How to resolve franchise disputes

Some legal advice for franchisors embroiled in a contractual dispute with a member or members of their network.

How to resolve franchise disputes

Anyone who buys into a franchising model, which typically requires new business partners to spend a sizeable amount of money upfront, will obviously have high expectations of success. When someone spends a large sum of money to fund any business venture, they will normally be seeking a good return on their investment – and as quickly as possible.

Franchisees are usually expected to comply with a large number of contractual obligations, as laid down by the franchisor. These are in place to protect other members of the network, as well as the brand’s reputation.

Most agreements tend to favour the franchisor, and this is often the backdrop which provides fertile ground for disputes that can arise within franchising. So what do these disputes look like?

A franchising dispute typically involves one or more of the following allegations:

1) Breach of contract;

2) Misrepresentation: The battleground for a misrepresentation claim is typically centred around sales’ projections, the break-even point, set up costs, the territory, or perhaps even the number of products or services sold by franchisees. In other words, an untrue statement of fact or law made by the franchisor;

3) Derogation from grant. Where the franchisor agrees to confer a benefit to a franchisee but then does something substantial as to deprive the franchisee of that benefit; 

4) Failure to protect the franchisee’s exclusive right to trade in a particular territory; 

5) Failure to use the franchisee’s marketing contributions for its intended purpose.

So what can franchisors do to resolve these types of disputes?

First, always remember that prevention is better than cure. Franchisors should take steps at the pre-contract or contract stage to help reduce the likelihood of a dispute taking place.

When seeking to recruit franchisees, franchisors should be realistic and authentic in all advertising sales materials. In other words, don’t over promise. Advise all prospective franchisees to seek independent financial and legal advice from the outset. All pre-contractual documentation, and the franchise agreement itself, need to contain a clear non-reliance statement/clause. And this should be highlighted to the franchisee. 

Once the franchise agreement has commenced, franchisors should avoid the temptation to relegate the agreement to the back of the cupboard. They should refer to it regularly to ensure that they are complying with all of their obligations.

It’s also important for franchisors to communicate frequently with their network, both as a group and on an individual level too. They need to remind everyone how their franchise contributions are being used, and highlight the support that is available to them. If a concern crops up on either side, then it is much better to deal with these sooner rather than later.

If franchisors end up in a dispute, then certain steps need to be taken early. These include the following:

Check the franchise agreement. Are there any grounds for termination and/or any relevant limits on liability? It’s useful to consider whether there is an escalation process in the contract. For example: Are the two parties obliged to go down the route of negotiation or mediation before litigating?

Think about timing. When is the term of the agreement complete? What are the renewal rights? Are there any contractual limits on when you can raise an issue? Undertake a fact-finding mission. Collect data from other areas of the business, such as the finance department.

Consider instructing solicitors. By involving solicitors from an early stage, this may give you strategic advantages in the longer term. Consider your own weaknesses. It is always preferable to be aware of them, so you can develop a suitable strategy, rather than them jumping out and biting you at a later date.

Assess the different possible outcomes. Factor in costs. Small margins means franchising disputes can quickly turn into an argument about costs, rather than the merits of the argument itself.

Factor in the impact regarding the risk of adverse publicity. Communicate. Keep notes of meetings and discussions you have with a franchisee, and then follow up in writing to confirm the topics that were discussed. Avoid creating unhelpful documents, although these will need to be disclosed at a later stage. And your lawyer needs to be aware of these too.

What’s the best route for resolving a dispute?

If the parties need to go down a more formal route to resolve a dispute, then there are three main options. Firstly, there is court litigation which involves a state-funded judge deciding the case in public. 

Secondly, arbitration is where a private judge is paid for by the parties. The judge can be hand-picked by the parties or by another institution. This will take place behind closed doors in a private forum. By selecting this option, you will negate any risk surrounding adverse publicity. 

Whatever is chosen, negotiations will still carry on between the two parties anyway. Those negotiations may include a formal mediation process, which is option number three. A mediator is an independent person – paid for by the parties – to try and broker a confidential deal.

The mediator doesn’t make any binding decisions but they can advise on an outcome. Mediation can happen at any stage and statistics show it is a very effective way of resolving a dispute.

What about the future?

The courts are becoming increasingly open to the idea that franchisors might actually owe a duty of care, in all of its dealings, with prospective franchisees. As such, we’re likely to see an even greater clamp down on franchisors’ sales techniques. 

There is likely to be a marked increase in franchisee group actions, largely because franchisees are increasingly prepared to contest issues as a collective. But it’s not all negative either. There are plenty of preventative measures that franchisors can take to reduce the risk of becoming embroiled in a dispute. 

Sometimes a franchise agreement needs to be terminated because it’s just not working out. But it’s important to remain rational during all decision-making processes. And never stop communicating with the franchisee, while always following the mechanics as laid down in the contract.

Nicola Broadhurst
Nicola Broadhurst