It's not as simple as it
seems, we have different philosophies on how to do it, and our efforts result
in quite disparate work product. I am referring to the preparation of a
franchise agreement.
I have struggled for years
over the question of what is the proper approach in preparing or negotiating a
franchise agreement: Does the agreement
have to be long, drawn-out and highly detailed? Or can it be more stream-lined, leaving the detail to the
operations manual, or simply leaving out much of the detail altogether? Even today, I am unable to answer this
question to my own satisfaction, irrespective of whether I am representing
franchisor or franchisee. The Model
Rules of Professional Conduct may require us to represent our clients
zealously, but feverish protection of our clients' rights does not necessarily
equate into a one-sided agreement that gives our client undue, and possibly
unnecessary, protection without taking into account the legitimate interests of
the other party. If that were the case,
then even the simplest of promissory notes would require a ten-page document
for fear of failure to satisfy our professional responsibilities to our client.
Let's start the analysis
with a basic premise: a franchise
agreement must protect the rights of the franchise system. It does not a priori have to be truly
balanced, as some franchisee advocates might contend. In fact, it is in both the franchisor's and its franchisees'
interests to allow the franchisor to enforce the standards of the franchise
system decisively. For example, if the
franchisor cannot compel a franchisee to operate its unit in accordance with
applicable health standards, then the whole system may be threatened if death
or other injury results from this inability of the franchisor. Similarly, a franchisee who fails to abide
by the provisions of its agreement should not be permitted to shut its unit
without justification, reopen under a different name, and use secrets learned
from its former franchisor to operate the new business. Even the most ardent of franchisee advocates
should agree with these statements.
The problems from the
franchise lawyer's perspective are two-fold:
(1) how much protection is necessary to achieve the desired result, and
(2) to what extent market considerations affecting franchise sales should be
taken into account in constructing the agreement to achieve the franchisor's
objectives?
In the early days of
business-format franchising, franchise agreements were quite short. The earliest franchise agreements in the KFC
and Dairy Queen systems were literally one page. Life was simple-much like the situation in the Garden of Eden
before the serpent arrived on the scene.
Then, as franchise businesses became more complex, franchise agreements
became longer out of necessity. The
franchised business, for example, might now cover a broader range of
activities; the franchisor might have become a supplier to the system;
territorial rights became issues; and technology, such as the Internet, created
a need for contractual provisions that could not have been envisioned when the
system's first unit opened decades before.
All in all, life became more complex.
The courts have further
complicated the situation. As
franchising has matured as a method of doing business, we have started to see
the development of a body of law that reflects franchising as a distinctive way
of doing business. While most judicial
decisions-irrespective of one's inclination to be franchisor or franchisee
protective-are fairly predictable under established principles of contract,
trademark and antitrust law, there occasionally comes the situations where the
application of traditional judicial principles would lead to results that are
difficult for courts to accept. The
California courts seem to be a frequent source of these decisions1,
but other states, such as New Jersey, have also become noted for their courts'
variance from the "tried and true" when an application of traditional
legal principles to facts might lead to harsh results.2 Lawyers have responded to these aberrational
judicial decisions by drafting provisions that eliminate the leaks in the dike
created by the courts. The classic
example of this phenomenon can be seen in the case that, in my opinion,
generated the most controversy in franchise law in the last decade-Scheck v.
Burger King Corp.3 In
Scheck, the trial court held that Burger King Corporation's refusal to grant
its franchisees territorial protection did not mean that the franchisor could
place a restaurant right next door to an existing franchised unit and thereby
destroy the franchisee's business. As a
result of this decision, franchisor lawyers began adding language to their
agreements by which the franchisee expressly acknowledged the franchisor's
right to place units anywhere it wanted-even right next door.4 Although the precedential value of Scheck
has been mostly eradicated5, its legacy lives on in the language
many franchisors have included in their agreements.
The franchise agreement's
growth in length during the last three decades can also be attributed in part
to the zeal of our colleagues. Perhaps
adhering a little too closely to their professional obligation to represent
clients zealously, some attorneys have added both defensive and offensive
measures to their agreements to provide an arsenal of weapons that deprive
franchisees of common law rights.
Waiver of jury trial rights, no set-offs against royalty payments,
litigation in distant locations, indemnification for the franchisor even for
its own negligence, one-sided arbitration clauses, and waiver of required bonds
in order to obtain injunctions are only a few.
I have seen of late a confession-of-judgment provision, such that the
franchisor merely had to appear in court and recite the breach, and the
franchisor would be entitled to "justice." It was reported a couple of years back that one chain even went
so far as to provide that the franchisor could buy back the franchise at any
time for a nominal premium. Presumably,
this would allow the franchisor who, rightly or wrongly, found
franchisor-franchisee litigation on the horizon to cap its liability and avoid
an expensive dispute. A clever means of
damage control! However, this provision,
it was also reported, ultimately made the franchise most difficult to sell and
was consequently abandoned.
