Finding Balance in Franchise Agreements

“Any notion that granting a franchise is a privilege needs to be struck from the conversation. We are not commodities. We are partners, and a franchisor has the obligation to help us succeed,” stated multi-brand franchise operator Aziz Hashim during the opening panel discussion at the IFA's 46th Annual Legal Symposium in Washington, DC, in May.

This assessment came as Hashim and co-panelist Kenneth D. Walker, CFE, the past IFA Chairman of the Board and a former CEO of Driven Brands, Inc. (franchisor of Meineke Car Care Centers), reflected on today's hot-button issues in the franchisor-franchisee relationship. With moderator Joel Buckberg, of counsel with Baker, Donelson, Bearman, Caldwell & Berkowitz, PC, Hashim and Walker discussed everything from roadblocks for successful operators to sell their franchises, to proper use of advertising funds, to whether franchise executives should appear on the TV show “Undercover Boss.”

While Hashim and Walker represent, to some degree, opposite sides of the spectrum, they agreed on the bottom-line imperatives for the industry's future success: clarity and transparency in franchise contracts, fair handling of conflicts, and a sense of genuine partnership. “There's a misconception that only franchisors are stewards of the brand. It's not true; franchisees are very interested in the success of the brand and the [language of the] contract as well,” said Hashim.

Getting the relationship right is more important than ever because franchisors are working with sophisticated, multi-brand operators that have a wide choice of where to invest their capital. “It's about core values and a vision,” Walker said. “Make sure you have a vision of what the business should look like to customers, and stay with it. This starts before the franchisee training program and even before the franchise sales cycle. And it doesn't end with training, either. In magazine articles, at your conventions ' everywhere ' you must be consistent in your concept.”

Working Together for Growth

Use of advertising funds is one area in which a franchisor can build a relationship with franchisees through consultation, said the panelists. “There's no right way to manage an ad fund,” said Walker. “Some brands benefit from robust television advertising, but others do not, and might be effective with couponing. Some are better on social media.”

During his tenure as CEO of Meineke, Walker said that he reduced the ad fund contribution requirements from franchisees, but he broadened the ways in which the funds could be used. “Franchisors need to listen to their franchisees and [incorporate] their ideas into the plan,” he said. “Even if the franchisees are not totally right, I believe that a bad plan well-executed is better than the reverse.”

Hashim said that during the recession a few years ago, one of the brands he operates allowed franchisees to redirect some of their marketing funds to store remodeling. “It was decided that remodeling would be more effective, and this came about through franchisee engagement,” he said.

On the other hand, a franchisor that changes the brand image without explaining the benefits to franchisees will lose support, said Hashim. “Is the remodel [only] raising franchise royalties, or is it improving franchisee profitability?” asked Hashim. “If it's raising royalties, why isn't the franchisor covering some of the cost of the remodel?”

In franchising, however, what can seem like a growth strategy to a franchisor can look very different to a franchisee, and the panelists shared some ideas about how to avoid encroachment conflicts. Walker said that franchisors must carefully measure unit metrics when seeking to expand into established markets. “Sometimes, more stores in an area will raise sales because of greater visibility and access to more advertising dollars,” he said. “As a brand, you can't back away just because competitors are in place. You have to show your franchises the market share analysis and discuss with them their goals for market share.”

But Hashim argued that many franchisors are still focused on growth, rather than profitability of individual units. “For larger brands, there is such a thing as saturation,” he said. “I'm frustrated when I see a brand that ignores unit economics in its expansion. We've seen industry-wide that growth is expected to be about 1.3% next year, but every brand in this room has promised its investors more than that, at least 3 or 4%. Where's that growth coming from?”

Managing Conflicts

When moderator Buckberg asked what makes the panelists “see red,” Walker said that he has been angered when franchisees did not reach out to him to discuss their frustrations. “I see red when the first time I heard from a franchisee about a problem is through their attorney,” he said.

Hashim said that several common provisions in franchise contracts anger him ' items that he called “matters of equity.” He added that he's much less likely to sign contracts with those clauses today than when he first started in the industry. He called liquidated damages clauses an “insult of the highest order” to a franchise owner who has already closed down due to poor results and has lost his investment. Also, he avoids contracts with nebulous language about requirements and costs for unit remodeling.

