| Licensing, Technology Transfers, |
This article probably applies best to franchise companies that are doing a good job, a quality investment for their franchisees who, by and large, are successful. Its suggestions are prompted by some recent developments in franchise law, mostly in case law, not statutes. And they go against the grain of the old sales and marketing dogma of not making negative statements when you are trying to develop sales leads and get potential franchisees to sign franchise agreements.
One illustration of a changing pattern in litigated cases is that courts are becoming less willing to find that a person reasonably relied upon earnings claims when the disclosure documents said that earnings claims are not given, but, in truth and in fact, information is given that can be said to amount to an earnings claim. An example of this would be a statement that no earnings claims are made, but in the financial section of the UFOC the franchisor's company owned store is shown as a subsidiary financial statement. In this manner, the exhibit actually gives an actual store operating statement and balance sheet. A more serious example would be where the salesman brings an actual franchisee to a presentation meeting who tells about his history and gives sales and earnings information about his store(s). Another example is where the salesman actually does a "pro forma" operating statement (albeit somewhat summary) on a piece of paper during the sales talk (frequently forgetting to dispose of the paper after the meeting-they always seem to reappear as exhibits in depositions when things go bad). Lawyers always try to draft around these glitches with "acknowledgement" and "entireties" clauses.
For the company to whom I am making these recommendations, however, there will be the desire to give at least sales figures for the chain. These are done usually in groups or ranges of sales, with the number of stores in each range stated, and sometimes also with their geographic region and length of time in business as franchisees. So long as there is documentation of the reliability of the data, there is little risk of trouble in doing that. But, more and more, courts are simply refusing to allow a franchisee to make a misrepresentation case, who was told in the UFOC that earnings claims are not made and that no one has authority to make any such statements on behalf of the company. The rationale is simply that, if you were told such information was not given, and it was given, you had no right to rely or you should have been on notice before you bought the franchisee that something was not being done properly. This can be nailed down quite tightly by having the franchisee state in writing whether he was given earnings information before the franchise agreement is signed, and, if so, what was stated. If they acknowledge that no such information was given, they cannot successfully testify later to the contrary. This document should be an exhibit to your UFOC and should be discussed in Item 19 of that document dealing with earnings claims. When a potential franchisee sees that you have very clear protocols for dealing with earnings claim information and that he is going to be expected to sign off on your company's compliance with that protocol as a condition to closing, it will be practically impossible for an overzealous salesperson to go beyond the protocol and give you a defective deal. How this disclosure and contract engineering is handled in the UFOC and the franchise agreement is a matter of some sophistication. It can be a very important tool in the selling of your company's integrity factor. Professionalism goes a long way in making a sale, and responsible handling of potentially troublesome information shows how much professionalism you bring to the table.
Another approach that I recommend be considered is to have a provision in the franchise agreement and corresponding language in the UFOC that advises the franchisee that, after the agreement is signed (a fundamentally important factor in timing), financial operating information will be given in training to teach how elements of expense should be controlled so that they do not exceed a stated percentage of gross sales. Typically, rent, labor, utilities, insurance, advertising and promotion, inventory and the other items of expense in any financial statement must be kept within percentage of sales limits if profitability is to be achieved. The agreement should specifically provide that the franchisee agrees that such are not intended by either party to be predictors of what that franchisee will accomplish and that it is agreed that the franchisee will not rely on them as predictors of operating results. A later claim that the information was understood to be a representation of what that store would achieve can be effectively destroyed on cross examination when such material has been made part of the franchise documentation.
An area of potential difficulty is created when a franchisor assists a potential franchisee that has not yet signed the franchise agreement to assemble information needed for a business plan or to supplement a loan application. To the extent that the franchisor gives that person a pro forma financial statement for the business to be franchised, that would be an earnings claim, no matter what the UFOC says. Again, this can be dealt with by having in hand a responsible database upon which the pro forma information is based and talking about it in Item 19 of the UFOC in a forthright manner. It will always be important to admonish that the information is provided for the purpose of showing what favorable operating ratios of expense items to gross sales should be, and that you are not predicting actual results of any franchise business.
Another area in which the law is in flow has to do with tying arrangements, requirements that franchisees purchase products and services only from the franchisor or only from designated vendors. In many cases the "designated vendors" approach is used in the agreement, but there is a reluctance or outright refusal to approve any vendor other than the franchisor or the vendor of the franchisor's initial choosing. The direction of the case law on this issue now allows for very straightforward treatment. As no franchisor can account for sufficient market power to satisfy the current test of market power in analysing tying arrangements, and as there are other elements with exonerative qualities in this context, one should consider being more aggressive in the UFOC language on this issue and in the corresponding contract language.
Inasmuch as the quality of pre-sale disclosure about how such purchases are really handled is now a factor in evaluating the propriety of tying arrangements, it will be better all around simply to say that the franchisee will have to buy from the franchisor or a designated vendor; that no others will be approved; and that at times the franchisee will pay more that they might on an opportunistic basis have to pay for such goods and services. Unless the law changes drastically, which rarely happens, this approach greatly reduces liability potential on account of such practices, and, if you have a good system of profitable franchisees, that disclosure will not cost any sales. The perceived quality of a positive relationship in which others have regularly experienced profitability will overcome any disadvantage of this sort. In my encounters of this issue in dozens of franchise disputes, I have seen franchisors experience great expense and anxiety in these premises. That is no longer necessary in a good organization that is willing to deal with the subject in a very direct and forthright manner.
Much of this is brand new. Until now, these items have not been receptive to being handled in this manner. Hopefully, the laws relating to disclosure will continue to evolve in a positive manner that facilitates simple, straightforward treatment of issues that are very important to both parties to any franchise agreement.
Copyright 1997 - 2008 || Richard A. Solomon
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 | Licensing, Technology Transfers, |