Adapted and updated from an article published by the author in the Canadian Business Franchise 2019 Handbook and linked to the online Canadian Business Franchise Magazine Updated February 12, 2021.
By Frank Zaid
I have been involved in franchising in many capacities for over 45 years, as a franchise lawyer, a mediator, an ombudsman, an arbitrator, an expert witness, an investor, a business franchise consultant, a member of franchisor advisory boards and as an executive director of franchisee associations. Through this extensive involvement, I have seen many challenges commonly faced, though from diverse perspectives, and many mistakes commonly made. To tackle these challenges and avoid these mistakes, the key is to take a simple, pragmatic approach based on certain fundamental values.
From a purely legal perspective, there are many common challenges and mistakes in the franchising sector, including franchise agreements that are outdated, do not reflect adequate attention to detail or do not sufficiently capture the unique features of a particular franchise system, along with franchise disclosure documents that are deficient in one way or another. Other outdated or incomplete collateral documents may include leases, subleases, personal property security agreements, guarantees, intellectual property or software licences, intranet use agreements and social media policies.
Some franchisors identify but fail to protect their intellectual property, particularly trademarks, while others fail to enforce their system standards when dealing with non-compliant franchisees. In some cases, they even lack awareness of business and industry laws and regulations or standards that affect their type of franchise system.
It is essential for franchisors to stay well-informed and remain alert of any such issues. All of these matters can be minimized by retaining knowledgeable, legal counsel with experience in franchising. Franchise lawyers can proactively review and revise a franchisor’s documents on a national basis.
Business and financial issues
Franchise systems must also tackle common business and financial challenges. Undercapitalization of the franchisor, for example, can lead to an inability to service and grow a system, which in turn can cause discord among franchisees.
There may be a lack of a proper and detailed financing program for both the franchisor and the franchisees. And where there are incomplete and/or delinquent records and reports from the franchisees, these may be due to a franchisor’s failure to monitor and enforce franchisee performance. Franchisees should be wary if their franchisor does not provide ongoing services and advice, collect sufficient funds to develop a successful national advertising program or negotiate the best possible commercially reasonable terms with suppliers in terms of pricing, allowances, assistance and rebates.
These matters can be partially addressed by working with a business advisor or consultant experienced in franchising, but the franchisor must also become familiar with industry trends and specific systems, including social media policies and electronic point-of-sale and reporting systems. And the franchisor needs to be willing to provide financial and operational advice and assistance to its franchisees on a timely basis.
Surprisingly far too many new and emerging franchisors offer franchises without having completed the preparation of operations manuals setting out the standards, specifications, procedures, rules and policies of the franchise system even though their franchise agreements refer to manuals and require franchisees to comply with them. Failure to provide manuals can be disastrous to a franchisor trying to enforce a franchise agreement against a franchisee, and in certain cases may even lead to an action for rescission of the franchise agreement. The simple lesson: ensure that your operations manuals are complete and regularly updated before and after you being to franchise.
Some of the other common challenges and critical mistakes that can lead to failure of the franchisor, its franchisees or the franchise system in general include failure to introduce and use new technology, insufficient monitoring and understanding of the competition, failure to introduce continual system changes and improvements, poor location analytics, lack of qualified and responsive head office support and failure to understand changes in the consumer marketplace.
Two other common business mistakes made by franchisors are the failure to arrange for or monitor up-to-date insurance policies and coverage whether obtained individually by franchisees or arranged on a group basis by the franchisor, and failure to establish an integrated crisis management system to protect the franchisor’s brand and consumer reputation in the event of an unexpected and likely publicized crisis.
As suggested, some of the aforementioned challenges and mistakes can lead to disputes between franchisees and their franchisor. And unfortunately, many franchisors do not have a program in place to deal with such potential disputes before or after they arise.
There are numerous ways through which franchise disputes can be avoided or, at least, resolved prior to litigation, including the implementation of a franchisee hotline, the formation of a franchisee advisory board or peer review panel, the designation of a dispute officer or an experienced independent franchise ombudsman, mediator or arbitrator. Each option calls for experienced counselling before implementation. And whichever dispute resolution program is selected, it should be well-documented and openly disclosed among the franchisees.