Both Hashim and Walker observed that the issue of transfer of franchises is becoming a greater source of conflict. Experienced franchisors who are ready to retire want to monetize their investment, and private capital that is backing some new multi-unit franchisees is facing the same imperative. But franchise contracts often are written with clauses that make transfers or sales costly and difficult. Hashim mentioned that he “sees red” when franchisors reserve the right to change the franchise agreement any time that ownership is transferred and require franchisees to provide unlimited guarantees when they transfer their businesses.

Hashim added that, from his perspective, franchisors already have sufficient protection in their contracts. Their temptation to over-lawyer the contracts is detrimental to the franchisee relationship and limits the attractiveness of franchising to some investors. “Enforce what is in your contract, and stop adding a clause for every new situation that occurs,” he said.

Surviving 'Undercover Boss'

“Undercover Boss” is a popular reality TV show that debuted in the United States in 2010. On the show, a top executive of a company secretly works as an entry-level employee somewhere in the operation. Traumas ensue as the boss gets a taste of what is going on at the company's operational level, and he or she vows to fix the problems that have been identified.

Nearly half of the U.S. episodes of “Undercover Boss” have featured franchise brands, and within the industry opinion is split on whether being on the show is beneficial. Hashim said that franchisees do not have a favorable opinion of the show. “ How does it do a system or a brand any good to highlight its dysfunctionality?” he asked. “We look like a stupid industry with poorly trained employees.”

Walker countered that executives who have been on the show have found the experience to be valuable, and they have seen unit sales rise due to the publicity they have earned. Applications from would-be franchise buyers have increased, too, he said. “I think the show speaks to the vitality of franchising. You see problems, but you see them rectified, too,” he said.

Walker and Hashim agreed that the show should illustrate for all franchisors the importance of having effective ongoing training programs. “At Meineke, we would say that we can't make you successful, but we can give you the tools to be successful. Training is a big tool,” Walker said.

Hashim said that training declined during the recession and that the growing use of online courses can fill only part of the gap. He is wary of the new generation of “business consultants” sent to conduct ongoing training. When these consultants lack franchise experience, Hashim said, franchisees view them as inspectors, rather than trainers.

Kevin Adler is associate editor of FBLA.

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“Any notion that granting a franchise is a privilege needs to be struck from the conversation. We are not commodities. We are partners, and a franchisor has the obligation to help us succeed,” stated multi-brand franchise operator Aziz Hashim during the opening panel discussion at the IFA's 46th Annual Legal Symposium in Washington, DC, in May.

This assessment came as Hashim and co-panelist Kenneth D. Walker, CFE, the past IFA Chairman of the Board and a former CEO of Driven Brands, Inc. (franchisor of Meineke Car Care Centers), reflected on today's hot-button issues in the franchisor-franchisee relationship. With moderator Joel Buckberg, of counsel with Baker, Donelson, Bearman, Caldwell & Berkowitz, PC, Hashim and Walker discussed everything from roadblocks for successful operators to sell their franchises, to proper use of advertising funds, to whether franchise executives should appear on the TV show “Undercover Boss.”

While Hashim and Walker represent, to some degree, opposite sides of the spectrum, they agreed on the bottom-line imperatives for the industry's future success: clarity and transparency in franchise contracts, fair handling of conflicts, and a sense of genuine partnership. “There's a misconception that only franchisors are stewards of the brand. It's not true; franchisees are very interested in the success of the brand and the [language of the] contract as well,” said Hashim.

Getting the relationship right is more important than ever because franchisors are working with sophisticated, multi-brand operators that have a wide choice of where to invest their capital. “It's about core values and a vision,” Walker said. “Make sure you have a vision of what the business should look like to customers, and stay with it. This starts before the franchisee training program and even before the franchise sales cycle. And it doesn't end with training, either. In magazine articles, at your conventions ' everywhere ' you must be consistent in your concept.”

Working Together for Growth

Use of advertising funds is one area in which a franchisor can build a relationship with franchisees through consultation, said the panelists. “There's no right way to manage an ad fund,” said Walker. “Some brands benefit from robust television advertising, but others do not, and might be effective with couponing. Some are better on social media.”

During his tenure as CEO of Meineke, Walker said that he reduced the ad fund contribution requirements from franchisees, but he broadened the ways in which the funds could be used. “Franchisors need to listen to their franchisees and [incorporate] their ideas into the plan,” he said. “Even if the franchisees are not totally right, I believe that a bad plan well-executed is better than the reverse.”

