termination of master franchise agreements contractual solutions which may help to overcome the...

Termination OfMaster Franchise Agreements

Contractual solutions which may help to overcome the critical issues

2012 IDI Conference - Venice

Panellists:

CHAIRMAN: Silvia Bortolotti, Buffa, Bortolotti & Mathis, Torino; Secretary General IDI

PANELLISTS:Rocío Belda, Garrigues, MadridSaurabh Misra, Saurabh Misra & Associates, Mumbai; IDI country expert for franchising (India) Carl Zwisler, Gray, Plant, Mooty, Mooty & Bennett, PA, Washington DC; IDI country expert for franchising (U.S.A.)

- Protecting the value of the network

- Contractual solutions: maximum control vs maximum flexibility

- Choosing between possible options: the franchisor may not be in the position to replace the master or may not be interested in the network

How to take the best decision for the franchisor, concerning the

sub-franchise network

- Possible options for the franchisoro Franchisor taking charge of such units (except prohibited

scenario) ORo New appointed master taking charge of such units ORo Unit franchisee taking charge of such units by way of an

enabling condition in key obligations and post termination consequence clauses for example:

.....Within 15 days from the franchisor’s written intimation, the master shall handover units directly owned or participated by the master either to the franchisor or new appointed master or unit franchisee, as solely decided by the franchisor, subject to payment of depreciated value of furniture & fixtures and refund/adjustment of premium/deposit placed with the landlord......

Units directly owned or participated by the master (1)

- Critical issue

o Location control of directly owned units

Tenancy protection issues in Maharashtra, India. Location owner’s insistence on onerous agreements Ever rising rentals


- Contractual solutions and enforceability

o Tripartite Agreements with Landlord

o Enabling clause for hand over of directly owned units by master

o Single Brand Retail in India – 100% FDI allowed with prior approval

o Multi Brand Retail in India – FDI prohibited sector


- Contractual solutions and enforceability

- Compensation / financial evaluation of the network

- Indemnification

Franchise network assigned to or taken over by franchisor or by a new

appointed master

- Master Franchise Agreement must give Franchisor right to approve or prescribe all contract terms between Master and Franchisees

- Disclosure of the Franchisor’s rights upon termination of the Master Franchise Agreement must be made before Unit Franchise Agreements are granted by the Master

- Remedies and incentives for Master’s compliance with post termination and post notice obligations must be in place

Franchise Network Taken Over By Franchisor Or A New Master (1)

- Unit Franchise Agreements should give Franchisor or its designee the right to enforce Unit Franchise Agreements, and provide appropriate law and venue for Franchisor to do so

- Local counsel must advise Franchisor about enforceability of remedies and potential counterclaims before Master Franchise Agreement is granted and before it is terminated


- Consider granting Franchisor an assignable to purchase Master’s rights for the value of claims the Franchisor may have for lost future profits

- Master Franchise Agreement and Unit Franchise Agreement should expressly:

o grant Franchisor the option to assume and assign

Master Franchise Agreement Unit Franchise Agreements all other contracts or rights of Master related to

Franchisees


o establish Franchisor remedies to prevent Master from doing post notice and post termination damage to the brand

o deal with all prepayments, deposits, development fees, option fees collected by Master, but not earned at time of termination

o limit claims Franchisees can bring against Franchisor

for defaults before the Franchisor’s assumption and assignment of Master Franchise Agreement

for the Franchisor’s good faith efforts to rectify past violations or non-compliance after assumption of Master Franchise Agreement


o permit pre-termination protection rights for Franchisor before termination notices are effective

- Evaluate all potential remedies with local counsel before LOI, if possible

o check IDI country reports

- Evaluate cost of enforcement v. risk of counterclaims v. cost/benefit of retaining operation in all or part of the Territory v. other alternatives to protecting the brand and returning to the market at a later time


- Focus on the ability to obtain a judgment and the ability, cost and time to enforce a judgment

- Consider alternative leverage points

o as suppliero reservation serviceo holder of key contractso operating system licensor


- Alternative

o reduce fees for reduced support of Franchisees from remote Franchisor

- Master should indemnify Franchisor against claims arising from its defaults under Master Franchise Agreement, Unit Franchise Agreements and related agreements