This last point raises a
most interesting question: where does
the marketplace fit into the picture? A
basic assumption of contract law is that two individuals should be free to
enter into whatever contractual arrangement they may choose-subject to a few
public policy restraints-without government intervention. Thus, if a prospective franchisee does not
like the proposed franchise agreement, he or she may walk from the negotiating
table and look at other alternatives available in the marketplace.
But does the marketplace
work in the franchise context? A
standard lawyer's response (yes and no) is probably called for here. While prospective franchisees can always
decide not to buy franchises, many of the provisions franchisee advocates find
objectionable have become "industry-standard." As a result, it matters not whether
franchisee buys Franchise X or Franchise Y; the agreements for both will
provide, for example, that a jury trial will not be permitted. In other words, there is no competition with
respect to the legal-rights aspect of a franchise.
This problem (if one
accepts the notion that this is a problem) is further acerbated by the fact
that legal rights are not high on the list of a prospective franchisee's concerns
when franchise-purchase negotiations take place. Franchise fees, royalty and advertising fee rates, location,
exclusivity, and the term of the agreement, are only a few of the many terms
that will be of more importance to the prospect. Limitations on discovery, one-sided arbitration provisions, an
overly broad non-compete and liquidated damages that do not truly approximate
actual damages, are all issues that are contingent in nature-they may never
come into play-as distinguished from the amount necessary to purchase the
franchise and the initial investment to become operational, which are real-time
issues.
Franchisee advocates are
also concerned that many franchisees do not read the franchise agreement in
advance. It is difficult to have
sympathy for this class of prospects. A
more persuasive argument, however, is that the franchisee who reads the
agreement may nevertheless not understand the full import of all of its
provisions. A covenant not to compete,
for example, in a franchise requiring a special-use building, not only means
that the franchisee must find another occupation upon expiration or termination
of the franchise, but, in addition, that the uses to which the real estate may
be applied upon termination of the franchise will be limited; this will result
in a lower value for the premises. The
subtleties of franchise relationships are points that many competent lawyers
who occasionally represent franchisees-as well as those who are more experienced
in dealing with franchise relationships-may either not appreciate or may not
adequately address with their clients.
At the end of the day, the
franchisor attorney finds himself or herself in a difficult dilemma. Can he or she say to a franchisor client
with a straight face that the client should not include in its franchise
agreement an aggressive provision if that provision will not adversely affect
the client's ability to sell franchises?
Should the attorney be concerned about the client's "image" in
its industry? Will a franchisor be
viewed as an ogre if its franchise agreement is too draconian? Does that matter?
From a professional
liability standpoint, I hope courts will stay clear of this dilemma and not
impose their view of the world, with 20-20 hindsight, in judgment of what an
attorney must decide in the heat of practice.
Otherwise, an attorney may feel compelled to be overly aggressive in his
or her drafting if, for no other reason, to avoid being second-guessed later on
in a malpractice suit. Rather, it would
be better in my view-both for lawyers and for franchising-for the courts to
create an atmosphere that will allow attorneys to recognize that in the scheme
of the world the most one-sided, longest, detailed agreement may not be the one
best suited for their clients.
Zealousness and effectiveness are two quite different standards, and in
pursuing the first, an attorney may be sacrificing the second, to the client's
detriment.
1 Bolter v. Superior Court, 104 Cal. Rptr. 2d 888
(Cal. Ct. App. 4th Dist. 2001), declined to extend, Bradley v. Harris Research,
Inc., 275 F.3d 884 (9th Cir. 2001); Foodmaker, Inc. v. Quershi, [1998-2000
Transfer Binder], Bus. Franchise Guide (CCH) at ¶ 11,780 (Super. Ct. Dec. 1,
1999); Postal Instant Press, Inc. v. Sealy, 51 Cal. Rptr. 2d 365 (Cal. Ct. App.
2d Dist. 1996).
2 See, e.g., Kubis & Perszyk Assoc., Inc. v. Sun
Microsystems, Inc., [1996-1997 Transfer Binder] Bus. Franchise Guide (CCH) ¶
10,980 (N.J. July 23, 1996).
3 756 F. Supp. 543 (S.D. Fla. 1991), reconsideration
denied, 798 F. Supp. 692 (S.D. Fla. 1992).
4 Indeed, in the 1992 Scheck decision, the trial court
literally drew the roadmap as to how a franchisor could avoid the problem the
trial court judge found present in the facts of that case.
5 See Burger King Corp. v. Weaver, 169 F.3d 1310 (11th
Cir. 1999).
The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.