Hashim said that during the recession a few years ago, one of the brands he operates allowed franchisees to redirect some of their marketing funds to store remodeling. “It was decided that remodeling would be more effective, and this came about through franchisee engagement,” he said.

On the other hand, a franchisor that changes the brand image without explaining the benefits to franchisees will lose support, said Hashim. “Is the remodel [only] raising franchise royalties, or is it improving franchisee profitability?” asked Hashim. “If it's raising royalties, why isn't the franchisor covering some of the cost of the remodel?”

In franchising, however, what can seem like a growth strategy to a franchisor can look very different to a franchisee, and the panelists shared some ideas about how to avoid encroachment conflicts. Walker said that franchisors must carefully measure unit metrics when seeking to expand into established markets. “Sometimes, more stores in an area will raise sales because of greater visibility and access to more advertising dollars,” he said. “As a brand, you can't back away just because competitors are in place. You have to show your franchises the market share analysis and discuss with them their goals for market share.”

But Hashim argued that many franchisors are still focused on growth, rather than profitability of individual units. “For larger brands, there is such a thing as saturation,” he said. “I'm frustrated when I see a brand that ignores unit economics in its expansion. We've seen industry-wide that growth is expected to be about 1.3% next year, but every brand in this room has promised its investors more than that, at least 3 or 4%. Where's that growth coming from?”

Managing Conflicts

When moderator Buckberg asked what makes the panelists “see red,” Walker said that he has been angered when franchisees did not reach out to him to discuss their frustrations. “I see red when the first time I heard from a franchisee about a problem is through their attorney,” he said.

Hashim said that several common provisions in franchise contracts anger him ' items that he called “matters of equity.” He added that he's much less likely to sign contracts with those clauses today than when he first started in the industry. He called liquidated damages clauses an “insult of the highest order” to a franchise owner who has already closed down due to poor results and has lost his investment. Also, he avoids contracts with nebulous language about requirements and costs for unit remodeling.

Both Hashim and Walker observed that the issue of transfer of franchises is becoming a greater source of conflict. Experienced franchisors who are ready to retire want to monetize their investment, and private capital that is backing some new multi-unit franchisees is facing the same imperative. But franchise contracts often are written with clauses that make transfers or sales costly and difficult. Hashim mentioned that he “sees red” when franchisors reserve the right to change the franchise agreement any time that ownership is transferred and require franchisees to provide unlimited guarantees when they transfer their businesses.

Hashim added that, from his perspective, franchisors already have sufficient protection in their contracts. Their temptation to over-lawyer the contracts is detrimental to the franchisee relationship and limits the attractiveness of franchising to some investors. “Enforce what is in your contract, and stop adding a clause for every new situation that occurs,” he said.

Surviving 'Undercover Boss'

“Undercover Boss” is a popular reality TV show that debuted in the United States in 2010. On the show, a top executive of a company secretly works as an entry-level employee somewhere in the operation. Traumas ensue as the boss gets a taste of what is going on at the company's operational level, and he or she vows to fix the problems that have been identified.

Nearly half of the U.S. episodes of “Undercover Boss” have featured franchise brands, and within the industry opinion is split on whether being on the show is beneficial. Hashim said that franchisees do not have a favorable opinion of the show. “ How does it do a system or a brand any good to highlight its dysfunctionality?” he asked. “We look like a stupid industry with poorly trained employees.”

Walker countered that executives who have been on the show have found the experience to be valuable, and they have seen unit sales rise due to the publicity they have earned. Applications from would-be franchise buyers have increased, too, he said. “I think the show speaks to the vitality of franchising. You see problems, but you see them rectified, too,” he said.

Walker and Hashim agreed that the show should illustrate for all franchisors the importance of having effective ongoing training programs. “At Meineke, we would say that we can't make you successful, but we can give you the tools to be successful. Training is a big tool,” Walker said.

Hashim said that training declined during the recession and that the growing use of online courses can fill only part of the gap. He is wary of the new generation of “business consultants” sent to conduct ongoing training. When these consultants lack franchise experience, Hashim said, franchisees view them as inspectors, rather than trainers.

Kevin Adler is associate editor of FBLA.

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