and Other

Site/Contract Requirements

• New Advertising and Other Change Authority

• Old Name Franchisor Failed Systems

Your Best SourceOther Franchisees!

All current operators must be listed in FDD: CALL THEM!

YOUR FRANCHISE BUSINESS

Multiple Options For Entry• Buy An Existing Franchise• Buy Multiple Existing

Franchise Sites (If System Allows)

• Start A New Location• Take Over A Region And

Recruit Operators For Sites

• Start Your Own System

Best Success Predictor

Sweat Equity

Nothing replaces industry experience: Get Some, Or Get A Partner Who Has Experience

Your Franchise Business Plan• Visible Site• Franchise With High Net

Profit Potential• Franchise Type You Are

Qualified To Manage• Adequate Capital To Start

And Run Until Profitable• Sustainable Competitive

Advantages• Good Franchisor Support• High Quality Supplies

From Franchisor System

LEGAL ISSUES IN FRANCHISE SETUP

Franchisee Entity Selection

The Issues:

• Pass-Through Tax? Other Tax?

• Who Manages?• Who Controls?• What Investor Rights?• Who Can Bind The Entity?

(Agency)• What incentive programs

needed?

Site Issues• Lease or Buy?• If Lease, what rent,

buildout, uses, hours, signage, costs?

• If buy, need investors?• Build or lease: zoning,

building code, permits required?

• Traffic, site access issues, other infrastructure, sewerage and other fees/taxes/needs

Supplier Issues• Franchisor specifies, but

you and your credit pays• What if supplies are bad,

deliveries fail?• What about menu or other

product additions? (Franchisor may control)

Employee Issues• Healthcare mandates• EEO Mandates: customers

served, persons hired: avoid inappropriate hiring process

• Payroll issues (overtime, tax withholding, reports)

• Other HR/Benefits (yours or system)

• Frequent Employee Replacement/Retraining

• Shrinkage• Site Security

Partner Issues• Equipment

Providers/Reliability (Franchisor specifies, but you pay and deal with when break down)

• Cooks and Other Prima Donnas

• Money Split And Other Arguments

• Divorce, Retirement, Resignation, Bankruptcy, Death

FRANCHISE LITIGATION

Franchisor vs Franchisee• “7-Eleven Exploiting

Franchisees”: CA Huffington Post, August 1, 2013

• Stratus Building Solutions and related Camino Real Ventures accused of fraud, violations of state business opportunity laws (TX), 2013

• Play N Trade Video game franchise, market losses

Franchisor Controls Court• Mandatory Arbitration,

Franchisor picks Arbitrator

• Mandatory Venue In Franchisor Location

• Limited Franchisee Remedies (Only Fees Back?)

• No Guarantees of Supplier Services, Franchisee Income

Franchisee vs Supplier• Mandatory use of

Suppliers• Franchisor writes supply

contracts• Franchisees must

arbitrate or litigate within contract requirements, system elements

• UCC still applies, requires good faith and fair dealing

Franchisee vs Employee• Average “wrongful

termination” federal judgment, IL, over $600,000

• Age, national origin, race, religion, sexual orientation all protected categories for hiring, discipline, firing

• Sexual harassment and hostile workplace liability

Franchisee vs Public• Slip and Fall Liability• Dram Shop Liability• Product or Service Caused

Injury Liability• Credit and Collections

Issues

Franchisee vs Landlord• Landlord services

problems (snow/ice removal, garbage pickup)

• Landlord signage and buildout not done

• Rent escalators and passthroughs (energy costs, property taxes, cleaning, major building repairs)

Succession Planning• Buy-Sell to operator or

partners or family• Estate planning and other

capital gains reduction options

• Finding A Buyer: brokerage and other finder agreements

• Pricing The Exit• Term Sheets, Due

Diligence, and Sales Agreement/Closing

• Post-Closing Services and Disputes

ANY QUESTIONS?

William A. PriceAttorney at Lawwww.growthlaw.comwprice@growthlaw.comTel/Fax 1-800-630-4780P.O. Box 1425, Warrenville, IL 60555