2014 was an exciting year for franchises from a legal point of view, filled with high-profile cases that hit the headlines. Fortune magazine recently quoted a lawyer who suggested that much of the legal drama turns on one particular issue: the term of the contract.
Franchising is a contractual relationship for a period of time. What has happened is that a mentality is created where a franchisee says, ‘I’m entitled to this franchise for longer than the term I signed,’ especially if they’re successful and making money. But it’s a contractual relationship. Franchisees never should have the expectation that it will go longer than they signed on for.
Michael Gray, a principal attorney at Gray Plant Mooty, says that this misunderstanding is the source of many of the problems between franchisees and franchisors. He points out that a lease — unless it has a renewal clause — commits both parties for only a specific length of time. The building owner might like to have the tenant stay on, but can’t insist on it. If the tenant is ready to move on when the lease is up, the landlord can’t complain. Equally, if the tenant wants to renew but the building owner has other plans, there’s no recourse for the tenant.
However, franchisees often plan to keep their franchise for longer than the initial term of the franchise agreement. Like a tenant who has created a beautiful garden in a rented home or a healthy business in a great leased location, a franchisee is naturally distressed if the contract can’t be renewed.
When the agreement ends, however, there is nothing a franchisee can do. The contract had an ending and the ending has been reached. The time to do something about this particular issue is at the beginning of the relationship.
- Ask for a renewal option. You may not be able to negotiate a renewal option, but it can’t hurt to try. If you plan to continue with the franchise beyond the term of the agreement, say so, and work to include some language that gives you an opportunity to continue as long as you’ve met the franchisor’s expectations.
- Find out what you’ll have as equity. If you work hard on building up your business, you expect to benefit from that business. Don’t assume that you can sell your franchise, though. Make sure that you have that option. In many cases, the franchisee owns nothing except items they’ve bought, just as someone who leases a building gains no equity in that building.
- Watch for noncompete clauses. Many entrepreneurs start a series of business ventures, and you can do the same with franchises. However, you may not legally be able to open a similar business in the same geographic area. You certainly should not expect to be able to continue to trade under the franchise company’s name after you end the franchise relationship. Some of the year’s most colorful franchise lawsuits tested this, and it was clear that this particular part of the franchise is not negotiable.
- Recognize that a franchise is like any other business investment. You can put years of work and millions of dollars into an independent business opportunity and end up with nothing at the end of the business’s lifetime — or you can end up with a satisfying career and a fortune. The same can be true of a franchise business investment. Go into your franchise business with an exit plan.