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Franchise Relationships - Legal and other Consequences

Observations on settling issues and building workable franchise relationships by Rory MacDonald, of MacDonald Pilcher Partnership law firm in New Zealand.
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Updated: Feb 5, 2011
Word count: 1,330 · Read time: 8 mins

Over the 20 or so years that I have been involved in franchising, several things have become apparent in franchisor-franchisee relationships:

  1. It is rare for a franchisee who is being competently advised to issue litigation against a franchisor unless there are good grounds for litigation. That is not to say that a franchisee always behave rationally or receives the best legal advice but the cost of litigation is such that franchisees think hard and long before issuing litigation.
  2. Where litigation is issued by a franchisor against a franchisee there are, as a general rule, good outcomes for the franchisor as long as the basis for the issue of the litigation (e.g. seeking an order for a interim injunction) is strong. Some franchisees choose to defend or counterclaim but the matters in which I have been involved on behalf of franchisors generally lead to settlements where the other side chooses to defend or counterclaim.
  3. Mediation is the most effective method for franchisors to settle issues with franchisees (and often for franchisees in respect to disputes with franchisors). It is a quick and relatively inexpensive way to resolve issues, especially when it is clear that a relationship with the franchisee is at an end or is in danger of breaking down. The outcome using mediation can often involve some compromises but it generally provides an acceptable outcome and when weighed against some uncertainty as to the outcome in litigation and the significant legal cost and time involved with litigation, mediation is nearly always the better option. Mediation can also have the effect of preserving a relationship between the franchisor and franchisee. The beauty of mediation is that it encourages each party to consider the views of the other party and that can actually help restore a relationship. Unfortunately the value of mediation in preserving relationships is a point not understood by a few lawyers practising in the area of franchise law who regard absolute dominance by their franchisor clients as a fundamental tenet of franchise relationships. In my view their clients tend to operate ineffective franchise systems.
  4. Timely and direct negotiation between franchisor and franchisee is a skill set possessed by some (but not enough) smart franchisors. These franchisors are tuned into the strength and foibles of their franchisees. They know when to step in and talk meaningfully to their franchisees. They alert franchisees early in the piece to the matters where franchisees need to improve their performance and they have strong enough relationships with their franchisees that they can tell them (with a general if not reluctance acceptance) that it is time to sell the franchise because the franchisee is not making the grade. These franchisors are much less likely to get caught up in costly litigation or even mediation. I act for a number of such franchisors who I consider are truly professional franchisors. Sadly, there are not enough such franchisors operating in New Zealand. There are too many franchisors who tend to blunder along and cause misery for themselves and their franchisees. There are also a handful who are simply unscrupulous.
  5. The smart franchisors, from my observations, run successful systems and make good profits. They tend to enjoy the whole franchise experience and value their relationships with their franchisees. They do go through anguish when they see a franchisee not making the grade and they tend to adopt a fair approach to such franchisees. That fairness is noticed by other franchisees within the system. In the long run I believe that well run franchise systems are the once that endure and remain profitable. There are plenty of good examples of such systems in New Zealand.
  6. I have seen the benefits of franchisors seeking professional advice from well qualified franchise consultants. These are franchisors who have the courage to realise that their performance needs to be improved and by obtaining valuable consulting advice they lift their game. I have noticed a change of attitude in some franchisors as a result of professional training.
  7. Effective handling of relationships between franchisors and franchisees is a fine art. If it is done well then lawyers, accountants, banks and other service providers tend to form favourable opinions of these franchise systems and of course there is quite a lot of discussions that occurs between the various advisors about franchisors and how they run their systems. The franchisors who regard absolute dominance as their right tend to develop a reputation that is harmful not only to them but to the franchisee within their systems.
  8. Finally, whilst I believe that the level of franchisor sophistication has improved steadily in New Zealand I am concerned that there are too many franchisors who lack adequate experience and knowledge in dealing with their franchisees and their systems. I see some very dumb decisions made by certain franchisors.*

Joining the FANZ and becoming an active member there is a sound method of improving sophistication. Seeking expert assistance is a good investment in building value into a franchise system and frankly a number of franchisors need to be honest with themselves and accept that they do need to improve their performance. There is stiff competition in the franchise arena and staying competitive calls for considerable skills in managing a franchise system. Franchisees enter into franchise relationships precisely because they expect their franchisors to be smart operators.

* (a)I come across a few franchisors who have no idea how much their franchisees owe them and yet they go on supplying products to franchisees who are hopelessly in arrears without bothering to query how such franchisees will pay them.
   (b)I am always surprised when franchisors do not have their franchisees sign franchise agreements on renewal. There is a tendency to rely on an exchange of emails as being sufficient.
   (c)I have seen a few franchisors leave training of a new franchisee entirely to the franchisee who is selling a franchise.

Reprinted with permission. January 2011.

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