Copyright:  / 123RF Stock Photo
Copyright: / 123RF Stock Photo

It is always important from time to time to dust off the old franchise agreement and consider revising as necessary to account for:

  1. new legal decisions, statutory or rule changes or other updates in federal or state guidance;
  2. changes to the franchise system’s operations or practices; and
  3. significant changes in the franchisor’s industry or the general business climate.

If your legal department or outside counsel has not taken a good look at your franchise agreement in a while, then perhaps this is the year for them to do so. I am always surprised to see the following head scratching provisions when I am reviewing a franchise agreement:

  1. Language starting with “if the franchisee is an individual…” Despite the proliferation of employee misclassification cases there are still franchise systems out there who do not require franchises be owned through entities. Forming an LLC or corporation today is simple and inexpensive. In most cases the upside to requiring franchisees operate through entities outweighs the benefits to not doing so.
  2.  Unenforceable Liquidated Damages and/or Restrictive Covenants Provisions.  I frequently see liquidated damage provisions requiring the payment of damages equal to the “average monthly royalty fees you paid to us during the 12 months of operation preceding the effective date of termination multiplied by the number of months remaining in the agreement or 24, whichever is greater.”  In many jurisdictions, such a provision is unlikely to be upheld if challenged in court. The same is true for onerous non-competition or non-solicitation provisions.  It makes no sense to maintain provisions in an agreement that have little or no likelihood of being enforced.
  3.  Detailed or Inflexible Operations Procedures or Fees.  I will also often see franchise agreements that contain overly rigid and specific compliance guidelines. For example, detailed requirements regarding insurance requirements or verbose descriptions of certain internal quality control processes. The franchise agreement should always provide franchisors the flexibility to alter processes or certain requirements through amendments to an Operations Manual while requiring the franchisees to comply with these procedural changes.
  4.  Complex Calculations in Right to Purchase Asset Clauses.  Franchise agreements typically grant a franchisor the right to purchase the franchise’s assets when the agreement is terminated or expires. Do you really want to fight over the value?  Hire an appraiser? Disagree on the appraisal and then drag the process out longer by allowing the franchisee to hire its own appraiser and using the average value?  I see these concepts in franchise agreements and I wonder why? A simple 30 day right to purchase the franchise assets in cash for  Book Value (cost less depreciation) makes sense in most cases.
  5. Provisions which Invite Vicarious Liability Claims. The biggest issue here are clauses regarding oversight of employee decisions that properly belong to the franchisee, including but not limited to hiring, firing and/or scheduling. Get those out before a lawyer seizes upon them to argue the franchisor is the true employer of the franchisees’ employees.
  6. Overbroad Requirements to Comply with “Operations Manual” or the Like. Another area to review is a clause that says the franchisee must comply with “each and every” provision of the operations manual or similar document. Of course you probably want some clause like this, we understand. But have you recently reviewed your operations manual to ensure you’ve scrubbed things which might subject the franchisor to liability? If you haven’t now is the time to do that as well. Alternatively, the clause can be written to ensure only the absolutely essential portions of the ops manual are included in the agreement.