- Insurance or other security should be in place to make Franchisor indemnification remedies effective


- Reasons

- Possible liabilities towards the master

o Define the first refusal/call option right as a unilateral and discretional right of the Franchisor

“(…) upon the unilateral and sole decision of the Franchisor and creates no right whatsoever or legitimate expectation for the Master Franchisee”

Franchisor decides not to take over the network (1)

o Exclude the Franchisor’ liability in any event:

“The initiation of any procedures, assessments or taking any steps by the Franchisor in preparation or evaluation of a possible exercise of such rights shall not be deemed to create any right or expectation upon the Master Franchisee that such process shall lead to the exercise of the aforesaid rights”


- Possible liabilities towards the sub-franchisees

o “Sub-franchise agreements shall provide that sub-franchisee shall have no action for liability against the Franchisor in case of termination of the franchise agreement as a result of the termination of the Master Franchise Agreement”

oMaster Franchisee shall keep Franchisor fully indemnified against any liability or damage arising to the Franchisor from any legal actions initiated by the sub-franchisees, lessors, suppliers or customers, in case of termination of the Master Franchise Agreement”


- Parties’ rights and obligations during the notice period

“As from the date of termination notice the Agreement shall remain in full force and effect save if otherwise is expressly provided for in this Agreement”

Handling the notice period in case of termination or non renewal (1)

o Warranties for Master Franchisee payments

“As from the date of termination notice the Master Franchisee shall provide for a bond in the form provided in Annex [] to the Agreement regarding payment of any orders made thereafter, lease fees and royalties accruing in favor of the Franchisor thereafter”


o Finance by Franchisor

“Any provisions regarding the Franchisor’s financing of Master Franchisee purchases and supplies in connection with this Agreement shall cease to apply as from the date of termination notice”

o Investments

“As from the date of termination notice the Master Franchisee shall not make any expenditure or investment that may not be fully depreciated during the notice period”


o Stock

“As from the date of termination notice the Master Franchisee shall reduce its stock of products in accordance with the schedule provided for in Annex [] to the Agreement. The Franchisor shall not be obliged to supply to the Master Franchisee any orders for products exceeding the amounts provided for in the above said schedule”


o Sub-franchise agreements

“As from the date of termination notice the Master Franchisee shall have no right to grant, modify or renew any sub-franchise agreement or option right to the franchise, save as expressly agreed with the Franchisor”

o Other agreements for the operation of the franchise

“As from the date of termination notice the Master Franchisee shall have no right to enter into, amend, renew or terminate any license, lease, supply or service agreement regarding the operation of the franchise, save as expressly agreed with the Franchisor”


o Communication

“Sub-franchise agreements shall provide for a notice period in case of termination due to the termination of the Master Franchise Agreement the length of which shall be equal than as above provided”

“As from the date of termination notice any communications to third parties -including sub-franchisees, prospective sub-franchisees, suppliers, customers, landlords or creditors- regarding the termination of the Master Franchise Agreement shall be agreed amongst the Parties”


- Enforcement of the Parties’ rights during the notice period and thereafter in the event of challenge of termination

“Termination shall have full effect upon []. The Parties’ rights and obligations during the notice period and as from the date of effects of termination shall be fully enforceable without prejudice to any of the Parties’ right to challenge termination before the courts of justice or under the arbitration clause provided by clause [] of the Agreement”


- Advertising funds managed by the master

- Sub-franchisees’ suppliers

- Possible problems with landlords

- Collecting fees from the sub-franchisee’s

Further issues

- Franchisor must prescribe or approve all agreements relating to establishing and operating Ad Funds, including advertising coops

- Franchisor shall retain right to operate any and all Funds if Master Franchise Agreement (MFA) is terminated

- Franchisor disclaims all fiduciary duties to Franchisees relating to the operation of Ad Funds. Master shall operate all Ad Funds in full compliance with all agreements and applicable laws

Ad Funds Managed by the Master (1)

- If Master has not collected all payments due to the Fund when the Master Franchise Agreement ends, Franchisor should have the right to approve payment plans for Franchisees or, waive their payment obligations without liability to any other Franchisee