Indeed, in my experience, the most common problem affecting franchise systems is poor communications between the franchisor and the franchisees. A successful business must be built on trust, so positive relationships between these parties are paramount.
Ups and downs in franchisee financial performance, the threat of competition and the level of consumer acceptance are all normal, but if the franchisor does not maintain an ongoing, informed and open process of communication with its franchisees, then a lack of trust can easily arise between the parties at times of stress or unrest.
Communications within a franchise system can take many forms, including newsletters, e-mail blasts, a dedicated intranet, franchisee advisory boards, ‘town hall’ meetings, national and regional conferences and conventions, independent ombudsman programs, senior management hotlines, controlled social media, field visits, inspection reports, performance reviews, supplier announcements, training sessions and operations manuals, just to name a few.
Communication must be frequent, open, objective, direct, useful and honest. Franchisors should welcome suggestions and recommendations from their franchisees. Any negative communication must be conveyed in a responsible manner, with appropriate rationale and expectations. Franchisees’ complaints should be dealt with in a professional and timely manner. And franchisors should not denigrate franchisees among one another, but should instead focus on recognizing good performance and encouraging success.
Some examples of topics and items that would merit communication with franchisees include changes in management, withdrawal of the founders, changes in the industry, arrival of new competition, consumer research and preferences, new technology, new governmental regulations, product recalls, enforcement of system standards, financial assistance programs, franchise advisory board reports, franchisee performance and milestones, ombudsman reports, renewal procedures, additional franchise policies, social media policies, new franchise openings, crisis management and, as referred to earlier, alternate dispute resolution programs.
Many potential problems and challenges can be avoided with frequent, open and honest communications, with the franchisor exercising reasonable and responsive consideration for franchisees’ concerns. The key is to start ahead of time. When communications about a given challenge only begin after that challenge has already arisen, they are likely to escalate the problem.
Some of the most highly publicized franchise class or group actions in recent years have involved systems in which communications were addressed. In some cases, the courts praised the franchisors’ communications and the franchisee advisory boards in question, while in other cases they were highly critical of them.
In any case, successful franchisors understand the value of strong communications, which can be seen in their excellent relations with franchisees and are also reflected in a high level of consumer acceptance and an absence of negative publicity. It is never too early to start.
The Key Takeaway
As I stated at the beginning of this article, there are many common legal, financial and business challenges to and mistakes made by franchisors, but most can be avoided or tackled by taking a simple, pragmatic approach, based on certain fundamental values. Of course, franchisors must become informed and knowledgeable and be properly advised before launching a franchise program, and be certain that their franchise systems and documents address the most common issues in franchising. However, in my experience the most common problem affecting franchise systems is a relatively simple one: poor communications between the franchisor and the franchisees. A successful franchise business must be built on trust, so positive relationships between the parties are paramount.
©Frank Zaid 2021
During his 40 year career as a lawyer before retirement at the end of 2012, Frank’s business law practice was concentrated in franchise law and he was involved with over 400 franchise systems. He has been an investor in both franchisor and franchisee operations and has served on the advisory boards or boards of directors of a number of prominent franchisors. Frank was consistently ranked as the most frequently recommended franchise lawyer in Canada and among the most highly regarded international franchise lawyers. He served as General Counsel of the Canadian Franchise Association, Chair of the Supplier Forum of the International Franchise Association, and the first Chair of the Franchise Law Section of the Ontario Bar Association. He was the initial recipient of the CFA’s prestigious Lifetime Achievement Award. He was a founder and the Managing Editor of the leading franchise business and legal loose leaf service, The Canadian Franchise Guide.
Since retirement he has transformed his unique business and legal experience in franchising into several support service functions through his company, Frank Zaid FRANlegal Support Services (www.frankzaid.com): franchise dispute mediator and arbitrator with ADR Chambers in Toronto (www.adrchambers.com); member of the advisory boards or boards of directors of franchisors; independent franchise system ombudsman; expert witness in franchise litigation matters; non-legal advisor/consultant on high-level strategic domestic and international franchise business matters; and, profile speaker at franchise conferences or conventions.
Frank Zaid, Principal
Frank Zaid FRANlegal Support Services
(c) 416 837-5973