- If Master’s Master Franchise Agreement ends, any Ad Fund and its control must be assigned to the Franchisor or to its designee at Franchisor’s option

- Unit Franchise Agreement must grant Franchisor the right to enforce obligations of Franchisees to comply with Ad Coops or Ad Fund commitments, even before a termination notice is effective


- If advertising production or placement contracts have been granted to Master, its affiliate(s) or to 3rd parties, these agreements, at Franchisor’s option, shall be assigned to the Franchisor or its designee at the end of Master Franchise Agreement

- Master shall not enter into contracts with ad agencies or make other contracts relating to advertising, marketing or promotion which have a duration of more than ___ months without Franchisor’s approval


Subfranchisees’ Suppliers (1)


- Master shall not enter into any agreement with a supplier to Franchisees which contemplates or requires the supplier to pay any consideration to the Master, its affiliates or principals or to any Ad Fund without Franchisor’s prior approval. Franchisor’s approval may be conditioned upon the supplier or Master paying a license fee to the Franchisor or to its affiliate or to an Ad Fund


- Franchisor shall be an intended third party beneficiary of all supplier agreements negotiated or approved by the Master for the benefit of Franchisees, and the Franchisor shall have the independent right to enforce any such agreements

- Franchisor may inspect the facilities of any supplier to franchisees and may inspect any products and services produced or distributed to franchisees to evaluate their compliance with the Franchisor’s standards

- Master shall provide Franchisor with at least quarterly reports of all Ad Fund activities, including AR, AP and details of ad contracts

- Upon receipt of notice of default, or upon failing to meet its development schedule at the end of any year, Master shall submit for Franchisor’s prior approval all advertising, marketing or promotional contracts with more than a 30-day duration. None shall be effective until it is approved by the Franchisor

MFA Language: Ad Funds (1)

- Upon termination, Master’s principals shall resign as officers, managing directors or comparable positions on all Ad Funds. This shall not affect the duty of Master’s affiliates which operate unit franchised business to contribute to and be bound by Ad Fund obligations

MFA Language: Ad Funds (2)

- In consideration of Franchisor’s or its designee’s assuming responsibility for administering Ad Funds and Ad Coops, Franchisee agrees to:

o indemnify Franchisor and its designee against claims relating to pre-assumption acts or omissions of the Master or Franchisor, at Franchisor’s request, and

o assign to Franchisor or its designee all claims it has against the Master or its affiliates relating to their administration of Ad Funds or Ad Coops

UFA Language

- Franchisor or its assignee may enforce obligations of Franchisees under UFAs to the Master regardless of claims of Franchisees against Master

- UFA should state: “A change of ownership of Master, or the Franchisor’s assumption or assignment of Master Franchise Agreement does not affect Franchisee’s duty to pay fees or Master’s or Franchisor’s right to enforce the Unit Franchise Agreement

Collecting Fees From Franchisees (1)

- Franchisor should retain approval right regarding whether Master may sue Franchisees after notice of default or after Master Franchise Agreement ends

- At Franchisor’s request, Master shall assign to Franchisor all claims it has against Franchisees following receipt of a notice of termination or non-renewal

- Master may not commence legal action or arbitration against a franchise or terminate or refuse to renew a UFA without Franchisor’s approval


- Master shall pay to Franchisor or its designee an amount equal to all prepayments, option fees, development fees, deposits, customer payments, and supplier rebates based upon Franchisees’ purchases when Master Franchise Agreement ends

- During the term of the MFA, all prepayments (as described above) shall be paid into a separate trust account until such time as the payments maybe lawfully recorded as income under locally applicable GAAP


- All guarantees and security interests acquired from Franchisees’ principals shall be, by their terms, assignable to Franchisor or to its Designee, upon receipt of a notice of default or upon termination of the Master Franchise Agreement, at the Franchisor’s option

- At end of Master Franchise Agreement, Master shall deliver to Franchisor all promissory notes executed by Franchisees for the benefit of Master


Thank you for your kind attention!

Silvia Bortolotti: [email protected]

Rocío Belda: [email protected]

Saurabh Misra: [email protected]

Carl Zwisler: [email protected]

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